We Know Zero

Mention the Phoenix Four in Birmingham and you are likely to get a strong reaction. Most people knew someone who worked at MG Rover’s Longbridge plant, and many local families supplied workers for generation after generation. A huge rally brought tens of thousands onto the streets in 2000 when BMW put MG Rover up for sale, protesting against what had appeared at the time to be the most likely outcome of Alchemy Partners buying it and turning it into a low volume car manufacturer with only 2,000-3,000 of the 6,500 jobs there remaining. So there was jubilation when the ‘Phoenix Four’ group of businessmen (John Towers, John Edwards, Peter Beale and Nick Stephenson) stepped in to take the business off BMW’s hands for £10 with a further £500 million accompanying the business from BMW to sweeten the deal. By 2005 all the jobs had been lost.

A Government inquiry into Phoenix Venture Holdings (PVH – the Four’s company) reported in 2009 that The Four had managed to extract £42 million in salaries and pensions by this time. The inquiry spent 4 years and £16 million getting to grips with the convoluted machinations by which this was achieved. No criminal charges resulted. The Four were not even disqualified from being company directors. Instead, in 2011, they belatedly agreed voluntarily not to serve as directors for 3 (Edwards), 5 (Towers and Stephenson) and 6 (Beale) years respectively.

In January last year, the Executive Counsel to the Financial Reporting Council (FRC) finally turned to the advice The Four had been receiving during the whole saga, from Deloitte and specifically their head of UK corporate practice Maghsoud Einollahi, alleging that their conduct fell short of the standards reasonably expected of them in relation to Project Platinum (the project to put a deal together) and Project Aircraft (the specific deal to transfer MG Rover Group’s (MGRG’s) accumulated tax losses to a subsidiary of PVH). The tribunal ruled on these allegations last month. It makes entertaining reading unless you happen to be a former MG Rover employee.

One of the issues was that Deloitte had muddied the waters about who they were representing (MGRG or PVH) in order to mask a massive conflict of interest. As the tribunal states:

If the identity of the client is not known it is not possible to identify and consider whether there is any conflict existing or potential. That is the real importance of identifying the client. Here the client was known to the Respondents (ie Deloitte and Einollahi) a substantial time before the final existence of a letter of engagement and nothing was done about it.

The Phoenix Four were always the client. Deloitte were at all times acting on their behalf. We know too that the Respondents were represented at an MG Rover Group Limited Board Meeting and made a presentation to the Board thus suggesting that they were acting for MG Rover and not the Phoenix Four.

But my favourite bit is the extract of Einollahi’s testimony on who his client was:

Q: (reading his previous testimony) “…you did not think you had a client…”
A: (Pause) I think that is fair, that I didn’t believe I contractually had a client.
Q: Exactly
A: But
Q: And the problem is the one that I have alluded to already, that you would be holding yourself out to third parties as acting for, in this case, the group (ie MG Rover)
A: (Nods)

Following this Pinteresque dialogue, the tribunal moved on to Deloitte’s fee of £7.5 million. Part of the defence case had been that £7.5 million was not a very large fee within the context of Deloitte’s annual fee income, that contingency fees (ie which were paid only if a given result was achieved) were common and that clients were not prepared to accept different arrangements. The tribunal was not impressed:

It seems to us that Mr Einollahi would charge a contingency fee of a size he thought that he would be paid by the client without considering whether it was appropriate or not. Again when he gave evidence he was cross-examined and we refer to one question and answer.
Q: …you did not like to negotiate fees downward?
A: I didn’t – I didn’t act for people who wanted to negotiate my fees downward. I didn’t need to.

The tribunal concluded:

He wanted that fee of £7.5 million and realised that his best prospects of achieving that fee were by a deal between the Phoenix Four and HBOS rather than between MGRG and First National Finance or MGRG and HBOS

Project Aircraft, the scheme involving moving around MG Rover tax losses, had been attempted before under the title Project Salt/Slag and rejected by the Inland Revenue. Aircraft succeeded where Slag failed largely because the Revenue believed this time that MG Rover would benefit from the profits generated by the scheme.

Mr Towers said “frankly, for us, what mattered was there was a possibility here of creating cash, additional cash for the group and most particularly, for the cash-consuming part of the group which was the car company”. Mr Beale’s evidence was to the effect that MGRG benefited from the transaction because “it gave the group additional cash reserves which it could lend to MG Rover as and when required”. The Inspectors (from the Government inquiry) said at Chapter XI paragraph 17 “in practice, much of the money which the group generated from Project Aircraft was used to fund a payment to the Guernsey Trust”. (The beneficiaries of which included Messrs Beale, Edwards, Stephenson and Towers.) The Inspectors continued “immediately before Barclays Bank made its £121 million loan (which also paid off a previous loan and some other creditors), PVH had credit balances on its bank accounts totalling £2,184,083. The loan increased the credit balances to £14,736,629, enabling the company on 26 June 2002, without having received any money from any outside source in the interim, to pay £7,905,125 to the Guernsey trust (as well as paying £2,261,875 to Deloitte in respect of fees for Project Aircraft). No payment was made by PVH to MGRG at this stage, or in fact at any time before November 2003.

The tribunal continued:

Mr Einollahi undoubtedly played a significant part in Project Aircraft. He must have been aware, and admits that he was so aware, that the Phoenix Four were on holiday in Portugal in 2001 and while on holiday agreed between themselves to pay themselves very substantial bonuses. They in fact paid themselves collectively about £7 million after the conclusion of the Project Aircraft transaction. These sums came essentially from assets of MGRG and were used to make these very substantial payments to the Phoenix Four. They received the whole of the proceeds and MGRG received none.

In conclusion, the tribunal said:

They (ie Deloitte and Einollahi) placed their own interests ahead of that of the public and compromised their own objectivity. This was a flagrant disregard of the professional standards expected and required and was in each individual case, and of its own, serious misconduct.

The Executive Counsel, who had made the complaints, asked for a severe reprimand and a fine of between £15 million and £20 million. They also requested that Einollahi be excluded from membership of the Institute of Chartered Accountants in England and wales (ICAEW) for 6 months and fined an amount based on an assessment of his financial resources. Deloitte suggested instead that the fine should only be £1 million and Einollahi should not be fined at all.

At this point, in my view, the tribunal lost its way a little. They decided on a severe reprimand and a fine of £14 million for Deloitte. This was calculated as follows:

We have assessed the financial gain from the fees attributable to both Project Platinum and Project Aircraft with a deduction for the total amount of recorded costs against these projects. We have added interest at 1% over base rate to deny Deloitte any financial gain from the misconduct.

This raises an interesting question about what calculations other firms might make in the future about the chances of ending up in a tribunal like this and the likely consequences against the rewards of the deals themselves. If worst case scenario is that they won’t make a profit, I remain unconvinced that this will prove much of a deterrent.

They added:

We have borne very much in mind that Deloitte is not insured against the imposition of a fine and has undertaken to indemnify Mr Einollahi against any fine imposed upon him.

It is heartwarming to see them looking after their errant employee in this way, but their insurance arrangements should be of no interest to anyone.

Einollahi himself was excluded for 3 years rather than the 6 months requested by the Counsel, but only because he was not prepared to voluntarily relinquish his practising certificate. He also refused to cooperate with the assessment of his financial resources, leading to the tribunal to put a bit of a finger in the air and opt for a fine of £250,000.

So what now? The tribunal made much of the public interest in the hearings:

It was particularly important in the case of both Project Platinum and Project Aircraft that the public interest be considered because of the concern of inter alia the Government, employees, other employers, particularly in the West Midlands, creditors and the general public about the continuation of large scale car manufacturing in the West Midlands.

The importance of considering the public interest is further emphasised because both the Projects resulted in very large sums of money that might have been utilised for the benefit of the MG Rover Group in the running of its business instead, being used for the benefit of individuals, including the Phoenix Four.

But what is the public interest? My assumption would have been that it must primarily be about the portion of the general public which was most damaged by all this, namely the MG Rover workers who lost their jobs and their communities. The local MP, Richard Burden, agrees. The Trust Fund for former MG Rover workers, which John Towers had at one point said would have over £50 million in it, was finally wound up earlier this year when the £23,000 actually available was donated by the workers to a local hospice.

The £14.25 million awarded in fines would normally go to the Consultative Committee of Accounting Bodies (CCAB), an umbrella group for several professional bodies, which pays the costs of FRC disciplinary cases. However in this case the costs of the proceedings of just under £4 million have already been charged to Deloitte on top. Is the case for meeting the costs of future disciplined accountants really greater than the public interest in making some contribution to the communities that the FRC’s members have facilitated into the ground?

There will be some time to make this decision in. Depressingly, Deloitte and Einollahi filed formal notice on 1 October that they are appealing the decision, as indeed they have contested everything that wasn’t nailed down throughout the process. Their joint statement read as follows:

“We recognise the general desire to move on from this case but do not agree with the main conclusions of the tribunal which we feel could create significant uncertainty for individual members and member firms of the ICAEW.”

After all, if it ever became accepted that consultants had any responsibility to the most vulnerable people affected by their less-than-professional manoeuvrings, where might it end? There is no time limit on the tribunal member hearing the appeal to make a decision on whether an appeal can go forward.

Enough is enough. Deloitte should do the right thing and drop their appeal now.