Last week City Pacific froze redemptions from a billion dollar fund and the company is blaming the media for much of its plight. On ABC's Inside Business program, broadcast on Sunday morning, Scott Francis was interviewed by reporter Kathy Swan for his take on the plight of City Pacific.
To take a look at the transcript of the segment or view the video clip please click on the following links:
Transcript of City Pacific blames media for financial plight
Video clip of City Pacific blames media for financial plight
Back in April last year, Scott wrote a Eureka Report article outlining some of the risks involved with investing with City Pacific and other similar entities - High yields: A review of companies in the Fincorp space. In the article Scott wrote:
In 2005, ASIC challenged the claims that City Pacific had made about investors' ability to withdraw money. City Pacific had described accounts as being "at call", whereas they actually required a 90-day redemption period and were never "at call" as represented.
City Pacific has moved on since that intervention by the regulatory authorities. The company's current prospectus reveals a string of factors that have been central to the problems eventually faced by high-yield companies in the recent past.
Related Party Loans. The prospectus shows that 19% of the fund assets are loaned to related parties. This, in my mind, is a significant conflict of interest. How can you say to investors that you are getting them a fair rate of interest when you are lending to related parties?
Fees. City Pacific is able to charge fees of up to 3.65% of the gross assets of the mortgage trust. This is potentially twice the fee of the average managed fund, and I would argue that their fees are too high.
Capitalisation of Interest. This has been a significant problem in the high-yield sector. Interest is not paid back on the loan but capitalised (added back to the loan). City Pacific has 90% of the loans where interest is capitalised (page 9 of the PDS). Most City Pacific loans are medium-term - up to 18 months - which mitigates some of this risk.
Higher Ranking Lenders. City Pacific has an arrangement with a bank to borrow funds on behalf of the mortgage trust. This bank has a higher claim on the assets and income of the trust than the mortgage investors (page 8 of PDS).
Lending for Property Construction. It is one thing to lend money against an existing property with a reasonably well known value and rental income. It is entirely a different thing to lend money against a property that has yet to be constructed, with the cost risk of both building the property and then the marketing risks of selling it or renting it. More than 70% of City Pacific's lending is for property construction or development (page 9 of PDS).
City Pacific has not had trouble from ASIC since the intervention two years ago.
Click on the following link if you would like to read the full article - High yields: A review of companies in the Fincorp space.