Debenture providers in Australia have been described as being a reflection of a regulatory regime that has struggled effectively to deal with a shadow banking system that has operated unimpeded for decades. It is a sector that is worth $4bn today – down from $8bn a few years ago – and largely funded by retail investors.
The rates of return offered by debenture providers are high – but rarely do they give a true reflection of how much risk they represent. The types of investors attracted to the attractive headline rates may not be sophisticate enough to be interested in metrics like capital ratios and ratings. While debenture issuers may seem like a bank they are not a bank and so the government guarantee on deposits does not apply.
Recently a number of these debenture providers have run into trouble or gone under, including:
1. Gippsland Secured Investments
2. Banksia Securities Limited
3. Angas Securities
Gippsland Secured Investments
3,500 investors caught up in Gippsland Secured Investments meltdown: millions of dollars from unsuspecting investors frozen after being poured into unsuitable property developments. GSI disclosed in a prospectus from March 2012 that its equity ratio was 4.17 per cent – approximately one quarter of the recommended amount for a company that lends primarily to property developers. Distributions on the $150m invested in GSI are presently frozen – its March 2012 prospectus indicated that 14.2 per cent of its loan book by volume ($16.9m) was in arrears and likely to be revised upwards.
Banksia Securities Limited
Banksia collapsed in October 2012, had a capital ratio of less than half that recommended by ASIC and spelled this out in its product disclosure statement. It still attracted more than $650m from 3,000 small investors. Banksia investors hope to receive 85¢ in the dollar from their investments after the receivers have strong interest in the Banksia’s $270m loan book.
Angas Securities
Angas Securities, a debenture provider in Adelaide has ceased taking new investments pending a review of its book. It classified 32.4 per cent of its loans as past due as of December 21, 2012.
ASIC plans to introduce a minimum capital ratio of 9 per cent on these debenture providers to stop this happening in the future. In the five years since ASIC overhauled disclosure requirements for the sector 32 of the 92 companies subject to tighter scrutiny have collapsed. ASIC is continuing to tighten up this sector, looking at:
· mandatory minimum capital and liquidity requirements for debenture issuers
· proposals to strengthen disclosure to investors about debenture issuers
· clarifying the powers and duties of debenture trustees, and the role of auditors.
ASIC is stressing to auditors of issuers the need for greater professional scepticism when looking at the numbers and the performance of the loan book. A full report on ASIC’s planned consultation can be read here.
In a separate initiative, APRA will consult on proposed reforms to differentiate debenture issuers from banks, building societies and credit unions more clearly. This includes a proposal to prohibit debenture issuers from using terms like ‘deposit’ and a proposal to restrict ‘at-call’ accounts by imposing a minimum maturity period.
There are three pieces of advice for potential investors in debentures:
1. Do not just rely on the issuing company’s advertisements. Read the prospectus.
2. Make sure you understand the issuer’s business model and how they are using your funds.
3. Read Investing in unlisted debentures and unsecured notes guide on ASIC’s MoneySmart website.