ASIC v Hutchings

1 IN THE SUPREME COURT OF NEW SOUTH WALES EQUITY DIVISION WINDEYER J

1252/01 AUSTRALIAN SECURITIES & INVESTMENTS COMMISSION V JAMES HENRY HUTCHINGS & ORS

1 The plaintiff, Australian Securities & Investments Commission (ASIC), by amended originating process filed on 8 February 2001, seeks declarations that the defendants have contravened certain provisions of the Corporations Law by conducting a managed investment scheme which was not registered; by carrying on a securities business or holding out as so carrying on, without licence; by dealing in futures contracts and/or holding themselves out as carrying on futures broking business without licence; and by carrying on a futures advice business without licence. ASIC seeks permanent restraining orders in respect of such unlawful activities. In addition it seeks the winding up of the fund the subject of the managed investment scheme, orders winding up the second and third defendants and a declaration that a real estate property at Cooranbong was purchased with moneys subscribed to the managed investment scheme. There are other orders sought that I will deal with in due course. Parties 2 None of the company defendants was represented at the hearing. The first defendant, Mr Hutchings, and the second defendant, Mr Tindall, have since 1998 operated as partners in a partnership known as Hutchings and Tindall. Mr Tindall appeared in person during the hearing. Mr Hutchings was present throughout, but took no part in the proceedings. The third defendant, Drasmint Holdings Pty Ltd (Drasmint), owns or owned the Cooranbong property. The directors of Drasmint are Messrs Hutchings and Tindall and they are also its sole shareholders. It is not disputed that moneys from the scheme, which I will shortly describe, were used to purchase the Cooranbong property and that Drasmint held it on trust for persons entitled to claim against the scheme. Drasmint owns all the shares in the fourth defendant, Jadam Marketing Services Pty Ltd (Jadam). Mr Tindall is the sole director of Jadam. It is unlikely that it played any major part in the activities complained of. The fifth defendant, Tindall Marketing Services Pty Ltd, has only one director and one shareholder, namely Mr Tindall. The company was placed into liquidation on 15 March 2001, Mr A.R.M. Macintosh being the liquidator. No relief is now sought against that company. By order of 3 January 2001, Mr Macintosh was appointed receiver until further order of the property of the Hutchings and Tindall partnership and of certain property of the fourth and fifth defendants. Facts 3 Most of the facts are clear and not disputed. Hutchings and Tindall carried on business in partnership for the period 1998 until late 2000. The partnership enterprise was one where they borrowed money from members of the public. Those lenders were promised extraordinarily high rates of interest on moneys lent, which would generally equate to well over thirty percent per annum and more often in the vicinity of fifty percent per annum. Hutchings and Tindall succeeded in obtaining investments of over $14 million. If the interest which those funds were said to have earned was taken into account on a compound basis then the amount owing by the borrowers to the lenders would be in the vicinity of $29 million. Apart from a sum of about $480,000 all the funds appear to have been lost. It is an amazing fact that investors can be so trusting as to expect that borrowers promising such high returns will be able to repay the loan let alone the interest, but the fact is that between one hundred and two hundred persons, whom I will call "investors", entrusted their funds to Hutchings and Tindall. Hutchings had for a time between 1996 and 1998 conducted a partnership business with a Mr Damien Reilly under the name of Jadam Marketing Services (JMS). That business carried on various activities, one of which involved borrowing funds from clients and investing those funds. Reilly left the partnership in 1998 and Tindall took his place. Thereafter the business was restricted to borrowing and investment activities conducted originally under JMS but later under the name of the HT Partnership. For the most part Tindall was responsible for dealing with investors and getting in the funds and Hutchings was responsible for their investment. So far as any dealings with futures were concerned, Hutchings was responsible for this, and dealt direct with the investors but it seems there were far fewer of these, probably between sixteen and twenty. 4 During the time of the Hutchings and Reilly partnership investors were divided into two categories: one group of investors lent moneys unsecured to the partners, having been promised high returns as I have set out; the other group of clients advanced funds for the express purpose of investing in securities and for the most part operating in the futures market. The first category of clients have been called the "loan clients" and the second category the "strategy clients". This division and method of operation continued for the Hutchings and Tindall Partnership. 5 Although the records lodged with the appropriate authorities would indicate that JMS ceased business in 1997 when the company Jadam was formed, loan agreements were still being made in 1998 between Hutchings and Tindall trading as JMS and various investors. The form of loan agreement then in use or at least one form then in use was as follows: Agreement THIS AGREEMENT IS MADE ON THE 5 May, 1998 Between James Hutchings and Terry Tindall trading as Jadam Marketing Services (hereinafter referred to as JMS) of suite 4, level 12 447 Kent St SYDNEY and _________________ (hereinafter referred to as the investor) AND WHEREAS: (a) the investor has placed with JMS an amount of $________ (b) JMS will invest the aforesaid amount for the investor in such a manner as JMS has previously advised the investor. (c) the investor shall receive a net 12.0% at the close of investment __, which is in _____________. *Capital Guaranteed plus the 12.0% net return on your capital investment. IT IS THEREFORE AGREED: (1) JMS will forward to the investor at the end of each investment a statement which will detail a profit statement held on behalf of the investor and the current market value of the profit, made for that investment. Any additional cost such as photocopies, courier fees & bank charges will be charged to the investor and shall be clearly itemised on the statement of the same (2) at any time, after this investment is complete, the investor may after first having given prior notice in writing ten (10) working days for an amount of $5,000.00 or less, twenty one (21) working days for an amount exceeding $5,000.00 to JMS at suite 14, level 12, 447 Kent Street, Sydney withdraw either part or all of the amount placed with JMS with a processing fee to the amount of $32.00 (3) that at all times the amount placed with JMS will be in and under the control of Mr James Hutchings (4) that any share script, bonds, bills of exchange or such other documentation including Contract Notes will be on behalf of the investor in the name of DAMJAM NOMINEES as Business Name held by Mr James Hutchings and Mr Terry Tindall except where the investor has given prior Notice in writing to JMS that the aforementioned documentation is held in the name of the investor (5) that this Agreement is for a term of no more than 6 months. At the expiration of the Agreement JMS may continue to act on the same terms and continue until such time as either party terminates this Agreement. You will be receiving an approximately 14.25.00% return on your investment, less 2.25% which includes our administration, management and stamp duty costs. (6) that this Agreement or any extenuation thereof can be terminated by either party giving to the other party at least twenty one (21) business days prior notice in writing. IN AGREEMENT THEREFORE THE PARTIES HEREUNDER SIGNED OR PLACED THEIR SEALS SIGNED BY THE SAID JAMES HUTCHINGS in the presence of: SIGNED BY THE SAID TERRY TINDALL in the presence of SIGNED BY THE SAID __________________ in the presence of 6 The evidence does not make it clear when this form of agreement changed, but certainly by the year 2000 a new form of agreement was being used and a copy of such agreement between Hutchings and Tindall and one of the investors who gave evidence, but whose name has been deleted was as follows: THIS AGREEMENT is made on the 14th day of September 2000 BETWEEN JAMES HUTCHINGS AND TERRY WAYNE TINDALL of Suite 4, Level 11, 99 York Street, Sydney ("the Borrower") and

of WHEREAS 1. The lender agrees to lend to the Borrower and the Borrower agrees to borrow from the Lender certain monies on the terms of the conditions of this Agreement. IT IS AGREED : 1. THE LENDER HEREBY LOANS to the Borrower the sum of $40,000.00 ("the Loan") for the Borrower's use at the Borrower's absolute discretion. 2. Simple interest shall be charged on the Loan at the rate of 25.00% per term commencing 13 September 2000 and terminating 25 January 2001 (134 days) ("the Loan Term). 3. The Loan together with all interest accrued thereon shall be repaid by the Borrower to the Lender less courier fees and bank charges, on 25 January 2001 by cheque posted on that date. THIS AGREEMENT shall be governed and construed in accordance with the laws of New South Wales. THIS AGREEMENT can be terminated by either party giving written notice to the other at least twenty one (21) business days prior to the end of the Loan Term. IN AGREEMENT THE PARTIES HAVE HEREUNDER SIGNED OR PLACED THEIR SEALS SIGNED BY JAMES HUTCHINGS in the presence of: SIGNED BY TERRY TINDALL in the presence of: SIGNED BY in the presence of: Date: 14th September 2000

Perhaps desperation required a rate of interest equivalent to about 70% per annum. 7 In correspondence and discussions with investors it was usually indicated that the moneys lent by various investors were collected together under loans identified by letters such as "Loan F". On their due date for redemption there was usually an authority forwarded to reinvest the capital sum together with interest earned in a loan with a new letter such as "Loan H". Whether or not there was any real record of such pooled investments is not altogether clear as no proper books of account of moneys received and invested seem to have existed. While some of the agreements referred to a rate of simple interest on the loan at a rate per annum, most of them provided for interest at that rate for a particular term. The lenders were told that the borrowers were able to obtain such good returns by their skilled investing on the stock exchange. For the most part the evidence of the investors before me indicated that while they expected that Hutchings and Tindall would invest the borrowed funds on the stock exchange they had no interest whatsoever in this; their only expectation being to get the high rates of interest promised to them under the loan agreements. On the other hand the strategy clients, of whom there were not many, were given suggestions as to option or futures strategies for their funds by Hutchings and they generally appear to have authorised him to act in accordance with those suggestions. Whether separate positions were held for them or whether their funds formed part of those involved in various futures contracts is not clear. 8 On 13 October 2000, Hutchings left the partnership office. It was apparently expected that he was on leave for two weeks, but he has never returned. He left a telephone message for Tindall on 26 October stating that he had messed things up and he would not be returning. This activated Tindall to ascertain the partnership account position with various broking houses and after finding the accounts were closed, to seek some legal advice from Messrs English Kearns & Co, Solicitors. Those solicitors contacted ASIC and wrote on 9 November 2000 to ASIC giving details of what was said to be the "alleged fraud by James Henry Hutchings". A few days earlier the solicitors had instructed Mr Michael Mazza of Michael Mazza & Co, Chartered Accountants, to investigate the situation and the position with funds owing to investors. The report of Mr Mazza revealed that there was no proper accounting information kept, there was no double entry general ledger system and that what records there were seemed to consist of various spreadsheets giving details of bank transactions, loan fund details and strategy client details. Mr Mazza prepared an estimated financial statement of the partnership as at 21 November 2000. This showed assets of $484,589 with liabilities of $29,598,855. These comprised liabilities of $20,093,592 to loan clients and $9,505,263 to strategy clients. It is important to understand that these last two figures, while stated to be principal amounts, really incorporated interest on funds said to have been rolled over. There is no evidence as to where all the moneys went. Hutchings was regarded by the stock and futures brokers with whom he dealt as being an astute and successful investor. It is not suggested by anyone that the funds will be recovered. In any event, as I said at the end of the hearing because it was obvious that quite a number of loan investors were present, the present proceedings are unlikely to assist them in recovering any funds due to them, except insofar as there are partnership funds which can be distributed if a receiver is appointed on the basis that I find that the Hutchings and Tindall Partnership was conducting a managed investment scheme without authority. The return on the amount such investors thought they had invested would be about 2.5 cents in the dollar. 9 Apart from encouraging clients to lend funds to the partnership on interest there is no evidence that Tindall himself was giving advice on securities or options to any of the investors. The throw away remarks made to one investor that her share portfolio investments were not particularly good would not mean that he was giving investment advice. Other remarks of even less consequence were relied upon by ASIC but do not take the matter further. Nor is there any evidence that Hutchings was giving investment advice to persons other than the strategy client investors. So far as he was giving advice to them, it would seem to me that Tindall, as his partner, was taking part in that activity and could not divorce himself from it so far as any breach of the Corporations Law was concerned. 10 The evidence of a large number of loan clients who gave evidence was that they had been introduced to the partnership or its predecessor by some other client who usually knew Tindall and who was well satisfied with the interest being paid; that they were told that the funds were collected and pooled together in various pools and invested, and that at times the borrowers from them, namely Tindall and Hutchings, made very large returns; that they were not concerned with this being only concerned and entitled to receive the interest which was agreed to be paid under the loan agreement; that for the most part they were sent letters prior to the due date for repayment stating that the loan was due to be repaid and the interest which would be due and asking whether or not they wished the principal sum plus interest to be rolled over into a new loan. No doubt because the interest figure seemed to be so high, they generally agreed to roll over the full amount. 11 If the fund comprising the pooled moneys was a managed investment scheme, it had more than twenty members and was not registered. No defendant had a dealer's licence, an investment adviser's licence, a futures broker's licence or a futures adviser's licence. Were Hutchings and Tindall conducting a managed investment scheme? 12 Managed investment scheme is defined under s9 of the Corporations Law as follows: "managed investment scheme" means:

(a) a scheme that has the following features: (i) people contribute money or money's worth as consideration to acquire rights ( interests ) to benefits produced by the scheme (whether the rights are actual, prospective or contingent and whether they are enforceable or not) (ii) any of the contributions are to be pooled, or used in a common enterprise, to produce financial benefits, or benefits consisting of rights or interests in property, for the people (the members ) who hold interests in the scheme (whether as contributors to the scheme or as people who have acquired interests from holders) (iii) the members do not have day-to-day control over the operation of the scheme (whether or not they have the right to be consulted or to give directions); or

but does not include the following: … (exclusions are not relevant)

Section 601ED(1) of the Law provides that a managed investment scheme must be registered under s601EB if it has more than twenty members. 13 I have little doubt that what was being done amounted to a scheme. It was an arrangement under which funds would be borrowed from numerous investors, put together and then re-invested in, or perhaps gambled on, securities. There is no doubt that the features referred to in sub-paragraphs (ii) and (iii) of the s9(1) definition were present. The investors were told that their contributions were to be pooled and used in a common purpose, which would provide financial benefits for them not otherwise available. It is clear that they thought that these benefits would be available through the ability of the borrowers to use the pooled funds to obtain high returns. It is clear that the lenders had no control whatsoever over the operation of the scheme. All they had was the right to receive the interest and the principal. None of them suggested otherwise, except that some were told that in some way the capital was insured, which it was not. The question then is whether the "lenders" contributed money as consideration to acquire rights to benefits produced by the scheme. It seems to me that this is determined by the decisions in Waldron v Auer [1977] VR 236 and ASIC v Enterprise Solutions 2000 Pty Limited (2000) QCA 452. In the latter case it was held that the term "interest" included "a right to have a scheme operate in accordance with the agreements they have made and to be paid moneys due". In the former case it was held that borrowing of money at interest and lending out that money at a higher rate of interest and using those interest payments to pay interest to borrowers amounted to a scheme. So far as the lenders were concerned the feature of the scheme was that they would receive rights to interest produced by the scheme of pooled borrowings, which borrowings were able to be invested so as to produce remarkable returns owing to the skill of Hutchings. It follows from this that there should be a declaration that Hutchings and Tindall were operating a managed investment scheme, which was not registered as required by the Corporations Law. Although the amended originating process seeks a declaration that each of the defendants have contravened s601ED, there is no evidence against any of the defendants other than Hutchings and Tindall, which would justify such a declaration. For the same reason permanent restraining orders for contravention of s601ED should be made against the first and second defendants but not the others. Section 780 of the Corporations Law 14 Under s780 of the Corporations Law a person must not carry on a securities business or hold out that he or she carries on a securities business unless the holder of a dealer's licence, or an exempt dealer. Section 93 of the Law defines securities business as "a business of dealing in securities", which is not particularly helpful. Section 92(1) defines securities as various investments including: (c) "interest in a registered managed investment scheme." In view of the previous finding there can be no doubt in my view that, having regard to the definition of "deal" in s9(1) of the Corporations Law, the first and second defendants were in breach of s780 in that they both carried on a securities business and held out that they did so. Section 781 of the Corporations Law 15 For the same reasons as given under s780 the first and second defendants were in breach of this section because they were carrying on an investment advice business and holding themselves out as investment advisers in that they advised the loan clients about securities, namely advising them that they should invest their funds in the managed investment scheme, being the pooled loan scheme. Sections 1142 and 1143 of the Corporations Law 16 Hutchings and Tindall held out the partnership as carrying on a futures broking business and, while Hutchings did the work, the partnership in fact dealt in futures contracts on behalf of the strategy clients. Having regard to the definition of "futures contract" in s72, the definition of "futures broking business" in s9(1), and the provisions of s25(1) and 25(2) of the Law, the first and second defendants were also in breach of s1142. There can be no doubt that they were in breach of s1143 of the Corporations Law in carrying on a futures advice business and holding themselves out as futures advisers. Claims against Jadam and Drasmint 17 The evidence disclosed a number of loan agreements in much the same form as the JMS agreements, where the borrowers are named as James Hutchings and Terry Tindall "trading as Jadam Marketing Services Pty Ltd", and some money from investors appears to have been deposited in a bank account in the name of the company. While this may establish that Hutchings and Tindall had little idea of business structure, that does not establish the company was engaged in the activities. It was not a party to the agreement. So far as Drasmint is concerned, there is no evidence at all as to the breaches established against Hutchings and Tindall. While I accept that at the interlocutory stage there may have been thought to be a basis for the interim orders, I incline to the view they should not have been sought against Jadam and Drasmint at the final hearing. Orders sought 18 ASIC is entitled to declarations and prohibition orders sought as against the first and second defendants but not against the third, fourth and fifth defendants. An order should be made that the scheme be wound up, and that Mr MacIntosh be appointed receiver of the scheme for that purpose. His interim appointment as receiver of the Hutchings and Tindall Partnership for the purposes of winding it up should be made a final order. The fifth defendant is already in liquidation and no orders are sought against it. 19 ASIC seeks orders that the third and fourth defendants be wound up on the just and equitable ground. The fact that the third defendant has held its interest in a real estate property on trust for the partnership does not in itself provide sufficient ground for its winding up. Far more evidence will be needed to justify such an order. The same applies to Jadam. The fact that Tindall is its sole director and secretary is no sufficient basis for a winding up order. I accept that winding up is almost inevitable in the long run, but that does not mean it should be ordered now on insufficient evidence. Banning orders 20 ASIC seeks a banning order against Hutchings and Tindall under s206E. I have hesitated about this as the offences were not corporate offences but individual offences. Nevertheless they are covered by s206E(1)(a)(ii). The difficulty in coming to a decision on this part of the relief sought by ASIC arises from the nature of the proceedings. No penalties are sought. The exact loss is unknown and strictly speaking Hutchings and Tindall were not required to explain where the moneys went. Nevertheless there is uncontested evidence that the principal lost is in the order of $13 million. The deficiency is of such magnitude that it is desirable for the protection of the community that these men not be in charge of corporations when there is a risk they may use the corporate veil to engage in activities bringing harm to members of the public. There is no logical reason to think a disqualification period of say five or ten years would be appropriate. I consider the appropriate course is to make a disqualification order for life with the right to apply on three months' notice after five years for variation of such order. However, as this matter was not properly argued I propose to provide the orders not be entered for fourteen days and to give leave to any of ASIC, Hutchings or Tindall to relist the matter before me before the expiry of fourteen days to have this particular order varied. 21 Declarations and orders

As against the first and second defendants, make the declarations sought in paragraphs 2, 3, 4, 5 and 6 of the amended originating process

Order pursuant to s601EE of the Corporations Law that the managed investment scheme conducted by the first and second defendants be wound up.

Order that Alexander Robert Mackay Macintosh be appointed receiver without security for the purpose of winding up the fund, with all powers required for that purpose including the powers identified in ss420(1) and 420(2) of the Corporations Law .

Order that Alexander Robert Mackay Macintosh be appointed received without security of the partnership business conducted by Hutchings and Tindall for the purpose of winding up the affairs of the partnership, with the same powers set out in the preceding order.

Declare that the property 41 Alton Road, Cooranbong being the land in Folio Identifier 1/333168, was purchased by the third defendant with moneys invested in the managed investment scheme and that the net proceeds of the sale of the said property be held by the receiver of the Hutchings and Tindall partnership.

Order against the first and second defendants as sought in paragraphs 16, 17, 18, 19 and 20 of the amended originating process.

Order that each of the first and second defendants be disqualified from managing corporations for his life but subject to the right to apply for variation of this order on three months' notice after the expiration of five years.

Order that the first and second defendants pay the costs of the plaintiff.

Amended originating process otherwise dismissed and interlocutory orders discharged.

11. Direct these orders not be entered for fourteen days and reserve leave to the first and second defendants to relist the matter for variation of order 7 within that time. **********

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