Combank's $700m ABC Learning debacle

February 2, 2010

Dear Mayne Reporters,

The opening question to the Commonwealth Bank board was very simple today: "have we written down the exposure to unsecured ABC Learning notes to zero?"

When CEO Ralph Norris said yes, he confirmed that ABC Learning was the biggest debacle in the history of the Commonwealth Bank and quite possibly the biggest single account loss for any Australian bank ever.

Have a listen to the first and second audio exchanges from the meeting to get the full picture of this stunning revelation about ABC Learning.

The history goes like this. CommSec underwrote a $600 million ABC Learning unsecured note issue last June. It flopped, but the top 20 shareholder list only suggested the bank had been left with 30% or $200 million.

But when ABC Learning collapsed last week, the bank put out this statement:

Following the appointment of voluntary administrators and receivers to ABC Learning Centres Limited ("ABC"), the Commonwealth Bank of Australia confirmed its Senior Debt exposure to ABC is approximately $240 million. The Group also hold 4.456 million ABC Learning Centres Limited Hybrid Notes. Following the $100 million post tax write down of these notes (announced on 8 October 2008) their carrying value is approximately $220 million.

Oh dear, the exposure to the unsecured notes was actually $445.6 million. Given that notes are effectively equity because they rank behind unsecured creditors, the are clearly worth zero and today's profit warning included writing off the residual $220 million.

The revelation that the bank has lost $445 million with an unsecured loan triggered numerous other questions from shareholders who were shocked that this could happen. No other bank is involved. This is a CBA exclusive.

But it gets worse. ComBank also has a $240 million senior debt exposure to ABC Learning and a charge against the company's assets was only secured in June, meaning that it is still "green" because charges registered less than six months before a company collapse can be challenged.

Litigation funder IMF told shareholders at its AGM last week that it was challenging the validity of the ABC Learning charge.

Even if the charge holds up, it is hard to see how the senior debt holders can expected to recover anything like $1 billion from ABC Learning. Check out this list of the banks involved when the $1.43 billion facility was finalised last December.

I reckon the ComBank will struggle to recover more than $150 million of that final $240 million, so the total loss on ABC Learning will come in at well over $500 million.

A source told me before the meeting that ComBank had recently sacked 10 different managers involved with the ABC Learning fiasco.

I also raised what looked like a governance stinker because John Waugh was the former head of institutional banking for ComBank in Queensland and then joined ABC Learning as financial controller two months after the $445 million cheque was written.

Alas, Ralph Norris pointed out that Waugh was actually retrenched two months before joining ABC Learning and the unsecured notes deal was done out of Sydney and had nothing to do with the Queensland division of the institutional bank.

Full ComBank audio highlights

Have we written off the $450m in ABC notes to zero? How did we let this happen?

Listen to chairman revealing the loss of $450 million, plus explaining the Centro conflict of interest

Could you allow Commsec to be more generous in its lending ratios and why lend 90% on your own stock?

Supporting chairman John Schubert but please step up disclosure on related party transactions

Can you tell shareholders about Jane's substantial interest in one of our major service providers?

Are there any special deals for John O'Sullivan, husband of Janet Albrechtsen?

Lend Lease vote nothing short of a disgrace

As ComBank CEO Ralph Norris and his chairman John Schubert were busily telling numerous questioners that the bank was misled by the patently inaccurate ABC Learning accounts, it is just staggering that the man who chaired ABC Learning's audit committee for the past three years, David Ryan, was re-elected to the Lend Lease board today with 72% of the vote in favour.

If Lend Lease chairman David Crawford doesn't realise that this situation is completely untenable, then the shareholders should call an EGM to force Ryan out. Check out the voting results here and it looks like the 39 million votes in the employee share scheme were voted in favour of Ryan, which is also most unfortunate.

Fairfax Media AGM action

I only managed about 15 minutes at the Fairfax Media AGM today because of the clash with ComBank, but it proved to be reasonably fruitful.

Chairman Ron Walker said he had "no idea" if BRW's estimate of his wealth at $427 million was accurate and didn't really properly answer the question as to why such a wealthy man had only bought 1.06 million Fairfax shares since joining the board in 2002.

Walker also fudged on the issue of whether he would retire at the end of his three year term next November, when he'll be be 70. It sounded like he wants to run again, which really is a disgrace when you consider the huge value destruction from the three year acquisition binge he and CEO David Kirk have overseen.

Fairfax shares tumbled another 10.5c to a 15-year low of $1.625 today and The Sunday Age's Michael Bachelard was absolutely right today when pointing out that the company could hire 30 quality journalists on $115,000 a year for the same $3.4 million that it paid David Kirk last year.

It is ridiculous that Fairfax seems to have two CEOs and given that deputy chairman John B Fairfax is prepared to put his $400 million fortune into the company, he should be given a chance to chair the company with his old Rural Press CEO Brian McCarthy installed to replace Kirk as CEO.

Ron Walker wanted to stonewall the question but John B Fairfax was good enough to answer when I asked about his margin loan position and it seems that he has re-arranged the family's debt to leave the Fairfax Media stake unpledged.

Audit committee chief Roger Corbett and the auditor from Ernst & Young were both asked to justify signing off on accounts claiming Fairfax is worth $5 billion when the market capitalisation is less than half that.

Sadly, Walker and Kirk stole the show and it was the former Kiwi rugby international who defended the asset values, including the $6 billion-plus in intangibles, which looks quite delusional given the structural shift of advertising from newspapers to the internet.

The Fairfax board clearly need to move on both Walker and Kirk and then take an axe to the balance sheet.

Media to watch

You can hear these sentiments about Fairfax expressed on ABC Radio's PM program tonight at about 6.25pm. Also have a listen to the spot with Hilary Harper at 5.10pm on 774 ABC Melbourne this afternoon explaining CBA's ABC Learning loan fiasco.

There will also be something on Sky Business Report at 8.30pm tonight about ABC Learning.

Finally, check out what media analyst Peter Cox wrote about the Seven Network bunfight last Monday.

That's all for now, as there's a speech to prepare for the Victorian Cigar Society tonight and another one for the Tax Office in the morning. There will be an AGM or two after that, so stand by for another update tomorrow afternoon.

Do ya best, Stephen Mayne

* The Mayne Report is a multi-media governance website published by Stephen Mayne with occasional email editions. To unsubscribe from the emails click here.