FEDERAL COURT OF AUSTRALIA

Australian Securities and Investments Commission v Drake (No 2)

[2016] FCA 1552

ORDERS

THE COURT ORDERS THAT:

1.    The application against each of the first, second, and third respondents be dismissed.

2.    The applicant pay the costs of the first, second, and third respondents to be taxed if not agreed.

Note:    Entry of orders is dealt with in Rule 39.32 of the Federal Court Rules 2011.

REASONS FOR JUDGMENT

EDELMAN J:

TABLE OF KEY PERSONNEL AND ABBREVIATIONS

Introduction

1    This trial concerned allegations by ASIC of breach of directors’ duties against five directors of a corporate trustee of a managed investment scheme. This introduction explains, in very broad outline, the reasons why I have dismissed ASIC’s case in its entirety. The reason why ASIC’s case is dismissed requires an appreciation of how ASIC ran its case, and the rejection of the entirety of the evidence of the principal expert called by ASIC.

2    ASIC’s case, in very broad outline, was concerned with an investment made by LM Investment Management Ltd (LMIM) as a responsible entity and trustee of numerous funds. LMIM had offices all over the world from which its funds were marketed. Its main office was on the Gold Coast.

3    One of LMIM’s funds was an unregistered managed investment scheme established in 2002, the LM Managed Performance Fund (the MPF). This was an aggressive fund with reasonably high risk. It was aimed at wholesale and sophisticated investors who accessed the fund through financial planners. As one of the former directors of LMIM explained, the MPF was a fund that could have a number of assets including second mortgages and direct property interests. It had a very broad investment mandate. It was marketed as an aggressive fund with higher returns than what was on offer from some other funds including other funds managed by LMIM. After the global financial crisis, some of the MPF loans required a focus upon development because the borrowers in those loans had begun to default on their mortgages. The MPF investments were marketed through means which included information memoranda. The sophisticated investors would have been immediately aware from the information memoranda and investment application that the fund was far from low risk. For instance, on 1 November 2011, the MPF information memorandum described the MPF as having 90.75% of its assets invested in Australian commercial loans. The largest of the commercial loans, $142 million, was a single loan of more than half of the size of the fund. That is the loan which is the subject of these proceedings.

4    The particular investment by LMIM (as trustee for the MPF) with which this case is concerned was a loan made to a related company which became called Maddison Estate. The loan, secured by two mortgages, was for a large development project on the Gold Coast (the Maddison Estate development). The interest rate was eventually set at 25%. The interest rate was designed to ensure that Maddison Estate, which was a special purpose vehicle, did not obtain any of the profit from the development. ASIC did not allege that the loan involved any breach of duty although ASIC alleged that it was, in effect, a disguised equity participation in a development.

5    The loan from LMIM to Maddison Estate (the Maddison Estate loan) was made in November 2007 with an initial limit of $40 million. In 2008 the limit of the loan was increased to $58 million. In 2009 the limit was increased to $70 million. In 2010 it was increased to $95 million. In 2011 it was increased to $115 million. Again in 2011 it was increased to $180 million. Then, in August 2012, it was increased to $280 million (the August 2012 Variation).

6    aSIC did not allege that the loan was imprudent. Nor did ASIC allege that the loan was made by the directors of LMIM without care and diligence. Nor did ASIC allege that there was any breach of duty arising from the approval of the loan variations in 2008, 2009 or 2010. After the conclusion of the evidence, ASIC also abandoned any allegation of breach arising from the loan variation in 2011, and therefore abandoned the whole of its case against the fourth and fifth respondents, Mr Tickner and Ms Darcy respectively. ASIC’s case against the remaining three respondent directors of LMIM, Mr Drake, Ms Mulder, and Mr van der Hoven (the first, second and third respondents respectively), was solely based upon the variation which increased in the loan limit in 2012.

7    The abandonment of ASIC’s case against Mr Tickner and Ms Darcy, and its case concerning the 2011 loan variation, was likely due to the evidence of ASIC’s final witness, the expert witness Mr Woolley. As I explain later in these reasons, Mr Woolley’s evidence was, in the literal sense, incredible. Senior counsel for ASIC very properly accepted that the Court should not accept any of the evidence from Mr Woolley other than where it was essentially unchallenged. Even on those points where there was little or no challenge, ASIC placed very limited reliance upon Mr Woolley. My concerns with Mr Woolley’s evidence were so serious that I do not accept his evidence on any contested matter, even if it was not the subject of any substantial cross-examination. Mr Woolley’s evidence did not merely cause a substantial impairment of ASIC’s case in relation to the 2011 variation. It created substantial gaps in the whole of ASIC’s case.

8    The decision by ASIC not to allege any breach of duty in making the loan, or any breach of duty in any of the series of variations to the loan limit before 2012, was likely to have been based on the nature and terms of the MPF. As I have explained, the fund was reasonably high risk and was only open to wholesale or sophisticated investors who invested through financial advisers.

9    ASIC’s allegations against the three remaining directors were that the directors breached their duties of care and diligence under s 180(1) of the Corporations Act 2001 (Cth) in causing or permitting LMIM to approve the August 2012 Variation. This breach by each director was based on the allegation that each caused LMIM to breach its duties by failing to act as a prudent trustee and that each exposed LMIM to a foreseeable risk of harm, namely civil proceedings by unitholders in the MPF.

10    ASIC’s case concerning why LMIM did not act as a prudent trustee shifted a number of times which made it very difficult to follow. The shifting nature of ASIC’s case was perhaps due to ASIC’s case having been dependent upon Mr Woolley’s evidence. At times during the trial it appeared that ASIC’s case was either that the breach by LMIM, or (at least) a crucial part of the breach by LMIM, was its failure to obtain an independent feasibility report before approving the August 2012 Variation. For instance, ASIC’s expert, Mr Woolley, said that “other than obtaining an independent feasibility analysis of the anticipated future cash flows from the Maddison Estate development, no further inquiries or steps needed be taken by a prudent trustee” ([211], see also [223]-[225]). During oral submissions, senior counsel for ASIC accepted that the allegation of a lack of an independent feasibility report was “crucial” to ASIC’s case (ts 648). Presented in this way, this was an allegation of imprudence by LMIM in the process of approving the August 2012 Variation.

11    An allegation of imprudence in process is a different case from one which alleges imprudence in outcome. In the course of argument, the example I gave to senior counsel was as follows (ts 724). Suppose, in 1976, a trustee decided to invest a large part of a trust fund in a stock beginning with the letter “A”. The trustee seized randomly upon a stock named “Apple”. Suppose also that, at the same time, the world’s most brilliant analysts would have reached the same conclusion by a prudent process of careful data analysis. Objectively, the decision by the trustee was not imprudent but the process of reaching it was imprudent.

12    At other points during the hearing, senior counsel for ASIC submitted that ASIC’s case was not, or was not merely, a process case. It may be that ASIC presented its case in this alternative way because, as senior counsel recognised, imprudence merely in process would have required a “leap” to reach the conclusion that there was a risk of action by unitholders which was a pleaded basis for the breach (ts 724). Unitholders would be likely to bring an action only if there was a prospect of recovering compensation, which requires proof of causative loss. It is extremely unlikely that they would bring a costly civil action merely to expose defects in a process relating to a past decision that caused no loss. Hence, senior counsel for ASIC ultimately put ASIC’s case on the basis that the imprudence by LMIM was making the decision to approve the August 2012 Variation. In other words, ASIC’s allegation was imprudence in the outcome.

13    The difficulty with the submission about imprudence in outcome (ie imprudence in the decision taken) is that ASIC never explained what a prudent trustee in LMIM’s position would have done. ASIC constantly reiterated that LMIM should not have made a decision to approve the August 2012 Variation. But despite numerous requests for ASIC to explain what decision should have been made, ASIC did not present any such case.

14    There were two possible alternatives concerning what a prudent trustee in LMIM’s position should have done instead of approving the application to vary the limit of the loan. ASIC did not present a case on either basis. The first alternative was that the decision whether to approve the August 2012 Variation application, on the same or different terms, should have been deferred. The second alternative was that the August 2012 Variation application should have been refused.

15    An explanation of what a prudent trustee would have done required ASIC to examine whether a prudent trustee would have taken one of these alternatives. That required an assessment of the circumstances in which LMIM as trustee for the MPF found itself on 7 August 2012 when the MPF Credit Committee was asked to approve an extension of the loan limit of an additional $100 million. Those circumstances included the following:

(1)    Maddison Estate already owed more than $150 million to LMIM as trustee for the MPF (the precise amount is very difficult to determine due to retrospective entries in the loan accounts arising from later transactions);

(2)    the bank financing the loan, Suncorp-Metway Limited (Suncorp), had a prior security to LMIM, securing a debt of around $22 million;

(3)    Suncorp wanted to exit its loan but LMIM had not been able to find a replacement funder;

(4)    an “as is” valuation in July 2011 of the land acquired for the Maddison Estate development had assessed the value at between $35 million and $40 million, so a foreclosure by Suncorp would leave little, if any, of the $150 million or more for LMIM as trustee for the MPF;

(5)    work had commenced on site, but until refinancing was obtained, the work could not continue in the absence of further funding from LMIM;

(6)    Mr Fischer, the CFO of LMIM and one of ASIC’s key witnesses, had told others that the best prospect of recovery of the Maddison Estate loan was to find another funder to take out MPF’s position. The goal was for this to occur after completion of Stage 1 of the development which required further LMIM funds; and

(7)    the use of the additional $100 million loan would only involve around $16.5 million of funds actually leaving the MPF, because the remainder was capitalised interest and other additions to the loan (including a loan re-establishment fee), which would increase the amount of the loan but would not involve any existing funds being spent.

16    ASIC mentioned very few of these circumstances. Instead, ASIC focused heavily upon matters such as: (i) the number of previous loans (none of which was alleged to involve a breach of duty); (ii) the absence of any explanation for why the additional increases in limit had not previously been foreseen; (iii) delays in the progress of the development; (iv) a hotly disputed report by Ernst & Young (which was not tendered for the truth of its contents); and (v) the LMIM process in relation to feasibility reports which supported the additional $100 million loan, including the lack of what was described by ASIC as an “independent feasibility report”.

17    A consideration of all of the relevant circumstances in August 2012, on the limited evidence before the Court including the position in which LMIM found itself, suggests that if a prudent trustee had to make a decision either to approve the loan variation or to refuse it then approval would have been given.

18    The alternative of deferral is not as simple although, unfortunately, the details of this alternative were not explored in evidence or submissions. If ASIC had brought its case on the basis that the decision to grant the August 2012 Variation should have been deferred (for example, until an independent feasibility report was obtained or so that the proposal could be amended such as to reduce the limit of the loan), then it would need to have led evidence and made submissions concerning the nature of the deferral and the considerations relevant to that decision by a prudent trustee in LMIM’s position. Putting to one side ASIC’s failure to explain precisely what was meant by an “independent feasibility report”, what would the cost be for an independent feasibility report? How long would such a report take to produce? What were the risks to LMIM in the meantime, including the possibility of default under the loan from the first mortgagee? Could those risks have been managed pending the deferred decision? The answer to these questions would all inform an explanation of what a prudent trustee in LMIM’s position would have done. But none of these matters was explored. To the extent that it is possible to assess any of these options, I conclude that there are also significant reasons which might suggest that deferral might not have been a prudent option.

19    Apart from these factual obstacles to ASIC’s case of imprudence by LMIM as trustee, there was a significant legal obstacle. The legal obstacle was that the trust instrument had excluded the duty to act prudently. ASIC submitted that in Queensland, although not in any other State which has similar legislation upon which the Queensland legislation was modelled, this duty could not be excluded. I do not accept that submission. Further, the failure of ASIC to prove that any loss was caused by any act of imprudence is a further reason why ASIC’s claim based on breach of trust must be dismissed.

20    In broad terms, therefore, ASIC’s case in relation to the alleged breaches by all three respondents of directors’ duties of skill and diligence must be dismissed because (i) no breach of trust was proved, and (ii) no reasonable alternative open to LMIM or the directors was proved. Further, to the extent to which there was information before the Court to assess the alternative choices, ASIC failed to prove that a reasonable director of a company in LMIM’s circumstances, with the responsibilities of each respondent, would have refused to approve the August 2012 Variation.

21    Separately to the allegations of breach of s 180(1) of the Corporations Act, ASIC also made another allegation against Mr Drake. This allegation was that by causing or permitting the August 2012 Variation in a manner which caused LMIM to commit a breach of trust against the MPF, Mr Drake acted for an improper purpose, and to gain an advantage for himself and a different trust. The improper purpose and advantage was increasing the cash flow to a separate trust from which he withdrew funds to maintain an extravagant lifestyle.

22    This “improper purpose” allegation was also tied to ASIC’s allegation of breach of trust. The failure of the breach of trust claim means that the improper purpose case must also fail. In any event, however, ASIC failed to prove the improper purpose.

23    The application against each of the remaining three respondent directors of LMIM must be dismissed.

ASIC’S PLEADED CASE AGAINST THE REMAINING THREE RESPONDENT DIRECTORS

24    In one respect, ASIC’s case in relation to all breaches was consistent, although the premise of ASIC’s case might be doubted. ASIC consistently alleged that in order for each of the directors to be liable for breach of their duties to LMIM it was necessary for LMIM to have committed a breach of trust. In other words, and as I explain further below, in order for the directors to have breached s 180(1) of the Corporations Act, ASIC’s case was that it first needed to prove a breach of trust by LMIM as trustee.

ASIC’s pleaded case concerning s 180(1) of the Corporations Act

25    ASIC pleaded that the directors breached their duties under s 180(1) of the Corporations Act because they caused or permitted LMIM to commit a breach of trust, and exposed LMIM to a foreseeable risk of harm, namely civil proceedings by unitholders in the MPF. ASIC essentially pleaded that this foreseeable risk of harm was greater than that to which a director, exercising his or her powers and discharging duties with the required care and diligence, would have permitted.

26    As for that part of the s 180(1) plea that the directors “caused or permitted LMIM to commit a breach of trust”, ASIC’s case was that LMIM breached its duty to exercise the care, diligence, and skill that a prudent person engaged in the profession or business of acting as a trustee or investing money would exercise in managing the affairs of other persons. This duty was pleaded in two ways: (i) as a statutory duty under s 22(1)(a) of the Trusts Act 1973 (Qld) (Trusts Act), and (ii) as an equitable duty.

27    In some respects ASIC’s case was opaque. The matters which were not clear were (i) how LMIM breached its duties as trustee, and (ii) how each respondent breached his or her duties as director under s 180(1) of the Corporation Act. Each is addressed separately later in these reasons. It suffices to observe at this point that at times ASIC alleged that it was not required to prove how any breach had occurred.

28    As to LMIM’s alleged breach of its duties as trustee, ASIC pleaded:

(1)    numerous circumstances that existed at the time of the August 2012 Variation ([147]-[151]);

(2)    that in those circumstances, LMIM exposed the MPF to a foreseeable risk of capital loss by approving the August 2012 Variation ([153]); and

(3)    that in those circumstances, the degree of risk to which the MPF was exposed was greater than the risk to which a trustee exercising its powers of investment with the degree of care, diligence and skill that a prudent person engaged in the business of acting as a trustee or investing money would permit the MPF to be exposed ([154]).

29    Separately from those circumstances, ASIC also pleaded that:

(4)    a trustee exercising its powers of investment with the degree of care, diligence and skill that a prudent person engaged in the business of acting as a trustee or investing money would have obtained an independent feasibility analysis of the anticipated future cash flows from the Maddison Estate development ([152]).

30    Early in ASIC’s case, I asked questions about the nature of ASIC’s pleaded case. ASIC appeared to plead two cases concerning the alleged breach of trust by approving the August 2012 Variation. The first case was a process case. It was an allegation that, irrespective of whether the August 2012 Variation would have been approved by a prudent trustee, the breach consisted of the failure by LMIM to follow a prudent process in making its decision to approve the variation. The second case was an outcome case. It was an allegation that the approval itself was imprudent (ts 87).

31    After a short adjournment, senior counsel for ASIC explained that the two aspects of the alleged breach were “cumulative”, and that only a single breach of trust was alleged. The single breach of trust alleged was the act of approving the August 2012 Variation. ASIC’s case was that the failure to obtain an independent feasibility report was just one factor which contributed to the breach. So, even if an independent feasibility report might have concluded that approval was a reasonable option, the other circumstances were still such that approval should not have been given (ts 89-90).

32    Several points about ASIC’s pleading should be noted:

(1)    ASIC did not plead any possible alternative course that a prudent trustee would have adopted other than not to approve the August 2012 Variation. ASIC did not allege that a prudent trustee would have deferred the decision, preferring to wait to obtain an independent feasibility report. Nor did ASIC plead that a prudent trustee would have refused to approve the August 2012 Variation. ASIC’s case was that a prudent trustee would not, in the circumstances, have made the decision to approve the August 2012 Variation but it refused to say which of the two possible alternatives a prudent trustee would have taken.

(2)    A crucial circumstance relied upon by ASIC as a reason why a prudent trustee would not have approved the August 2012 Variation was LMIM’s failure to obtain an independent feasibility report (ts 647-648). The absence of the independent feasibility report was important to ASIC’s case because its absence was said to increase the foreseeable risk of capital loss.

(3)    Although ASIC’s case was that a prudent trustee would not have approved the August 2012 Variation, ASIC did not deny that a variation to allow the same further $100 million loan would not have been made in any event. ASIC did not lead any evidence about what an independent feasibility report might have concluded. In other words, ASIC accepted that it was possible that an independent feasibility report might have concluded that a reasonable course would have been to grant a variation permitting the proposed variation.

33    In closing submissions, ASIC submitted as follows ([274]):

ASIC’s case on breach of trust is simply this. A prudent trustee in [the] circumstances would not have approved the advance. The approval of that advance breached the duty prescribed by s 22 of the Trusts Act and exposed the MPF to a foreseeable risk of capital loss, being the risk of default by the borrower if the estimated cash flows generated by the development did not eventuate.

ASIC’s pleaded case of Mr Drake’s improper purpose

34    ASIC pleaded its allegations of Mr Drake’s contravention of s 181(1) and s 181(2) of the Corporations Act as based upon a plea of improper purpose. That plea was expressed in ASIC’s statement of claim as follows ([167]):

in causing and/or permitting LMIM to approve the August 2012 Variation and agreeing to advance to Maddison Estate a further $100 million in a manner which caused LMIM to commit a breach of trust against MPF, [Mr Drake] exercised his powers and discharged his duties as a director and officer of LMIM for the purpose of maximising the cash flow available to LMA as trustee for the [LMA] Trust to fund the loans to [himself] (Improper Purpose).

35    This improper purpose is pleaded as amounting to a failure by Mr Drake to exercise his powers and discharge his duty as a director and officer of LMIM in good faith in the best interests of LMIM or for a proper purpose; and improper use by Mr Drake of his position as a director of LMIM to gain an advantage for himself and for the LMA Trust (defined below).

THE FACTUAL BACKGROUND

Relevant entities, persons, and relationships

Outline of the various entities

36    On 31 January 1997, LMIM was incorporated. Mr Drake was appointed as director of LMIM at the time of incorporation. In June 2006 and September 2006 respectively, Mr van der Hoven and Ms Mulder were also appointed as directors of LMIM.

37    Separate from LMIM was another company, called LM Administration Pty Ltd (LMA), which was the trustee for the LM Administration Trust (the LMA Trust) which was created on 30 June 2003.

38    LMA (as trustee for the LMA Trust) and LMIM entered into a service agreement (LMA Service Agreement). The service agreement was provided in Sch 1 to be effective from 1 July 2005 although, curiously, the cover page bore the date 1 July 2010. In the LMA Service Agreement, LMA agreed to provide LMIM with services for LMIM’s funds management operations. Those services included the provision of staff, equipment, and other services for the proper management and administration of LMIM’s business including matters such as payment of operating costs, debt collection, preparation of financial statements, and contract negotiation. The cost for the services was agreed to be (i) a percentage of LMA’s total expenses, and (ii) all management fees earned by LMIM as the manager of its managed investment schemes.

39    The personnel who assisted LMIM (but were employed by LMA not LMIM) were organised into teams. There was a lack of clarity in some of the evidence and submissions concerning who employed these various personnel. I accept the evidence of Mr Fischer and Ms Mulder that employees were employed by LMA and not by LMIM (see also the LMA Service Agreement which I discuss below). Further, ASIC’s statement of claim, in paragraph [10], alleged that LMA employed Mr Drake, Ms Mulder, Mr van der Hoven, Mr Tickner, Ms Darcy, Mr Barnett, Mr Fischer, Mr King, and Ms Chalmers.

40    One of the teams which assisted LMIM was the Property Asset Management (PAM) team which contained employees of a related company, LMA. The PAM team was led by Mr Tickner. Another team was the finance team led by Ms Darcy and then Mr Fischer. A third was the marketing team led by Ms Mulder. A fourth was the global operations team led by Ms Phillips. A fourth was the portfolio management team led by Mr van der Hoven and Mr Petrik. A fifth was the foreign exchange team led by Mr van der Hoven. And a sixth was the in-house legal team.

41    The PAM team had around 25 staff. Their skills included areas of lending, development, town planning and general property. The team was divided into three parts responsible for: (i) identifying investment opportunities for the funds; (ii) assessing the assets and working to progress the projects; and (iii) administering the loans. The PAM team reported to the various committees, including the MPF Credit Committee (discussed further below). In 2012, when Mr Tickner retired as a director, Mr Fischer became the leader of the PAM team.

42    On 4 December 2001, LMIM entered a deed which produced a constitution for the MPF. The MPF Constitution was expressed as a deed between LMIM and the members, as they were constituted from time to time, of the MPF. The MPF was described as the “Scheme”. It was a unit trust to which members could subscribe by application following an offer or invitation to subscribe. The MPF Constitution was amended on a number of occasions after 4 December 2001.

43    On 4 May 2007, the MPF entered into a loan agreement granting a loan to Mr Drake. Although the loan agreement document was not in evidence at trial, its existence can be inferred from a variation deed that was in evidence. Mr Drake immediately drew down $8 million of the loan. By 30 June 2011, he had drawn down more than $15 million ($15,226,498.65).

44    On 14 September 2007, LMIM Asset Management Pty Ltd was incorporated. Mr Drake was its sole director, secretary and shareholder.

45    On 14 September 2007, Maddison Estate was incorporated. It was then known as LM Coomera Pty Ltd.

The MPF

46    The MPF was only open to investment by wholesale or sophisticated investors. As Mr van der Hoven explained, the MPF funds were only sold to investors via a network of financial advisers. LMIM conducted “Introducer Days” in Australia and overseas at which presentations would be given by directors and other LMIM staff.

47    It is important to reiterate the point I made in the introduction to these reasons that the sophisticated investors and their advisers would have been immediately aware from the few pages of the information memorandum and investment application that investment in the MPF involved considerable risk. Returns, however, were high. They were around 25% per annum. As an example, the 1 November 2011 MPF information memorandum and application form for investors contained six pages of information entitled “About the LM Managed Performance Fund” and “LM Managed Performance Fund”. Those pages explained that the MPF invested in “commercial loans, direct real property, and cash” and had around $274 million of assets. Those $274 million of assets included around $248 million invested in Australian commercial loans. The largest of the commercial loans was described as being $142 million, more than half of the size of the fund.

The MPF Credit Committee

48    The MPF investment decisions were made by an LMIM committee called the MPF Credit Committee.

49    Mr Drake, Ms Mulder, and Mr van der Hoven were all members of the committee. Ms Darcy was the chair until her resignation from LMIM on 21 June 2012. Other persons who were members of the credit committee included Ms McCallum (a member of the PAM team who served as a loans analyst) and Mr Parker (who was responsible for obtaining loans). Paralegal staff from the PAM team, Ms Chalmers and Ms Kingston, would organise and facilitate the meetings, and would take minutes. Development managers would also attend the committee meetings from time to time.

50    The role of the MPF Credit Committee was to assess loans proposed as investments for the MPF and to consider any required action for existing loans. The procedure involved preparation of a synopsis paper which was circulated to the committee members at the meeting. The meeting papers generally also included a feasibility model prepared by the development manager from the PAM team. The MPF Credit Committee would review the information and if a decision could not be made, the meeting was adjourned.

51    There were documentary guidelines and procedures for the MPF Credit Committee. One guideline was that “LM Directors require that all [MPF Credit Committee] decisions are to be made at a meeting as opposed to email voting (unless the topic for decision is a very simple, non-material matter)”. However, occasionally a decision would need to be made without a physical meeting and members would vote electronically through their email response.

Mr Drake

52    In an information memorandum and application dated 1 November 2011, Mr Drake’s position and responsibilities were described as follows:

Peter Drake

Chairman and Chief Executive Officer

Peter founded LM in 1998, after 20 years’ experience in Australia’s financial services and life insurance sectors. As 100 per cent shareholder and CEO, Peter is principally responsible for the strategic vision, direction and structured growth of LM. Since its inception, Peter has been actively involved with LM’s expansion to ten international offices, now servicing beyond 60 countries. Peter is particularly active in the design and marketing of LM’s Australian dollar and currency hedged investment products. Working closely with LM’s Portfolio Manager to manage the growth of funds under management, Peter also plays an integral role in LM’s Funds Management Committee. With significant experience in direct property and joint venture property developments across Australia, Peter is also a member of LM’s Credit/Investment Committee, responsible for approving and setting the conditions of loans within LM’s mortgage portfolio. Peter’s vision of an innovative and prudential funds manager holds true as LM continues its dynamic growth in Australia’s financial services, business and property sectors. Peter is a member of LM’s Credit/Investment Committee, Funds Management Committee and Property Research and Analysis Committee.

A similar biography was provided in other information memoranda produced by LMIM from 2009 to 2012.

53    Mr Drake can comfortably be described as the prime mover behind the Maddison Estate development. The extent of his control is plain from the diagrammatic relationship of all of the relevant entities, set out later in these reasons. But his involvement was far more comprehensive than these formal roles. As I explain below, the Maddison Estate development became closely associated with his conception and vision for it, including as Mr Barnett described, Mr Drake’s desire to have a development which was different from anywhere else in the world.

Mr van der Hoven

54    In the same information memorandum and application described above in relation to Mr Drake, Mr van der Hoven’s position and responsibilities were described as follows:

Eghard Van Der Hoven

Executive Director, Portfolio Manager

In 2003 Eghard joined LM as Portfolio Manager, responsible for the monitoring and ongoing performance of LM’s various funds. As Executive Director, Eghard’s sound understanding of the investment industry spanning almost 20 years includes extensive experience in stock broking, auditing, investment analysis, business strategy and policy planning. As the Chair of LM’s Funds Management Committee, Eghard is responsible for joint decisions in relation to the asset allocation, geographic spread allocation, cash flow, delivery rate forecasting and budgeting of LM’s funds. He holds a Master of Commerce, majoring in Economics, and a Bachelor of Commerce (Hons) in Economics, from University of Pretoria, South Africa. Eghard is a member of LM’s Property Research and Analysis Committee, Credit/Investment Committee and Arrears Committee.

55    Mr van der Hoven commenced employment with LMA (the service provider to LMIM) in late 2003 as Portfolio Manager, and held this position until around 2009. As Mr van der Hoven explained, as Portfolio Manager he was primarily responsible for monitoring and managing the funds’ cash flows and measuring their profitability (which could determine the distribution rate that could be paid to investors). Mr van der Hoven was the Portfolio Manager of the MPF until Mr Petrik took over in about 2009. Despite this, Mr van der Hoven continued to be involved in the portfolio management process.

56    On 22 June 2006, Mr van der Hoven was appointed as Executive Director of LMIM. Also around this time, he was appointed as the head of LMIM’s Foreign Exchange team. His focus shifted to managing the foreign exchange activity of the various funds. He explained that his role as Executive Director did not change his core focus on portfolio management and foreign exchange management. However, he consequently became more involved in other parts of the business.

57    As an Executive Director, Mr van der Hoven sat on the board of directors and reported to the board on foreign exchange dealing, and was involved in making company decisions that were brought to the attention of the board. Mr van der Hoven was a voting member of the MPF Credit Committee and other committees including the Property Research and Analysis Committee.

58    Mr van der Hoven was paid a salary and bonuses. His bonus was calculated as 2.5% of the profit of the LM Group. Mr Fischer explained that the bonus was paid from the operating cash flow of the LM Group. ASIC submitted, without dispute, that his salary and bonuses (relevant to the business judgment rule upon which he relied) were as follows, with his salary apparently calculated by subtracting his bonus from total taxable income:

(1)    2010: salary $209,460; bonus $95,574;

(2)    2011: salary $244,066; bonus $129,811; and

(3)    2012: salary $244,047; bonus $236,786.

59    Mr van der Hoven gave evidence. He was cross-examined vigorously, although fairly. He was measured in his evidence and I consider that he was entirely truthful and, to the extent to which he could recall detail, reliable.

60    ASIC submitted that parts of Mr van der Hoven’s evidence had been contrived after he observed Ms Mulder give evidence before him. In particular, it was submitted that Mr van der Hoven’s affidavit evidence had referred only to auditors assessing the Maddison Estate development’s feasibility generally. In cross-examination, Mr van der Hoven’s evidence about his belief concerning the auditors became more precise. He said that he believed that the auditors were reviewing escalation rates (ts 683). ASIC submitted that this precision came only after he had heard similar questions asked in cross-examination of Ms Mulder.

61    Mr van der Hoven was a respondent to very serious allegations. He was present for much of the court hearing, which was entirely appropriate and to be expected given the gravity of the allegations against him. He could not possibly be criticised for observing Ms Mulder give evidence. I do not understand ASIC’s submission to have suggested this. However, ASIC’s submission misconstrues Mr van der Hoven’s increased precision in his answers as a basis upon which it could be said that his evidence had been moulded following his observations of Ms Mulder’s questions. I do not accept this submission about a witness who presented as honest and measured. As I explain later in these reasons, there is also an independent basis to accept Mr van der Hoven’s evidence concerning his belief in the role of the auditors.

Ms Mulder

62    In the 1 November 2011 information memorandum and application, Ms Mulder’s position and responsibilities were described as follows:

Francene Mulder

Executive Director, General Manager Distribution/Product

Francene commenced with LM in 1999, following a 20 year career in the commercial, legal and securities sectors. Prior to joining LM, Francene held managerial positions focused on the areas of commercial mortgages, conveyancing and the property sector. Specific experience in mortgage securities and the marketing of financial products provided a solid background for Francene to successfully undertake her role within LM. As Executive Director, Francene is primarily responsible for the marketing and expansion of distribution of LM’s products on a wholesale and retail basis, throughout Australia and international markets. Francene takes an active role in the direction of all client communication, company communication, corporate literature and service. Francene is also a member of LM’s Property Research and Analysis Committee, Funds Management Committee, Credit/Investment Committee and Arrears Committee.

63    Ms Mulder explained that after secondary school, she commenced work at various law firms, primarily in conveyancing and then general mortgages. In August 1999 she commenced working as marketing manager at LMIM within a small treasury division, although she was employed by LMA.

64    After having worked at LMIM for 7 years, Ms Mulder was appointed as Executive Director and Marketing Director of LMIM on 30 September 2006. Ms Mulder explained her duties as follows:

I was appointed Executive Director and Marketing Director of LMIM on 30 September 2006. As Marketing Director, I managed the marketing/business development teams, communications team, and the team that put the product disclosure statements together. After transitioning from Marketing Manager to Director I was still heavily involved in dealing with daily marketing activities. As such, though I was a member of various committees, I travelled frequently and often did not attend committee meetings. During this time, LMIM established further satellite offices and I was involved in assisting the teams with growing market presence in regions those offices were servicing.

…

In my role as Director, Marketing Manager and in publishing information intended for financial advisors relating to disclosure or particular assets of the fund, I was reliant on information reported to me by the finance team and the CFO. In a similar manner, I was reliant on information reported by the PAM Team in credit committee meetings in relation to fund assets… LM had processes and experienced senior people in place in each department and I was comfortable with that and relied on their expertise to assist me in making decisions as a Director and Marketing Manager. I discuss this in further detail below with respect to Maddison Estate.

I was an active working director. LM was a large organisation and my daily involvement was within the Marketing and Communications teams.

65    As Ms Mulder explained, her main focus from 2011 until the end of 2012 was the First Mortgage Income Fund. During this time, the other directors were working across the other areas of the business to allow Ms Mulder to focus on the First Mortgage Income Fund. Ms Mulder explained that she generally did not read valuations, loan documents, feasibility models or advices as that was not her area of expertise or her role. She said, and I accept that she believed, that it was the role of the expert individuals in the specialised in-house PAM team to understand these documents and to present the relevant information to decision-makers. She trusted their experience and expertise.

66    Like Mr van der Hoven, Ms Mulder was paid a salary and bonuses (calculated in the same way as Mr van der Hoven’s). ASIC submitted, without dispute, that her salary and bonuses (relevant to the business judgment rule upon which she relied) were as follows (again, apparently by calculating salary by deducting bonus from total taxable income):

(1)    2010: salary $178,620; bonus $104,142;

(2)    2011: salary $244,066; bonus $129,811; and

(3)    2012: salary $208,784; bonus $236,786.

67    Ms Mulder gave evidence. She was also cross-examined vigorously, although again fairly. ASIC submitted that an inference should be drawn that Ms Mulder was deliberately evading being committed on any matter of detail beyond what she relies upon for her defence. I do not accept this submission. I have no doubt at all that Ms Mulder was a thoroughly honest witness and that she answered all questions truthfully and to the best of her ability. Like Mr van der Hoven she had a limited recollection of matters that were discussed at MPF Credit Committee meetings. To the extent that she did recall those meetings, I consider that her answers were truthful and reliable.

The Maddison Estate joint venture

68    On 12 September 2007, the MPF Credit Committee considered a proposal for a $36.75 million loan by the MPF to a special purpose vehicle, LM Coomera JV Pty Ltd, for the Maddison Estate development. This was the genesis of the loan which was at the heart of the proceedings in this case.

69    A synopsis dated 11 September 2007 was sent to the MPF Credit Committee describing how LM Coomera JV Pty Ltd would on-lend funds to a company in the Young Land Group called Coomera Ridge Pty Ltd (Coomera Ridge) under joint venture agreements, or to another joint venture special purpose vehicle as part of the Young Land Group. Coomera Ridge had an entitlement to 31 parcels of land at Coomera, sometimes described as the “Pimpama Land”.

70    The 11 September 2007 synopsis explained that the proposal was for the MPF to enter a joint venture with a company owned by Mr Young (a director of the Young Land Corporation) to develop and sell the Pimpama Land into a residential subdivision comprising approximately 1532 residential lots (combining (i) some land sales, and (ii) some house and land packages). Mr van der Hoven explained that the expected gross revenue was said to be $577.8 million, and that the expected net profits to each joint venturer was said to be $65 million.

71    The security for the loan was described as “generally secured by way of second mortgage”, and a fixed and floating charge over all of the assets of the joint venture special purpose vehicle company.

72    On 13 and 14 September 2007, the members of the MPF Credit Committee approved the proposal for a loan of $36.75 million. The loan, which somehow became $40 million, was made from the MPF to a company which became known as Maddison Estate.

73    On 19 November 2007, several agreements gave effect to the joint venture:

(1)    a joint venture development agreement was entered into by Maddison Estate and CRDC Pty Ltd (CRDC). CRDC was incorporated in September 2007 by Mr Young for the purpose of participating in a joint venture with Maddison Estate to develop the Pimpama Land. Mr Young was CRDC’s sole director and secretary until October 2010. The agreement provided for the equal sharing of proceeds and provision of $40 million by Maddison Estate. It was signed by Mr Drake for Maddison Estate and by Mr Young for CRDC. Curiously, it provided for a contribution from Maddison Estate of $40 million;

(2)    a land availability agreement was entered into by Maddison Estate (signed by Mr Drake), Coomera Ridge, and CRDC (both signed by Mr Young); and

(3)    a development management agreement was entered into by Maddison Estate, CRDC, and Young Land Project Management Pty Ltd (Young Land Project Management) to engage Young Land Project Management as the development manager.

74    As Mr Young had conceived it, the Maddison Estate development was for: (i) initial sales of land only; (ii) subsequent sales of house and land packages; and (iii) eventual sales of town houses and units. The plan involved approximately 1,458 dwellings on 700 residential lots with another 700 attached dwellings. This plan had obtained preliminary development approval from the Gold Coast City Council on 16 November 2009. It received final approval on 6 May 2010.

75    However, by 2010, the property market on the Gold Coast and other parts of Queensland had declined, in part due to the global financial crisis. Mr Young’s companies, including Young Land Project Management, were unable to meet their liabilities. Mr Young became personally bankrupt. Mr Young and Mr Drake agreed that Maddison Estate and CRDC would terminate the joint venture. Around April 2010, a number of agreements were entered to terminate the joint venture.

76    around the time of the termination of the joint venture:

(1)    Maddison Estate entered into a development management agreement with LMA (LMA Development Management Agreement). LMA agreed to provide development services, effectively replacing Young Land Project Management. Mr Young, Mr Fischer and other former employees of Young Land Project Management were employed by LMA. Under the LMA Development Management Agreement, LMA would receive a monthly development management fee which commenced at $250,000 (plus GST) a month, and increased to $300,000 (plus GST) a month from July 2011. The LMA Development Management Agreement provided that the agreement would terminate on 30 June 2015.

(2)    Mr Young transferred his interest in the Maddison Estate development to Mr Drake, and Mr Drake became the sole director of Coomera Ridge.

77    Also following termination of the joint venture, Maddison Estate was substituted as the sole borrower under the Suncorp loan facility (explained further below).

78    Some of these matters, and the relationships between the relevant entities, are represented in the diagram below.

The loans to the joint venture

The Suncorp loan in January 2008

79    In January 2008, Suncorp extended a finance facility to Maddison Estate and CRDC with a limit of $6,464,000. The facility was secured in part by first ranking charges over the assets and undertakings of Maddison Estate and CRDC.

80    On 23 January 2008, $5,836,377.50 was drawn down under the Suncorp loan facility. The loan facility was subsequently increased. By October 2011 the loan was drawn down to around $34 million. However, by March 2012 it had been reduced to $26 million.

81    Young Land Corporation and Suncorp commissioned valuations of the Pimpama Land on an “as is” basis. The valuations by Landmark White were dated 6 March 2008 and 28 July 2008 respectively. The valuations valued the Pimpama Land at around $54 million in March 2008, and $72.5 million in July 2008. The 28 July 2008 valuation noted that the total area of the 32 parcels of land was 109 hectares. It observed that at the date of valuation all of the properties were being used as rural homesteads and that a number of the lots had limited development potential due to town planning restrictions.

The Maddison Estate MPF Loan Agreement on 13 November 2007

82    On 13 November 2007, LMIM as trustee for the MPF entered a loan agreement with Maddison Estate (the Maddison Estate MPF Loan Agreement). In that agreement, LMIM agreed to lend $40 million to Maddison Estate to give effect to the joint venture.

83    The date for repayment was the date when LMIM demanded payment from Maddison Estate. The Maddison Estate MPF Loan Agreement did not provide for any guarantor. It provided that Maddison Estate would indemnify LMIM against any expense, loss, loss of profit, damage or liability which LMIM may suffer as a consequence of any default by Maddison Estate.

84    The Maddison Estate MPF Loan Agreement provided for an interest rate to be determined by LMIM on the basis that Maddison Estate should have no distributable income at the end of each financial year. Interest instalments were to be paid monthly. The interest rate provision (Item 6) provided:

Such rate as is determined by [LMIM] in its absolute discretion from time to time (with the intent that such rate results in [Maddison Estate] having no distributable income at the end of each financial year), or in default of such determination by the Lender, 18% per annum.

85    The Maddison Estate MPF Loan Agreement was executed by Mr Drake and Ms Darcy as directors of LMIM. It was executed also by Mr Drake as the sole director of Maddison Estate.

86    One of the recitals provided that LMIM entered into the agreement only in its capacity as trustee for the MPF.

87    The Maddison Estate MPF Loan Agreement did not initially provide for any security. Security was subsequently provided under a deed of variation on 11 November 2008 where Maddison Estate agreed to provide a charge over “all the property, assets and undertaking of [Maddison Estate] of whatsoever nature and kind and wheresoever situated, present and future”.

88    On 20 May 2010, the interest rate was varied to be a “rate of 25% per annum, provided that such rate may be adjusted in the absolute discretion of the Lender on each anniversary of the loan, to equal the market rate for loans of such nature, to be determined by the Lender in its absolute discretion. If no adjustment is made the rate will remain at 25%”. The interest rate was set at 25% to ensure that Maddison Estate did not make a profit. Legal advice was received about the propriety of the interest rate increase in light of Mr Drake’s potential conflict of interest.

The variations to the Maddison Estate MPF Loan Agreement and the feasibility reports

89    The Maddison Estate loan limit could not have been intended to cover all of the costs of the Maddison Estate development and capitalised interest. There was little evidence on this point. ASIC asserted that the variations to the limit showed that LMIM’s “track record of properly forecasting development and other costs and adhering to budgeted projections was abysmal”. In contrast, Ms Mulder and Mr van der Hoven submitted that there was no evidence that the loan and variations were required to be a “once only loan”.

90    The evidence does not reveal whether the MPF Credit Committee ever considered the extent to which the initial limit and subsequent variations would need to be increased again in the future. Any conclusion about what maximum limit would be needed might have been extremely difficult to reach. One reason for the uncertainty is that the scope and detail of the project changed as it progressed and it seems that these changes were welcomed. Another reason for the uncertainty is that the limit of the loan would depend on how long the development took, which would be extremely difficult to estimate. The longer that the development took, the more capitalised interest would add to the loan amount. At 25%, the capitalised interest only on a $60 million loan would require $15 million per annum. A third reason for uncertainty is that LMIM’s exit plan, at least from late 2011, was to be bought out. This could only occur when a purchaser could be found to whom the debt could be assigned. When that occurred, no further limit would be needed by LMIM.

91    There are strong reasons why the initial limit, and variations, might reasonably not have been expected to be the permanent limit to the loan. It is notable that the independent lender, Suncorp, was prepared to lend with an initial limit of $6.4 million in January 2008 but to allow that limit to increase to around $34 million by October 2011.

92    One reason why the initial loan, and subsequent variations might not have been expected to be permanent is that the synopsis dated 17 September 2008, which supported an increase of the loan from $40 million to $58 million, described the purpose of the loan to be to “acquire 32 parcels of land, consolidate and re-develop into a residential Master Planned community comprising approx 1500 dwellings”. The synopsis explained that the “total purchase price of the land lots is $73M + fees + stamp duty + interest”. Even with the Suncorp loan, the first extension to $58 million would barely cover the costs associated with acquiring all 32 parcels of land, still less the costs of the massive development until revenue streams began. The synopsis also observed that the initial $40 million loan did not apply to ongoing costs, and that the increase to $58 million was necessary “to allow for ongoing budgeted payments” (emphasis added).

93    The inference that at least some of the limits which were varied by subsequent variations were not expected to be permanent is also supported by the fact that some of the variations were expressed as applying only for a particular period. For instance, the September 2011 variation was agreed on the basis that it would only provide the funding required until the end of March 2012. There was no evidence that any of the members of the MPF Credit Committee considered it surprising at that time that the additional $65 million limit was needed although it would only provide short term funding for six months (to the end of March 2012) up to a limit of $180 million. At least in relation to this variation, rather than suggesting an “abysmal” track record of forecasting as ASIC had submitted, the MPF Credit Committee was potentially quite accurate. By the end of March 2012, the loan balance of the Maddison Estate MPF Loan Agreement was $177,766,781.23 (to the extent that the loan balance can be relied upon despite retrospective additions to it based on later events).

94    The Maddison Estate MPF Loan Agreement was varied on the following occasions:

(1)    An increase from $40 million to $58 million (with MPF Credit Committee approval on 18 September 2008) by a deed of variation entered on 11 November 2008. The variation took effect on 18 September 2008.

(2)    An increase from $58 million to $70 million (with MPF Credit Committee approval on 5 August 2009) by a deed of variation entered on 6 October 2009. The variation took effect on 30 July 2009.

(3)    An increase from $70 million to $95 million (with MPF Credit Committee approval on 25 February 2010) with a deed of variation executed on 14 April 2010. The variation took effect from 11 December 2009.

(4)    An increase from $95 million to $115 million (with MPF Credit Committee approval on 28 July 2010) with a deed of variation executed on 28 June 2011. The variation took effect on 14 February 2011.

(5)    An increase from $115 million to $180 million (with MPF Credit Committee approval on 25 September 2011) with a deed of variation executed on 19 October 2011. The variation took effect on 15 February 2011.

(6)    An increase from $180 million to $280 million (with MPF Credit Committee approval on 7 August 2012) with a deed of variation executed on 1 July 2012 (the August 2012 Variation). The variation took effect on 30 June 2012.

95    Prior to each variation of the loan, feasibility reports were prepared and used to provide a synopsis for the MPF Credit Committee.

96    The feasibility reports were prepared by the PAM team using a proprietary software program called “Estate Master”. Estate Master required the input of numerous variables from which it calculated a net present value of the development. The variables which were inputted by members of the PAM team included projected revenue data, projected expense data and various assumptions such as escalation rates (the rates by which the value of lots might escalate in price during the timeframe of the development).

97    Ms Phillips explained that the revenue and expense inputs were not all externally obtained. Some, such as sales prices and valuations, were researched from independent reports and other research such as market sales prices, real estate agents, and sales reports. Those valuations were scrutinised by the board of LMIM in informal meetings.

98    Other inputs were externally obtained. Mr Barnett gave evidence that information was derived from external consultants concerning council fees, consultants’ fees and construction cost estimates from engineers and landscape architects. Mr Young also said in his affidavit and in his oral evidence that he obtained estimates of development costs from companies such as Mortons Urban Solutions (ts 413).

99    Mr King explained that apart from these cost and revenue inputs, the escalation rate was the remaining variable (although discount rates also needed to be applied to the model). As Mr Barnett explained, the escalation rates are an increment by which the value of the property is multiplied to estimate the amount by which the value of the property will improve over time. The increment is applied annually to estimate the amount by which property will increase in value from year to year. The values of property to be released through Stage 1 were the baseline. The escalation rates were applied to that baseline.

100    Mr Barnett said that it was usual to obtain the escalation rates from an independent property analyst. He and Mr King used a report from BIS Shrapnel entitled “The Outlook for Residential Land in Gold Coast”. Mr Barnett also subsequently referred to sales revenue escalation rates from a third party property consultant called RP Data.

The abandonment of the allegations concerning the September 2011 loan variation

101    From the inception of the case until shortly after ASIC’s evidence concluded, ASIC alleged breaches by the respondents in relation to the September 2011 loan variation. Although the allegations were abandoned, it is necessary to explain the background to that variation in a little more detail because ASIC continued to rely on that background in a slightly opaque submission that, although the variation was not said to be a breach of duty, it could somehow cast a shadow over the August 2012 Variation which was said to be a breach of duty.

102    By 18 September 2011, the loan balance of the Maddison Estate loan was around $140 million. This exceeded the previously approved limit of $115 million. A synopsis dated 22 September 2011 sought an increase to $200 million. The members of the MPF Credit Committee discussed, and approved, an increase in the limit of the advance from $115 million to $180 million a few days later.

103    On 25 September 2011, Mr Tickner sent an email to the members of the MPF Credit Committee (including the respondents) which attached the 22 September 2011 synopsis. The email said:

Attached is the synopsis regarding the increase to the maximum Approved Loan Amount.

This was discussed by ST LD PD EVH and FM and agreed to an amount of $180M based upon the funding required until end March 2012 on the basis of anticipated project related costs, Suncorp’s amortisation requirements interest and also MPF’s interest.

Can you please confirm your acceptance by voting.

104    The initials refer to, respectively, Mr Tickner, Ms Darcy, Mr Drake, Mr van der Hoven, and Ms Mulder. However, Ms Mulder’s evidence was that this loan was approved at a meeting when she was in Hong Kong, and too unwell to attend the meeting. I accept Ms Mulder’s evidence. In any event, Ms Mulder would have become aware of the approval shortly afterwards.

105    In the synopsis which was provided to the MPF Credit Committee to assist them in considering the variation to the loan, it was observed that the loan balance was more than $140 million (which exceeded the approved limit of $115 million). The synopsis noted that development approval had been granted and further applications were being made for the first stage of subdivision, although the number of proposed dwellings and lots would be subject to further feasibility and cash flow analysis once the approvals progressed. It was also noted that Suncorp held a first mortgage which secured a $38 million debt. It was observed that Suncorp was not continuing with development loans, was reducing all of its facilities, and had requested a paydown of the loan facility of $2 million a month for the six months which commenced in August 2011. The increase in the loan would “cover the principal reductions ($2M per month) and interest on the Suncorp loan (approx $350K p/m), interest on the MPF facility (currently $2.5M p/m and capitalising) and development costs for Stage 1 completion”.

106    ASIC’s claim initially alleged that the September 2011 loan variation was a breach of trust by LMIM, and a breach of s 180(1) of the Corporations Act by the directors. But, after the evidence of Mr Woolley, ASIC abandoned this allegation. Nevertheless, ASIC’s pleading and submissions still relied upon circumstances surrounding the September 2011 variation which had previously been pleaded in the context of the allegations of breach of trust, in particular:

(1)    the respondents’ possession of a report produced by Ernst & Young in January 2011 which was critical of the development;

(2)    the respondents’ knowledge of the Landmark White preliminary valuation for Suncorp in July 2011 which assessed the “as is” value of the Pimpama Land as between $35 million and $40 million based on its “highest and best use”;

(3)    LMIM’s previous increases in the loan from $40 million in November 2007; and

(4)    the respondents’ awareness that construction on the development had yet to commence.

107    ASIC was right to abandon the allegations of breach in relation to the September 2011 loan variation. But it continued to rely upon these circumstances in relation to the August 2012 Variation. I do not consider that they cast any great shadow upon the decision to approve the August 2012 Variation. In particular: (i) the Ernst & Young report was not relied upon for the truth of its contents, which were hotly disputed by the respondents at the time and subsequently; (ii) the Landmark White preliminary valuation was on an “as is” basis but the land was not intended to be sold “as is”; (iii) the previous increases in the loan – which were not said to be any unreasonable breach of duty – show, at best, that the development had proceeded more slowly than expected because, as ASIC submitted, “a major portion of each of the previous loan increases, since November 2007, was also the result of capitalising interest”; and (iv) as I explain later, although construction had not commenced in September 2011 there were dramatic changes to the project between September 2011 and August 2012 and it had begun to move apace.

The parties to the August 2012 Variation

108    The variation in August 2012 was the final variation. It increased the loan to $280 million. It was executed by Maddison Estate (as borrower), The Trust Company (PTAL) Ltd (The Trust Company) (as lender), and Coomera Ridge (as mortgagor). It was not executed by LMIM. The reasons for that are as follows.

109    On 4 February 1999 a custody agreement was entered into between LMIM and The Trust Company (then named Permanent Trustee Australia Ltd) (Custody Agreement). The Custody Agreement was amended numerous times after 1999, but relevantly it was amended on 1 November 2011 to include the assets of the MPF.

110    The 1 November 2011 amending deed to the Custody Agreement was between LMIM and The Trust Company. It provided in Recital E that LMIM and The Trust Company agreed to amend the Custody Agreement to appoint The Trust Company as custodian of the MPF. It was common ground that this was a legal assignment of LMIM’s legal interest as lender in its position as trustee for the MPF. The Custody Agreement obliged The Trust Company to hold the assets of LMIM, clearly identified by reference to the relevant Scheme, separately from The Trust Company’s assets (cl 4.9). The Trust Company was also authorised to act (cl 5.2):

on Instructions in writing which bear or purport to bear the signature or a facsimile of the signature of any of the Client’s Authorised Persons or Instructions provided by electronic means using the security codes or procedures agreed between Permanent and the Client.

111    Since the Custody Agreement vested the assets of the MPF in The Trust Company on 1 November 2011, the final deed of variation of the Maddison Estate MPF Loan Agreement was executed by The Trust Company as lender. All other previous deeds of variation had been executed by LMIM as lender.

112    The final deed of variation was signed by Mr Franklin for The Trust Company (“Manager Property Infrastructure and Custody Services”) and by Mr Drake for Maddison Estate and Coomera Ridge, with the word “Sole” handwritten in parentheses after the word “Director” below his signature.

113    Although the deed of variation was prepared by the property department of LMIM (ts 347) after the MPF Credit Committee meeting on 7 August 2012, LMIM was not a party to the deed. It may have been intended that LMIM should be a party because of the provisions of cl 15 which refer to LMIM’s obligations under this deed. For instance, cl 15.1 provided that:

Trustee – [LMIM] enters into this Deed, the Loan Agreement and each other Security and the other parties to this Deed acknowledge that they are aware that [LMIM] enters into this Deed, the Loan Agreement and each other Security, in its capacity as the Trustee of the Fund, pursuant to the Fund’s Constitution and the other parties to this Deed are aware of the limited scope of [LMIM]’s obligations and powers under such Fund.

The date of execution of the August 2012 Variation

114    The August 2012 Variation was dated 1 July 2012. Mr Drake submitted that it may have been backdated. A difficulty with this submission is that if the final deed of variation was backdated substantially then this would mean that Mr Franklin, who did not give evidence, must have signed a document on behalf of The Trust Company which was dated months earlier.

115    Another apparent anomaly is that in an entry dated (Saturday) 30 June 2012, the loan account for the MPF provided for $9,800,000 as a loan “re-establishment fee”. In other words, the amount of the re-establishment fee was recorded in the loan account on the same day as the date of the variation, and not two months’ later when ASIC submitted that the variation was executed. It is possible, however, that this entry in the loan account for the MPF was also backdated. Clause 6 of the variation had provided that LMIM will capitalise this amount “to the Loan Amount on the Effective Date [30 June 2012]”. Indeed, the loan balance described in the synopsis on 25 July 2012 did not include the capitalised establishment fee of $9,800,000. And the transaction number for the re-establishment fee appears to fit in a sequence shortly after 30 July 2012, and prior to 9 August 2012.

116    On the other hand, there are strong reasons to conclude that the final deed of variation was executed and backdated some time after 1 July 2012. One of them is the transaction number of the re-establishment fee. Another is the amount of the re-establishment fee in cl 6 of the loan variation deed: $9,800,000 (3.5%). At the MPF Credit Committee meeting on (Friday) 29 June 2012, the amount which had been agreed was a fee of 3.75% ($10,005,792). As Ms Chalmers said, there had been discussion of the fee at that meeting. Subsequently, Mr Drake asked Mr Fischer to investigate the re-establishment fee by considering the fees charged by other equity lenders and mezzanine financiers, including a company called Alceon which had proposed a re-establishment fee of 3% to 3.5%. Mr Drake told Mr Fischer that MPF would charge Maddison Estate a similar re-establishment fee. At a meeting with Williams Partners Independent Audit Specialists (WPIAS), a sizeable auditor who had local property experience, on (Monday) 9 July 2012, a re-establishment fee of 3.5% ($9,800,000) had been included in the proposal.

117    Although it is likely that the deed of variation was backdated some time after 1 July 2012, it is unclear when the backdating occurred. It certainly occurred no later than 29 October 2012, when Ms Chalmers and Ms Kingston for LMIM wrote to The Trust Company, saying that LMIM “authorizes and directs [The Trust Company] to execute the following documents: 1. Deed of Variation (in duplicate)”. Ms Chalmers said in her letter that LMIM confirmed that The Trust Company is acting on the direction of LMIM and in their role as custodian. She asked that after execution, the documents be couriered to Ms Kingston of the LMIM office. Curiously, Ms Chalmers did not give any oral evidence about these matters.

118    On (Tuesday) 30 October 2012, the executed deed of variation was sent from The Trust Company with a letter requesting that an acknowledgement be signed and dated. The executed deed which was enclosed was not an exhibit at trial. It was unclear whether the executed deed was returned or whether the return was only the two pages which were included as an exhibit. Those two pages bear a striking resemblance to the signature pages of the executed deed dated 1 July 2012 with the exception that the word “Sole” under Mr Drake’s signatures on behalf of each of Maddison Estate and Coomera Ridge is not present.

119    On balance, I consider that it is likely that the final variation deed was signed by Mr Drake very shortly after the 7 August 2012 MPF Credit Committee meeting, and then backdated. It would have been executed by The Trust Company some time after that, no later than 30 October 2012.

Suncorp’s concerns

Suncorp seeking repayment of its Maddison Estate loan

120    From mid-2011, Suncorp began to take steps to recover its loan. By 22 September 2011, LMIM had recorded in a synopsis Suncorp’s desire for a “paydown” of its $38 million loan at a rate of $2 million a month for six months. Suncorp had told LMIM that it was not continuing with development loans and was reducing all of its facilities. It had commissioned Ernst & Young and Landmark White in the context of its desire to obtain substantial capital reductions, and for the loan to be repaid.

121    Each of Mr Drake, Ms Mulder, and Mr van der Hoven was aware of Suncorp’s desire to reduce, and obtain repayment of, its loan.

The draft and final Ernst & Young reports and the responses

122    In January 2011, Suncorp commissioned Ernst & Young to analyse the Maddison Estate development. In July 2011, Ernst & Young provided Suncorp with a draft report. The draft report raised concerns about the proposed development. One concern was that the development was said to be targeted at first home buyers (who are typically price sensitive) rather than luxury second, third and fourth home buyers (who are typically attracted to community titled developments). They said that there may be difficulty selling the houses when there is an extensive supply of affordable housing in nearby competing developments that are not subject to community management schemes. The draft report raised concerns about getting the market to accept the product, including the layered community management scheme structure, due to expected competing developments in better locations. It was also suggested that the highest and best use was lower density housing.

123    On 21 June 2011, Mr Kurbatoff from Suncorp sent the draft report to Mr McDonald at LMIM. On 28 June 2011, Mr Kurbatoff emailed Mr McDonald saying that Suncorp’s main concerns were:

(1)    the designation of the Maddison Estate development for apartment use (high density) given competition to be provided in 3 to 5 years from land closer to Coomera town centre;

(2)    apparent inflexibility in the Preliminary Development Approval and allowable uses and densities for the site; and

(3)    the use of community title as opposed to outright freehold title.

124    Despite several follow up emails from Mr Kurbatoff, LMIM did not respond to the draft report until 29 July 2011. On that date, Mr McDonald responded with a report prepared by Matusik Property Insights Pty Ltd (Matusik) for LMIM, which was commissioned by Mr Young in response to the draft Ernst & Young report. Matusik had previously provided Young Land Corporation with a report in September 2007 and March 2011. As Mr Young told Mr Drake and others, he was “deeply disappointed” with the Ernst & Young report, thinking that they had not grasped the concept of the development (ts 418). Mr Young was engaged in the PAM team when he commissioned the Matusik responsive report.

125    The Matusik responsive report made various criticisms of the draft Ernst & Young report including the use of a case study by Ernst & Young which was said to confuse residential supply with resort and holiday accommodation, and to confuse the modestly priced product of the Maddison Estate development with a premium waterfront or golf-course product.

126    In 2011, Mr Young also commissioned two reports from RPS. One report, dated 28 July 2011, concluded that the Maddison Estate development, upon completion, would house approximately 3,645 people. Assuming that half of those people would require full time employment, there would be a demand for 1,823 jobs of which Maddison Estate would provide 840.

127    I accept the submission by ASIC that the purpose of the RPS reports and Matusik responsive report was to undermine the Ernst & Young report. The reason why these reports were obtained to undermine the Ernst & Young report was because the directors at LMIM considered that the Ernst & Young report was misconceived. These opinions were strongly held. Mr Young’s “deep disappointment” in the Ernst & Young report was shared by Mr Tickner, who emailed Mr Drake, Mr van der Hoven and others describing a “number of areas in which [the] draft report was severely lacking” and the alleged misunderstanding of “some very basic fundamentals”.

128    On 2 September 2011, a final version of the Ernst & Young development analysis report was sent to Mr Kurbatoff. Shortly afterwards, Mr Kurbatoff sent the report to Mr McDonald and Mr Tickner. The conclusions in the final Ernst & Young report were extremely similar to the draft report. There is little evidence that Ernst & Young had considered and responded to the Matusik responsive report in the final report. Although the covering letter bore the date 2 September 2011, the cover page of the final report purported to be a report dated June 2011.

129    It should be emphasised that the draft Ernst & Young report and the final Ernst & Young report were not admitted for the truth of their contents. Rather, they were admitted simply as matters about which the respondents were aware. However, the strength of the views within LMIM that the draft Ernst & Young report was based on misunderstandings, coupled with the responses of RPS and Matusik in their responsive reports, mean that, in the absence of proof of the contents of the reports, I do not accept that there were “serious concerns” (as ASIC submitted) arising from the Ernst & Young reports which should have led LMIM to undertake an independent assessment of committing trust funds to the development.

The July 2011 preliminary valuation

130    In July 2011, after the draft Ernst & Young report had been obtained, Suncorp obtained a preliminary valuation from Landmark White which assessed the “as is” value of the Pimpama Land at between $35 million and $40 million based on a “highest and best use value”.

The reductions in Suncorp’s loan

131    As Mr Kop explained, the loan from Suncorp was reduced from around $33.9 million in September 2011 to around $21.9 million in April 2012. The repayments to Suncorp were from the MPF. In the meantime, as Mr Fischer explained, LMIM unsuccessfully sought new financiers to refinance the Suncorp loan during late 2011 and early 2012.

LMIM’s exit plan and the course of the development

LMIM’s exit plan

132    On 16 August 2011, Mr Fischer replied to an email from Mr Tickner in which Mr Tickner was critical of the Ernst & Young report. Mr Fischer suggested that the MPF needed to refinance the Suncorp loan at the first available opportunity. Mr Fischer replied, telling Mr Drake and Mr van der Hoven and others that senior debt would be difficult to obtain. But additional debt was obviously necessary to advance the project. Therefore, the MPF needed to consider lending more money. Mr Fischer explained that the development team had said to him that a good approach was to get the project moving, and to start some early sales and marketing to generate income. He had also expressed this view to the directors (ts 372).

133    Although LMIM was aware that it needed to lend to get the project moving, it was also looking to exit the development. Mr Fischer explained that in late 2011 and through 2012, LMIM (and in particular Mr Fischer and Mr Ticker) was looking for new financiers to take over the Suncorp loan and also to pay out the Maddison Estate loan to Maddison Estate. The intention was that the MPF would be bought out (ts 325). Mr Fischer thought that obtaining a funder to take out MPF’s position was in the best interests of the MPF (ts 325). In the circumstances in which the MPF found itself, that view seems to have been reasonable. Indeed, in the audited financial reports for the year ended 30 June 2012, the auditors observed that LMIM “is currently in due diligence discussions and has received a conditional letter of interest from an offshore financier to fully repay the Suncorp facility on March 31, 2013 and also finance the full construction of the project to completion”.

An enhanced and developed concept for the Maddison Estate development, and rapid improvement in 2012

134    As I have explained, Mr Young’s original vision for the Maddison Estate development involved 1,458 dwellings with initial land only sales, followed by house and land packages, and eventually sales of town houses and units. This vision continued for some time after the joint venture was terminated in April 2010. The Gold Coast City Council approved an amended plan on 6 May 2010.

135    By November 2011, Mr Drake began to enhance and develop the concept of the Maddison Estate development. Mr Drake’s plan became to sell blocks of vacant land via community title in a large setting. There would be a significant increase in the density of the buildings. The setting would comprise a number of public areas, including parks with a high level of embellishments, high tech recreational venues, and a town centre. Mr Drake planned a swim school headed by an ex-Olympian Ms Samantha Riley, a beach volleyball centre also headed by an ex-Olympian Ms Natalie Cook, and landscaping undertaken by a celebrity landscaper, Mr Jamie Durie. Later, Mr Drake added plans for a new model world first wave pool branded with a world renowned surfer, Mr Kelly Slater.

136    The minutes of a meeting on 23 November 2011 record the evolving changes which were being implemented by Mr Drake. They refer to Ms Riley and Ms Cook’s involvement through facilities leased by the Council. The sports facilities would be a “point of difference”. Mr Drake wanted to “go over thoroughly the entire design and Big Picture”; he wanted plans in Stage 1 for Village Square & Retail precinct, and public open space with an amphitheatre.

137    Unfortunately, there had been considerable delays. In late 2011, Mr Barnett, the development manager, was brought in to replace Mr Young and Mr McDonald and to get things moving (ts 208-209). Senior people within LMIM had considered Mr Young to have failed in his responsibilities, and to have caused the development to languish. Mr Fischer said that, by November 2011, there was mounting frustration amongst his senior colleagues with Mr Young’s inability to deliver the project (ts 297). On 16 November 2011, Mr Drake sent an email to Mr Tickner, Ms Darcy and Mr Fischer saying “Totally wasted 15 weeks. I am assuming control… Young is wasting our time and money”. Mr Tickner replied, saying a new employee would start in two weeks, and that “The plan is that he will control and manage the project and introduce the disciple David [Young] lacks”.

138    Mr Barnett said that before he started work for LMIM in late 2011, no work had been done on the development site at Pimpama. New approvals were needed for the proposed changes to the town centre and for earthworks (ts 209-210). From late 2011, Mr Barnett brought far more efficiency to the development. He was an impressive operator.

139    On 13 February 2012, Mr Barnett told Mr Drake and others that he had been advised by “all consultants and operators” that “the current internal location of the town centre is problematic and not desirable”. He said that the relocation of the town centre would be a “significantly improved outcome with respect to sale / lease success of the centre”. His initial thoughts were that the project construction and release timing may not be too adversely affected if the current approvals could be used.

140    By March 2012, Mr Barnett was on the cusp of receiving Stage 1 tree clearing approval. He had obtained the Stage 1 change of ground level approval. And the relocation of the town centre was approved in principle. Mr Barnett was also involved with negotiating long term arrangements with the celebrities who were associated with the embellishments. He negotiated in-principle agreements with Ms Riley and Ms Cook, signed a Memorandum of Understanding with Mr Slater, and engaged Mr Durie.

141    On 19 April 2012, Mr Barnett sent an email to various LMIM personnel including the respondents, saying that work was to commence on site in two weeks. He explained that the work would include tree clearing and demolition works for Stage 1. The total cost of the work was around $543,000 and the period of work would be two months.

142    The commencement of this work took around four weeks longer than expected. On 23 May 2012, Mr Barnett emailed various people including the respondents with an approval permit from the Gold Coast City Council authorising the commencement of the tree clearing works. Mr Barnett said that this would occur in the next two days. The respondents were jubilant. The work started on 25 May 2012.

143    Mr Barnett also obtained approvals for bulk earthworks to commence in February 2012, subject to approval from Suncorp. However, the date for commencement of the bulk earthworks was delayed to June 2012 due to funding issues (ts 214-215). The site was steep so the bulk earthworks would be expensive (ts 61; 305). Mr Barnett explored alternatives to the expensive process of earthworks such as “cut and fill” (ts 210). During the three months of financing delays, Mr King constantly asked Mr Fischer when the earthworks could commence. There was a growing need for the limit of the MPF loan to be increased to allow for this financing.

144    Between May and July 2012, as the respondents were aware, Mr Barnett entered into a non-disclosure agreement and exclusive dealing period with the Kelly Slater Wave Company and planned a preliminary configuration of the Kelly Slater Wave Pool. Also, as Mr Drake informed the other respondents in July 2012, “Sam Riley is locked in for the fitness and swim centre. Natalie Cook is the same for the beach volleyball… Have also signed up Jamie Durie for all landscape and tv advertising… Also we have an exclusive agreement with Kelly Slater for a world first never ending Wave park to go into the estate. This completely puts Australia, LM and the Managed performance fund onto the world stage”.

145    In May or June 2012, there had also been discussion between the directors about increasing the density of the Maddison Estate development to increase its profitability. The suggestion had been that increased density would be around the area of the wave pool (ts 213). Mr Barnett gave evidence, which I accept, that by May or June 2012, the Gold Coast City Council was happy to accept the proposed increased density for the development (ts 219). Mr Barnett, who was a reasonable and measured witness, reasonably considered that the higher density in the order of around 800 extra dwellings was potentially of very significant advantage to the profitability of the Maddison Estate development (ts 214).

The August 2012 Variation and the circumstances preceding it

The early 2012 synopses

146    From February 2012, not long after the approval of the September 2011 loan variation, Mr Barnett also prepared synopses proposing another variation to the Maddison Estate MPF Loan Agreement. As I have explained, the September 2011 loan variation had been explained in the email from Mr Tickner on 25 September 2011 as being an extension “based upon the funding required until end March 2012 on the basis of anticipated project related costs, Suncorp’s amortisation requirements interest and also MPF’s interest”.

147    The first of the synopses produced by Mr Barnett was dated 27 February 2012. This proposal was to increase the loan from $180 million to $290 million. Mr Barnett was assisted by Ms Chalmers, Ms Lough, Mr King and Ms Kingston.

148    Mr Barnett subsequently assisted to prepare a revised synopsis dated 30 March 2012 that was then provided to the MPF Credit Committee. The synopsis included the following:

•    The development is to be undertaken in stages. Stage 1 is anticipated to commence April 2012 with completion of Stage 1 anticipated 12 months from commencement.

•    The revenue from Stage 1 is approximately $35M, these inflows should start around December 2012.

•    First Mortgage funding is with Suncorp with a current debt of $23.8M. Suncorp are not continuing with development loans and are reducing all of their facilities. Suncorp have agreed to extend the term to 31.5.12.

…

•    Marketing meetings are being held fortnightly in preparation for the large campaign due to commence later this year.

…

•    The Development team believe that once the Suncorp facility is down to $22M, a refinance will be able to take place with another financier.

149    A key part of the 30 March 2012 synopsis was in the same terms as the synopsis for the September 2011 variation. That is that the purpose of the increase was again to cover the principal reductions and interest on the Suncorp loan, interest on the MPF facility (“currently $3.5M p/m and capitalising”) and marketing, consultants’ costs, civil works and development costs for Stage 1 completion.

150    The 30 March 2012 synopsis said that the “positives” of a SWOT analysis included: (i) significant uplift in land values anticipated; (ii) development profits; and (iii) a strategic large development parcel in the Coomera region identified for future urban growth by State and local governments. The only “negative” of the SWOT analysis was the current property market conditions.

151    ASIC submitted that the proposed August 2012 Variation was significantly different from the September 2011 loan variation because the latter was described in the 22 September 2011 synopsis as (with emphasis added) “to increase the loan in the short term, to keep the loan compliant”. In contrast, ASIC said, the 30 March 2012 synopsis described the request as “to increase the loan for Stage 1 completion, to keep the loan compliant”. I accept this submission. As Mr Ticker had said in his email on 25 September 2011, the September 2011 variation was only intended to provide funding through until the end of March 2012. Another difference was that the 22 September 2011 synopsis anticipated refinancing of the Suncorp loan in February 2012. This had not occurred, so payments of principal and interest of $2.35 million a month were continuing at 30 March 2012.

152    Unlike the 22 September 2011 synopsis for a variation for a $200 million loan, the 30 March 2012 synopsis attached a “cash flow”. That “cash flow” showed the manner in which the proposed extension from $180 million to $280 million would be used to provide project funding. The title “cash flow” is misleading. Substantial amounts of cash did not “flow” at all. For instance, the “cash flow” showed monthly capitalising interest on the Maddison Estate loan increasing from around $3.4 million in March 2012 to more than $5.6 million in March 2013. The total amount contained in the “cash flow” which did not flow from the MPF between October 2011 to March 2013 was $74,759,809. None of this amount would be paid from the MPF to Maddison Estate. They simply represented a book entry increase in the loan.

153    Another notable feature of the cash flow is that it was projected that $14,214,629 in funds would be needed to make repayments of interest and principal for the Suncorp first mortgage. The respondents could reasonably have expected that if there was default on the Suncorp mortgage, and Suncorp foreclosed and sold the property before Stage 1 had been completed or another financier found, then there might be little chance of recovery of any of the loan.

The MPF Credit Committee meeting on 4 April 2012

154    By the end of March 2012, the loan balance of the Maddison Estate MPF Loan Agreement was $177,766,781.23. This was very close to the approved limit of $180 million which was granted for the period up to the end of March 2012. This conclusion is drawn from the synopsis which was prepared for the MPF Credit Committee at the end of March 2012. It is not drawn from the ledger for the loan account which was an exhibit at trial but which was not a contemporaneous record of the loan. As I have explained above, the ledger included backdated entries which affected the running balance but which were based on later events.

155    On 4 April 2012, there was a meeting of the MPF Credit Committee. Those attending included Ms Mulder and Mr van der Hoven. The minutes of the meeting described the purpose of the meeting being “to enable forward movement of Stage 1 (134 lots) and interest coverage”. The minutes recorded the following:

(1)    discussion in relation to Suncorp (as senior funder) and proposals for a future senior funder. The synopsis presented to the MPF Credit Committee prior to the meeting had observed that it was considered that it would be difficult to get senior funding at this point in the project but that this would be more likely once Stage 1 was complete;

(2)    construction documents were still to be finalised although construction costs had been tendered; and

(3)    active marketing was starting in June or July 2012 (which was a delay from the expected late 2011 marketing date in the September 2011 synopsis for the previous loan extension).

156    The MPF Credit Committee deferred approval of the proposed loan variation pending a meeting to be held one week later. The minutes explained that the MPF Credit Committee took the view that “being a related party transaction, it is premature to approve such a large increase at this point and advised that that it would like to review an updated whole of site feasibility cashflow”.

The informal meeting on 4 June 2012

157    Mr Fischer’s evidence, which I accept on this point, was that on 4 June 2012, as Chief Financial Officer, he had a meeting with Mr Drake, Mr Tickner, Mr van der Hoven and Ms Darcy (but not Ms Mulder). Mr Fischer wrote minutes of the meeting immediately afterwards.

158    At the 4 June 2012 meeting, Mr Fischer said that the LM Group could not sustain its current level of expenses. He said that the amount of money accounted as prepaid fees ($25 million) was not sustainable, and that the closed funds owed $4 million to LMIM as trustee for the MPF. He proposed an action plan involving matters which included:

(1)    placing more of the MPF assets on the market to provide liquidity;

(2)    taking a fee of 3% for the MPF;

(3)    drawing fees of over $6 million;

(4)    restructuring staffing and ceasing the profit sharing arrangement; and

(5)    selling the Sydney office.

Mr Fischer’s 14 June 2012 report

159    The meeting of 4 June 2012 was followed by a written report by Mr Fischer which was dated 14 June 2012 and which I am satisfied was sent to the other directors of LMIM by email, including Mr Drake, Ms Mulder, and Mr van der Hoven. Mr Fischer’s report observed:

(1)    there was a backlog of current cash payments owed by the LM Group totalling “$2,552,000+”, and that it was “at a critical point and must be repaid” with a plan Mr Fischer formulated;

(2)    current cash requirements for the LM Group averaged $2.5 million per month;

(3)    the closed funds owed the LM Group $3.9 million in management and loan fees;

(4)    the MPF had taken fees of $25 million which needed to be expensed;

(5)    LMIM had not charged “any real management fees that we are entitled in that fund for over 3 years”;

(6)    if a full management fee were taken up by the MPF then group earnings before interest and tax would be $20 million; and

(7)    it was imperative to reduce expenses across the board by at least 35%.

The June feasibility reports from Mr King and Mr Barnett

160    Some time after Ms Scott was made redundant in May 2012, Mr Fischer instructed Mr King and Mr Barnett to produce a revised feasibility report using the Estate Master software. Mr King and Mr Barnett worked on this feasibility report from May to July 2012. They produced numerous iterations of a draft feasibility model.

161    The mechanical part of Mr King and Mr Barnett’s work on the model involved inputting project costs and revenues. As I have explained above, the cost figures were obtained from consultants, and the revenue inputs were researched by the sales team from independent reports and other research such as market sales prices, real estate agents and sales reports.

162    As I have explained, apart from the cost and revenue inputs, the remaining variables were the escalation rates and discount rates. Mr Barnett’s evidence was that, in his experience, it was usual to obtain the escalation rates from an independent property analyst. On 2 July 2012, Mr Barnett sent Mr King an Excel spreadsheet entitled “Price Escalation Analysis”. The spreadsheet contained preliminary historical research on Gold Coast escalation rates obtained from the independent agencies RP Data and BIS Shrapnel.

163    One of the first feasibilities produced by Mr King and Mr Barnett was a “Land Only” feasibility. The escalation rates used were between 0% and 15% per year, with an average of 8% per year. Mr Fischer described this feasibility as an “alternative” (ts 307). Although Mr Fischer was generally a careful and considered witness, I do not accept that this was an “alternative” in anything other than an Armageddon scenario. A “Land Only” project was never a realistic alternative for LMIM. As Mr Fischer conceded, if a land only sale had ever been a realistic option then the loan from the MPF would have been impaired (that is, not fully recoverable) as soon as it was made. But it was never recorded as impaired and the Maddison Estate development was always promoted as involving a full build (ts 307). The Land Only feasibility was nothing more than to understand the value of a last resort, uncontemplated, sale of the land without development. When Mr Fischer brought the Land Only feasibility to a feasibility meeting in June 2012 Mr Drake said that he was not interested in a land only subdivision and sale because the site was going to be developed.

164    A more realistic feasibility produced by Mr King and Mr Barnett was a “Land and Build Out” feasibility. That feasibility used the same growth rates as the Land Only feasibility. Mr King said that it resulted in a net present value of around $150 million to $160 million, which was below the outstanding loan balance owed to the MPF at that time (potentially close to $190 million).

Mr Fischer’s concerns at the Sheraton hotel on 20 June 2012

165    On 20 June 2012, Mr Fischer raised his concerns about the financial position of the LM Group at a directors’ finance meeting at the Sheraton hotel. He said, and I accept, that all the directors attended this meeting. Mr Fischer took minutes and he recorded an action plan from this meeting, which was sent to the directors.

166    Mr Fischer’s minutes described how:

(1)    LMIM was forecast to take $31 million in management fees from the MPF in the 2012 financial year;

(2)    the only revenue from the fund during the year was the development management fee income from Maddison Estate; and

(3)    the group profit for the LM Group was estimated at $8.4 million for the 2012 financial year which included a 4% loan re-establishment fee.

167    Mr Barnett gave evidence, which I accept, that at the meeting he and Mr King presented escalation rates of “between 4% and 6% initially, and peaking at 15% following the delivery of major infrastructure, parks and facilities within the development”. Mr Drake and Mr Tickner proposed escalation rates much higher than this. Mr King and Mr Barnett said that the higher escalation rates were too aggressive.

168    Ms Darcy resigned as a director on 21 June 2012, the day after the meeting, for what was only described as personal reasons.

The MPF Credit Committee meeting on 29 June 2012

169    On 29 June 2012, the MPF Credit Committee met again to consider an increase in the loan limit of the Maddison Estate loan. Mr Drake and Ms Mulder attended the meeting.

170    The loan balance at that time had already exceeded the $180 million limit by over $10 million. Mr King emailed the members of the MPF Credit Committee ahead of the meeting, attaching a synopsis prepared by Mr Barnett for a proposal to increase the limit of the loan from $180 million to $280 million.

171    The synopsis, dated 28 June 2012, was considerably more developed than the synopsis which was dated 27 February 2012. The extended limit had been reduced from $290 million to $280 million. The synopsis noted that the loan increase was to cover the following:

(1)    the then current loan balance of $190,902,442;

(2)    interest on the Suncorp loan facility until November 2012 of $1,073,784;

(3)    interest on the MPF loan facility until 30 June 2013 of $59,430,410;

(4)    anticipated development costs until 30 June 2013 of $15,414,490; and

(5)    capitalisation of a loan re-establishment fee of $10,005,792 payable by Maddison Estate.

172    The final amount, the $10 million loan re-establishment fee, was not mentioned in the 27 February 2012 synopsis that Mr Barnett prepared (with the help of others including Mr King). The loan re-establishment fee had not been charged for any previous variation. Mr Fischer’s evidence, which I accept on this point, is that Mr Drake instructed Mr Fischer to charge a re-establishment fee to the MPF. At the time of the 20 June 2012 meeting at the Sheraton, the fee that Mr Drake had suggested was 4%. Mr Drake asked Mr Fischer to investigate a percentage for the fee (ts 308). It was reduced to 3.75% in June and then to 3.5% in August (ts 178). Ultimately, the amount which was agreed was 3.5%.

173    The 28 June 2012 synopsis also referred to numerous new matters:

•    Phase 1 Tree clearing and demolition has commenced on site… These works due to complete mid July 2012 with bulk earthworks programmed to commence at that time;

•    Stage 1 will deliver a total of 120 residential lots, 7 commercial properties and 3 parks;

•    The Sales Office is 70% complete and we anticipate a launch date in the last quarter of 2012…;

•    Natalie Cook has committed to operate a Sandstorm Beach Volleyball facility in the central park – MOU being drafted;

•    Sam Riley has committed to operate a Sam Riley Swim School also located within the central park – MOU being drafted;

•    Jamie Durie shall be appointed as the lead landscape design consultant;

•    Kelly Slater Wave Company – MOU and Exclusive Dealing Period Agreement signed 28.6.12 – proposed JV; and

…

•    … We are also working towards having the Suncorp debt repaid/refinanced in approximately November, 2012 through the Canadian capital raising.

174    The 28 June 2012 synopsis also noted that the feasibility for the whole project was being reviewed and should be finalised by 6 July 2012.

175    The minutes of the MPF Credit Committee meeting on 29 June 2012 show that the committee noted the proposal to use the Canadian capital raising to pay out the Suncorp loan. There were also queries raised by the committee about the “swim centre, volleyball centre, wave pool centre and commercial component and what supporting data have been obtained to support the feasibility”.

176    Mr Fischer’s evidence, which was generally very impressively and carefully given and which I accept, was that he expressed concerns that there was no current external land or project valuation. He said that the assessment of value was based on a projected value of the completed development, and that the feasibility figures must be independently reviewed. Ms Chalmers’ evidence, which I also accept on this point, was that Mr Drake said that the feasibility did not take into account enough new features of the project and that it should be redone.

177    The MPF Credit Committee’s comments on the synopsis show that the committee considered that comprehensive due diligence was required to be finalised before initial settlement, and that the due diligence would include: (i) detailed risk assessment; (ii) financial analysis; (iii) legal sign off; (iv) engagement of experienced professional personnel as required; (v) compliance with internal compliance program; and (vi) set up of processes for ongoing monitoring and managing assets. There was committee approval, although not final approval, for a 3.75% re-establishment fee (which was later reduced to 3.5%). The committee also gave preliminary approval for the loan expiry date to be amended to 30 June 2013 (rather than 13 November 2014) so that the loan could be reviewed annually. The MPF Credit Committee resolved to meet on 6 July 2012 by which time a feasibility and supporting information could be reviewed in more detail.

178    Seven of nine MPF Credit Committee members approved the proposal in principle including Mr Drake (as chair), and Ms Mulder. After the meeting, however, Mr Fischer sent an email to Ms Chalmers saying that he wanted to see a feasibility report before he voted. However, as Ms Chalmers said, Mr Fischer had not told those at the meeting that he was not voting (ts 176). Ms Chalmers, prompted by Mr Tickner, also subsequently considered legal advice concerning whether Mr Drake should have voted.

Preparation of further feasibility reports prior to 11 July 2012

179    In early July 2012, there were numerous meetings held between the directors, including Mr Drake, Mr van der Hoven, and Ms Mulder. Numerous feasibility models were also prepared by Mr King and Mr Barnett and presented to various directors.

180    A matter of significant dispute concerned the instructions given to Mr King and Mr Barnett for the preparation of these further feasibilities. As I have explained, the first feasibility that they had produced (other than the almost irrelevant Land Only feasibility) had resulted in a net present value of around $150 million to $160 million, falling below the outstanding loan balance of potentially $190 million owed to the MPF.

181    Mr King’s evidence was that Mr Fischer instructed him and Mr Barnett to prepare a scenario showing what assumptions would be required to recover the outstanding balance so Mr Fischer could then discuss it with the other directors. Mr King said that shortly after this, Mr Drake paid a visit to him and Mr Barnett. Mr King said that Mr Drake told them that the directors were talking to Pacific Alliance Group and Wall Street First Capital to obtain external funding so Mr Barnett and Mr King should prepare the feasibility model on the assumption that it would be completely funded.

182    There are difficulties with Mr King’s evidence on this issue. One of them is that Mr Drake could not have told Mr King in this conversation about Pacific Alliance Group and Wall Street First Capital. Those lenders were not approached until September 2012 (ts 80-81) and November 2012 (ts 81-82) respectively. Mr Fischer, who was generally an impressive and careful witness, gave evidence which I consider was generally more reliable than that of Mr King. Mr Fischer said that Mr Drake told him that the feasibility report for the Maddison Estate development should be based on achieving “full recoverability”, or “full recovery”. The feasibility report which was later emailed from Mr King to the directors on 11 July 2012 contained the words “Full Recovery” in the file name. I am satisfied that Mr Drake told Mr Barnett and Mr King (both directly at meetings, and indirectly by telling Mr Fischer with the intention that Mr Fischer would tell Mr Barnett and Mr King) that a feasibility should be prepared on the basis of full recovery. “Full recovery” meant that the whole of the outstanding loan would be recovered. This required gross revenue of $1 billion.

183    There was a reason why Mr Drake attached considerable importance to the prospect of full recovery. If the feasibility report did not predict full recovery then accounting standards had the effect that the loan would need to be impaired (ts 311). This would also mean that the unit price of units in the MPF would be reduced. This was a consequence which Mr Drake was very keen to avoid.

184    Mr King described the process by which he and Mr Barnett adjusted the feasibility report so that it showed what was needed for full recovery as Mr Drake had suggested. They knew that an escalation rate of 8% compounding per year was not enough to recover the loan balance. So they tried 10%, then 15%, and increased the rate until they arrived at an approximate 20% to 25% per annum compounding escalation rate which recovered the loan balance. Mr King then told Mr Fischer that the escalation rates had to be approximately 20% to 25% per annum to recover the loan balance.

The 11 July 2012 meeting of the LMIM directors and others

185    On 11 July 2012, a meeting was held to discuss the Maddison Estate feasibility which showed full recovery of the loan. The room was full, with 12 or more people present. The attendees included Mr Drake, Ms Mulder, Mr van der Hoven, Mr Tickner, Mr King, Mr Barnett and Mr Fischer. Mr O’Sullivan and Ms Phillips were also there.

186    The meeting lasted for less than an hour. Different versions of the meeting were given in evidence although there were some matters which were common to all accounts. The lack of recollection of specifics is unsurprising given the elapse of years. But there were some matters at that meeting which were very significant and which were generally remembered by those to whom the matters were the most significant.

187    Mr King’s recollection of the meeting was the clearest and on this issue, I am satisfied, the most reliable. As he explained, the meeting commenced with a presentation by Mr Barnett updating the attendees about the various celebrity endorsements. Mr Barnett and Mr King then described the assumptions that would be required for the feasibility model to achieve full recovery. They explained that 20% to 25% per annum compound growth rates meant that block prices and apartment prices would exceed $1 million by the end of the cash flow period. Mr Drake said that he thought this was conservative.

188    In his presentation at the meeting, Mr King compared the 31 December 2011 feasibility report with the 30 June 2012 feasibility report. This comparison would have involved an explanation that the 31 December 2011 feasibility had used compound growth rates of around 6% to 7%, and an average end block price of $452,550. In contrast, the feasibility produced six months later on 30 June 2012, had used compound growth rates of around 20% to 25% and an average end block price of $1,191,571 to show recovery of the loan. Mr Drake nevertheless remarked that the latter feasibility was a conservative estimate.

189    Much of the meeting then concerned a discussion about the escalation rates. Although Mr Barnett had a very poor recall of the specific details of the meeting, I accept his evidence that the discussion became heated. Mr Barnett informed the directors that he was not comfortable with the escalation rates, and that he could not find anything comparable to support those rates. Mr Drake said that the feasibility, which must have been a reference to the 31 December 2011 feasibility, did not account for the true value of the new features of the development (ts 256). Someone, probably Mr Drake, remarked that once the various enhancements were delivered, there would be a huge uplift to the project and so the escalation rates would be highest following those years. Others expressed concerns about the escalation rates. I accept Mr van der Hoven’s and Ms Mulder’s evidence that they asked questions but did not support the escalation rates. Neither felt that he or she had the experience or knowledge to take a position in relation to the escalation rates. Mr van der Hoven had also been away on holidays before the meeting and felt that there had been discussion on the topic of escalation rates while he had been away, to which he had not been a party.

190    One of the others at the meeting, possibly Mr Fischer, told Mr Barnett and Mr King to vary the escalation rates for the feasibility model so that they would range from 4% to 50% per annum. Others, including Mr Drake and Mr van der Hoven, also observed that there was a need to vary the discount rate from 25% to 16% over the life of the project because the project would “de-risk over time”.

191    Mr van der Hoven, whose evidence I accept, said that on the same day, some time after the meeting had concluded and Mr van der Hoven returned to his office, Mr Drake came into Mr van der Hoven’s office. Mr Drake invited Mr van der Hoven to join another meeting. The second meeting lasted only about 20 minutes. Mr Fischer, Ms Scott and Mr Barnett were also there. Mr Drake then said that he would leave the room so that he could not influence the meeting. He left. Mr van der Hoven made some comments about the interest rate on the screen where the feasibility was shown. Mr van der Hoven thought that the interest rate was concerned with cost of capital but, in fact, it was concerned with the discount rate. There was discussion about the escalation rates. Mr van der Hoven asked questions about how the escalation rates worked and the impact of the changes to it. He did not offer any opinion.

192    Mr van der Hoven and Mr Fischer then had a further discussion as everyone was leaving the second meeting. Mr Fischer asked Mr van der Hoven what he thought, which Mr van der Hoven took to be a reference to the feasibility. Mr van der Hoven replied that he did not know but that once the project commenced then there would be hard numbers which would need to be adjusted daily. Mr Fischer suggested to Mr van der Hoven that they should not approve the loan increase unless the MPF auditors had first looked at the feasibility and were comfortable with it. Mr van der Hoven agreed. Mr van der Hoven had a discussion with Ms Mulder to the same effect.

193    Following the first meeting, Mr King revised the feasibility report and, in an email at 5.40pm on 11 July 2012, he sent the revised report to Mr Drake, Ms Mulder, Mr van der Hoven, Mr Tickner, Ms Phillips and Mr Fischer, and said:

Please find the latest model as discussed today incorporating your comments. The growth rates have been adjusted as [Mr van der Hoven] suggested which results in back end prices of $1.05 million for a typical block and $1.47 million for the larger blocks. Apartments are around $1.4m to $1.5m in 2018.

... The average compound growth rate is around 21% per annum for land and 24% for apartments.

…

Feel free to give me a buzz if you want a hand driving the model.

…

As mentioned, the model assumes Suncorp is paid out in November by an external funder, who then funds all project costs from December 2012 onwards at an interest rate of 11%. Senior debt peaks at $59.15m in August 2015. This is based on [Mr Tickner’s] advice regarding the Canadian capital raising LM is currently undertaking.

MPF continues to fund Suncorp’s interest up-to an [sic] including November 2012. MPF’s lending commitments total around $15.14 million over the next 5 months or around $3 million per month. Inflows into the fund commence in October 2013 and total around $23.1 million for the 2013/14 financial year based on the assumptions. That figure increases to $90 million in the 2013/14 financial year and is solely dependent on sales success at the prices assumed.

Over to you to advise what changes you would like to make to finalise the Directors’ valuation.

194    Although Mr King referred to Mr van der Hoven’s suggestions about growth rates, I consider that it is unlikely that this remark was made by Mr van der Hoven. In his affidavit Mr King said that he cannot recall who had “said what”. In oral evidence, Mr King eventually conceded that he could not recall Mr van der Hoven saying this at the time of his evidence (ts 100). It may have been that Mr van der Hoven’s remarks about the discount rates led Mr King to incorrectly attribute to Mr van der Hoven the suggestion of using lower and higher growth rates to achieve the average of around 25%. But, whatever the reason, I am satisfied that Mr King’s reference in his email to Mr van der Hoven, albeit shortly after the meeting, was an error. This was the first time Mr van der Hoven had seen a working feasibility model. Mr van der Hoven gave evidence, which I accept, that he did not correct the email because he was not sure what was meant by growth rates (ts 682).

195    Mr King’s email attached the revised feasibility. ASIC tendered a feasibility which was said to be the one attached to Mr King’s email. But Mr King was uncertain whether this was the correct feasibility. The feasibility is 113 printed pages. It shows a net present value of $235,969,222. This was considerably greater than the $204 million shown in the 30 June 2012 feasibility report which had also shown full recovery (ts 311). The discount factor had been reduced from 25% to 16%. The escalation rates for the first five years for residential lots were: 4%, 50%, 50%, 30%, and 15%. Thereafter the escalation rates were 5% per annum. The escalation rates for the first five years for apartments were the same as those for residential lots. Mr King was uncertain that the feasibility was the one attached to his email because he did not recall producing a feasibility with a net present value of more than $235 million.

196    As Mr Barnett explained, this and subsequent feasibility models were entitled “Directors’ Valuation” because of the concerns that he and Mr King had about the escalation rates. Mr Fischer also had concerns about whether the escalation rates could be supported but he accepted that this was not his area of expertise (ts 312). He told the other directors of his suggestion that the model should be considered by the MPF external auditors (ts 312). The others agreed.

197    On 13 July 2012, Mr Tickner resigned as a director.

The audits by WPIAS and its 12 July 2012 consideration of a feasibility report

The knowledge that the auditors had of the Maddison Estate development

198    Mr Fischer chose a sizeable auditor, WPIAS, who had local property experience to consider a feasibility model of the Maddison Estate development. By the time that WPIAS considered the feasibility model in July 2012, WPIAS had significant background knowledge of LMIM and Maddison Estate.

199    By a letter dated 5 October 2011, WPIAS had been engaged to audit the financial reports of the MPF for the financial year ending 30 June 2011. As Mr Williams explained, it was not within the scope of WPIAS’s engagement to audit or verify any projects associated with MPF’s loans, or any development feasibilities. However, as he recognised, the Maddison Estate loan was the largest loan in the MPF loan book. Indeed, it was the largest by a long way. WPIAS was provided with Estate Master feasibility models relating to the Maddison Estate development, and was given a presentation on the development on 12 December 2011. WPIAS undertook a high level review of a sample of the project feasibilities associated with MPF loans to determine whether any of those loans showed any indications of impairment. The Maddison Estate development was considered. No impairment was found.

200    The WPIAS audit considered a development feasibility for Maddison Estate. The feasibility was dated 17 January 2012 and it showed projected sales revenue escalation figures of between 5% and 15% per annum, compounding monthly. WPIAS considered whether the costs appeared reasonable, whether the sales projections appeared overstated, and whether there were any anomalies such as unusual discount rates. Mr Williams said that he considered that the 25% discount rate was medium to high, and therefore conservative (ts 465). However, Mr Williams also said that he thought that the projected sales revenue escalation figures of between 5% and 15% were on the high side, and that they would need to be justified if WPIAS were ever instructed to audit the Maddison Estate development. A file note by Ms Blank recorded the advice about an audit of the Maddison Estate development (which the board of LMIM did not consider necessary) but the file note did not mention any concern about the escalation rate. Curiously, in oral evidence Mr Williams said that he considered that the end sale prices were supported by market analysis (ts 465). The end sale prices were the prices after escalation. I do not accept Mr Williams’ evidence that at the time he thought the projected sales revenue escalation figures of between 5% and 15% were on the high side. That evidence is more likely to have been the product of a determination after the event of the collapse of the Maddison Estate development.

201    Mr Williams accepted that although the 2011 audit considered the Maddison Estate loan at a high level, it involved a careful consideration of the assumptions underlying the feasibility, both as to revenue and as to costs (ts 464). He said that whenever he looked at a client-prepared document he did so with a sceptical mindset (ts 467). WPIAS concluded that the Maddison Estate loan was not impaired (ts 466). The financial report was expressed as giving a true and fair view of the Scheme’s financial position. The auditors’ opinion was unqualified (ts 464).

The 17 July 2012 meeting with WPIAS

202    Prior to 12 July 2012, WPIAS had completed its audit of the MPF for 2011 and was preparing for the 2012 audit (discussed further below). Mr Williams and Ms Blank had also attended a meeting on 9 July 2012 for the 2012 audit.

203    On 12 July 2012, the day after the 11 July 2012 meeting, Mr Fischer emailed Mr Williams and Ms Blank at WPIAS (carbon copied to others including Mr Drake, Mr van der Hoven and Ms Mulder), and said:

We have the Maddison Feasibility in draft form to run through with you early next week if you are available.

Fran, Luke and myself will talk you through the updated financial feasibility and model drivers.

We will then submit the complete file for you to review and then meet again to talk further around the pitch and marketing coming off the discussions in the meeting with Peter when you were here last Monday.

204    As Mr Williams accepted in cross-examination, the purpose of the meeting was plainly to consider the Maddison Estate feasibility and for Mr Fischer to talk him through the updated feasibility and drivers (ts 467). He knew, and the LMIM directors could reasonably have expected that he would know, that the feasibility was to be considered in relation to the value of the loan from LMIM (ts 472).

205    A meeting was proposed by WPIAS for 17 July 2012.

206    I accept ASIC’s submission that neither this 12 July 2012 email, nor any conversation prior to 17 July 2012, had engaged WPIAS to audit the Maddison Estate development feasibility. It did not do so. Mr Williams explained, and I accept, that an audit of the Maddison Estate development would have involved examination and verification of as many inputs as possible (ts 491).

207    I also accept that at the meeting on 17 July 2012, neither Mr Williams nor Ms Blank was asked for any final opinion concerning the Maddison Estate development feasibility. Nor were Mr Williams and Ms Blank informed that any opinion they offered might be used by the MPF Credit Committee in considering a further loan to Maddison Estate.

208    Although the meeting could not reasonably have been understood as an audit nor even as a comprehensive assessment of the Maddison Estate development, Mr Drake, Ms Mulder and Mr van der Hoven would reasonably have been aware that Mr Williams was a very experienced accountant who (as he accepted) had significant familiarity with the Maddison Estate development from the 2011 audit. Mr Williams had even participated in a site visit on 1 March 2012. The directors would reasonably have realised that Mr Williams would have quickly been able to form a view about whether the escalation rates were reasonable or not. And Mr Williams did express views at that meeting.

209    On 17 July 2012, Mr Fischer, Ms Mulder and Mr Barnett met with Mr Williams and Ms Blank from WPIAS. The meeting considered the details of a feasibility in the context of a pending audit engagement. The email which requested the meeting was not framed in marketing terms. And it would have been clear at the meeting that the consideration of the feasibility was very important to the attendees from LMIM. Mr Fischer described it as “pivotal”.

210    I do not accept the evidence of Mr Williams and Ms Blank that the meeting was a marketing presentation. Whether or not they subjectively believed that it was, a reasonable auditor would not have understood it in that way, and a reasonable person in the position of Mr Fischer, Ms Mulder or Mr Barnett (or Mr Drake and Mr van der Hoven when they were later informed about the meeting) certainly would not have considered that the meeting was a marketing meeting.

211    I consider the evidence from the LMIM attendees about their recollections of this meeting to be more reliable than the evidence of Mr Williams or Ms Blank. The meeting was much more important to the LMIM attendees, and much more was dependent upon the meeting for them. Mr Williams also admitted that he could not recall the meeting well (ts 469). Of the LMIM attendees, the evidence of Mr Fischer was the most reliable. I also accept the evidence of Ms Mulder, particularly about the ultimate conclusions from the meeting and statements made at the meeting which were the most important to her. Both Mr Fischer and Ms Mulder were honest witnesses and the key points about which Ms Mulder gave evidence were matters which were of significant importance to her going into the meeting and would have impressed upon her memory. The other attendee at the meeting, Mr Barnett, was not a witness who I found to be as reliable in relation to that meeting. He was confused in his recollection of his role at the meeting. Initially he said that he did not give a presentation but later he accepted that he did. I am satisfied that his confusion was honest but his recollection of the meeting was not strong.

212    The meeting went for around two hours. There was discussion about the starting prices and the escalation rates. I accept Mr Fischer’s evidence that Mr Barnett gave an update on the development and spoke for about 30 minutes including about the development’s various attributes. Mr Fischer explained that for his presentation, he put parts of the feasibility model on a screen. I consider that those parts would have likely included the escalation rates which were a “model driver” to which reference was made in the email to Mr Williams on 12 July 2012. Mr Williams also accepted that escalation rates would have been discussed (ts 468). I am satisfied that there would have been a significant emphasis by Mr Fischer on these escalation rates in the presentation. One reason why these would have been emphasised by Mr Fischer was the debate which had occurred within LMIM about these rates. Mr Fischer gave evidence that he had made sure that the reason why he was speaking to the feasibility was because he wanted to point out clearly the figures that were driving the feasibility model (ts 342). Mr Fischer also accepted that these were the important figures, and that he was anxious to present the feasibility study in a clear, fair, and proper way, and was especially careful to tell WPIAS about the escalation rates that were built into the model (ts 343).

213    I am satisfied that the feasibility which was presented to WPIAS on 17 July 2012 was the one which was later attached in emails to Ms Blank on 24 July 2012 and 25 July 2012 (described below). That feasibility was for the Maddison Estate development with 780 lots, 41 additional duplexes, 591 apartments, and commercial operations.

214    This 17 July 2012 feasibility upon which I infer that Mr Fischer presented was different in some key respects from the 30 June 2012 feasibility or the 11 July 2012 feasibility. Although the 17 July 2012 feasibility included the same escalation rates for residential lots as the 30 June 2012 feasibility (4%, 50%, 50%, 30% and 15% for the first five years), the escalation rates for completed apartments were substantially reduced to 4%, 25%, 25%, 15% and 15% for the first five years and then 5% thereafter. The net present value was also substantially reduced from $235 million to just under $169 million. The gross realisation value was $1 billion.

215    In Mr Fischer’s presentation, he showed key aspects of the model including starting prices and escalation rates. Although Mr Williams could not recall details of the presentation, he said that a 50% escalation rate would have been a complete outlier which he would have noticed without the need to study Estate Master carefully (ts 469). However, I am satisfied that Mr Williams was referred to the escalation rates, and that they were put up on a screen during the presentation. Although none of the witnesses gave evidence that Mr Williams or Ms Blank was informed that the escalation rates had been the subject of dispute within LMIM, and although I conclude that Mr Williams and Ms Blank were not told this, I consider that Mr Fischer would have taken the attendees through the escalation rates carefully, in order to ensure an independent opinion. The escalation rates for sales were only a single page of the feasibility which clearly set them out. Mr Williams would have discussed them at the meeting. It is noteworthy that when he and Ms Blank later considered a Maddison Estate feasibility, a note (referred to below) by Ms Blank observed that LMIM had used “a high escalation of sales values due to completion of various facilities” but that the escalated “end sales values (in 7 years’ time) appear comparable to high end estates such as Sanctuary Cove”.

216    Although Mr Williams gave oral evidence that he would not have been able to see the screen during the presentation, I am not satisfied that his recollection of this is accurate. In any event, I do not accept that any impairment of his vision of the screen would have been apparent to any of the respondents. Ms Blank recalled seeing the feasibility model on the screen (ts 503) and if anyone had thought that Mr Williams could not see the screen then I am satisfied that he would have been given the opportunity to sit closer so that he could see it. The presentation was to obtain the opinion of him and Ms Blank. Mr Williams did most of the talking for WPIAS (ts 503).

217    During the meeting there was also discussion of the reduction of the discount rate from 25% to 16% as the project “derisked”. WPIAS agreed with that approach (ts 317).

218    Mr Fischer’s evidence was that Mr Williams said in the meeting that he was comfortable in principle with the feasibility. Although Mr Williams could not recall saying at the end of the presentation that he was comfortable with the feasibility (ts 469), and although others did not recall this, I am satisfied that he did say it. I am also satisfied that he said, as Ms Mulder gave evidence (and as was recorded in her contemporary emails), that the feasibility was “conservative”. As Mr Fischer explained, Mr Williams also recommended that the board obtain an independent valuation in the near future. The minutes of a board meeting held on 13 July 2012 said that “Williams Partners have asked that we eventually receive an external valuation of the project”. Mr Williams may have had personal concerns about the escalation rates used in the feasibility but he did not voice those concerns to anyone from LMIM. They were only mentioned internally within WPIAS (ts 471).

219    After the meeting Mr Fischer called Mr van der Hoven (who had not been at the 17 July 2012 meeting) in London. Mr Fischer told Mr van der Hoven that the meeting was successful. Mr Fischer was very positive about the meeting. As Mr van der Hoven said in his evidence, Mr Fischer told him “that the auditors had approved the approach taken in the feasibility and the accounting issues relating to the pre-paid management fee”.

220    After the 17 July 2012 meeting with WPIAS, on the same day, Ms Mulder sent an email to Mr Drake, Mr van der Hoven, Mr Fischer and others with the subject line, “Meeting with MPF auditors to discuss Maddison went incredibly well”. She said:

I am giving you a quick snapshot now, as Grant [Fischer] is so excited he has charged off to celebrate.

[WPIAS] are totally relaxed with the feasibility approach on Maddison. In fact I quote Reg [Williams], “it is a conservative approach”.

Grant presented extremely well, leading them through the variances from the Dec model to now and our approach going forward.

In relation to the prepaid management fee, they are also relaxed. They would like to see the interest charge remain at 17% pa to refute any investor protestation that those monies could have been utilised in the market for a return had they not come to us…

221    There was an atmosphere of excitement and relief. Ms Phillips responded saying “Great news!” Mr van der Hoven said “Excellent news!! Amazing what can happen in a couple of weeks!!” And Mr Fischer emailed Mr Barnett, copied to others, saying “Fran and I just wanted to send our sincere thanks for your support and presentation today to WPIAS auditors. This was a pivotal meeting for [LMIM] today and your contribution and management overview of Maddison to Reg [Williams] & Andrea [Blank] was invaluable”.

222    On 24 July 2012, Mr Fischer sent an email to members of the PAM team and the board which said that the Maddison feasibility had been approved in concept by the WPIAS auditors. An MPF Credit Committee synopsis dated 25 July 2012 observed:

Feasibility for the entire development has now been reviewed by the auditors [WPIAS] on 17th July, 2012 and they are comfortable with the concept.

223    On 24 July 2012, Mr Fischer sent an email to Ms Blank saying:

Please see attached Maddison Feasibility we presented last week. It is in Estate Master format which I think you have?

If not, please let me know and we can send excel format.

224    On 25 July 2012, Mr Barnett sent an email to Ms Blank, copied to Mr Fischer, saying:

Please find attached the Estate Master DF Model in excel for your records and reference. I will commence sending the supporting information in a more summarised (as per our discussion) over the next few days if that timing is ok for you?

Please call me if you have any queries.

225    In summary, the 17 July 2012 meeting with WPIAS was that an independent firm had the effect that a dispute between the directors concerning the escalation rates to use for the feasibility report had been resolved. Although the resolution was by a very high level review, as I explain later the determination of escalation rates is not a science; it is an exercise involving some uncertainty and some speculation albeit with the benefit of expertise. I reiterate that the escalation rates presented to WPIAS were different from those in the 11 July 2012 feasibility which had been produced to illustrate full recovery, and which showed a net present value of $235 million. The net present value of the 17 July 2012 feasibility was $169 million.

The WPIAS audit in 2012

226    During 2012, WPIAS was again engaged to audit the financial statements of the MPF for the financial year ended 30 June 2012. In respect of the 2012 audit, WPIAS sent a letter to the board of LMIM on 1 August 2012 confirming the terms of WPIAS’ engagement. That letter relevantly provided:

1 August 2012

…

The Board of Directors

LM Investment Management Ltd

…

You have requested that we audit the financial report of the LM Managed Performance Fund (“the entity”) as of and for the year ended 30 June 2012…

We will conduct our audit in accordance with Australian Auditing Standards. Those standards require that we comply with ethical requirements and plan and perform the audit to obtain reasonable assurance whether the financial report is free from material misstatement. An audit involves performing procedures to obtain audit evidence about the amounts and disclosures in the financial report. The procedures selected depend on the auditor’s judgement, including the assessment of the risks of material misstatement of the financial report, whether due to fraud or error. An audit also includes evaluating the appropriateness of accounting policies used and the reasonableness of accounting estimates made by management, as well as evaluating the overall presentation of the financial report.

Because of the inherent limitations of an audit, together with the inherent limitations of internal control, there is an unavoidable risk that some material misstatements may not be detected, even though the audit is properly planned and performed in accordance with Australian Auditing Standards.

In making our risk assessments, we consider internal control relevant to the entity’s preparation of the financial report in order to design audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the entity’s internal control. However, we will communicate to you in writing concerning any significant deficiencies in internal control relevant to the audit of the financial report that we have identified during the audit.

You should not assume that any matters reported to you, or that a report that there are no matters to be communicated, indicates that there are no additional matters, or matters that you should be aware of in meeting your responsibilities.

…

Our estimate of the professional fee for the audit of the financial report of the entity is $96,000 (exc GST)…

227    Mr Williams gave substantial evidence in cross-examination about the 2012 audit (ts 472 onwards). He explained that WPIAS considered the feasibility report carefully. WPIAS undertook four different “what if” scenarios with a major concern for whether the Maddison Estate development had the capacity to permit repayment of the loan. Some of these scenarios involved substantial reductions in the escalation rates. The result showed recovery of between $199 million and $323 million. One scenario involved removing all the embellishments from the development. In summary the options which were based on the Maddison Estate development plan were as follows:

(1)    Option 1 was capped at 5% escalation. The recoverable balance was $199 million;

(2)    Option 2 was capped at 7.5% escalation. The recoverable balance was $238 million; and

(3)    Option 3 capped land and apartment values at $500,000. The recoverable balance was $323 million.

228    Mr Williams also asked a senior analyst at WPIAS to remodel completely the feasibility with the assumption that it had a high degree of inaccuracy. WPIAS concluded that the loan was not impaired (ts 484).