Arch Cru Compensation Scheme

Debate between Lord Beith and Alun Cairns

Wednesday 19th October 2011 Westminster Hall

[Alun Cairns]

The cautious-managed issue is a common theme throughout regarding the Arch Cru funds. Cautious managed, from my time in financial services, would be argued as an investment category that fits the majority of people across the United Kingdom. However, investigation shows that the Financial Services Authority does not regulate the risk classification of funds, which is assessed by the Investment Management Association. I find that staggering, considering that that is a fundamental element in the decision-making process of any investor. The IMA is merely an industry managers’ representative body. The FSA has told me that classification is not a regulated activity, so it does not have the powers to amend the classification of funds. However, the FSA needs to be reminded of its statutory objectives, specifically the one relating to maintaining market confidence.

The reality of the investment was that it was not cautious managed. The open-ended investment company invested in unconventional investments, as we have heard. Cell companies were formed and floated on the Guernsey stock exchange, investing in private equity and shipping loans, among other high-risk transactions. As that was a recognised exchange, it circumvented the FSA radar, although FSA rules banned such illiquid investments in open-ended funds. Therefore, it was no surprise that in March 2009, almost three years after they were launched, the funds were suspended.

However, the situation is not that simple. The FSA identified issues with the funds in October and November 2008, but the funds were permitted to continue to trade. It conducted an advanced risk responsive operating framework test at the time, which should have highlighted the issues, particularly pricing concerns. Yet, the funds were only suspended four months later.

Capita became the authorised corporate director, and had failed to act. It had responsibility for corporate governance and daily pricing, and control over the underlying assets. It initially denied having control of the underlying assets, but the auditors’ report from Ernst and Young showed that it held more than 75% of the shares. I suggest that Capita mispriced the funds before suspension due to its failure to exercise control to value the underlying assets accurately. There was a breach of the investment mandate and a pursuit of a reckless investment strategy by Capita’s designated fund manager.

Clearly, that negligence led to Capita’s £54 million compensation offer—70% of the value of the funds at the time of suspension, together with the remaining assets from the valuation on 31 March. That has been criticised as unlikely to hold up. Investors are being asked to accept an offer without knowing what they will receive, as that depends on the value secured on the sale of the remaining assets, which will take years. That is an obvious disparity and injustice.

The auditor was Moore Stephens. It surely should have identified the issues, but it has still yet to offer any form of explanation, let alone compensation. The Guernsey regulators also have some explaining to do and have to accept their part of the responsibility and liability.

[Sir Alan Beith]

Does my hon. Friend know whether the FSA consulted the Guernsey authorities or sought their assistance at any stage?

[Alun Cairns]

My right hon. Friend raises a good point. I have raised that issue with the FSA, which said that it was beyond its jurisdiction. However, to my mind, protecting UK investors is certainly its priority and should fall within its jurisdiction.

To date, there has been no explanation of the logic behind the £54 million offered, and the conditions are somewhat restrictive. Having recently met with the FSA, I know that the reasons behind the current delay concern third-party rights, which I understand. However, it has taken more than two and a half years from suspension to get to the current stage.

I have a constituent who invested several hundred thousand pounds of his retirement money into the funds, but there will be constituents of other hon. Members present who had invested far smaller sums, and which may be even more significant to them individually. A figure of 70% of the valuation at suspension is completely inappropriate, given that all that our constituents had done was to invest in a regulated, cautious-managed fund with a regulated, authorised corporate director and approved auditors. The delay conflicts with the timing of a possible legal challenge. Investors need to act soon to fall within the legal time frame set out by the courts.

In considering criticism of the FSA, it seems hardly just that, having failed in its responsibility to regulate, it has the responsibility to investigate and negotiate a compensation package for the people whom it failed in the first place.