1971-72

VICTORIA

REPORT

OF AN

INVESTIGATION UNDER DIVISION 4 OF

PART VI. OF THE COMPANIES ACT 1961

INTO THE AFFAIRS OF

EAST AUSTRALIAN INSURANCE

COMPANY LIMITED AND M.B.A.

(CREDITS) PTY. LTD.

RETURN to an order of the House.

Ordered by the Legislative Assembly to be printed.

By Authority: C. H. RIXON, GOVERNMENT PRINTER. MELBOURNE.

No. C.2.-7895!7l.-PR.IcE 80 cents

REPORT OF AN INVESTIGATION UNDER DIVISION 4 OF' PART VI. OF THE COMPANIES ACT 1961 INTO THE AFFAIRS OF EAST AUSTRALIAN INSURANCE COMPANY LIMITED AND M.B.A. (CREDITS) PTY. LTD.

East Australian Insurance Company Limited (E.A.I.) was incorporated on the 30th April 1969 and went into voluntary liquidation on the 5th October 1970. The major shareholder in E.A.I. was M.B.A. (Credits) Pty. Ltd. (M.B.A. (Credits)) a company which had been formed on the 21st March 1967. Behind both of these companies was Michael John Adams, an Englishman who had arrived in Australia from England on the 6th February 1959, aged 24 years. Adams' business activities led him eventually into the field of insurance and ultimately into bankruptcy by the end of the year 1970.

THE BACKGROUND. To understand what lies behind the formation, expansion and final

collapse of E.A.I. it is, I think, necessary to look shortly at the history of Adams' activities after his arrival in Australia. He arrived with a small amount of money, about $1,000.00, and his first job was with a real estate agent in Melbourne, N. R. Reid and Co. Pty. Ltd. Whilst employed by this company he engaged in a number of speculative dealings in real estate involving relatively small sums. Subsequently he decided to become qualified as a solicitor and enrolled in the law course for articled clerks conducted by the Council of Legal Education. He became employed by a firm of solicitors, Messrs. Ellison, Hewison and Whitehead and was subse­quently employed by another firm of solicitors, Waiter and Griffin. He ceased employment with Waiter and Griffin on the 23rd June 1967. He never completed his course and his studies and his employment in the solicitors' offices did not completely occupy his time. On the 24th May 1965 he caused M.B.A. Pty. Ltd. to be incorporated. The initials were meant to stand for Motorists' Benefits Association and the original conception of the company was tha:t it should form an association of motorists in order to obtain discounts in respect of motor vehicle insurance, tyres, spare parts, petrol, second hand motor vehicles and motor vehicle repairs. Portion of the benefit of the discounts was to be passed on to the motorist members of the association and the remainder was to be retained by the company. Adams also envisaged the operation of a credit card system by the company. M.B.A. Pty. Ltd. appears to have come to nothing, but in writing about its formative stages Adams revealed an early appreciation of the opportunities offered by the growth of the motor car industry and the business activities associated with H. After speaking of the crrsh flow which could be achieved by a relatively small membership of the projected association, Adams confidently foresaw a bright future, saying:-

" Even if the companv confines itself strictly to the needs of the motorists of Australia, the horizon would be broad enough, but if it ever moved out into other spheres of activity, as it easily could, such a giant of a company could appear in this land, 'the like of which can only be found in the great industrial countries of the northern hemisphere."

In the meantime Adams turned to other fields of enterprise. He purchased a number of house properties in the Brunswick and Coburg area upon low deposrts which he provided from borrowed moneys. He was unable to meet his commitments in the payment of instalments which became due from time to time on the balance of purchase price and all of the contracts for the purchase of the house properties were rescinded wi'th substantial loss to Adams. Adams also invested in land outside the city and through a company formed for the purpose on the 9th March 1966, The Michael J. Adams Management Company Ptv. Ltd., he purchased some 55 acres of land near Port Fairy for the purposes of subdivision. The

The Background

The Background

4

purchase was almost wholly financed by Lensworth Finance (Vie.) Pty. Ltd. upon the security of the land and other security provided by Adams, including a personal guarantee.

On the 29th April 1966 Adams caused another company, Train-Air Pty. Ltd., to be formed. He had been taking flying lessons and together with one of the flying instructors whom he had met he decided to form a new flying school. Hence Train-Air Pty. Ltd. came in!to existence. With several other associates, Adams on the 6th February 1967 formed another company, M.B.A. (Carports) Pty. Ltd., for the purpose of selling carports. He said that by this time he had become attached to the ini:tials "M.B.A." and their use in this and subsequent companies' names did not necessarily imply any connection with M.B.A. Pty. Ltd.

M.B.A. (Credits) was the next company whkh Adams formed and its incorporation took place on the 21st March 1967. It will be necessary to deal with the beginnings of this company in more detail at a later stage but it is sufficient to say here that Adams maintained that M.B.A. (Credits) was intended ita act as a money lender and there is evidence that this was the original intention, albeit the company performed a different function eventually.

On the 14th April 1967 Melbourne Aircraft Corporation Ltd. was incorporated at the instigation of Adams for the purpose of acting as an agent for the sale of aircraft. An aircraft was purchased by Train-Air Pty. Ltd., the purchase being financed by way of a hire purchase agreement with Lensworth Finance (Vie.) Pty. Ltd. No instalments of hire were paid and the aircraft was repossessed.

With the aim of manufacturing carports for M.B.A. (Carports) Pty. Ltd. to sell, M.B.A. (Manufacturing) Pty. Ltd. was formed on the 2nd June 1967. On the 24th November 1967 Adams caused yet another company, Continental Plastics (Australasia) Pty. Ltd., to be formed having the principle object of the manufacture and processing of plastics. It was intended that the company should take over an existing business in order to enter the field of plastics but this never eventuated.

It is no part of my task to investigate the whole of the business activities of Adams and it is sufficient for the purpose of understanding what happened with E.A.I. and M.B.A. (Credits), the two companies with which I am concerned, to recognise that by the end of the year 1967 Adams was through his activities in a weak financial position. I have mentioned the companies with whose formation Adams was concerned and the date of their formation because reference to them occurs from time to time in the affairs of E.A.I. and M.B.A. (Credits). The position of these companies at about the beginning of the year 1968 would give little confidence in the business judgment or financial stability of Adams. M.B.A. Pty. Ltd. appears never to have commenced the activities for which it was conceived. The last entries in the records of M.B.A. Pty. Ltd. were made as at the 30th June 1967 and no activity appears to have taken place in that company since that date. As at the 30th June 1967 the company was insolvent. M.B.A. (Carports) Pty. Ltd. was placed in liquidation on the 21st December 1967 and its Statement of Affairs shows an estimated deficiency of $30,446.00. M.B.A. (Manufacturing) Pty. Ltd. also went into liquidation on the 21st December 1967 with an estimated deficiency in funds of $22,713.00. Train-Air Pty. Ltd. was placed in liquidation on the 22nd August 1968 and its Statement of Affairs shows a deficiency of $12,140.00. The Michael J. Adams Management Company Pty. Ltd., Melbourne Aircraft Corporation Limited and Continental Plastics (Australasia) Pty. Ltd. are still in existence.

Adams had also been engaging in a number of private transactions which are of no immediate concern except that they affected his overall financial position and some of them were later to give rise to bankruptcy proceedings against him to which some reference must be made.

5

Disregarding the value (if any) of the shares in the private companies in which Adams was interested, Adams' assets and liabilities as at the 30th June 1967 estimated by himself were as follows:-

Assets Liabilities 107 B.H.P. shares $1,530.00 Maurice Ryan & Francis 125 Western Mining Greene (solicitors)

Corporation shares 1,650.00 A. C. Goode & Co ... 100 Associated Freaney J. L. Waters & Grant ..

shares 60.00 Bank of New South 100 International Oil Wales

shares 30.00 National Bank 11 blocks of land at F. G. Moorehead

Phillip Island 5,500. 00 Lensworth Finance 1 block of land at Mt. (Vie.) Pty. Ltd. re

Eliza 4,000. 00 Melbourne Aircraft 1 block of land at Corporation Pty. Ltd.

Emerald I ,500. 00 Train-Air Pty. Ltd.

$14,270.00 Mesdames Moore &

Judd Estate of Alice Finnigen

$456.40 517.10 285.00

900.00 3,200.00

750.00

1,225. 00 951.64

2,500.00

& Harold Hodder . . 4,181.54 Avis Rent-a-Car 599.14 Deputy Commissioner

of Taxation Pierre Mann & Associ­

ates Master Fencing & Con-

struction .. Ciantar Bros. Pty. Ltd. Synthetic Resins Leslie Jones .. Sundry Creditors

1,770.21

2,046.00

693.22 417.00 822.00

5,000.00 2,100.00

$26,414.25

Moreover, of the assets listed by Adams the land at Emerald secured a fluctuating bank overdraft and the land at Phillip Island was part of the security given to Lensworth Finance (Vie.) Pty. Ltd. for the loan made in respect of the land near Port Fairy. The personal guarantee given by Adams also to secure that loan constituted a contigent liability of some $50,000.00.

It was in this state of impecuniosity that Adams entered the business of insurance by executing an agreement to purchase in his and his fiancee's name the whole of the issued shares in Gower and Associates Pty. Ltd.

GOWER AND ASSOCIATES PTY. LTD. Gower and Associates Pty. Ltd. carried on business as an insurance

broker. The shareholders were Leslie Malcolm Gower and his wife. Gower had been quite a prominent figure as an insurance man. Born in 1920, he became employed by Federation Insurance Ltd. at the age of 17 years and by 1949 had been promoted to the position of Adelaide manager of that company. Whilst in Adelaide he was asked to join National and General Insurance Company Ltd. and to form an office for that company in Melbourne. This he did. By 1957 he had become assistant general manager of National and General Insurance Company Ltd. and sub­sequently in 1958 was promoted to the position of general manager. He remained as general manager of that company until 1963, being stationed in Sydney. Wanting to return to Melbourne, in 1963 he gave up his job and formed Gower and Associates Pty. Ltd. Apart from a minority shareholding by his wife, the whole of the issued shares in the Company were held by Gower.

Apparently the company prospered reasonably well but in 1964 Gower was offered the job of managing director of Vehicle and General Insurance Company (Aust.) Ltd. and he accepted the offer. The issued shares of Gower and Associates Pty. Ltd. were purchased by Vehicle and General Insurance Company (Aust.) Ltd. and it continued the former company's business as an insurance broker. In 1966 Gower left Vehicle and General Insurance Company (Aust.) Ltd. By agreement with that company he purchased back the issued shares in Gower and Associates Pty. Ltd. and started again in the business of an insurance broker.

Gower and Associates Pty. Ltd. also procured finance as well as acting as an insurance broker and after meeting Adams by chance at Moorabbin Airport, Gower was asked by him to arrange sufficient money

The Background

Gower and Associates Pty. Ltd.

Gower and Associates Pty. Ltd.

Gower and Adams Pty. Ltd.

6

to enable Train-Air Pty. Ltd. to acquire a hangar at the airport. The money could not be raised but Adams, after seeing Gower on a number of occasions in connection with Train-Air Pty. Ltd., offered to buy Gower and Associates Pty. Ltd. Gower accepted the offer and on the 4th March 1968 an agreement was executed for the sale of the issued shares in the company to Adams and his wife. The agreed purchase price for the shares was $60,000.00 which was payable by a deposit of $5,000.00, an instalment of $5,000.00 on the lOth June 1968 and a further instalment of $5,000.00 on the 30th September 1968. The residue of the purchase money, $45,000. 00, was to be satisfied as to $21,855.00 by Adams and his fiancee (later his wife) assuming liability for the repayment to the company of loans made by the company to the Gowers and as to the remainder by the payment of yearly instalments ending on the 1st March 1973. Only the deposit of $5,000.00 provided under the agreement for the purchase of the shares in Gower and Associates Pty. Ltd. and no other sum was ever paid by Adams or his fiancee. There were disputes between Adams and Gower with regard to the performance of the agreement and eventually proceedings were commenced by Gower against Adams in the Supreme Court of Victoria. Those proceedings are still on foot.

At the time Adams acquired Gower and Associates Pty. Ltd. it was in a far from healthy financial position. In the year ended the 30th June 1967 it had made a loss of $18,488.00. On the 30th April 1968, shortly after the take-over by Adams, its accounts indicate that the company owed $89,239.40, mainly to insurance companies. On the other hand the debts owed to the company on the same date totalled only $43,988.80. The assets of the company apart from loans made by it to the Gowers were worth only about $20,000.00. The company was insolvent as at the 30th June 1967 and by the 1st March 1968 when Adams and his wife purchased the issued shares in the company the situation had certainly not improved. Gower at this time must have been suffering deteriorating health. His career indicates that he had enjoyed a considerable reputation in Australia in the field of insurance and it is unlikely that he could have acquired that reputation without real ability. When he gave evidence before me, however it was clear that his capabilities were greatly limited by his physical and mental condition, which other evidence indicates had existed for some time. However, Gower remained with Gower and Associates Pty. Ltd. as a consultant. His connections with insurance companies, brokers and others and his knowledge of the business of insurance were to be of great use to Adams, who was at that time quite unknown and almost completely ignorant in this field.

Despite its insolvent position, Gower and Associates Pty. Ltd. did have an asset which was of value and was realizable. This was its insurance register, consisting of the records of those people who dealt with the company as an insurance broker and of the insurance policies effected on their behalf. Not unexpectedly, there are different views as to the proper method of valuing an insurance register, but it is plain that the register of Gower and Associates Pty. Ltd. was a saleable asset despite denials by Adams to me that this was so. Before Adams took over Gower and Associates Pty. Ltd. there had been some negotiations with Vehicle and General Insurance Company (Aust.) Ltd. for the sale of the register of Gower and Associates Pty. Ltd. and during the negotiations a value of $80,000 had been placed upon it. These negotiations fell through because of Gower's desire to rid himself of the whole company. This would have meant the acquisition by Vehicle and General Insurance Company (Aust.) Ltd. of the liabilities of Gower and Associates Pty. Ltd. which was regarded by Vehicle and General Insurance Company (Aust.) Ltd. as making the deal unprofitable. But there does not appear to have been at this time any real dispute about the value of the insurance register treated independently.

GOWER AND ADAMS PTY. LTD.

~t the end of April 1968 Gower and Associates Pty. Ltd. ceased to wnte any new business and on the 1st May 1968 Gower and Adams Pty. Ltd. was formed with Adams and his wife as the shareholders of the issued :;hares. The a!m in forming Gower and Adams Pty. Ltd. was to acquire the msurance reg1ster of Gower and Associates Pty. Ltd. As Adams put it "Gower and Associates was known as G. and A. all round the town, so j decided to form another company called Gower and Adams, use the name ?f Gower because that was the goodwill portion, and the register, and mserted the name of Adams so as to maintain the initials G. and A. because everybody insured with G. and A., so Gower and Associates ceasing now there appeared on the scene Gower and Adams ".

7

Gower and Associates Pty. Ltd. went into liquidation on the 27th October 1969 but by that time Gower and Adams Pty. Ltd. had acquired its insurance register without making any payment for this valuable asset. In the minutes of the first meeting of members of Gower and Adams Pty. Ltd. an agreement is recorded that "this company will purchase from Gower and Associates Pty. Ltd. all assets including fixtures and fittings, office furniture, vehicles and unused stationery etc. for the amount of the written down value as per Schedule of Depreciation and such figure to include those assets not listed on the Schedule of Depreciation but excluding Book Debts of Gower and Associates Pty. Ltd. (which may be factored) ". It is true that money was paid by Gower and Adams Pty. Ltd. to certain creditors of Gower and Associates Pty. Ltd. in order to induce them to do business with Gower and Adams Pty. Ltd., but these amounts were treated in the books of Gower and Adams Pty. Ltd. as loans to Gower and Associates Pty. Ltd. and in no way were they regarded as payment for the acquisition of the insurance register. It is probable that Adams planned at the time of the purchase of Gower and Associates Pty. Ltd. to acquire through a company such as Gower and Adams Pty. Ltd. a valuable asset in the form of the insurance register, since the insolvent position of Gower and Associates Pty. Ltd. showed plainly in its balance sheet and profit and loss account for the year ended the 30th June 1967, and it is otherwise difficult to explain the purchase of its issued shares. Moreover, the transfer of its business to Gower and Adams Pty. Ltd. took place within weeks after its take-over by Adams and his fiancee.

On the 8th May 1968 Adams married his fiancee, Marion Ann Gibson. His wife's grandmother, Marion Ivy Augusta McDonald, possessed some substantial assets, which were later to be the source of funds to Adams. The chief of these was a property at 70 Bambra Road, Caulfield, which was run as a large private hospital known as Kahlyn Private Hospital. In the minutes of a meeting of Gower and Adams Pty, Ltd. held on the 5th May 1968 it appears that the company resolved to purchase this property for the sum of $100,000.00 on a deposit of $10,000.00, the residue being payable by instalments of $150.00 per week with interest at the rate of 6 per cent. per annum and to take over encumbrances on the property to $50,000.00. The purchase did not, however, take place and ultimately the property was sold to the persons who were leasing it at the time for the sum of $115,000.00.

OMNIBUS AND GENERAL INSURANCE COMPANY LTD.

In 1968 Omnibus and General Insurance Company Ltd., a company underwriting mainly motor car insurance, was in financial difficulties and was on the market. Adams entered into negotiations to purchase the issued shares in this company and eventually agreed to do so for a consideration comprising the payment of $20,000. 00 cash, the substitution of security supporting a bank guarantee in the sum of $90,000. 00 which constituted the deposit required by the Federal Treasurer pursuant to the terms of the Insurance Act 1932-1966 and a balance of $130,000.00 by quarterly instalments. Adams planned to effect the substitution of the security supporting the guarantee by using property or funds owned by Mrs. McDonald. The $20,000. 00 cash initially required came from the funds of Gower and Adams Pty. Ltd. The vendors eventually refused to proceed with the sale, perhaps doubting the capacity of Adams to meet the payment of the instalments of the balance of the purchase price and having received another offer to purchase the company from a more reliable purchaser. Litigation ensued which was settled by Adams releasing the vendors from the sale in return for the payment of $5,000. 00 and costs. The deposit of $20,000.00, which was returned, had been paid by Gower and Adams Pty. Ltd. to M.B.A. (Credits) by way of loan and M.B.A. (Credits) had in turn paid it to the vendors' solicitors, Messrs. Blake and Riggall. It was eventually used in a way which will appear later.

Having lost Omnibus and General Insurance Company Limited, Adams decided to form a company, Mid-Pacific and International Insurance Company Limited (M.P.I.), to act as an insurance underwriter. Shares in this company, which was incorporated on the 2nd September 1968 were issued to M.B.A. (Credits) and Frank Thomas Alderton. Alderton had previously been Victorian manager of National and General Insurance Company Limited and was approached by Adams to become managing director of Omnibus and General Insurance Company Limited when the takeover of that company was planned. Alderton agreed to do so but, of course, the purchase of Omnibus and General Insurance Company did not proceed.

Gower and Adams Pty. Ltd.

Omnibus and General Insurance Company Ltd.

Early Activities of M.B.A. (Credits)

Mid-Pacific and International Insurance Company Ltd.

8

EARLY ACTIVITIES OF M.B.A. (CREDITS). It is convenient at this point to take up the history of M.B.A. (Credits).

This company was formed on the 21st March 1967 to act as a money lender and its initial capital was provided by Adams and William Christopher Bulmer. Apart from one subscriber share each, Adams and Bulmer were issued with 4,999 shares each in M.B.A. (Credits). For some reason which was never adequately explained to me, Adams and Bulmer each lent a total sum of $4,999. 00 in varying sums to various persons or companies, mainly M.B.A. (Carports) Pty. Ltd., and then assigned the several debts to M.B.A. (Credits). The full amounts of the debts were then credited to the loan accounts of Bulmer and Adams with M.B.A. (Credits) and upon 4,999 shares being issued to each of them, the loan account of each was debited with the price of the shares. M.B.A. (Credits) applied for and was granted a money lender's licence but it was not issued until the 9th May 1967 and the explanation for the loans by Adams and Bulmer and the assignment of the debts created by the loans in return for shares may well have been that M.B.A. (Credits) needed to avoid making loans directly until it had procured the issue of a money lender's licence. The loans were unsecured and could not have been prudent at the time they were made. The imprudence of the loans soon became apparent. The largest amount, $8,207. 91, was lent to M.B.A. (Carports) Pty. Ltd. and was written off in full by M.B.A. (Credits) in the following year. Bulmer said, however, that he regarded most of the $5,000.00 provided by him as being in effect an investment in M.B.A. (Carports) Pty. Ltd. and with the failure of that company's business he wanted to dissociate himself from Adams and his interests. Accordingly, on the 28th December 1967 Bulmer transferred the whole of his shareholding in M.B.A. (Credits) to Adams. According to the minutes of a meeting of the Board of Directors of M.B.A. (Credits) on the 2nd December 1968 to which is attached an undated letter from Bulmer, Bulmer did not, however, resign as a director of M.B.A. (Credits) until the 2nd December 1968. In return for Bulmer's shares in M.B.A. (Credits), Adams agreed that M.B.A. (Credits) should assign its book debts to Bulmer. No formal assignment appears to have been made. The consideration for the transfer of Bulmer's shareholding to Adams is said in the minutes of the Board of Directors of M.B.A. (Credits) held on the 2nd December 1968 to be $1,392. 95. Whether or not this sum is intended to represent the value of the book debts of M.B.A. (Credits) is not clear.

Apart from the initial transactions referred to above, and an isolated loan of $2,000.00 made in July 1968, M.B.A. (Credits) never carried on business as a money lender and, indeed, ceased for a time to carry on any business of its own at all. On the 29th July 1968 Adams transferred 9,998 of the 10,000 issued shares in M.B.A. (Credits) to his wife for a consideration of $100. 00.

MID-PACIFIC AND INTERNATIONAL INSURANCE COMPANY LTD. Having acquired the register of Gower and Associates Pty. Ltd. for

Gower and Adams Pty. Ltd., Adams experienced, as he put it, "bitter opposition from various underwriters". Agencies were cancelled, which meant that renewal notices went out directly to policy holders from the insurance company concerned and not through Gower and Adams Pty. Ltd. acting as brokers. Moreover, the number of insurance companies prepared to underwrite business for Gower and Adams Pty. Ltd. was reduced. Adams had seen an opportunity to use Omnibus and General Insurance Company Ltd. as an underwriter to overcome the difficulties he was experiencing with other insurance companies, and when he failed to acquire that company he found it necessary to create another company in order to retain the business represented by the register which previously belonged to Gower and Associates Pty. Ltd. It was thus that M.P.I. came into existence on the 2nd September 1968. It was intended that Gower and Adams Pty. Ltd. should write its register into M.P.I., a process which would take a year, this being the period during which a policy of insurance is in existence before requiring renewal. The register of an insurance company or broker consists only of the records of the persons insuring with or through them and of the policies and due dates for renewal. However, this information in the hands of another broker or insurance company is sufficient to enable the acquisition with little wastage of the business represented by the register as renewals fall due. Members of the public, as will emerge later, appear not to have been greatly concerned with the identity of the insurance company with which they dealt.

The subscribers to the Memorandum of Association of M.P.I. were Adams and Alderton, each taking up one share of $1. 00. On the 16th September 1968, 19,999 $1.00 shares were issued to M.B.A. (Credits) thus making a total of 20,000 shares issued to Adams and M.B.A. (Credits)

9

together. The 20,000 shares were paid for in cash, the funds used being those which had been paid over as the deposit upon the purchase of the issued shares in Omnibus and General Insurance Company Ltd. When the litigation concerning the purchase of that company was settled, the amount of $20,000. 00 was refunded by the solicitors acting for the vendors. It was necessary that M.P.I. have $20,000.00 in cash or security for at least that amount in order to provide the deposit required pursuant to the provisions of the Insurance Act 1932-1966. It will be recalled that the $20,000.00 in question actually originated with Gower and Adams Pty. Ltd. having been credited to the loan account of Gower and Adams Pty. Ltd. with M.B.A. (Credits).

On the 4th December 1968 the share register of M.P.I. shows that a further 74,300 shares of $1 . 00 each were issued to M.B.A. (Credits). No cash was paid for these shares, " payment " being made by an exchange of cheques in the following manner. On the 3rd December 1968 M.B.A. (Credits), neither having nor having available to it from any source the sum of $74,300.00 or anything like that amount, drew a cheque for the sum of $74,300.00 on the Commercial Bank of Australia Ltd. (C.B.A.) at its branch at 70 Collins Street, Melbourne. On the 4th December 1968 the same company received a cheque from M.P.I. for $74,300.00 which it paid to the bank and entered in its cash book as "Loan M.I.P.". Despite the juxtaposition of the initials this is clearly a reference to M.P.I. The same amount was credited to the loan account of M.P.I. with M.B.A. (Credits) in the ledger of the latter company. An error, however, had been made in the number of shares issued to M.B.A. (Credits) for at an earlier time Alderton had made $4,500. 00 available to A dams and it was intended that this should be repaid by the issue to Alderton of 4,500 shares in M.P.I. These 4,500 shares were contained in the parcel of 74,300 shares which were issued to M.B.A. (Credits). The error was corrected on the 4th December 1968 and the share register of M.P.I. shows the transfer of 4,500 shares from M.B.A. (Credits) to Alderton. Scrip for the 74,300 shares in the name of M.B.A. (Credits) was cancelled and fresh scrip issued to that company for 69,800 shares. Scrip for 4,500 shares was issued to Alderton. Also on the 4th December 1968 M.P.I. issued a further 5,500 shares to Alderton and 100 shares to Adams. Thus on the 4th December 1968 the total shares issued were 89,799 to M.B.A. (Credits), 101 to Adams and 10,001 to Alderton.

Adams was appointed a director of M.P.I. but remained in that position for a short time only, resigning on the 27th September 1968 as from the 25th December 1968. After his resignation he was appointed " Finance Broker and Consultant to the company on the same terms and conditions as those previously enjoyed when a director of this company ". In his new position Adams continued to attend all meetings of the Board of Directors (comprising Alderton and one Mainsbridge) and to take part in the formation of the policy of the company. He had, it appears, been prevailed upon to resign as a director because the other directors had concluded that his business reputation was such that it was undesirable that he should be openly associated with the management of M.P.I.

M.P.I. carried on its operations upon the same premises as Gower and Adams Pty. Ltd. which, of course, was still continuing in business at least for the purpose of writing the insurance register it had acquired from Gower and Associates Pty. Ltd. into the books of M.P.I. Although Adams had ceased to be a director of M.P.I., his physical presence continued to be a handicap. Using Alderton's words:-

" March of the next year ( 1969) when I realised it was impossible because brokers used to say to me 'We are not going to give you any more business while this man is hanging around. We don't like him and his reputation is bad. We feel that we would stop doing business with you unless you can get him out of the place ' so we (i.e. Mainsbridge and Alderton) had to resort to getting him out."

In actual fact it was M.P.I. which got out of the premises which it was occupying with Gower and Adams Pty. Ltd. at 424 St. Kilda Road. The property of M.P.I. was removed in March or April in the dark of night by Alderton and Mainsbridge so that Adams would not see the departure.

However, M.B.A. (Credits) still held most of the shares in M.P.I. and it was clear that some settlement was necessary in order to sever Adams' connection with M.P.I. completely. A settlement was eventually reached and embodied in a series of agreements which appear to have been executed on the 2nd April 1969, although I have seen only photostat copies of unexecuted documents. By the first agreement, M.P.I. released

Mid-Pacific and International Insurance Company Ltd.

Mid-Pacific and International Insurance Company Ltd.

10

Gower and Adams Pty. Ltd. from a debt of $15,591.64 owing to the former company by the latter and agreed to discontinue proceedings which had been instituted in the Supreme Court of Victoria to recover that sum. This amount was then debited to the loan account of Gower and Adams Pty. Ltd. with M.B.A. (Credits).

By the second agreement M.P.I. agreed to pay Adams $20,400.00 retiring allowance upon the termination of his position as finance controller of the company. $20,000. 00 of this amount was intended to effect repayment of the sum of $20,000. 00 which had actually been paid in cash for the issue of 1 subscriber share in M.P.I. to Adams and of 19,999 shares to M.B.A. (Credits). The remaining $400.00 represented arrears of salary. The history of the $20,000.00, it will be recalled, is that it came from Gower and Adams Pty. Ltd., was loaned to M.B.A. (Credits) for the purpose of meeting the deposit on the purchase of shares in Omnibus and General and was eventually used for the purchase of the 20,000 shares in M.P.I. to which I have just referred. Of course to effect repayment in reality the money should have gone to M.B.A. (Credits) and not to Adams by way of a " retiring allowance " but such niceties did not appear to concern Adams, Mainsbridge or Alderton or their advisers. In any event, M.P.I. was unable or unwilling to pay $20,000. 00 of the $20,400. 00 in cash and so another round of cheque swapping took place, supplemented by an additional agreement between M.P.I. and M.B.A. (Credits) to repay a resulting "loan" by instalments. A cheque for $20,400.00 was paid by M.P.I. to Adams who drew a similar cheque payable to M.B.A. (Credits). The payment of this amount purported to be a loan by Adams to M.B.A. (Credits) and was credited to his loan account with that company. M.B.A. (Credits) then drew a cheque for $20,000.00 payable to M.P.I. which purported to be by way of loan from M.B.A. (Credits) to M.P.I. and which was debited to M.P.I.'s loan account with M.B.A. (Credits). Although not part of the formal agreement, but clearly an integral part of the total arrangement, M.P.I. agreed to repay" the loan" to M.B.A. (Credits) at the rate of $1,111.11 per month. The formal agreement provided also that M.P.I. should transfer to Adams a Rambler Javelin motor car which that company was purchasing upon hire purchase terms and that it should continue to pay the instalments of hire due from time to time. Also part of the formal agreement was a promise by M.P.I. to pay the monthly payments for 42 months upon a life assurance policy over the life of Adams.

The 89,799 shares held by M.B.A. (Credits) in M.P.I. were transferred to Mainsbridge and Alderton pursuant to a separate agreement which provided for a purchase price of $79,300. 00. There was no difficulty in " providing " $74,300.00 of that amount. The cheque swapping procedure which had created this amount as a debt in the books of M.B.A. (Credits) was merely reversed and a similar arrangement made by M.P.I. with Mainsbridge and Alderton whereby a " loan " of the amount from the company to them was created. The agreement, of course, contemplated this arrangement by expressly providing that contemporaneously with the receipt by M.B.A. (Credits) of the purchase price it should repay to M.P.I. the loan appearing as a debit in its loan account with that company.

A fourth agreement, this time between Adams and M.P.I. provided that 101 shares in M.P.I., comprising the one subscriber share held by A dams and the additional 100 shares issued to him on the 4th December 1968 should be transferred by Adams to Alderton and Mainsbridge for the sum of $1.00.

I shall have occasion later to say something about the bookkeeping methods employed by the companies which were the subject of my investigation, but it is illustrative of the complete unreality of the accounts of M.B.A. (Credits) that the series of transactions involving the acquisition and divestment of shares in M.P.I. appear as resulting in the transfer to the profit and loss appropriation account of that company of a profit of $17,001.72. This figure would be perplexing were it not for a

11

pencil calculation upon a ledger sheet in the books of M.B.A. (Credits) headed "Share-Mid-Pacific and International Insurance Company Pty. Ltd. (89,799 in the name of M.B.A. (Credits) Pty. Ltd. 101 in the name of M. J. Adams) ." The calculation is as follows:-

89,900 shares sold for $79,300. 00

Cost

+ 15,591.64 + 2,070.60

7,596.12 + 2,402.36

$106,960.72 + 4,500.00

Profit

$111,460.72

$94,300.00 159.00

$94,459.00 111,460.72

$17,001.72

The figures are explicable as follows. No differentiation is made between the shares held by M.B.A. (Credits) and the shares held by Adams so that the figure of 89,900 shares represents the total of the two shareholdings, namely, 89,799 and 101. The figure of $79,300.00 is the consideration expressed in the agreement for the sale of the shares but, of course, only $5,000.00 of that amount was intended to be paid in cash, $74,300.00 being intended to be " paid " by the exchange of cheques.

The $15,591.64 represents the claim by M.P.I. against Gower and Adams Pty. Ltd. from which M.P.I. released Gower and Adams Pty. Ltd. In the books of M.B.A. (Credits) this sum is debited to the loan account of Gower and Adams Pty. Ltd. with the narration "To shares in M.P.I. being part of purchase consideration on sale of shares in M.P.I. Amount owed by Gower and Adams to M.P.I. at 31st January 1969." The figure of $2,070.60 represents the total of the payments which M.P.L agreed to make upon the life assurance policy over the life of Adams. The figure of $7,596.12 represents the value of the motor car which M.P.I. agreed to transfer to Adams and to pay off.

The figure of $2,402. 36 does not appear in any of the agreements but from the books of M.B.A. (Credits) it is apparent that this sum represents the total of instalments due or to become due under the hire purchase agreement in respect of the Rambler Javelin motor car. The journal entry in relation to this amount in the books of M.B.A. (Credits) is "To shares M.P.I. being motor vehicle under hire purchase. Part purchase consideration of sale of M.P.I. shares. Debt taken over by M.P.I." The figure of $4,500.00 represents the moneys paid by Alderton in consideration of which M.B.A. (Credits) had transferred to him 4,500 shares in M.P.L

The cost of $94,300.00 comprises the $74,300.00 " loan " from M.P.L to M.B.A. (Credits) and the sum of $20,000.00 paid in cash for the issue of 19,999 shares to M.B.A. (Credits) and one subscriber share to Adams. The sum of $159.00, which is added to the $94,300.00 appears to have been the debit balance in the loan account of M.P.I. with M.B.A. (Credits) immediately before the transactions resulting in the transfer of shares by M.B.A. (Credits) to Alderton and Mainsbridge and constitutes the expenses of forming M.P.I. This debt due from M.P.I. to M.B.A. (Credits) was, apparently, expunged in arriving at the total consideration for the sale by M.B.A. (Credits) of its shares in M.P.I. The subtraction of the sum of $94,459.00 from $111,460.72 gives the so-called profit of $17,001.72 which was then transferred to the profit and loss appropriation account of M.B.A. (Credits). Since the sum of $74,300.00 involved in the calculations was never more than a book entry and was never represented by money or money's worth, the calculation is completely false and misrepresents entirely the financial situation of the company. It was a method of approach, however, which later became significant in the affairs of E.A.L and it demonstrates on the part of Adams either an inability to appreciate financial realities or a complete lack of concern for financial honesty.

The relationship between Adams and his eo-directors in M.P.L had deteriorated within a few months of the formation of that company. As I have said, one of the main purposes of the formation of M.P.I. was to make

Mid-Pacific and International Insurance Company Ltd.

Mid-Pacific and International Insurance Company Ltd.

Formation of East Australian Insurance Company Ltd.

12

use of the insurance register which was originally the property of Gower and Associates Pty. Ltd. Some of that register was written into the books of M.P.I. but a good deal of it remained intact and, consequently, Adams had need of another insurance company to enable him to use the remaining portion of the register. The evidence does not establish clearly the extent of that remaining portion but it appears that it was substantial. Clearly Adams would have been disinclined to place business with M.P.I. from Gower and Adams Pty. Ltd. during the time that he was in dispute with the other directors of that company.

FORMATION OF EAST AUSTRALIAN INSURANCE COMPANY LTD. Adams by this time had realised the ease with which one can establish

an insurance company. All that was needed was the sum of $20,000.00 to secure a bank guarantee which provided the deposit required under the Insurance Act 1932-1966. By this time Adams had married and had acquired some access to the funds of his wife's grand-mother, Mrs. McDonald. After the sale of Kahlyn Private Hospital, Mrs. McDonald had sufficient funds to provide most of the amount required to secure the necessary guarantee. Apparently she was prepared to do this and on the 30th April 1969 E.A.I. was incorporated. Amongst the subscribers to the Memorandum of Association were Adams' wife and Gower. The sub­scribers' shares numbered seven and two further issues of shares took place in order to bring the issued shares in E.A.I. to 200,000.

One issue of shares was to Adams himself and this issue was made pursuant to a resolution contained in the minutes of the meeting of the directors 'Of E.A.I. held on the 18th June 1969 in the following terms:-

" Pursuant to the Agreement dated and sealed on behalf of the Company on 28 May 1969, in consideration of Mr. Michael John Adams being one of the promoters of the Company, having originated the scheme for the formation of the Company and introduced the ideas in connection with the Company's proposed business and took the initiative in forming the Company it was therefore resolved that the following allotment 'Of shares be made:-

No. of shares: 5,000. Consecutive Nos.: 8-5,007. Allottee: Michael John Adams."

At the same meeting a resolution was passed that 194,993 shares be allotted to M.B.A. (Credits). The nominal value of shares in E.A.I. was fifty cents.

In relation to the 5,000 shares issued to Adams it may be said that any ideas which he had in connection with the company's proposed business, namely, insurance, did not stem from experience or knowledge. His associatilon with the world of insurance had at this time been somewhat fleeting and, upon his own confession, he knew little or nothing about the business of insurance underwriting. Those present at the meeting at which the resolution for the al110tment of 5,000 shares to Adams was passed were himself, his wife, Gower, and Jonathon Norman Welsh, a friend of Adams and one of the subscribers to the Memorandum of Association of E.A.I. These person's constituted the directors of E.A.I. at this time. Of them the only person with any real experience of the business of insurance wa~ Gower and he was already suffering the limitations imposed by his health which I have described above. It must, therefore, be concluded that the consideration provided for the issue of 5,000 shares to Adams was either non-existent or, at least, totally inadequate.

Nor was the issue of 194,993 shares to M.B.A. (Credits) any less questionable. Clearly M.B.A. (Credits) at this time did not have $97,496.50, the amount required to pay for the shares, or anything like that amount of money. The system of an exchange of cheques with which Adam's was by this time familiar provided, therefiore, the complete answer.

At the time of the formation of E.A.I. the bank account being used by M.B.A. (Credits) was with the C.B.A. at its branch at 70 Collins Street, Melbourne. On the 19th June, this account was in overdraft to the extent of $1. 57. On that day, a cheque for $97,496.50 drawn upon that account was paid to E.A.I. By this time E.A.I. also had an account with the same branch of the same bank and the cheque was paid into that account. An amount of $97,496.50 was credited to E.A.I.'s account and debited to M.B.A. (Credits') account. On the 23rd June 1969 a cheque for $97,496. 50 was drawn by E.A.I. and paid into the account of M.B.A. (Credits) which, because of some minor transactions in the meantime,

13

resulted in that account being brought to a credit balance of $498.43. The diary of the manager of the bank contains an entry which, although dated the 12th June 1969, clearly refers to the transaction just described and indicates its purpose. The entry is as follows:-

" M.B.A. (CREDITS) PTY. LTD., have issued cheques for $97,496. 50 for purchase of shares in East Australian Insurance Co. Ltd. Cheque for like amount, to be credited under tomorrow's date in hand to clear 0/D."

The manager of the bank at the time gave evidence that the diary entry was a note of what Adams told him and that a cheque for $97,496.50 was in fact paid into the account of E.A.I. some time after he made the diary note. The relevant evidence of the bank manager, Barry Ronald Hales, was as follows:-

" Q. Let me get this clear. You made an arrangement on the 12th? A. No, this was a statement that he made to me. Q. He told you on the 12th? A. That he had issued a cheque. Q. That he had drawn a cheque on M.B.A.'s account? A. Yes. Q. With the 70 Collins Street branch of the C.B.A.? A. That is true. Q. And he said to you that a cheque would be paid in? A. The following day. Q. The day following what? A. The day following the presentation of the cheque. Q. How would he know what that day would be? A. He was in every day. Q. And that would cover that cheque? A. The cheque would be covered. Q. He said this to you. What did you say? A. I made no commitment at the time, I don't think. It is not in

the diary. I probably said, ' It will need to be in my hand, or something before the cheque is paid.' There is n10 way in the world I would have granted overdraft accommodation. (my underlining) .

Q. If you might inform someone who is ignorant of this procedure. If you had got that cheque in your hand, and then you found, that you had a cheque in your other hand which was fur a similar amount, drawn on another company, what would you do to ensure that the second cheque WIOuld cover the first? Would you check whether there were funds to meet it?

A. Oh, certainly, otherwise I would be clearing on an uncleared cheque. If it is in my own branch it is easy; if it is another branch you can check by special messenger or perhaps telephone.

Q. You are clear that so far as M.B.A. (Credits) are concerned you would not have met a cheque on this account for $97,496.50?

A. Unless I had a cheque in my hand to cover it, no."

The result so far as the bank was concerned was merely a debit and credit entry of the same amount in the account of each of the companies concerned without any ultimate disturbance of the balance of either account. The real nature of the transaction is, however, reflected in the books of E.A.I. and M.B.A. (Credits). In the ledger of E.A.I. the amount of $97,496.50 appears separately in the loan account of M.B.A. (Credits) as a debit entry. The entry is dated 20th June 1969. In the ledger of M.B.A. (Credits) the sum of $97,496.50 appears as a debit entry dated the lOth June 1969 upon a sheet headed "Shares-East Australian Insurance Company Pty. Ltd.". Notwithstanding that in point of time the cheque drawn by M.B.A. (Credits) was the first to be drawn and paid into a bank account, it is clear that this cheque would have been dishonoured had it not been covered by the cheque drawn by E.A.I. pursuant to some arrangement such as that which was made with the bank manager. The consideration, therefore, for the issue of 194,993 shares in E.A.I. to M.B.A. (Credits) was the creation of a liability on the part of M.B.A. (Credits) to pay E.A.I. the sum of $97,496.50. It is plain, therefore, that the purchase of these shares by M.B.A. (Credits) was in fact financed by E.AJ.

Formation of East Australian Insurance Company Ltd.

Formation of East Australian Insurance Company Ltd.

14

Adams gave a different version of the transaction but I have ~o. doubt. th;;:t the evidence given ~y ~r. Hales is correct, supported as It IS by his diary entry and the entnes m the books of the two companies concerned. When asked what he had said to the bank manager Adams replied:-

" Well, I said that I wanted M.B.A. (Credits) to take up shares in East Australian Insurance Company, and I wanted an overdraft for the purpose of doing so, and will you therefore let me have it because East Australian at this stage doesn't want all that money, and it is therefore able to repay what money M.B.A. (Credits) gives to it at this stage and relend it back to M.B.A. (Credits) at a rate of interest, only when-so before the transaction M.B.A. (Credits) owed them nothing, after the transaction M.B.A. (Credits) had a liability."

Mr. Hales made it quite apparent that he did not regard the transaction as an extension of overdraft facilities by his bank to M.B.A. (Credits) to the extent of $97,496.50. Nor could the transaction be so regarded since Mr. Hales at no time had any intention of providing funds of that magnitude to M.B.A. (Credits).

Thus, although E.A.I. purported to have an initial capital of $100,000.00 contributed by shareholders, the payment for its issued shares, other than its subscriber shares, was a complete sham and no such capital was contributed at all. The reason for the issue of shares in the manner described must largely, if not wholly, have been for the purpose of giving a false appearance of financial worth to E.A.I. No cautious person would pay much regard to the issued capital of a company without any evidence of asset-backing but caution is not always a quality attendant upon business dealing and, as will appear later, Adams was to use for the purpose of obtaining advantage for E.A.L the fact that it purported to have an issued capital of 200,000 fully paid shares of fifty cents each.

Upon the premises at 424 St. Kilda Road and with certain office equipment provided through M.B.A. (Credits), E.A.I. commenced business as an insurance company. Its life was to be short and by about August or September 1970 it had reached a position where it was unable to carry on its activities any further. On the 5th October 1970 it went into voluntary liquidation.

In broad terms it is possible to relate the history of E.A.I. very briefly. The type of insurance business which it undertook was predominently the comprehensive insurance of motor vehicles. This business it quickly achieved by offering premium rates which were relatively cheap (or " competitive " as a number of witnesses preferred to describe them), by paying insurance brokers commission at a relatively high rate or offering them other rewards in order to induce them to place their business with E.A.I. and by underwriting risks which more reliable insurance companies would have refused. With astonishing rapidity the company achieved a substantial cash flow in the form of premium income which provided it temporarily with considerable funds. But these were the funds that were ultimately to be required, after payment of administrative expenses, for the purpose of meeting claims and instead of being conserved and invested for this purpose and for the production of income they were in large measure dissipated by the company in various unprofitable ways. To make comprehensive insurance of motor vehicles a profitable enterprise, great skill and experience are required. The ratio of claims to premiums without careful underwriting, that is, selection of risks, can easily exceed I 00 per cent. and even with careful underwriting may be between 70 per cent. and 90 per cent. With this expected claims ratio and the administrative expenses which must also be met it is essential that a comprehensive insurer of motor vehicles pursue a c~reful policy of investment of premium income if there is to be a profit rather than a loss. Experience has indicated that even with careful selection of risks, the comprehensive insurance of motor vehicles can only be profitable by reason of funds obtained through investment and not by reason of an excess of premium income over claims and expenses.

It is now necessary to turn in more detail to the activities of E.A.I. and to the relationship of M.B.A. (Credits) with that company. At the outset I think it is necessary to say that my investigations were greatly hampered by the fact that from the beginning E.A.I. failed to observe proper accounting methods and to keep proper business records. Initially, E.A.I. employed a Mrs. Martin as a bookkeeper but she does not appear to have been able to establish any proper system of accounting which would have enabled the company adequately to understand its financial position at any particular point of time. On the 22nd September 1969

15

E.A.I. employed in Mrs. Martin's place Phillip John Desmond Jordan-Hill who, although only 22 or 23 years of age, had had some experience with insurance companies' accounts and had completed a number of subjects in an accountancy course. Jordan-Hill's description of the accounting records when he took up his employment with E.A.I. was as follows:-

"There was nothing, no cash books, virtually no entries, cash books, no petty cash books. There was banking, it was done on an old Kalamazoo sheet. The receipts didn't run consecutively at all. There was no receipt book register. Everybody who wanted a receipt book, about that size, was given one. Representatives, business representatives and that, was given one .... There was virtually no system."

The only accounting which appears to have been carried out using proper methods is contained in a journal and ledger written up by an accountant, Miss Joy Taylor, who was a partner in a firm of accountants, Armer and Treloar, and who was employed for a time by E.A.I. as its secretary. The ledger was written up from scant information provided by Adams and from other sources such as bank statements. However, the ledger was written up to the 30th June 1969 only and for this reason, if for no other, was of limited assistance. After the 30th June 1969 there was no attempt to make proper bookkeeping entries and no journal or ledger was kept. Jordan-Hill made some attempt to place the financial records of the company in order and tried to have its cash books written up from its incorporation. He also attempted to establish some more compre­hensive and reliable system of recording receipts and payments. However, nothing seems to have been carried through to a proper conclusion and Jordan-Hill maintains that his failure to establish a proper system of accounting was because of other calls on his time. His evidence was as follows:-

" Q. Did you think a ledger ought to be kept? I am not asking these questions in any sense of criticism, you understand?

A. Absolutely. Q. Did you suggest to anyone that they should be? A. It should have keen kept up to date. There is no doubt it

should have been kept up to date. Even the books of registration themselves should have been kept. I spent, I should say, 70 per cent. of my day not doing accounting work but on other functions.

Q. What sort of thing did you find yourself having to do? A. It-in the last six months stalling creditors and claims that

should have been done on the 'phone. When payments didn't come forth, we had to be prepared for them to ring up everyday. I didn't do any accounting in the last four months because of this."

Apart from the documents constituting the insurance register, records of the affairs of E.A.I. which were not of an accounting nature were either not kept or, if kept, were kept quite unsystematically. Even after laborious investigation by myself and those who assisted me, it has not been possible to relate with the precision I would have desired the affairs of the company during its short life. That the directors of the company and in particular Adams were aware of the inadequacy of the records of the company, financial and otherwise, will become apparent from correspondence from both Mrs. Martin and Miss Taylor to which I shall later refer.

Because of the lack of accurate information provided by th~ accounts and documents kept by the company, it was necessary to attempt to obtain detailed evidence from Adams and Gower.

The return lodged in the office of the Registrar of Companies shows that Adams, his wife and Jonathon Norman David Welsh were appointed directors of E.A.I. on the 30th April 1969. The return of allotment of shares lodged at the same time shows the number of shares allotted as being five subscriber shares, the allottees being Adams, his wife, Welsh and two persons who were presumably employees of Armer and Treloar and who did not hold their shares beneficially. Subsequently, on the 13th June 1969, Gower was appointed a director of the company and was given the title of managing director. The return of allotment of shares dated the 27th June 1969 lodged in the Companies Office shows the shareholders of E.A.I. as being Gower, Adams and M.B.A. (Credits) holding two shares, 5,000 shares and 194,993 shares respectively. It was apparent that the only two directors who played any substantial part in the affairs of E.A.I. were Adams and Gower.

Formation of East Australian Insurance Company Ltd.

Formation of East Australian Insurance Company Ltd.

16

I do not consider Adams to have been a reliable witness. Whilst with some matters he was capable of great accuracy and detail in recollection, with others, often of crucial importance, he was vague to the point of being completely unhelpful and, on occasions, evasive. To what extent these characteristics were due to a conscious desire not to assist my investigation or were due to a manifest lack of appreciation of sound commercial principle and practice, it is difficult to say. What can be said is that despite an obvious fluency and facility of expression, Adams was not forthright in his evidence and was an unsatisfactory witness. Gower, on the other hand, had obviously been and was in such a physical and mental condition that he was unable to give any comprehensive or even coherent account of the affairs of E.A.I. such as one would expect from an officer bearing the title of managing director. Necessarily the shortcomings in the evidence of these two men impeded a rapid or precise appreciation of the affairs of E.A.I.

At the first meeting of the members of E.A.I. which was held on the 30th April 1969, the allotment of shares to the subscribers to the Memorandum of Association of the company was made and the initial directors were appointed.

E.A.I. commenced business at 424 St. Kilda Road Melbourne in premises which were at that time leased by Gower and Adams Pty. Ltd., using office furniture and equipment which M.B.A. (Credits) had purported to purchase from Gower and Adams Pty. Ltd. for the sum of $5,000. 00. E.A.I. " purchased " this equipment from M.B.A. (Credits) and by way of payment credited its loan account with E.A.I. with the sum of $3,876. 70. A certificate that the company was entitled to commence business and exercise borrowing powers was issued on the lOth June 1969.

The balance sheet of E.A.I. as at the date upon which the company was entitled to commence business was, according to Armer and Treloar:

Assets: Commercial Bank of Australia .. Treasury Bond Incorporation in Preliminary expenses

Less Liabilities: Creditors

Shareholders' Loan-M.B.A. (Credits) Pty. Ltd.

$1,016.05

$1,016.05

$20,000.00

$2.50 20,000.00

1,016.05

$21,018.55

$21,018.55

$21,016.05

Total net assets: $2.50

Represented by­Shareholders' Funds:

Authorised capital I million ordinary shares of 50c each ..

Less: Unissued Capital 999,995 shares of 50c

Paid up capital, 5 ordinary shares of 50c each (being subscribers' shares) ..

$500,000. 00

499,997.50

$2.50

It is not clear precisely upon what day the company actually commenced business, but it is clear that when it did commence business it was in no better position than the figures above indicate. The issue of 194,993 shares to M.B.A. (Credits) Pty. Ltd. gave a completely false picture of a changed situation. Since M.B.A. (Credits) could not at that time nor was ever likely to be able to pay for the shares and since the liability on the part of M.B.A. (Credits) to E.A.I. which represented their purchase price was entirely unsecured, E.A.I. in effect commenced business as an insurance company with capital funds of $2. 50.

Notwithstanding this inauspicious beginning, E.A.I. quickly achieved a cash flow in the form of premium income. From the minutes of the meeting of the directors of the company held on the 7th April 1970 it appears that Jordan-Hill advised that the premium income for the six months ended the 31st December 1969 was approximately $50,000. 00. per month. As I have said, this cash flow was achieved by offering cheaper

17

rates and by a special relationship with certain insurance brokers. It is difficult to compare premium rates in the field of motor car insurance since the policies issued by different companies contain many variable factors. However, the assessment made by Gower was as follows:

" Q. But dealing with motor car insurance for the moment, it would be true to say that the rates offered by East Australian Insurance Company was certainly less than those which the tariff companies were prepared to offer. That is so, isn't it?

A. No. I can't agree with that because tariff companies have category 1, category 2, 3, 4, depending on types of vehicles. We made a definite firm rate for all vehicles-except, well, sports cars and things like Jaguars and . .

Q. Well, there was some attraction in your rates, you may put it as generally as that, compared with rates offered by other companies?

A. I think they could have been 7! per cent. lower than the old Club Motor Insurance rates, or State Government."

Whatever the degree to which the premiums charged by E.A.I. in respect of motor vehicle insurance were less than the premiums charged by other companies, I am satisfied that the rate charged was sufficient to be a significant factor in attracting custom. Upon the special relationship with certain insurance brokers I shall comment later.

As I have said, the ratio of claims to premium income being very high in the field of comprehensive insurance of motor vehicles, a sound policy of investment of premium income is essential to ensure the success of any venture such as that of E.A.I. which is involved in the main with such insurance. So far as its insurance of motor vehicles was concerned Gower astonishingly stated that he was banking upon claims representing 50 per cent. of premium income. When asked how he anticipated being able to achieve a such low claims ratio in that field his answer was " By proper underwriting ". As will be seen, far from pursuing a policy of sound underwriting, E.A.I. was to be the repository of many risks which no reliable insurance company would underwrite. Adams professed no understanding of underwriting policy and that aspect of the business was in Gower's charge.

As regards the investment of premium income, Gower appeared to experience some 'Confusion between the proportion of premium income, namely, 40 per cent., which the Commissioner of Taxation would allow for income tax purposes as being the unexpired portion of the risk and the maintenance of sufficient reserves to meet claims. In any event, it is quite apparent that E.A.I. adopted no particular policy with regard to the maintenance of appropriate reserves or the investment of premium income. Clearly there may be differing policies with different insurance companies as to the most profitable way of investing premium income but such differences would, generally speaking, be as to the proportion of the income which should be invested in a particular available type of security. The main securities, short term and long term, in which one would expect to find an insurance company's investments would be Commonwealth Government securities, semi-government securities, real property and equity stock. One would also expect to find an appropriate proportion of premium income in the form of term deposits and deposits at call. E.A.I. used none of these forms of investment and it is appropriate at this point to pay some attention to the so-called investments which the company did make.

THE REST AND BE THANKFUL RESTAURANT. On the 9th May 1969 M.B.A. (Credits) commenced business as a

restaurateur in rented premises at 108 Chapel Street, Prahran, under the business name "Rest and Be Thankful Restaurant". The business was a failure from the start and lasted only until September 1969, a period of some four months. It is clear that moneys provided by E.A.I. were used in the establishment of the "Rest and Be Thankful Restaurant". In the books of M.B.A. (Credits) the sum of $4,475.35 was credited to the loan account of E.A.I. on the 30th June 1969, the narration in the journal being as follows:-

" Rest and Be Thankful Restaurant. following expenses paid by E.A.I.

Taxi truck .. Fixtures and fittings Printing Staff benefits Wages-net Purchases

7895/71.-2

To loan account-E.A.I. Being

$300.00 1,427. 52

30.59 250.00

2,071.32 395.92

$4.475:35 ..

Formation of East Australian Insurance Company Ltd.

The Rest and Be Thankful Restaurant

The Rest and Be Thankful Restaurant

18

$2,500. 00 was repaid by the use of funds provided by way of overdraft by the branch of the Commercial Bank of Australia Ltd. at 70 Collins Street, Melbourne. These funds were debited to the loan account of E.A.I. with M.B.A. (Credits), the narration in the journal being:-

" Loan account-E.A.I. To Rest and Be Thankful. Being repayment of part of loan money to E.A.I. from R. & B. T. Bank account."

The date appearing in the journal is the 30th June 1969 but from the bank statement relating to the bank account opened with the C.B.A. in the name of the " Rest and be Thankful Restaurant " it appears that the payment was made on the 9th June 1969. What appears in the books of M.B.A. (Credits) is inconsistent with what appears in the books of E.A.I. in relation to the "Rest and be Thankful Restaurant". In the books of E.A.I. there is a loan account in the name of the "Rest and be Thankful Restaurant" which on the 30th June 1969 shows a debit balance of $1,975.35. That amount was on the same day transferred at the suggestion of Miss Taylor to the loan account of M.B.A. (Credits) with E.A.I. leaving a nil balance in the " Rest and be Thankful Restaurant " account. It does not appear from the books of E.A.I. or M.B.A. (Credits) whether any further moneys were provided by E.A.I. which were used in the running of the " Rest and be Thankful Restaurant " It is not, therefore, possible to say precisely what moneys were provided by E.A.I. towards the establishment of or in the running of the restaurant. Whatever amount was invested, it was clearly an inappropriate investment for E.A.I. Even if the amounts advanced were considered, as apparently they finally were, as due from M.B.A. (Credits) , it is plain that that company had no assets of any value and it would have been known that the moneys advanced were to be invested in the business of a restaurant. Just what loss was sustained by the retaurant eventually is not clear from the financial records of M.B.A. (Credits), but in a statement of profit and loss for that company for the year ended the 30th June 1969 there appears a statement of profit and loss of the " Rest and be Thankful Restaurant " for the period from the 9th May 1969 to the 30th June 1969 which indicates a loss of $7,043.23. In addition, moneys had been expended upon capital items in the sum of $8,892.35 and, whilst some of these items may have been saleable, it does not appear that any substantial amount was recouped from this expendi­ture. It seems reasonable, therefore, to assume that the loss sustained by the "Rest and be Thankful Restaurant" was about $16,000.00, which is an appreciable loss for a relatively small business over a period of about four months.

The attitude of Adams towards the use of E.A.I.'s money in the business of the "Rest and be Thankful Restaurant " was curious. Eventually he was prepared to concede that the proprietor of the business of the " Rest and be Thankful Restaurant " was M.B.A. (Credits), but maintained that the use of E.A.I.'s money in the business was justified because had the business turned out to be profitable M.B.A. (Credits) would have transferred it to E.A.I., it having carried on the venture in effect on behalf of E.A.I. The reason for M.B.A. (Credits) carrying on the business was, as Adams put it, that " . . . . if the investment was going to be a failure, it was better it be a failure upon M.B.A. (Credits) than upon East Australian Insurance Company." Adams would not concede that the investment of E.A.I.'s moneys in this way was imprudent. His answers to my questions concerning the " Rest and be Thankful Restaurant " indicate, I think, an irresponsibility which was later to be displayed in other financial ventures undertaken by Adams through E.A.I. The following questions and answers are illustrative.

"Q. What you are telling me, you regard moneys loaned in this way, to a concern which is run by a family company which is unprofitable and on no security at all, to be a prudent invest­ment?

A. Well, one doesn't know whether one is prudent until after the event.

Q. But one generally therefore requires security to protect one against the money not being recoverable otherwise?

A. One might require security, it is not essential. Q. Mr. Adams, I repeat the question, do you consider the provision

of those moneys by East Australian Insurance Company to have been a prudent investment?

A. As it turned out, it was a very imprudent investment Q. The fact is East Australian Insurance finds itself at this present

time without payment of the moneys which it expended in the business of the Rest and be Thankful Restaurant, without security for those moneys and without any real prospects of payment?

A. I don't agree with that, real prospect of payment.

19

Q. Why not? Where are the prospects? A. In the - - in what happened next - the company goes into,

in whatever next - -Q. Which company? A. M.B.A. (Credits). It might be another insurance company.

It might be another profitable investment. It might do some­thing with a view to having a good business.

Q. And it might make a thumping great loss, and find itself in liquidation, mightn't it?

A. That's the name of the game. Q. All right, what are the real prospects? A. The real prospects are that it will pay back to East Australian

Insurance Company what it owes it. Q. What from? A. From one source or another, of which I am unable at this stage

to say Q. Was the Rest and be Thankful Restaurant a prudent investment? A. It was a prudent investment. It turned out to be imprudent. Q. If it was a prudent investment, why was M.B.A. (Credits) the

proprietor of the restaurant and not East Australian Insurance Company?

A. Because one would be unable, as I said earlier, to decide whether it was a profitable venture or not until after the period, an establishment period.

Q. I think we ought to get some definition of terms from you Mr. Adams. What do you consider the words ' prudent investment ' to mean?

A. Something that will make a profit. Q. And when you have a venture, the profitability of which you

do not know, is it a prudent investment? A. Well, you start with not knowing but you start hoping. Q. I see? A. That is commerce, not the profession of the law."

Eventually, as will be seen, E.A.I. acquired the issued shares in a New South Wales company called Bonus Benefit Insurances (Underwriters) Pty. Ltd. (B.B.I.). That company was to commence business in the State of Victoria and in the minutes of the meeting of its directors, who were Adams and his wife, held on the 1st March 1970, it appears that its registered office was to become in Victoria 108 Chapel Street, Prahran, the premises leased for the purpose of the restaurant and that it was " agreed Bonus Benefit Insurances (Underwriters) Pty. Ltd. take over the assets and liabilities of the restaurant, 'Rest and Be Thankful', and sell such assets as may be necessary." When questioned about this minute Adams made it clear that the only liabilities which it was intended that B.B.I. should meet were such liabilities as might be outstanding in respect of electricity, rent and the like. The following question and answer indicates the way in which Adams regarded the responsibilities of B.B.I. upon taking over " the assets and liabilities " of the " Rest and Be Thankful Restaurant."

"Q. What you say that minute means is Bonus Benefits would take over the premises formerly occupied by the Rest and Be Thank­ful Restaurant and pay such expenses as were necessary for it to conduct its operations there and no more?

A. Yes, that is so."

ESTABLISHMENT OF INTERSTATE OFFICES BY E.A.I. E.A.I. very rapidly began to expand its area of operation. By the end

of June 1969 it had established an office in Launceston, Tasmania, and it established a branch office in Hobart at the beginning of September of that year. Subsequently E.A.I. purchased the insurance register at Hobart and Launceston of an insurance broker, V. J. Woodhouse and Son Pty. Ltd. The purchase price was $45,000. 00 of which $4,000. 00 was paid by way of a deposit, the balance being payable by instalments. E.A.I. experienced some difficulty in meeting the payment of the instalments and an arrangement was reached with V. J. Woodhouse and Son Pty. Ltd., which continued to operate in other parts of Tasmania, that that company should place business with E.A.I., setting off the amounts due from it by way of premiums against the amounts owing under the agreement for the purchase of the Hobart and Launceston registers. In the end, V. J. Woodhouse and Son Pty. Ltd. was paid in this manner the whole of the balance of $41,000.00 save for a small amount of $223.19.

The Rest and Be Thankful Restaurant

Establishment of Interstate Offices by E.A.I.

Establishment of Interstate ()~ces by E.A.I.

20

The head office for the Tasmanian operations of E.A.I. was in Laun­ceston, the office in Hobart merely being a branch office. At first the Tasmanian operations were financed from an imprest account which was kept in funds with moneys from Melbourne. By about October or November premiums were being paid into the imprest account and, in addition, certain moneys were being paid into an account in the name of V. J. Woodhouse and Son Pty. Ltd. which was opened by E.A.I. for the purpose of depositing cheques which belonged to E.A.I. but were made out to V. J. Woodhouse and Son Pty. Ltd. However, it appears to have been intended that the accounting of E.A.I. should be 'Centrally operated from Melbourne and until about January or February of 1970 the Tasmanian imprest account was more or less a true imprest account, funds which were not needed by the Tasmanian office being sent to Melbourne. Up to this time also any claims received were sent to Melbourne for processing and settlement. There were some exceptions made in respect of small or urgent claims which were settled in Tasmania. After February 1970 upon Adams instructions, premiums received in Tasmania were kept in Tasmania and claims were met from the funds represented by those premiums. However, accounts were received by the Tasmanian office for claims made prior to February and as far back as August 1969 and in a short time it did not have sufficient moneys to meet the claims. The manager of the Tasmanian office informed Adams of the situation by telephone and by letter and was promised the sum of $10,000.00 to relieve the situation. In addition, he collected from the Melbourne office all claims and accounts relating to Tasmanian policies. He never received, however, the $10,000.00 which had been promised.

Efforts were made in Tasmania to settle all claims which were properly made but there were not sufficient funds to do so. After a number of promises which were made by Adams to supply funds and which were not kept, the manager of the Tasmanian office on the 17th July 1970 and all the staff of E.A.I. in Launceston and Hobart resigned giving two week's notice. There were, apparently, sufficient moneys available in Tasmania to pay the wages of the staff to the end of the period of two week's notice and accrued holiday pay.

On the 21st August 1969 E.A.L appointed a manager for an office of the company to be established in New South Wales. The manager was Roderick Waiter Woodham and the New South Wales office commenced business in about September 1969. Woodham had had considerable experi­ence in the insurance industry both as a broker and with other companies. Before July 1967 he had been employed by Vehicle and General Insurance Company (Aust) Ltd. as manager for New South Wales and then as agency manager for Australia. Woodham's experience is of significance because it enabled him to build up an insurance register in New South Wales which differed from that of E.A.I. in Victoria in that it did not predominantly represent the comprehensive insurance of motor vehicles. In evidence, Woodham said of the New South Wales office of E.A.I.:-

" . . . in the first few months we had an overbalanced portfolio in that we had more general insurance than motor vehicle, but as it went on, and because of the fact that Vehicle and General were removing themselves from the motor vehicle field, and are apparently going to do so for the next two years, our motor vehicle business in New South Wales increased. I will guess for you that the balance at this moment will probably be 50 per cent., maybe 55 per cent motor and the balance general."

It appears to be conceded by all those concerned with the business of insurance that general insurance is likely to be considerably more profitable than the insurance of motor vehicles. In any event, the advantages of a balanced "portfolio" are readily apparent. As regards motor car insurance Woodham said:-

" As far as I was concerned, I didn't want it, and I was instructed by Michael Adams to write more motor because this would give us a liquidity and a cash flow, and I can safely say I argued with Michael Adams that it would be better, in the oompany's interest, not to chase motor vehicles, because it is very good, yes, it does give you a good cash flow, but in the ensuing months you are going to get your claims, and apart from the fact that you are going to pay out the money you are getting in, in large lumps, you are also gomg to have to put more staff on, and overhead is going up, because you have to have a Claims Department, people handling claims. My thoughts are from past experience that motor vehicle in'surance is good business, providing you c1ontrol it and accept it as an accommodation line, and not as a general source of business or income, or whatever you like to term it."

The subsequent experience of E.A.I. suggests that there was wisdom in Woodham's advice.

21

The financial arrangements between the New South Wales office of E.A.I. and its head office appear to have been similar to the a~angements between the Tasmanian office and the head office. At first It operated upon an imprest account, any moneys not required being tr~nsmi.tted to Melbourne. Subsequently, moneys received by way of premmms m New South Wales were retained there and claims and administrative expenses were met from those funds. The evidence indicates that Waodham was building up a sound enterprise in New South Wales which, of course, collapsed with E.A.I. It is apparent that the New S~mth Wales offic.e. of E.A.I. was eventually intended to bec1ome self-supportmg and that P<?S!tiOn had almost been reached prior to the failure of E.A.I. However, additional funds were required from time to time by the New South Wales office to meet claims and expenses. In July 1970 the New South Wales office requested funds for the first time for some months and they were not forthcoming. Without the additional funds the continued operation of the office became impossible.

From inception to the 30th June 1970 Woodham estimated that the gross premiums received by the New South Wales office were approximately $55,000. 00 in total. This figure was necessarily an estimate because in the beginning accounts in relation to premiums received in New South Wales were kept in Melbourne and Woodham doubted the accuracy of those accounts. He summarised the position in 1970 as regards the New South Wales office as follows:-

" Q. Had the branch reached the stage where you would have moneys you could invest?

A. Yes. This is the crying shame, if you don't mind me saying that, in that in the next three months

Q. Which three months is this? A. To come now. Q. From? A. As from now. Q. I see. A. Right from today, yes. In the next three months there will be

very little in September, because it only just started, October a little better, November would be good. Apart from the m'oneys in new business which we will get, they would also be getting a good proportion of renewals, because early in the piece, as I told you, a lot of it was general business, and so now in the next three months it would have been possible for me to have banked money, or said, 'You can have some money over and above my needs,' because the spade work was done, the thing was off the ground, as it were, apart from the fact that there were one or two pressing claims that I couldn't handle because I didn't have the finance available, and I didn't have it put at my disposal when 'So asked for."

E.A.I. spread its activities to South Australia and Western Australia by opening branches in those States. Of the South Australian branch, which opened in January 1970, no particular comment need be made save that its activities eventually reflected, as did the activities of all interstate offices, the financial inadequacies of E.A.I. Of the Perth branch, which wa~s also opened in January 1970, it will be necessary to say something more in relation to the acquisition of the issued share capital of Lutine Marine and General Insurance Company Pty. Ltd.

Although Gower was the managing director of E.A.I. he was, as I have said, incapable of exercising the functions normally associated with that office. The other directors, apart from Adams, were Welsh, who does not seem to have played any active part in the administration of the company and Adams' wife, who had no appreciation at all of the company's affairs, did not desire to do so and lacked the background and capacity to do so. The policy of the company was dictated by Adams and the policy of expansion which he adopted was one which could never have saved E.A.I. from collapse and could only have intensified its problems and magnified the loss caused by its inevitable failure.

BONUS BENEFITS INSURANCES (UNDERWRITERS) PTY. LTD. In February 1970 the shares in two New South Wales companies,

Bonus Benefit Insurances (Underwriters) Pty. Ltd (B.B.I.) and Bonus Benefit Insurances Pty. Ltd. were acquired by E.A.I. B.B.I. had previously been called Mutual Benefit Insurances Pty. Ltd. but had changed its name. It was an operating company whereas Bonus Benefit Insurance'S Pty. Ltd. was dormant, its shares being of little or no value. The purchase price for the shares in both companie's was $73,000.00 payable by a deposit of

Establishment of Interstate Offices by E.A.I.

Bonus Benefits Insurances (Underwriters) Pty. Ltd.

Bonus Benefits Insurances (Underwriters) Pty. Ltd.

22

$5,000. 00 and thereafter by instalments. The agreement pursuant to which the shares were purchased is somewhat obscure in its terms but it appears to have been the intention of the parties to the agreement that the whole of the purchase price should have been due and payable by the 6th August 1970. B.B.I. appears to have been in'solvent at the time the shares were purchased and was certainly insolvent within a short time of the purchase. A liquidator of that company was appointed on the 26th October 1970. Adams said, however, that he was convinced that the purchase of the shares was a bargain. The reasons he gave were that the company had a premium income of about $300,000.00 a year, $70,000. 00 was deposited with the Bank of New South Wales to secure a bank guarantee which formed the deposit required under the Insurance Act 1932-1966 and he estimated prospective recoveries from outstanding claims to be about $80,000. 00. He e'stimated outstanding liabilities to be about $200,000. 00 and described the purchase as " a good buy at $73,000. 00 ".

B.B.I. was a company which had been incorporated on the 22nd February, 1969 and had dealt predominantly in the comprehensive insurance of motor vehicles. The only asset which it had of real worth was the money deposited with the bank to secure the guarantee which constituted the required deposit under the Act and thi'S was unavailable to meet day to day liabilities. It was therefore in the same unhealthy position as E.A.I., relying upon premiums to meet claims and without any investment income. It is clear that the company had been badly organised and administered and its affairs were in a state of disorder at the time that the shares were acquired by E.A.I.

Apart from the suggestion that he had secured an advantageous financial deal in acquiring for E.A.I. the shares in B.B.I., Adams had another reason for that acquisition. The shares in B.B.I. were first of all acquired by M.B.A. (Credits) and then sold by M.B.A. (Credits) to E.A.I. Adams never intended M.B.A. (Credits) to retain the shares in B.B.I. Clearly he envisaged from the outset that they would eventually be acquired by E.A.I. He described the chief object of the purchase of the shares as follows: -

" . . . East Australian Insurance Company would have to do a return to the Federal Treasurer of its premium income, and as a result of its return to the Federal Treasurer of premium income it would then have to increase its bond from $20,000. 00 probably up to the maximum of $160,000.00. Now under the Commonwealth Insurance Act, and in confirmation with the Treasurer, the Treasury Department itself, when we had to notify them we had acquired this company by making Bonus Benefits a wholly owned subsidiary of East Australian Insurance, they will accept the bond, the amalgamated bond as the one bond."

The reference to the amalgamation of bonds is a reference to Section 14 of the Insurance Act 1960-1966 under which a subsidiary company may take advantage of securities deposited by its parent company.

The reason for the acquisition of the shares of B.B.I. in the name of M.B.A. (Credits) first of all was to enable the debt owed by M.B.A. (Credits) to E.A.I. for the earlier purchase of shares in the latter company to be wiped out. The way in which this was achieved is as follows. At some time between the 6th February 1970 and the 9th February 1970 a cheque in the sum of $5,000.00 was drawn by E.A.I. and paid by way of deposit upon the purchase of the shares. This cheque was said to be drawn by E.A.I. "on behalf of M.B.A. (Credits) Pty. Ltd.". At the time the cheque was drawn M.B.A. (Credits) did not have sufficient funds for the payment of an amount of $5,000. 00 nor did E.A.I. Drawing the cheque for $5,000.00 for the deposit placed E.A.I.'s bank account with the C.B.A. at 70 Collins Street in overdraft. However, on the 13th February 1970 $5,500.00 was deposited in the bank account of M.B.A. (Credits) and on the same day a cheque was drawn on that account and made payable to E.A.I. in the sum of $5,000. 00. The cheque for $5,500. 00 which was deposited in the bank account of M.B.A. (Credits) was drawn by B.B.I. on its bank account in favour of M.B.A. (Credits). The agreement for the purchase of the shares in B.B.I. and Bonus Benefit Insurances Pty. Ltd. appears to have been executed by M.B.A. (Credits) on the 6th February 1970. The inference is strong that B.B.I. in fact financed the payment of the deposit upon the purchase of its issued shares and the issued shares of Bonus Benefit Insurances Pty. Ltd.

On the 9th February 1970 a meeting of the Board of Directors of E.A.I. was held at which Adams, his wife and Gower were present. Bearing in mind that the purchase price which M.B.A. (Credits) agreed to pay for the shares in B.B.I. and Bonus Benefit Insurances Pty. Ltd. was $73,000. 00 and that the acquisition of those shares had taken place within

23

a matter of days before, the following minute which is contained in the minutes of the meeting of the 9th February 1970 is somewhat astonishing: -

"Agreed to purchase from M.B.A. (Credits) Pty. Ltd. the companies-' Bonus Benefit Insurances Pty. Ltd. ' and 'Bonus Benefit Insurances (Underwriters) Pty. Ltd.' for the sum of $160,000.00 being $150,000.00 cash plus $10,000.00 worth of shares in East Australian Insurance Company to Michael J. A dams and $1,000.00 cash.

Agree to accept the following calculation:-Approximate premium income ($300,000. 00

per annum) Cash on fixed deposit (Federal) Estimated claim recovery

LESS: Claims General Creditors ..

Discount

$80,000.00 4,000. 00

$150,000.00 70,000.00 25,000.00

$245,000. 00

84,000.00

$161,000.00 1,000.00

$160,000.00"

The picture is completed by the minutes of a meeting of the Board of Directors of M.B.A. (Credits) held on the lOth February, 1970 at which both Adams and his wife were present. A minute there appears as follows:-

" Agreed that the following amount owing to East Australian Insurance Company Ltd. be repaid forthwith:-

1. M.B.A. (Credits) Pty. Ltd. General Loan Account $4,989.31

2. ' Rest and Be Thankful Restaurant ' General Loan Account 5,675. 40

3. M.B.A. (Credits) Pty. Ltd. Investment Account

(a) Repayment of principle 92,519.80 (b) Interest at 8 per cent. P.A.

from 20th June 1969 to 9th February 1970 4,724.84

$107,909.35

Agreed to relend $42,090. 65 at 8 per cent. P.A. interest payable quarterly to East Australian Insurance Company Limited, being the difference between the purchase price of ' Bonus Benefit Insurances (Underwriters) Pty. Ltd.' and 'Bonus Benefit Insurances Pty. Ltd.' and the indebtedness of M.B.A. (Credits) Pty. Ltd. to East Australian Insurance Company Limited.''

The manipulation of the accounts which is represented by this transaction is further clarified by a calculation which is attached to the minutes of E.A.I. headed " M.B.A. (Credits) Pty. Ltd.-Investment Loan Account with E.A.I. ". The calculation is as follows:-

" 19th June 1969 loan $97,496.50 Credit repayments 19/6/1969 1,100. 00

Less purchase from M.B.A. (Credits) Pty. Ltd. of office fixtures-see Minutes 19/6/1969

Balance at 19/6/1969

Interest at 8% P.A. 20/6/1969 to 9/2/1970, both days inclusive

M.B.A. (Credits) Pty. Ltd. General Loan Account with E.A.I.

M.B.A. (Credits) Pty. Ltd. Rest and Be Thankful Account with E.A.I.

Loan to East Australian Insurance Company Ltd. from 10/2/1970

At 8% interest quarterly.

$96,396.50

3,876. 70

$92,519.80

4,724.84

4,989.31

5,675.40

$42,090.65

Bonus Benefits Insurances (Underwriters) Pty. Ltd.

Bonus Benefits Insurances (Underwriters) Pty. Ltd.

24

Putting aside certain individual figures for the moment, the real nature of the transaction in which E.A.I. acquired the shares of B.B.I. and Bonus Benefit Insurances Pty. Ltd is clear. The main purpose of the acquisition of the shares in these companies was to enable the use of B.B.I.'s deposit under the Insurance Act 1960-1966 in conjunction with that of E.A.I. This object could only be achieved if B.B.I. became a subsidiary of E.A.I. and yet the shares in the two New South Wales companies were acquired by M.B.A. (Cred for a purchase price of $73,000.00 upon payment of a deposit of $5,0 . 00. The actual payment of the deposit was by means of a cheque drawn by E.A.I. Almost immediately it acquired them, M.B.A. (Credits) resold the shares to E.A.I. for a purchase price of $160,000. 00 representing a profit of $87,000. 00 to M.B.A. (Credits). Before the sale of the shares to E.A.I., M.B.A. (Credits) owed E.A.I. a substantial sum of money, largely consisting of the purchase price of the shares in E.A.I. which had been issued to it and which constituted the major part of that company's "paid up" capital. After the sale of the shares in B.B.I. and Bonus Benefits Insurances Pty. Ltd. by M.B.A. (Credits) to E.A.I., M.B.A. (Credits) no longer owed any money to E.A.I. Indeed, E.A.I. then owed a substantial sum to M.B.A. (Credits). No funds were actually transferred from one company to the other and in that sense the transaction was merely on paper. But that does not rob it of its significance. In a short time E.A.I. was required by law to produce an audited balance sheet and the revelation in that document of the debt owing from M.B.A. (Credits) to E.A.I. would have made apparent the manner in which E.A.I. purported to have an issued share capital of 200,000 fully paid fifty cent shares. In the event, no balance sheet was ever produced and no auditor was ever appointed. It is clear that no competent auditor could have certified the accounts of E.A.I.

Turning to the individual calculations and, in particular, to the document purporting to represent the state of the investment loan account of M.B.A. (Credits) with E.A.I. which is attached to the minutes of E.A.I., the figure of $97,496.50 represents, of course, the purchase price of the shares issued by E.A.I. to M.B.A. (Credits). The sum of $1,100.00 does appear to have been paid by M.B.A. (Credits) to E.A.I. although from the relevant bank statement it appears that the payment was made on 5th June 1969 rather than 19th June 1969. The sum of $3,876.70 was the figure credited to M.B.A. (Credits) in respect of furniture and fittings taken over by E.A.I. and the interest calculation resulting in a sum of $4,724. 84 appears to be approximately correct. Of course, no interest had previously been paid or debited to the account of M.B.A. (Credits) in the books of E.A.I. The figure of $5,675.40 purporting to be " M.B.A. (Credits) Pty. Ltd. Rest and Be Thankful account with E.A.I." is inexplicable. There was, as I have said, a loan account in the books of E.A.I. entitled "Rest and Be Thankful" but this was closed off on the 30th June 1969 by transferring the amount then shown as owing to the loan account of M.B.A. (Credits) with E.A.I. This entry was prompted by Miss Taylor who correctly pointed out that any moneys owing to E.A.I. in respect of the " Rest and Be Thankful Restaurant" were in reality owed by M.B.A. (Credits) . The amount transferred was $1,975.35. Presumably, the difference between $1,975.35 and $5,675. 40 represents, if the figures are correct, additional payments made by E.A.I. in respect of the " Rest and Be Thankful Restaurant " after the 30th June 1969 when the books ceased to be entered up.

Turning to the next calculation contained in the minutes of the meeting of the Board of Directors of E.A.I. held on the 9th February 1970, the figures there appear, apart from the figure of $70,000.00 for cash on fixed deposit, to be quite arbitrary. Indeed, there is no explanation for the "discount" of $1,000.00 save, apparently, to bring the purchase price to a round figure of $160,000.00. The figure given for liabilities is quite inconsistent with the figures given by Adams in evidence. When asked about the liabilities of B.B.I. at the time of acquisition of its shares, he said that the outstanding liabilities were about $200,000.00. He estimated claims recoveries to be $80,000. 00.

It would appear that the amount of $42,090. 65 is the difference between the amount said to be owing by E.A.I. to M.B.A. (Credits) before the acquisition of the shares in B.B.I. and Bonus Benefit Insurances Pty. Ltd., namely, $107,909.35, and the purchase price of $160,000.00, less $10,000.00 in respect of the shares to be allotted to Adams.

Miss Taylor of Armer and Treloar, the secretary of E.A.I., was not unnaturally suspicious of the transaction involving the purchase by E.A.I. of shares in B.B.I. and Bonus Benefit Insurances Pty. Ltd. and questioned

25

Adams about it. This resulted in a minute contained in the minutes of the meeting of the Board of Directors of E.A.I. held on the 7th April 1970 as follows:-

"Purchase of shares held by M.B.A. (Credits) Pty. Ltd. in Bonus Benefit Insurances (Underwriters) Pty. Ltd. The chairman explained this transaction fully to the secretary, details of which were recorded in the minutes of meeting of directors held on lOth February 1970. Mr. Adams stated, in his view the purchase price of $160,000.00 was reasonable having regard to the annual premium income and net asset position of Bonus Benefit Insurances (Underwriters) Pty. Ltd. which in his opinion warranted a high purchase price."

Adams' explanation to me of the transaction was no less glib and no more convincing than this minute. Having been asked about the difference between the purchase price paid by M.B.A. (Credits) and the purchase price paid by E.A.I. for the relevant shares, his evidence was as follows:-

"A. Yes, but I purchased Bonus Benefits-M.B.A. purchased Bonus Benefits for a consideration of 73, which in my expert view at that time was a very cheap buy, like buying a block of land for $1,000. 00 which is worth $10,000.00. You don't sell it for $1,000. 00, simply because you were lucky enough to get it for $1,000. 00. For example after I signed the agreement I expressed the view straight away that I would never sell $70,000. 00 except for $70,000. 00, and Bonus Benefits had $70,000.00, for example, cash in the bank, certainly, the supporting guarantee to the Federal Treasury; but it doesn't alter the fact that if we had ceased business for a particular year on a particular date, at the end of one year lat~r the bank would show $70,000. 00, provided that you had done something with the outstanding liabilities, so that $151,000. 00 was .

Q. What were the outstanding liabilities? A. About $200,000.00. Q. You would not see much of your $70,000. 00? A. $200,000. 00 with $80,000. 00 recoveries which you would get

from third party recoveries would reduce to $120,000.00. $120,000.00 could be handled on a premium income of $300,000. 00 if your underwriting was prudent.

Q. I see. Why then if you were interested in-if you felt this was a valuable acquisition for the reasons you have given for East Australian, why didn't you get East Australian to buy it in the first place?

A. Well, because M.B.A. (Credits) had a debt to East Australian Insurance Company, and it was therefore able to purchase something cheaply and sell it for its proper price, and so relinquish its debt, pay off its debt."

The reference to the figure of $151,000.00 in the passage above is in error for the actual purchase price of $160,000.00.

It is apparent that no proper investigation was made of the affairs of B.BJ. before its issued shares were acquired by E.A.I. Adams lacked the ability or experience to assess its position and was certainly not able to form any expert view as he claimed. Apart from a superficial examination of some records by Woodham on Adams' behalf, no real check was made of the true financial position of B.B.I. It is sufficient to say that with inadequate capital resources and claims exceeding premium income by reason of insufficiently selective underwriting it was shortly to collapse and that this eventuality should have been apparent upon a proper exam­ination of the company's affairs at the time of the purchase of the shares.

KENILWORTH At the same meeting of the directors of E.A.I. at which there is a

minute of the agreement to purchase the shares in B.B.I. and Bonus Benefit Insurances Pty. Ltd., from M.B.A. (Credits), namely, the meeting held on the 9th February 1970, there is another minute recording an "investment" by E.A.I. The minute is as follows :-

" Agreed East Australian Insurance Company Ltd. purchase the property known as 'Kenilworth ', Kenilworth Avenue, Beaconsfield, for the sum of $110,000.00. The terms to be :-

A. Deposit of 10%-initial payment $3,000.00, balance of deposit $8,000.00 within 10 days.

B. Balance of purchase price within 6 months of signing.

Bonus Benefits Insurances (Underwriters) Pty. Ltd.

Kenilworth

Kenilworth

Cambridge Insurance Company Pty. Ltd.

26

Agreed that the sum of $70,000.00 standing to the credit of ' Bonus Benefit Insurances (Underwriters) Pty. Ltd.', now a subsidiary of the company, should be released and put into the property at ' Kenilworth '.

Agreed that the bank should be requested to guarantee to the Federal Treasurer $70,000.00 by way of a mortgage on 'Kenil­worth '."

Kenilworth is a property of 38! acres at Beaconsfield. Erected on the property is a modem house of luxurious proportions which was awarded the Australian Journal of Architecture and Arts Award in 1966. The house is surrounded by a professionally landscaped garden area and overlooks a lagoon of approximately 1 acre in extent with an island in the centre. In addition to the improvement constituted by the house there is a swimming pool, a coach house converted to a separate residence, and stables. Adams had the property valued by K. Callaghan before it was purchased by E.A.I. and the valuation was in the sum of $103,000.00. The purpose of the valuation was for use in obtaining a loan upon mortgage. In his report, Callaghan says that " the land has subdivisional possibilities which must be taken into account, although in this connection the relatively low level of the creek flats section must be noted."

There is no question that the purchase of Kenilworth was an inappro­priate investment for an insurance company in the position in which E.A.I. found itself at that time. Although investment in real estate may form part of an appropriate portfolio of investments for an insurance company, E.A.I. had no other investments and lacked the capital resources for such a purchase. Furthermore, it is clear that the property was purchased not with investment in mind but as a residence for Adams and his wife and it was so used. The investment may not have been quite so inappropriate if the property had been substituted as security for the guarantee required by the Federal Treasurer, but the proposal in this regard was never carried into effect.

Although the contract of sale in relation to Kenilworth provided for vacant possession for the purchaser upon payment in full of the purchase money, another arrangement was made between Adams and the vendor. This appears from a letter dated the 16th March 1970 signed by Adams on behalf of E.A.I. to the vendor's agent as follows:-

" Enclosed please find our further cheque for $3,000.00 in final payment of the amount of deposit required in the purchase of the above property.

We confirm that our Mr. Adams and his family will be moving into 'Kenilworth' on 3rd April 1970 and that thereafter a weekly rental was to be charged against this company at the rate of $100.00 per week. However, we should like to point out that the rental of $100.00 per week should be reduced pro rata, depending upon the amount of money that has been paid in respect of the total purchase price.

Once this company has arranged for the payment to your client of the major portion of the purchase price, namely $11,000.00 which you have aJready received, plus $70,000.00 being the amount of the Bank's first mortgage, the rental should be reduced according to the balance due to your client which, in the above circumstances, would only be $29,000.00.

Would you therefore work out an amicable basis which at the maximum, should be 9% on a second mortgage of $29,000. 00."

Not only did Adams use Kenilworth as his residence but he proposed at the expense of E.A.I. to affect alterations or additions so as to provide a study, a playroom, a new bedroom and bathroom and a new " garden court " and wine cellar. There were apparently also to be alterations to the swimming pool. An architect was engaged for this purpose. The alterations were never carried out and no payments other than the deposit of $11,000.00 were made by E.A.I. The failure of E.A.I. and the attendant publicity made it apparent that the payment under the contract of sale in relation to Kenilworth would never be met and on the 20th October 1970 the vendors recovered possession of the property pursuant to an order of the Supreme Court of Victoria.

CAMBRIDGE INSURANCE COMPANY PTY. LTD. In about April1970 Adams commenced negotiations for the acquisition

by E.A.I. of the issued share capital of another insurance company incor­porated in New South Wales, Cambridge Insurance Company Pty. Ltd. (Cambridge). Shares in the company were held by Maurice Gordon Kriss, his wife Jennifer Rosemary Kriss and their two children Deborah and Shoshana. Cambridge had been incorporated on the 11th June 1968 and engaged in the insurance of motor vehicles at " competitive rates ". By

27

an agreement dated the 14th April 1970, E.A.I. agreed to purchase the whole of the issued shares in Cambridge for the sum of $30,000.00 payable by a deposit of $5,000.00 and monthly instalments of $5,000.00 each. In addition, it was a term of the agreement that a property at 8A Ryde Road, Gordon, New South Wales, which had been mortgaged to secure a bank guarantee to provide the deposit required from Cambridge under the Insurance Act 1960-1966 was to be released from that encumbrance. Cambridge had been operating in Victoria and South Australia prior to April 1970. In South Australia a separate company, Cambridge Insurance Company (S.A.) Pty. Ltd. had been formed, not as a subsidiary of Cam­bridge, but as a subsidiary of another company in which Kriss was interested.

As with B.B.I., it is not possible to say precisely what was the financial position of Cambridge at the time E.A.I. purported to acquire the issued shares. It is, however, even more apparent with Cambridge that it was in a thoroughly unhealthy financial position. Again, no real investigation of Cambridge's financial position was made before an agreement was executed for the purchase of its issued shares. Some investigation was made by Woodham, the result of which he expressed in a memorandum as follows on the lOth April 1970:-

" The total creditors given by Kriss of $60,000.00 I feel is inaccurate in that I have come into contact with the person that went through every claim this week for Cambridge, because they were in such a mess, and it is reasonable to assume that the claims figure is as follows:-

The total claims from inception Claims paid to date Estimated recoveries by Cambridge Co. solicitor

(i.e. matters being handled by solicitor) solicitor feels this is a definite figure

Balance of estimated recoveries not being handled is unknown.

$183,000.00 50,000.00

22,000.00

Unfortunately for Kriss some cheque butts that weren't supposed to have been sighted were. A reasonable amount of furniture for Kriss' home was purchased on a Cambridge cheque.

He has just sold his panel shop to Cambridge. He has recently withdrawn $8,000.00 which it is alleged was a

loan by him to Cambridge. It would appear that he is 'bleeding' the company. He has

severed relationships with nearly all of his brokers so his immediate business income would not be extensive."

It appears that the premium income of Cambridge was represented by Kriss to be $300,000.00 and that this figure was accepted by Adams. Kriss also represented that the amount of outstanding claims at the time of the purchase of the shares was approximately $43,000. 00 but, in view of the information received from Woodham, Adams must have known, or at least suspected, that this figure was not correct.

The deposit of $5,000. 00 was paid by E.A.I. upon the purchase of the issued shares in Cambridge but no further sum was paid. Although E.A.I. intermeddled in the affairs of Cambridge, Adams ultimately refused to proceed with the purchase of the Cambridge shares and purported to rescind the agreement of the 14th April 1970. The basis of his refusal was that Kriss' two children were minors and any transfer of their shares in Cam­bridge would be voidable by them.

Before the purported rescission of the agreement to purchase the Cambridge shares, Adams had entered into further agreements with the Kriss' in relation to Cambridge Insurance Company (S.A.) Pty. Ltd. and another insurance company in which Kriss was interested, Norfolk Insurance Company Pty. Ltd. These companies were, apparently, having difficulties in providing the deposit of securities required under the insurance Act 1932-1966 and Adams agreed on behalf of E.A.I. to purchase the issued shares in Cambridge Insurance (S.A.) Pty. Ltd. and the insurance register of Norfolk Insurance Company Pty. Ltd. for the sum of $15,000.00 payable at the rate of $500.00 per week commencing from the 25th June 1970. No part of the $15,000.00 was ever paid by E.AJ.

Despite Adams' contentions that the agreement between E.A.I. and the Kriss' was rescinded, it is clear that he on behalf of E.A.I. assumed responsibility for the conduct of the affairs of that company. He did so with knowledge of the circumstances which he was later to maintain entitled E.A.I. to rescind its agreement with the Kriss'. Moreover, by July 1970 it was apparent that Cambridge was unable to meet its liabilities. Maurice Kriss was pressing for payment of the amounts due under the

Cambridge Insurance Company Pty. Ltd.

Cambridge Insurance Company Pty. Ltd.

Lutine Marine and General Insurance Co. Pty. Ltd.

28

agreements which Adams had made on behalf of E.A.I. with him and in a letter dated the 8th July 1970 from Adams to the solicitors acting on behalf of Kriss the following paragraph appears:-

"You may or may not know that in any case a petition for winding up Cambridge Insurance Company Pty. Ltd. has been presented to the Court and that it is presently adjourned until 28th July 1970 by which time certain creditors must be satisfied and certain evidence placed before the Court as to the method of financing the company for its salvation. Up until this date we have made no reference to the warranties that Mr. and Mrs. Kriss made in relation to the premium income and the outstanding claims of both Norfolk Insurance Company Pty. Ltd. and Cambridge Insurance Company Pty. Ltd. at the date we took over the register of the first company and the shares of the second. Your client will be ill advised, at this stage, to upset the efforts which this company is making to ensure the proper rehabilitation of Cambridge Insurance Company Pty. Ltd. in all States to prevent its liquidation. If it was liquidated any indemnity which we gave to your client would be of no avail in the event of a thorough investigation which no doubt the liquidator would institute immediately the books and records of the company were placed in his hands. Whilst we appreciate that there are obligations on our part to your client, his need for money must be tempered with an understanding of the necessity that East Australian Insurance Company Ltd. must write the affairs of Cambridge Insurance Company Pty. Ltd. as a matter of first importance ".

Inevitably, an order was made in the Supreme Court of New South Wales for the winding up of Cambridge. The order was made on the 28th July 1971. Norfolk Insurance Company Pty. Ltd. and Cambridge Insurance (S.A.) Pty. Ltd. have not gone into liquidation.

LUTINE MARINE AND GENERAL INSURANCE CO. PTY. LTD. On the 18th May 1970 Adams on behalf of E.A.I. entered into agree­

ments for the purchase of the whole of the issued shares in Lutine Marine and General Insurance Co. Pty. Ltd. (Lutine) for the sum of $200,000.00. Lutine, a Western Australian company, was formerly called F. J. McCahon and Associates Pty. Ltd. and had been incorporated in the year 1968. 1001 of its issued shares were held by Frederick James Vaughan McCahon and the remainder, 601 shares, were held by his wife Ishbel Sinclair McCahon. Lutine acted both as an insurance broker and underwriter. As its name suggests, a substantial proportion of its insurance business consisted of the underwriting of the marine risks. The insurance of motor vehicles con­stituted only about 37% of its insurance portfolio. Its premium income was invested almost entirely in interest bearing loans. These loans were made either directly or through another company, Glenrock Finance and Invest­ments Pty. Ltd. which was controlled by McCahon. In many cases indivi­duals to whom loans were made were engaged in the fishing industry. Bills of sale were used to secure the loans and generally speaking the borrowers were required to agree to place their insurance business through Lutine. During its first nine months of business ended the 30th June 1968, Lutine made a net loss of $8,055. 10. In the subsequent year ended the 30th June 1969 its books show a net profit before taxation of $45,353.57. Its premium income for that year was $166,135.00. Its balance sheet as at the 30th June 1969 was as follows:-

LIABILITIES.

1968 AUTHORISED CAPITAL: 10,000 shares of $10. 00 each $100,000.00

ISSUED AND PAID UP CAPITAL: 1,602 shares of $10 . 00 each .. 16,020.00 Profit and Loss Account 10,845.47

(2035) Shareholders Funds $26,865.47 PROVISIONS:

42360 Unexpired Risks 110,789.00 17800 Losses Outstanding 22,250.00

Taxation 13,888.00 Proposed Dividend 12,565.00 159,492.00

365 F. J. McCahon 365.08 2176 Deferred Liability ..

6066 $186,722.55

1968 18789

11 5859

7079 1665

8744 945

7799

2448 25460

300

60666

CURRENT ASSETS: Cash at Bank Petty Cash Sundry Debtors

29

ASSETS

FIXED ASSETS: At cost. Motor Vehicles Office Furniture

Less Provision for Depreciation

23,941.70 15.57

44,120.58

6,615.45 2,034.08

8,649.53 1,391.00

INVESTMENTS: Listed on a Stock Exchange at cost (Market Price 30/6/69 $6,180) Prepayments INTEREST BEARING LOANS: PRELIMINARY EXPENSES:

68,077.85

7,258.53

6,835.42

104,250.75 300.00

$186,722.55

This is the balance sheet referred to in our report dated 9th February, 1970.

WALTON DONOVAN & CO. Chartered Accountant. 9/2/70.

Because of the short period during which the company had been carrying on business and the impossibility in my investigation of assessing the security behind the interest bearing loans, I am unable to say what, at the time E.A.I. acquired the shares in Lutine, the future of the latter company might reasonably have been predicted to be. However, it seems probable that it was in a much healthier position than the other companies acquired by E.A.I. and the evidence before me made it plainly apparent that it had been run in a much more business like and efficient manner. Whether the price of $200,000. 00 which E.A.I. agreed to pay for the shares was justified or was too much I am unable to say.

The total price of $200,000. 00 for the shares in Lutine was payable by a total deposit of $75,000. 00 and monthly instalments of $4,000. 00 together with interest upon the unpaid balance at 5 per cent. per annum adjustable monthly. The payment of the balance of the purchase price was secured by way of mortgage over the shares in the company.

Of course, E.A.I. was in no position to raise the $75,000.00 for the payment of the deposit. Nor did it do so. It was a term of the agreements for the sale of the shares that:-

" The vendor shall simultaneously with the execution hereof cause Glenrock Finance and Investments Pty. Ltd. to repay to the said company (Lutine) by bank marked cheque all moneys due and owing by the said Glenrock Finance and Investment Pty. Ltd. to the said company agreed at FIFTY THOUSAND DOLLARS ($50,000. 00) inclusive of interest and all other charges (if any)."

This payment of $50,000.00 was made. On the 21st May 1970 two cheques totalling $75,000.00 were drawn on the account of E.A.I. with the Australia and New Zealand Bank Limited in Perth and handed to the McCahons. The two cheques were necessary because $65,000. 00 was due to McCahon in respect of his shareholding in the company and $10,000.00 was due to his wife in respect of hers. The funds to meet the two cheques were provided in the following way. On the same day, the 21st May 1970, Lutine by means of two bank transfers, deposited $70,000.00 in E.A.I.'s account with the Australia and New Zealand Bank at the same branch in Perth. Before this transaction took place E.A.I.'s account was in credit in the sum of $139.74 and after the two cheques totalling $75,000. 00 were met and several other small deposits the balance was a debit in the sum of $4,670. 32. It is, therefore, clear that Lutine financed the payment of the deposit from the purchase of its shares to the extent of $70,000. 00. Thereafter E.A.I. paid the monthly instalments as they fell due but again it appears that these payments were largely, if not wholly, made with moneys provided by Lutine. With the collapse of E.A.I. default was made under the two agreements securing the payment of the balance of the purchase price of the issued shares in Lutine and, pursuant to the terms of these agreements on the 12th November 1970 a receiver of the shares was appointed.

Lutine Marine and General Insurance Co. Pty. Ltd.

Lutine Marine and General Insurance Co. Pty. Ltd.

Underwriting Policy of E.A.I.

30

The inability of E.A.I. to find the funds to pay for the purchase of the issued shares in Lutine from proper sources demonstrates sufficiently the financial irresponsibility involved in the purchase. Bearing in mind E.A.I.'s situation at the time of the purchase, the irresponsibility becomes reck­lessness when one has regard to a clause in the agreements for the sale of the shares whereby E.A.I. undertook before the 1st October 1970 to :-

"Cause all or any securities in the name of the Vendor and which are currently supporting a guarantee to the Federal Treasurer in respect of the bond for the said Company to be released and freed from all encumbrances."

The securities referred to were supporting a guarantee for over $30,000.00 and, in effect, E.A.I. had promised to find within a period of some five months securities which could be substituted to support the guarantee.

One other comment should be made about the purchase of the issued shares in Lutine. The financial instability of E.A.I. and of Adams himself ought to have been evident at the time of this purchase. McCahon gave evidence that he made some enquiries about E.A.I. and Adams, but received no information which aroused his suspicions. This was all the more surprising because, as will appear later, Adams had been involved at this time in a number of proceedings in the Bankruptcy Court. However, in negotiations for the purchase of the shares, Adams himself told McCahon that E.A.I. had a paid up capital of $100,000 in order to establish the financial standing of the company. McCahon asked to see a balance sheet of E.A.I. which was not forthcoming because, of course, there was none and McCahon apparently content to accept Adams' word.

The evidence establishes, I think, that the administration of the inter­state offices of E.A.I. and of Lutine was generally far more efficient than the administration of the head office in Melbourne. But the success or failure of the interstate offices' activities was dependant upon the necessary assistance being given from Melbourne and the ability to give that assist­ance was in turn dependant upon the success of E.A.I.'s Victorian operations. By the beginning 'of 1970 the dangerous situaUon which E.A.I. had reached in Victoria ought to have been evident to those in control of the company. That situation progressed to one of complete chaos by about the middle of the year.

UNDERWRITING POLICY OF E.A.I. Because of the high claims ratio in the insurance of motor vehicles,

the proper underwriting of risks is essential for the success of any business in that field. There does not appear to have been any real attempt to establish a proper underwriting policy in E.A.L, but, in any event, the employment of certain insurance brokers would have made the implemen­tation of any sensible policy impossible.

One employee of E.A.I. who gave evidence before me and whose evidence appeared to me to be reliable, Peter Edmund Ryder, had had previous experience of motor vehicle insurance with the Provincial Insurance Company Ltd. in Sydney. He joined E.A.I. in Sydney in November 1969 but eventually came to Melbourne and in May 1970 became the officer manager of E.A.I. His evidence was that at the time he became officer manager, E.A.I. had no underwriting policy; it just took whatever business it could get. Although Ryder attempted to introduce an under­writing policy upon becoming office manager, it was too late and, in any event, he received no assistance from those in control of the company, namely, Adams and Gower. Of Adams, Ryder said :-

" Well, he wasn't an insurance man and when I tried to speak to him about insurance it was just like talking to the wall, because he didn't understand insurance. If I went to him and told him that­as I did-that I was concerned about, for example, the number of drivers under 21 we were taking with very poor claims experiences, previous claims experiences, it didn't seem to make sense to him."

Proper underwriting was made impossible by instructions which were given that in the case of three major brokers through whom E.A.L dealt, risks were not to be rejected but all business was to be accepted. The three major brokers were International Insurance Brokers Pty. Ltd. (LLB.), C. W. Welch and Chartwell Insurance Brokers. A substantial proportion of E.A.I.'s business came through LLB. and because of the methods which it employed it is necessary to make some remarks about it.

Ultimately LLB. failed and went into liquidation on the 4th September, 1970. At the time it went into liquidation E.A.L claimed that LLB. owed it a considerable sum of money, namely, $42,896.48 by way of premiums received on behalf of E.A.L A considerable sum of money had been owed by LLB. to E.A.I. for a number of months, thus contributing very directly

31

and materially to the failure of E.A.I. However. the dealings of E.A.L with LLB. were a cause of E.A.I.'s failure in another and, perhaps, more sub­stantial way.

LLB. was incorporated on the 17th April 1968 with a paid up share capital of $4.00. The shareholders were Paul Edward Watt, who was the moving force, and his father. Watt is aged 25 years and reached the educational standard of second year at High School. After leaving school he had a variety of jobs, mainly in factories, and then for a time was a junior waiter in an hotel. After some experience for a short while in the insurance business as an employee, Watt commenced business on his own account and formed LI.B. for this purpose.

Within a short time LLB. built up an extensive business by advertising the insurance of motor vehicles at cheap rates and by the employment of salesmen trained in a particular technique of selling insurance. Because of the need to offer cheap rates, the companies with which LLB. could deal were limited and prominent amongst them were M.P .1., Cambridge and E.A.I. Eventually M.P.I. raised its premium rate and LLB. ceased to deal with that company.

The commission which LLB. received from E.A.L was at the rate of 20 per cent. upon policies arranged through LLB. This was a relatively high rate, being more than would be paid by more established insurance companies, but it was not necessarily excessive. However, it was not entirely upon commission that LLB. depended for its income in relation to policies effected with E.A.I.

As a result of exten'sive advertising of motor vehicle insurance at cheap rates, members of the public would make enquiries of LLB. The practice followed by LLB. was that in response to an enquiry a salesman was sent to visit the enquirer. The salesman, upon the pretext of checking the enquirer's entitlement to a no-claim bonus, asked for the production of the renewal notice from the insurance company with whom the enquirer was already insured. From this notice the salesman learned the premium paid in the past and he then offered insurance at a lesser premium rate. That rate was not necessarily the rate at which the insurance company with whom the policy was to be effected would charge by way of premium. It may have been, and I am satisfied was on many, if not most, occasions, considerably more. A proposal form was then filled in by the salesman upon which at the top appeared the figure quoted by the salesman as being " premium, including stamp duty and other charges ". The proposal form containing the relevant figures was headed with the name International Insurance Brokers Pty. Ltd.'' and contained no reference to the insurance company to whom the proposal was ultimately to be made. That proposal form was completed in duplicate and returned to the office of LLB. There the top portion, upon which the figure quoted to the proposer was written, was cut off the original and the correct premium charged by the company to whom the proposal was to be sent together with the correct figure for stamp duty was filled in upon the body of the document. A cover note was issued to the proposer by LLB. on behalf of that insurance company and the original proposal with the portion I have mentioned removed was forwarded to that company. The duplicate proposal form intact and showing the amount quoted to the proposer by the salesman was retained by I.I.B. as its record. The amount by which the figure quoted to the proposer exceeded the premium actually charged was, if a policy was effected, shared between LLB. and the salesman in the portions of two-thirds and one-third.

By 1970 the business of LLB. had reached substantial proportions, but those in control realised that the bonanza would not continue. As Watt said in evidence : -

"You see we grew very rapidly, and things were going along quite well, we were pulling in business at the rate of, I think around 400 proposals a week. Of our type we would have been the largest brokers in Australia, but you see we could see the problem looming. We knew they were financially weak, these companies, and we could see that some the-the way they were handling certain problems and handling the running of the company, left a bit to be desired, you see, so we thought, ' this is not good, our exposure here, from our point of view and our company's point of view is not good. These companies have to run into trouble ".

The solution adopted by Watt was to form another company, Oxford Insurance Company Pty. Ltd. (Oxford) . It was incorporated in the Australian Capital Territory on the 7th April 1970. Again, Watt and his father were shareholders although it was proposed to issue shares to two other persons who were to be employed in a managerial capacity. Watt

Underwriting Policy of E.A.I.

Underwriting Policy of E.A.I.

32

and his father sold their shares in LLB. to Oxford for the sum of $200,000. 00 and the purchase price was satisfied by the issue to them of 200,000 $1.00 shares in Oxford. I.I.B. thus became a wholly owned subsidiary of Oxford.

I.I.B. continued to act as an insurance broker but was, of course, concerned to ensure the success of Oxford.

As I have said, the selection of the insurance company with whom a policy was to be effected was made by LLB. in almost every case. The proposer either did not care with whom he was insuring or thought that he was insuring with LI.B. After the formation of Oxford an attempt was made to ensure that the better risks were insured by Oxford leaving the remainder to E.A.I. The evidence given before me indicates that in relation to most if not all proposals for motor vehicle insurance dealt with by I.I.B. after the formation of Oxford, a cover note was issued by I.I.B. for 30 days and was sent to E.A.I. Insofar as E.A.I. was intended to be the insurer, this was not an abnormal practice and ordinarily a proposal would have followed in most cases. However, no proposal was sent where Oxford and not E.A.I. was intended to be the insurer and E.A.I. was thus at risk for one month out of twelve in those cases although it received no part of any premium. Moreover, there were occasions upon which claims were made in respect of the period of 30 days covered by the cover note after a proposal had been forwarded to Oxford by l.l.B., but before any policy had issued. In those cases it appears that the proposal was pulled out of the records of Oxford because the claim indkated a bad risk, and was forwarded to E.A.I. As one witness, an employee of E.A.l., said:-

" I would say that the substantial proportion of their (i.e., Oxford's) motor vehicle business was on cover note. This business that was proposed, that the best of the business should be written to Oxford Insurance eo. but should a claim occur within one month . . . within 30 days, in fact East Australian received it. For half to two-thirds of these cover notes East Australian never received a proposal-in other words the proposal went to Oxford Insurance eo. and East Australian were one month at risk out of twelve for no consideration. We were collecting all the claims on every cover note that occurred and we received proposals on every one of those and for the balance, they went to Oxford, so in fact Oxford had received a month off risk free of charge."

In addition to the ramifications of the methods described above, it is apparent that the salesman employed by I.I.B. who received a commission on a sliding scale plus a proportion of the amount, 'Called " overs ", charged in excess of the actual premium, were likely to have been less meticulous than might otherwise have been the case in ensuring that the correct answers were given by the proposers in the proposal forms. There was some evidence of this in that persons making claims were asked the same questions as were contained in the proposal forms and on a number of occasions their answers to the same questions were quite different.

Another broker, Insurance Associates Pty. Ltd., which dealt with E.A.I. did not even obtain a proposal signed by the proposer. It used a form of its own which was signed by one of its employees or representatives. Obviously this system also was unlikely to provide any basis for sound underwriting.

By a letter dated the lOth July 1970 from Adams to Watt, E.A.I. indicated that it could not continue to underwrite I.LB.'s motor vehicles proposals "on the present basis". This letter indicates that Adams was aware of I.l.B.'s methods of doing business. The reasons given by Adams in the letter for the change in relations with LLB. are of relevance and are as follows : -

" The claims ratio on the motor vehicle, as you may know, is high and there has been some doubt in the past as to whether a few of them should have been afforded indemnity. If an underwriter refuses to indemnify the client of a broker it can cause unhappiness and ill will unless there is a close understanding between the two organisations.

My thoughts up to date have been to go along with your company's loaded rates both to assist ourselves and also you, and to go along with your issuing your policies. However, I feel that this must now stop and I should like the practice to cease as from 1st August 1970.

If you choose to continue to place business with us, it must be for the premium which you charge and no other. We must issue our own policies instead of just the schedules, and our schedules must be on our policies and sent out to the client.

33

I realise that this may cause you to question the value of continuing to place business with us, but this is a risk that we are prepared to take.

I want you to know however, of my good wishes and my hope that you will continue to send us business on the basis of our receiving the full premium that you charge.

Perhaps you could give me a ring sometime and we could have some lunch and discuss our mutual interests."

The reference to the issue of policies by I.I.B indicates that what LLB. sent to the proposer when his proposal had been accepted by E.A.I. was not an insurance policy issued by E.AJ., but a policy which LLB. itself purported to issue showing, of course, not the premium charged by E.A.I., but that which the proposer had agreed to pay LLB. What was sent to LLB. by E.A.I. was a schedule indicating that the proposer was insured. The pains to which LLB. went to ensure that the proposer, who became the insured, never knew the premium actually paid for his insurance, makes quite plain the deception involved in its activities. E.A.I. through Adams, was, as appears from the letter of the lOth July 1970 aware of the deception.

RECORDS KEPT BY E.A.I. As I have said, the financial records of E.A.I. are thoroughly unsatis­

factory. Speaking generally, the system which the company appears to have intended to follow at its head office in Melbourne was based upon the operation of bank accounts of three separate kinds, namely, a general or operating account, a claims account and a statutory reserve account. The operating account was to be the account into which premium income would be paid and from which administrative expenses would be met. From the operating account funds were to be paid into the claims account in order to meet claims and into the statutory reserve account in order to meet calculable taxes and charges such as stamp duty, receipts duty, sums due to the Metropolitan Fire Brigades Board and payroll tax. Although E.A.I. used different banks, by far the largest proportion of the company's banking was carried out with the C.B.A. at its branch at 70 Collins Street Melbourne. Whatever the theory under­lying the establishment of the various accounts, the actual separation of moneys to meet different categories of liability was not carried out in practice. Moneys were, it seems, often paid from the account which was the most convenient (usually because it was in funds) irrespective of the nature of the payment. The banks, of course, treated the company as one " connection " and had regard to all of the accounts with a particular branch in assessing its financial position. Moreover, because Adams in establishing and running E.A.I. relied upon the financial resources of his wife, her grandmother and her mother, the C.B.A. at 70 Collins Street regarded these persons as well as Adams himself and Gower and Adams Pty. Ltd. as part of the one connection for banking purposes. Indeed, Mrs. McDonald, the grandmother of Adams' wife, was a long-established customer at that branch and this, together with his wife's association with it, was probably what led Adams to commence banking operations there. From the records of the C.B.A. at 70 Collins Street it is possible to get a clear picture of the financial resources of Adams and E.A.I. available from time to time by way of bank funds and I shall later refer to these records.

Returning to the internal records, such as they were, of E.A.I., it is apparent that whatever efforts were made at the beginning to establish a system, there was a deterioration in accounting methods as the company expanded its operations. Jordan-Hill, an employee with some accounting experience in the field of insurance, replaced the original bookkeeper of the company, Mrs. Martin, on the 22nd September 1969 and found the accounting system which had actually been employed to be thoroughly unsatisfactory. He described his function in the company as being:-

" Purely to keep the records of just the general books up to virtually trial balance stage . . . and the company's secretary, as I supposed, was to do the complete and final accounting ".

The company's secretary, Miss Joy Taylor, resigned in June 1970 in circumstances which I shall relate. Jordan-Hill upon arrival attempted with some unskilled assistance to set about a reconstruction of the books of the company since inception, but this task was never completed. Miss Taylor attempted to write up a journal and ledger from information supplied by Mrs. Martin and Jordan-Hill but was never able to obtain sufficient verification of her figures to prepare more than a tentative profit and loss account and balance sheet as at the 30th June 1969. No other profit and loss account or balance sheet, tentative or otherwise,

7895171.-3

Underwriting Policy of E.A.I.

Records kept by E.A.I.

Records kept by E.A.I.

34

was ever prepared and no auditor of the company's accounts was ever appointed and the accounts were never audited. So far as the year ended the 30th June 1970 is concerned, the financial records of the company are insufficient to enable accounts to be prepared to which an auditor could properly give his certificate.

Miss Taylor at an early stage felt exasperation in attempting to carry out properly the duties of secretary of the company. By a letter dated the 31st July 1969 she purported to tender her resignation saying that:-

" Despite various requests for the company's records and accounts, I am still totally unaware of any matters relating to this company."

However, she continued to act as the secretary of E.A.L for almost a year. On the 6th August 1969 she wrote a letter to the directors of E.A.L complaining of irregularities which had come to her notice during the preparation of the accounts of the company. The letter was as follows:-

" I enclose first draft accounts which will require adjustment, once the further details are established as required on my attached list. However, all of these matters should not materially affect the final accounts.

Arising from the preparation of these accounts, there are various matters which should be brought to the attention of the Directors and acted upon immediately-

!. In view of the provisions of the Companies Act 1961, I am concerned that many payments are made direct from the Com­pany's bank accounts in relation to personal affairs of its Directors and employees. I refer in particular to:-

(a) Rest and Be Thankful Restaurant (b) M.B.A. (Credits) Pty. Ltd. (c) Mr. M. J. Adams (d) Mrs. M. A. A dams (including M. A.

Gibsons Stables) (e) Gower and A dams (f) Mr. A. Jobe

$1,975.00 97,136.00

991.00

362.00 1,154.00

96.00

The steps I recommend should immediately be taken as follows:­(i) so far as possible these accounts should be repaid

immediately. (ii) such loan accounts should bear interest at 8% per

annum adjustable quarterly. (iii) no future payments of this nature should be made.

If the Directors agree that a loan should be made to any Director, employee, or a Company associated with a Director or employee, this should be discussed and confirmed at a meeting of Directors, together with interest and repayment requirements. Such a loan can then be used by the person or company concerned to pay direct their own liabilities. I repeat that pay­ments for personal matters must not be made direct by a public company. This also applied to payments on 43 Close Street, South Yarra.

(iv) concerning the loan account of Mr. M. J. Adams of $991.00, I note that Mr. Adams is owed wages totalling $1,223.00 by the Company. I strongly recommend he should authorise payment of his loan account out of the sum owed as wages. (This also applies for the $6.00 wages owed to Mrs. M. A. Adams.)

(v) The amount of $1,154.00 owing by Gower and Adams should also be clarified.-Mr. Gower is personally owed $1,071.00 for wages, and has contributed $2,300. 00 to the Company. The question of share allotment to Mr. Gower should be resolved, or alternatively, interest payable on his loan account.

(vi) I understand the Rest and Be Thankful Restaurant is owned by M.B.A. (Credits) Pty. Ltd. so the total amount owing by this Company is $99,111.00. In my opinion we are presently misleading the public, as the Company's office records show paid capital of $100,000.00 when in fact this was immediately paid back by way of loan to M.B.A. (Credits) Pty. Ltd.

35

While loans to Directors, Shareholders and employees have to be clearly shown in the balance sheets, accounts are not required to be lodged with the Registrar of Companies until after the first annual general meeting of the Company, which need not take place until late 1970.

This is the major item which should be resolved, interest payable and when the loan is repayable. I also understand, from Mr. Adams that M.B.A. (Credits) Pty. Ltd. paid the $20,000 Treasury Bond. Presumably the payments of $3,730.00 to Mrs. McDonald were in reduction of a debt due to her from M.B.A. (Credits). If so, the amount of $99,111.00 owing by M.B.A. (Credits) Pty. Ltd. will thus be reduced by $16,270.00.

2. While certain amounts have been transferred tu the reserve accounts, these are immediately depleted by various payments for wages, to creditors and to loan accounts. A firm policy should be established as to minimum requirements and operations of the reserve account as the Company would at present be in difficulty if any major claims were payable.

3. Stamp Duty should be transferred monthly to a separate reserve account, and left intact until payable.

4. All payments on behalf of the Company should be supported by detailed vouchers. While I have not inspected these such items as travelling expenses and petty cash items appear not to have been supported by a voucher.

5. I understand there were certain items of furniture etc. supplied by M.B.A. (Credits) Pty. Ltd. If so, a detailed mvoice should be supplied and included in the accounts for year ended 30th June 1969.

6. Finally the apparent ability of the Company to meet its liabilities is OF GREAT CONCERN AND SOME IMMEDIATE ACTION SHOULD BE RESOLVED IF YOU INTEND THE COMPANY TO CONTINUE OPERATIONS. This combined with the present haphazard methods of paying accounts not related, to Company matters and virtually holding no reserve accounts, leaves the Company and particularly its Directors in an extremely vulnerable position.

I hope the Directors will agree with my comments and immediately take steps to act on my suggestions and requirements. I have to add that I could not continue to act as Secretary if some definite changes are not made forthwith; you will appreciate that I cannot carry out my duties and accept the responsibilities of a Company's Secretary if I do not have the co-operation of the Directors in properly managing the financial affairs of the Company. In this regard, I recommend that bank signing arrangements should be altered to require the signatures of any two Directors or one Director countersigned by the Secretary. For convenience, perhaps an imprest account could be opened with a minimum of say $500. 00, to be operated on, only in emergencies, and this account could require signature of one Director countersigned by an employee.

Also, a monthly board meeting should be held at which financial statements should be submitted and any other matters can be resolved.

I also require assurance from you that accounts covering my services, and the services of my firm will be paid on a strictly monthly basis. At this stage, we have not received any payments for the months of April, May and June 1969 and the July account will be forwarded within a few days."

This letter does not appear to have achieved the result intended and, indeed, the administration and recording of the financial affairs of the company became, if anything, worse.

Miss Taylor continued to raise queries from time to time. At a meeting of the Board of Directors of E.A.I. held on the 23rd August 1969 at which Adams and Gower were present she queried the investment of E.A.I.'s premium income with M.B.A. (Credits) . There is a note in the minute that:-

" The Chairman assured the Secretary that this investment was adequately secured, that M.B.A. (Credits) Pty. Ltd. had recently sold 'The Rest and Be Thankful Restaurant' it owned four motor vehicles and also property which would eventually realise a considerable profit. It was agreed that 8% per annum interest would be charged to M.B.A. (Credits) Pty. Ltd. such interest to be payable quarterly on the balance at the beginning of each quarter."

Records kept by E. A. I.

Records kept by E.A.I.

36

This assurance was plainly untruthful. The only sale of the " Rest and Be Thankful Restaurant " was to B.B.I. and that sale was much later and was anything but security for the investment of moneys in M.B.A. (Credits). The only motor vehicles which M.B.A. (Credits) possessed were being purchased upon hire purchase terms and were used by E.A.I. M.B.A. (Credits) owned no property which would realise a considerable profit. Interest was not charged at 8% by E.A.I. upon the amount owing by M.B.A. (Credits) in that no amount representing interest was ever paid and the books of neither company were entered up for the relevant period to indicate any such charge.

At the same meeting, Miss Taylor expressed concern that E.A.I. should have lent money to its directors when it was obviously having difficulty in paying its creditors promptly. Adams explained that the salary he was then drawing was entirely inadequate for his efforts in promoting the company and the amount of his loan account drawings was relatively insignificant. It was agreed, however, at that meeting that the amount of salaries outstanding to Adams and his wife as at the 30th June 1969 should be applied in reduction of their loan accounts. Miss Taylor further complained of the practice followed by Adams of simply having the company pay his personal expenses and those of his household from the company's funds. It was agreed that the company would continue to advance sums to Adams but that such advances would not exceed $8,000. 00 in total and that interest at 8t% per annum would be payable by Adams on the 30th June each year. At the same meeting it was agreed that payments which the company had been making in respect of an own-your-own flat at 43 Clowes Street, South Yarra should be discontinued. These payments were apparently by way of rent which was payable in respect of the flat before arrangements for its purchase by Adams' wife were finalised. It was agreed that the payments already made should be debited to the loan account of Mrs. Adams. The flat was used as the matrimonial home for Adams and his wife before they shifted to Kenilworth.

At the same meeting on the 23rd August 1969 Miss Taylor pointed out that it was imperative that adequate reserve accounts should be set aside for claims and stamp duty. She observed that some amounts were transferred to the reserve accounts but noted that these funds were continually drawn upon to meet operating expenses of the company. Adams stated that he was arranging for all amounts held for stamp duty to be transferred to a separate reserve account and pointed out that there was no statutory requirement that minimum reserves be set aside for claims. It was agreed however that the company should work towards setting aside to a reserve account 40o/o of its gross premium income. The figure of 40% appears to be plucked out of the air unless by some confusion of mind it was thought to be appropriate because it was the percentage allowed by the Commissioner of Taxation to be set aside as unearned premium income in any one year. Of course, the ratio of claims to premiums and the proportion of premium income which is unearned at any particular point of time are two entirely different considerations. Both Gower and Adams at this meeting assured Miss Taylor that the matter of reserve accounts would receive their immediate attention although they said that reserve accounts could not be put into operation until the initial operating expenses were recovered by the increasing premium income.

Miss Taylor at the same meeting expressed her concern that the accounting records of the company appeared to be not entirely satisfactory. Gower advised her that a Remington accounting machine costing $5,600. 00 was on order and should be operating effectively from the 1st October 1969. It was resolved that this machine be financed through Esanda Ltd. on the basis of 25% deposit, and the balance being payable over five years. The machine does not appear to have eventuated.

Miss Taylor told Gower and Adams at the same meeting that an auditor should be immediately appointed to verify the accounts prepared to the 30th June 1969 because for the purpose of the draft accounts submitted she had relied on the records entered and information supplied by the company's staff. Adams said that he would decide which firm should be appointed as auditors and notify Miss Taylor in due course. As I have said, no auditor was ever appointed. Not only did Miss Taylor and, subsequently, Jordan-Hill complain of the inadequacy of the accounting procedures employed by E.A.I. but even Mrs. Martin, the bookkeeper who resigned on the 29th August 1969, pointed to the shortcomings of certain procedures in a letter to Gower dated the 30th August 1969. A copy of this letter was sent to Miss Taylor.

37

The tentative balance sheet and profit and loss account for the year ended the 30th June 1969 which were prepared by Miss Taylor are as follows:-

EAST AUSTRALIAN INSURANCE CO. LIMITED.

BALANCE SHEET AS AT 30 JUNE 1969.

Authorised Capital: 1,000,000 ordinary 50 cent shares-$500,000.

Assets:

Current-Bank accounts Employees' advance accounts Debtors Stationery on hand (at cost)

Fixed-(at cost) Falcon car Furniture and fittings Carpets Office machines ..

Less: Provisions for depreciation

Investments-M.B.A. (Credits) Pty. Ltd. (8%) Treasury Bond

Prepayments-Hire purchase charges Legal expenses re Lease

Intangible-Formation and promotion ex­penses

Total Assets­Less: Liabilities.

Current-Bank Overdraft Esanda Limited-car liability Creditors Stamp duty held .. Advance premium account .. Provision for holiday pay ..

Deferred-Shareholder's loan account-

L. M. Gower $2,300 Esanda Limited

liability car

711

$1,062 1,639 1,752 2,000

1,400 2,639

849 555

5,443 71

$208 210

$13,069 711

6,014 255

5,857 600

$26,506

3,011

$6,453

5,372

$11,825

78,565 20,000

418

3,355

$114,163

29,517

Net Assets: $84,646 These assets are represented by shareholders' funds as follows:­Paid-up capital-

200,000 ordinary 50 cent shares Less: Profit and Loss Appropriation Account

Total shareholders funds:

$100,000 15,354 Dr.

$84,646

Records kept by E.A.I.

Records kept by E.A.I.

38

EAST AUSTRALIAN INSURANCE CO. LTD.

PROFIT AND Loss ACCOUNT FOR PERIOD ENDED 30 JUNE

Premiums Received Less: Advance Premium Account (average 11 months)

Less: Expenses-Accountancy and Secre-

tarial services $238 Advertising and Enter-

tainment 168 Consulting fees 600 Claims paid 86 Commission paid $483

Less: Advance pre-miums proportion .. 440 43

Depreciation (as per schedule) 71

Hire purchase charges .. 9 Interest & bank charges 78 Leasing-Cars $265

Office equipment 425 690 Motor and travelling

expenses 1,057

$3,040 Office expenses and

maintenance 182 Printing stamps and

stationery $2,519 Less: On hand 30 June

1969 2,000 519

Rates 114 Receipt duty 124 Rent 846 Salaries 9,723 Subscriptions 45 Staff amenities and

placement 171 Telephone and electricity 562

Net Loss: transferred to Profit and Loss Appro-priation Account

PROFIT AND LOSS APPROPRIATION ACCOUNT 1968/69 June 30 Net loss for period ended 30 June 1969

Add: Provision for holiday pay

June 30 Balance cfwd.

EAST AUSTRALIAN INSURANCE CO. LIMITED

30 June 1970.

1969.

$6,869 6,297

$572

---$572

15,326

$14,754

$14,754 600

$15,354 Dr.

Paid-up Capital comprises 200,000 ordinary 50c. shares held by:­

Michael John Adams Jonathon Norman David Welsh Marion Ann Adams M.B.A. Pty. Ltd. M.B.A. (Credits) Pty. Ltd. Leslie Malcolm Gower

Total number of shares issued:

No. of shares 5,001

1 1 1

194,994 2

200,000

39

Miss Taylor had, by the 2nd June 1970, had enough. In a letter of that date which she wrote to Adams she said:-

"I refer to the letter dated the 15th May 1970 from the Controller of Stamps handed to me by Mr. F. D. Armer, Solicitor, ;and advising that the annual licence has not been renewed.

Upon communication of this matter to your accountant, Mr. Jordan Hill, I was informed that the documents were completed and the relevant cheque signed on the 23rd April 1970, and that the only delay in this matter was completion by you of the required Statutory Declaration. I have been informed today that you have still not attended to this matter.

I refer you to my letters of the 15th December 1969, the 18th February 1970 and the 26th March 1970 wherein you were reminded to have this matter attended to by the due date. I also refer to the minutes of meeting held 7th April 1970 when I was assured this matter was in hand.

I also refer to the minutes of the meeting held on 7th April 1970 and my letter of 1st June 1970 concerning the appointment of an Auditor. This is another serious matter which has been left unattended and where I have received no co-operation from you.

In all these circumstances, and as I have no control over matters which effect my position as Company Secretary, I have no alternative but to resign as Company Secretary. A letter of resignation is attached hereto, and I will notify the Registrar of Companies accordingly."

The account of the meeting of the Board of Directors of E.A.I. held on the 23rd August 1969, I have taken from miuntes which were apparently prepared by Miss Taylor and which were contained in her file relating to E.A.I. It is significant that these minutes do not appear in the minute book of E.A.I. nor is there any other reference to this meeting.

THE RELATIONSHIP BETWEEN ADAMS' PERSONAL FINANCES AND THE FINANCES OF E.A.I. AND M.B.A. (CREDITS)

Adams made full use of his wife and her family in obtaining funds for his purposes and for the purposes of E.A.I. In addition to the proceeds from the sale of the private hospital which secured to the extent of $17,000.00 the bank guarantee required under the Insurance Act 1932-1966, Mrs. McDonald and Mrs. Wells, Adams' mother-in-law, owned a house property at 595 Burke Road, Camberwell. Adams' wife who was interested in horse racing, as was Adams, had been provided by her grandmother with funds to pay the deposit upon a property consisting of a house and stables at 108-110 Lower Dandenong Road, Mordialloc. The latter property was purchased before Adams' marriage to his wife. Mrs. Wells had two other children, a girl, Shuan and a boy, Steven. Mrs. Wells, the two children and the grandmother lived together in the house in Burke Road, Camberwell.

Mrs. McDonald together with her daughter, Mrs. Wells, and her granddaughter, Adams' wife, guaranteed payment of the total overdraft liability of E.A.I. to the C.B.A. The whole of the property of the family was used as supporting security. A second mortgage was given over the family home at 595 Burke Road, Camberwell. Adams' wife gave a third mortgage over the property at 108-110 Lower Dandenong Road, Mordialloc and a second mortgage over the property at 43 Clowes Street, South Yarra.

Quite apart from his activities with E.AJ. and M.B.A. (Credits). Adams' business dealings had resulted in his being hardpressed by creditors, including the Commissioner of Taxation. On the 20th March, 1969, Adams was served with a bankruptcy notice by Pierre Mann & Associates, one of his creditors, and later with a petition for his bankruptcy. Between April 1969 and September 1969 Adams was in and out of the Bankruptcy Court with some frequency settling debts at the last moment only to have one creditor replace another as a petitioning creditor in the proceedings. He was fully aware that a declaration of his bankruptcy would preclude his acting as a director of a company and must have regarded his personal financial situation during 1969 as serious. In the file kept by Miss Taylor there is a note made by her in her own handwriting which is headed " East Australian Insurance Co. Ltd. 1/7/69 4.45 p.m." That note is as follows:-

" Michael Adams advised he ignored some of his personal debts in order to provide funds for East Australian Insurance Co. Ltd. Several creditors obtained judgments and one issued a bankruptcy notice which Mr. Adams ignored. The creditor then issued a creditors petition which the Court adjourned to 7th August 1969

Records kept by E.A.I.

The Relationship between Adams' Personal Finances and the Finances of E.A.I. and M.B.A. (Credits)

The Relationship between Adams' Personal Finances and the Finances of E.A.I. and M.B.A. (Credits)

40

on application by Mr. Adams this creditor was paid and Mr. Adams expects to settle with the others. Should he be made bankrupt he is fully aware of his position and will resign as a Director of the Company."

Against this background it is useful to look at the history of the relationship of E.A.I. with the C.B.A. at its branch at 70 Collins Street, Melbourne. Clearly this bank was somewhat generous in the provision of funds by way of overdraft in view of the security available and this is evidenced by its eventual concern at the position which had been reached during 1969. I shall refer later to Adams' experience with the Australia and New Zealand Bank Limited which suggests that the only available source of overdraft funds to E.A.I. and the other companies in which Adams was interested was the C.B.A. at 70 Collins Street.

An initial overdraft limit was granted to E.A.I. by the C.B.A. at 70 Collins Street Melbourne of $12,000.00. At the same time an instruction was given by the head office to the Manager of the relevant branch that he was to have a definite understanding with the Directors of E.A.I. from the outset that the account would be firmly controlled and that excesses would not be permitted. The overdraft facilities were granted in respect of the general operating account of E.A.I. This account was frozen by the bank in October 1969 as a debit balance of $11,751.75 because of E.A.I.'s failure to live up to its promises. Thereafter E.A.I. operated as its general account another account with the same branch of the C.B.A. called the "No. 2 Account". Although there were no overdraft facilities granted in respect of this and other accounts which E.A.I. had with the same bank, they were also frequently overdrawn, although the sums involved were smaller than had been the case with the account which was frozen.

The position of E.A.I. in relation to the C.B.A. and the bank's concern about that position are indicated by a report from the Manager of the branch at 70 Collins Street to the Chief Inspector dated the 30th July 1969. At the top of the report is set out the extent of the indebtedness of the bank of E.A.I., Adams, his wife and Gower and Adams Pty. Ltd., which had opened an account with the bank some time previously. What appears is as follows:-

"East Australian Insurance No. 2 Account 0/D $7,428.00 East Australian Insurance 11,995.00 East Australian Insurance Claims Account Cr. 3.00 East Australian Insurance Reserve Account Cr. 155.00 Gower & Adams Pty. Ltd. Old AcC'ount 0/D 33,508.00 Adams M. J. 0/D 3,209.00 Adams M. J. No. 2 Account Cr. 44.00 Adams M. A. Stable Account Cr. 13.00"

Adams had apparently requested the bank for additional accommodation for the report continues:-

"Result of M. J. Adams approach to Bank for additional accommodation to $10,283.00 was received by him with great surprise.

Evidence sighted in the form of a letter from Australian Provincial Assurance Co. Ltd. confirms that an assignment in favour of M. J. Adams has been accepted and registered by them on Policies Nos. 532399 and 532400 on life of 'S. Wells'. Company has also advised that on presentation of Policies, birth and deaths certificates, funds totalling $25,647.94 will be released to M. J. Adams.

Unfortunately Policies, which Adams states were forwarded to Br. but no record of them can be found here, have been lost. I am advised necessary advertisement has been inserted in papers and at the end of 30 days duplicates can be issued by the Company.

As ' S. Wells ' was killed in a car accident, an inquest is to be held and this will delay the issue of a Death Certificate for about 6 weeks.

Thus it would appear Adams will receive $25,647.94 from Insurance Company in about 6 weeks.

Hearing of Bankruptcy Petition on Adams has been adjourned until 7/8/69.

I fully realise the involved financial position of Adams but also feel Bank should endeavour to obtain these funds if it is at all possible.

41

It is therefore suggested and recommended for your consideration, that if Bank held an undertaking from the Insurance Company issued by them against irrevocable order from Adams, to pay funds ($25,647. 94) direct to Bank we could expect the funds in due course. Adams has stated he would authorise disbursement of funds as follows:- ·

To M. J. Adams R/LA/c. close $3,209. 00 plus interest etc.

M. J. Adams Account . . 10,283.00 (see below) Gower & Adams Pty. Ltd.

R/LA/c. M. A. Adams .. M. A. Adams Stable A/c. East Australian Insurance

3,000. 00 (in permanent reduction) 1,000. 00 (placed in cr. Cancel 0/D) 1,000.00 (placed in cr.)

Co. Ltd. No. 2 A/c, . . 2,000. 00 (for additional capital-as below)

$20,592.00

Balance would go to M. J. Adams C/ A at Br. and would be used for repairs and renovations to present dwelling; pay some small creditors; etc.

By payment of sundry creditors totalling $10,283.00 by Bank Cheque before 7/8/69, Bankruptcy Petition would obtain repayment of 0 /D $17,692. 00 ($7 ,209. 00 stagnant) plus credit funds $7,800. 00.

Above C/As (a), (b), (c) are stagnant 0/Ds caused by death of one Gr.

Re: East Australian Insurance Co. Ltd. No. 2 A/c.-present 0/D caused by payment of cheques against uncleared deposits. Relative deposits being cheques $4,000.00 and $3,500.00 on Wales, Launceston, which have been forwarded for collection.

If Bank does not allow additional sum as requested to dismiss Bankruptcy Petition, funds from insurance company, would go Adams to repay the same creditors, and possibly used the balance on NON attachable items and Bank would not get repayment of 7,209 stagnant 0/Ds nor necessarily obtain credit funds $7,800.00. It is therefore respectfully suggested Bank reconsider the proposition and, on the basis of-

(1) Ensuring without doubt that funds will come from Insurance Company direct to Bank.

(2) All payments requested to be made by us by Bank Cheque under A/- (authority) from Adams.

(3) Funds from Insurance Company to be disbursed by Bank in terms of A/- held from Adams and as above, it is recommended Bank approve request.

Early advice is, preferably by Friday 1/8/69 has been requested by Adams."

Some matters referred to in this report need explanation.

On the 6th July 1969, Mrs. McDonald, the grandmother of Adams' wife, died of a heart attack. On the same day, Stephen Wells, who was aged 14 years and was Adams' brother-in-law, was knocked down by a motor car near to his home in Burke Road, Camberwell and was killed. In July 1968 insurance policies over the lives of Shuan Wells and Stephen Wells had been taken out by Mrs. Wells, their mother. There were two policies in respect of Stephen, one being an endowment policy for $5,000. 00 and the other being a whole of life policy for $19,583. 00. It was never intended that Mrs. Wells should have the benefit of the policies but she was selected to take them out because it was felt that she had an insurable interest in the lives of her children. The policies were taken out through an agent, William Neil McPhee, who was introduced to Mrs. Wells and Mrs. McDonald by Adams. Subsequently, on the 2nd September 1968 an assignment of both policies over Stephen's life to Mrs. McDonald was registered by the insurance company. A further assignment of these policies from Mrs. McDonald to Adams was registered on the 23rd September 1968. There is some conflict in the evidence concerning the assignments. The evidence of McPhee was as follows:-

" Q. What you are telling me, in telescope, is first of all, the mother took out policies because she felt she had an insurable interest and it was assigned to the grandmother?

A. Assigned to the grandmother, yes. That is the way I did it.

The Relationship between Adams' Personal Finances and the Finances of E.A.I. and M.B.A. (Credits)

The Relationship between Adams' Personal Finances and the Finances of E.A.I. and M.B.A. (Credits)

Banking Facilities Afforded to M.B.A. (Credits)

42

Q. I follow that, but eventually the policies were assigned to Adams, or at least they purport to be?

A. Mr. Adams asked for the policy documents when they were issued. He wanted to look after them. I could not argue with him, because it was none of my business. Upon handing these documents to him on issue and advising him the assignment had been carried out, he told me he wanted them assigned to him. At this juncture I said, in effect, ' That is none of my business. Why do you want that? ' and he said that he was going to be responsible for the childrens' welfare after 21 and their education expenses, etc. Again, I could not argue with him-this was none of my business I was just the agent in the whole thing.

Q. But you were the agent of Mrs. McDonald.

A. He asked me to see this was done. Naturally one cannot see that that is done without the consent of the people involved, to I took the documents back to the two ladies' home. I felt that despite they were the property now of the older lady, the mother of the children should naturally be in that discussion, and I described to them precisely what such an assignment would mean if it took place, whereupon they refused to do this.

Q. To assign to Adams?

A. Yes."

McPhee went on to say that Adams saw him a couple of weeks later and told him that he had arranged for the assignment to be completed. McPhee said that he went back to see Mrs. McDonald and Mrs. Wells and Mrs. McDonald completed the assignment of the benefit of the policies to Adams.

When Adams was asked about the assignment he gave the following evidence:-

" Q. Why was there then an assignment from Mrs. Wells to Mrs. McDonald?

A. Because the policy had been assigned to Mrs. McDonald by the insurance company by mistake and the day 1t arrived on the Saturday morning, I rang up the salesman,-they came to our address, not to Mrs. McDonald, and when I examined them they were assigned to Mrs. McDonald. I rang the fellow up and said, 'You have made a mistake, these have to be endorsed to me as we are paying the premium.'

Q. Why did he make the mistake?

A. Let me just say this; I said, 'You asked us to pay the periodic payments and they are endorsed to Granny. Why? ' He said, 'I am sorry, I have sent them back and I will get them fixed.' That is how these names appear."

An inquest into the death of Stephen Wells was held on the 27th October 1970 and the finding of the Coroner was that of death by accident and misadventure. The Australian Provincial Assurance Company Ltd., the insurer, apparently feeling it unwise to pay any moneys under the policies to Adams, took out an Interpleader Summons in the High Court of Australia and paid into Court the sum of $25,217.00. These proceedings were eventually settled between Mrs. McDonald's legal personal representatives and Adams. The terms of the settlement resulted in Adams receiving most of the benefit of the moneys payable under the policies. These moneys came at a very convenient time for Adams. He was able to pay his creditors, discharge his overdraft and his wife's overdraft with the C.B.A. and avoid bankruptcy. He was thus able to continue in his position as Chairman of Directors of E.A.I.

BANKING FACILITIES AFFORDED TO M.B.A. (CREDITS)

In addition to the accounts of E.A.I. with the C.B.A. at 70 Collins Street Melbourne there was also at the same branch an account in the name of M.B.A. (Credits). The evidence was that M.B.A. (Credits) had no overdraft facilities except of the most temporary kind. The account of M.B.A. (Credits) with the C.B.A. was not its only bank account but there is no reason to suppose that it had any access to any substantial funds elsewhere.

43

THE RELATIONSHIP BETWEEN E.A.I. AND AUSTRALIA AND NEW ZEALAND BANK LIMITED

E.A.I. opened an account with the Australia and New Zealand Bank Limited at its Domain Branch on the 30 June 1969. The only overdraft facilities afforded the company were of a temporary and minor nature. That bank on the 17th September 1969 refunded the credit balance of $103.70 then in the company's account and advised the company that it did not wish to conduct its business any longer. Curiously, on the 23rd January 1970, E.A.I. was able to open further accounts with the Australia and New Zealand Bank Ltd., this time at its branch at 421 St. Kilda Road, Melbourne. No enquiries were made by that branch because an account was being maintained by the company in Adelaide. One noteworthy feature of the opening of the account at 421 St. Kilda Road was that in requesting the bank to accept the custom of E.A.I., Adams said that the paid-up capital of the company was $100,000. 00 and that this was to be increased by further infusion of $100,000.00. He also told the manager of the branch that the main shareholders of E.A.I. were his wife's family who were quite wealthy. I asked the manager of the branch at the time, John Raymond Quirk, whether the paid-up capital of a company impressed him at all and he replied :-

"A. I am never very impressed by a company which says their paid-up capital is $4. 00.

Q. In other words it is a factor of some significance? A. Yes to me it is."

The accounts which were opened with the Australia and New Zealand Bank Limited were tightly controlled and no overdraft facilities of any significance were ever extended.

SUGGESTED ARRANGEMENTS CONCERNING PURCHASE OF' INSURANCE REGISTER

One final matter should be dealt with in considering the relationship of E.A.I. with its bankers. Upon the formation of E.A.I. it was necessary that Gower and Adams Pty. Ltd. remain in existence for a sufficient time for E.A.I. to derive the benefit of the insurance register which it in turn acquired from Gower and Associates Pty. Ltd. However, Gower and Adams Pty. Ltd. was in an insolvent position and as at the 1st June 1969 its overdraft with the C.B.A. at 70 Collins Street Melbourne stood at $35,512.60. The following two letters, written on behalf of E.A.I. by Adams, demonstrate the way in which he was prepared to manipulate intercompany transactions. The letters are as follows :-

To Messrs. Armer & Treloar, 377 Little Collins Street, Melbourne. 3000.

3rd June, 1969.

Re: GOWER AND ADAMS PTY. LTD. Dear Sirs,

We should be glad if you would note that this Company has purchased the entire Insurance Register of Gower and Adams Pty. Ltd. and the consideration therefor is the sum of $18,700.00 payable by equal monthly instalments of $1,100. 00, the first of which payments was made on the 1st June 1969.

We shall be glad if you would minute this agreement in the usual way.

c. c., The Commercial Bank of Australia Ltd."

" The manager, The Commercial Bank of Australia Ltd., 70 Collins Street, Melbourne, 3000.

Yours faithfully, Michael J. Adams.

4th June 1969.

Re. GOWER AND ADAMS PTY. LTD. Dear Sir,

Further to our letter addressed to Messrs. Armer and Treloar dated 3rd June 1969, copy of which we forwarded to your Bank: would you please ignore the contents therein and treat this letter as a substitute?

The Relationship between E.A.I. and Australia and New Zealand Bank Limited

Suggested Arrangements Concerning Purchase of Insurance Register

Suggested Arrangements Concerning Purchase of Insurance Register

44

This company is desirous of purchasing the entire Insurance Register belonging to Gower and Adams Pty. Ltd. and in assessing its value, it has been agreed between the executives of this Company and East Australian Insurance Co. Ltd. that a fair figure would be approximately $52,000.00 From that, however, there should be deducted about one-third being the estimated loss on renewals which, on that basis, would bring the value of the Register down to approximately $35,000.00.

As of the 1st June 1969 the overdraft of Gower and Adams Pty. Ltd. stood at $35,512.60 and it has been agreed, therefore, that this Company could purchase the Register for the amount that it takes to discharge Gower and Adams Pty. Ltd.'s overdraft.

You will recall that the purpose of the formation of Gower and Adams Pty. Ltd. was to retain as much of the Register belonging to Gower and Associates Pty. Ltd. as was possible and, since Insurance Policies run for one year, the amount of retention of the business could only be assessed after the expiry of that period. For example, Gower and Adams Pty. Ltd. was formed on the 1st May 1968, and Gower and Associates Pty. Ltd. ceased business on the 30th April 1968. Therefore, on the 1st May 1969, the entire Insurance Register of Gower and Associates Pty. Ltd. had been run off, and what had been retained was retained by Gower and Adams Pty. Ltd. who had purchased it. Gower and Adams Pty. Ltd. ceased business on the 30th April 1969 and has now been able to assess the value of its Register at approximately $52,000. 00 as at the 1st May 1969 as previously stated. The retention of Gower and Associates Pty. Ltd.'s business by Gower and Adams Pty. Ltd. was you will appreciate, in the face of bitter opposition from various underwriters, so that the result has not been too unsatisfactory.

The one problem remains at the moment and that is to see that Gower and Adams Pty. Ltd. remains in existence for six months from the date that Gower and Adams Pty. Ltd.'s overdraft is discharged so that, in the event of any liquidation, moneys paid to discharge the overdraft will not have to be disgorged to the Liquidator.

The existing arrangements between your Bank, M.B.A. (Credits) Pty. Ltd. and Gower and Adams Pty. Ltd. are that M.B.A. (Credits) Pty. Ltd. discharges the overdraft of Gower and Adams Pty. Ltd. by paying $1,100.00 to East Australian Insurance Co. Ltd. (in consideration for the issue of shares) . They in turn pay the $1, I 00. 00 to Gower and Adams Pty. Ltd. in further reduction of the overdraft (in consideration for the purchase of the Register). However, you will readily appreciate that this method will take too long and, in any case, carries with it the danger that, if Gower and Adams Pty. Ltd. go into liquidation, the Bank would still be called upon to disgorge what moneys it has received on behalf of Gower and Adams Pty. Ltd. Therefore, we submit for your approval the following:-

1. That M.B.A. (Credits) Pty. Ltd. loan to Gower and Adams Pty. Ltd. the amount it requires to discharge the overdraft. In those circumstances M.B.A. (Credits) Pty. Ltd. could then rank as a creditor if liquidation took place within six months, instead of the Bank. If liquidation takes place after the expiration of six months, the loan can be converted to a consideration for the purchase of Gower and Adams Pty. Ltd.'s Insurance Register.

2. M.B.A. (Credits) Pty. Ltd. will continue to receive $1,111.11 per month premium being the amount it receives from Mid Pacific and International Insurance Co. Pty. Ltd. under an agreement which it has assigned to your Bank. Receipt of these moneys by M.B.A. (Credits) Pty. Ltd. will reduce its overdraft as it would then stand, if your Bank approved of this arrangement.

3. As at the 1st July, in addition to the $1,111.11 the M.B.A. (Credits) Pty. Ltd. receives and reduces its overdraft, it will also undertake to reduce the overdraft by a further sum of $200.00 per week, being the amount that it is anticipated the Company will be able to pay, having regard to its present financial operation.

If you approve of this suggestion we shall arrange for the discharge of Gower and Adams Pty. Ltd.'s overdraft and the immediate reduction of M.B.A. (Credits) Pty. Ltd.'s liability to your Bank by the sum of $1,111.11.

We await hearing from you, Yours faithfully,

M.B.A. (Credits) Pty. Ltd. Michael J. Adams.

c.c. Messrs. Armer & Treloar "

45

It does not appear that the arrangement suggested in the second letter was ever accepted by the bank and no minute appears in the minute book of M.B.A. (Credits) or E.A.I. concerning the purchase of the insurance register of Gower and Adams Pty. Ltd. The insurance register had, of course, been acquired by Gower and Adams Pty. Ltd. from Gower and Associates Pty. Ltd. and notwithstanding the high value given to it in the above letter, no amount by way of purchase price was ever paid by Gover and Adams Pty. Ltd. to Gower and Associates Pty. Ltd. Adams maintained that Gower and Adams Pty. Ltd. had paid substantial sums for the register but it will be recalled that the sums in question were paid to creditors of Gower and Associates Pty. Ltd. in order to enable Gower and Adams Pty. Ltd. to continue business with them. The total amount of the sums so paid is not ascertainable.

WORKERS' COMPENSATION INSURANCE. One aspect of E.A.I.'s business which requires mention shortly is its

provision in a number of cases of indemnity for liability under the Victorian Workers' Compensation Act. Although no formal policy was issued a document headed " The Schedule " was issued in such a way that it purported to be the document affording cover. Under Regulation 3 of the Workers' Compensation Regulations an insurance company is required to obtain the approval of the Governor in Council before undertaking the insurance of workers' compensation risks. E.A.I. had no such licence. Gower insisted that E.A.I. was not insuring persons for liability under the Workers' Compensation Act because the risk was reinsured. It is not clear that this is so in all or even most cases but, even if it were so, it does not alter the position of E.A.I. so far as the relevant regulation is concerned.

Another matter which may be mentioned shortly is that of Reinsurance.

REINSURANCE. Reinsurance was the responsibility of Gower and it was difficult to

obtain a satisfactory account from him of the reinsurance arrangements made by E.A.I. It does appear that the company had difficulties in obtaining reinsurance by way of treaty and that most, if not all, of its reinsurance was done on a facultative basis with a number of different companies. Since Cambridge was one of the companies with which reinsurance was effected, it is probable that at least some of E.AJ.'s reinsurance arrange­ments were not sound, but ultimately this was of no consequence because E.A.I. did not have to call upon its reinsurers. In the context of reinsurance it is, however, relevant to note that in a document, apparently prepared for the information of reinsurers, the issued capital of E.A.I. is given as $100,002.00 and under the heading "Formation of Company. Reasons therefor. Type of Company and future plans:" the following passage appears :-

"The Company was formed by Michael John Adams on behalf of M.B.A. (Credits) Pty. Ltd., which is a family holding Company, receiving its finances mainly from Mr. Adams' wife and her family who have Real Estate interests in various parts of Melbourne and Victoria. These properties are being realised systematically and finances re-arranged. e.g. It is known that the paid up capital of East Australian Insurance Company Limited, came from the proceeds of the sale of Mrs. Adams' Family's Private Hospital, 70 Bambra Road, Caulfield. for the sum of $115,000.00, bought by interests in Legal and General Life Assurance Co. Ltd. Another of their properties is currently on the market for $40,000. 00 ".

The reference to the purchase of the hospital by " interests in Legal and General Life Assurance Co. Ltd." appears to be a reference to the fact that the hospital was purchased by an employee of that company. The other property referred to is presumably the stables property at Lower Dandenong Road, Mordialloc which, of course, was heavily mortgaged.

The following passage, which appears in the same document is, in the light of the company's actual experience and practice, somewhat hollow but suggests that the failure of E.A.I. cannot be attributed simply to the ignorance of its directors.

" Business, in the main, will be sought from duly appointed Brokers throughout Australia, but the Company's own Sales Staff, experienced in assessing rating and underwriting general insurance risks, will also obtain customers. A special approach will be made to Estate Agents and other general agents in the Community whose insurance registers, whilst fairly established, frequently need reservicing. Insurance Registers will be sought to be purchased,

Suggested Arrangements Concerning Purchase of Insurance Rt'gister

Workers' Compensation Insurance

Reinsurance

Reinsurance

Emoluments Received by the Directors of E.A.I.

46

if such are available in any State. The Company's personnel particularly have connections with the Legal Profession, and it is proposed canvassing Solicitors with conveyancing practices, more than has been done in the past."

The difficulty which E.A.I. experienced in obtaining reinsurance by treaty was probably one of the reasons which led Adams to form a company in New South Wales which was intended to carry on the business of reinsurance. That company, Southern International Reinsurance Ltd., was incorporated on the 12th May 1970 with an authorised capital of $2,000,000.00. It was not able to commence business before the collapse of E.A.I. However, an office was set up in Sydney and a man experienced in insurance matters, Donald Strudwick, was appointed to administer the company. A salary was paid to Strudwick and he was provided with a motor car. Adams was to be paid a director's fee of $100.00 per week net by the company. Funds to meet the expenses of setting up an office and the payment of salaries were provided by E.A.I. The amount provided appears to have been in the vicinity of $7,000.00 but precise figures were not available. Naturally, the failure of E.A.I. led to the abandonment of plans for Southern International Reinsurance Ltd.

EMOLUMENTS RECEIVED BY THE DIRECTORS OF E.A.I. Adams received from E.A.I. the sum of $120.00 per week clear of

taxation. Reference to this weekly amount is to be found in the minutes of the meeting of the Board of Directors of E.A.I. which was held on the 10th Februarjd970, where it is described as" the salary of M. J. Adams ". Adams himseff appeared unconcerned as to whether the payments should be regarded as salary or as a director's fee or partly one and partly the other. In addition, Adams received from each of B.B.I., Cambridge, and Lutine the sum of $100.00 per week dear of taxation. He was as I have said, also to receive $100.00 per week clear of taxation from Southern International Reinsurance Ltd. but Adams was unable to tell me whether any payments were actually made. Again, Adams was not clear whether the payments made by the companies other than E.A.I. constituted salary or a director's fee and he said that " at the end of the year it may well have been that certain portions might have been described as directors' fees but I don't know". M.B.A. (Credits) paid no salaries or directors' fees.

The actual amounts paid to Adams by the various companies mentioned, were, with the exception of E.A.L, relatively small because of the short period during which they survived or were retained after their acquisition or formation. However, bearing in mind that each company was to pay Adams $100.00 per week clear of taxation, with the exception of E.A.I. which was to pay $120.00 per week clear of taxation, Adams for a short while received payment for his services at a very high rate for a man of his age, skill, experience and qualifications. The amounts actually received by him are shown in the taxation return prepared by his accountant for the year ended the 30th June 1970 as salary received as an employee and are as follows:-

E.A.I. Lutine B.B.I ... Cambridge

$6,430.87 822.00

2,820.00 1,128.00

$11,200.87

In addition, a car allowance of $1,040.00 from E.A.I. is shown in the copy taxation return as having been received by Adams.

Adams' wife, who was a director of E.A.I. received from that company the sum of $50.00 per week by way of a director's fee which she described as being for entertaining. Whatever functions she performed, she contributed to the Board of Directors none of the qualities normally expected of a director of an insurance company, being ignorant of even the fundamentals of the business of insurance.

Gower gave evidence that his salary from E.A.I. was $12,000.00 per year plus a car allowance of $20. 00 per week. In a memorandum from him to Adams dated the 15th September 1969 he suggested that the company should also bear in the case of himself and Adams home telephone accounts, club subscriptions, home cleaning or gardening expenses and the cost of electricity and rates in respect of their homes. He also suggested that insurance premiums be paid on certain life policies and for the insurance of their homes and contents. Apart from the salary and car allowance, it does not appear that these suggestions were, so far as Gower is concerned,

47

put into effect. I shall mention the payments in respect of Adams and his family later. It should also be mentioned in this context that Gower appears to have paid to E.A.I. the sum of $2,300.00 which was credited to his loan account and which has never been repaid. There are, however, some payments by the company on Gower's behalf which should be debited to his loan account and which would reduce the credit of $2,300. 00.

With Adams and his wife, on the other hand, the situation was different. Adams regarded the moneys of E.A.I. as being available to satisfy his personal expenses and those of his family. Some of the moneys which he drew from the company were, insofar as the books of the company were being kept, debited to his loan account. Other amounts, it would appear, were not. Apart from entries in the books of the company, some cheque butts sufficiently identify the nature of payments made to Adams or on his behalf as being of a personal nature but some do not, a substantial number of cheques being made out merely to cash. In the cash book of E.A.I. which was reconstructed at the instigation of Jordan-Hill, there is a number of payments recorded which clearly went to meet the personal expenses of Adams. Such payments are to Adams' personal solicitors, his personal accountant, the Commissioner of Taxation, the "M. A. Adams Stable Account", the police (to avoid execution of warrants of distress) and to the State Electricity Commission of Victoria. Apart from the identifiable payments, Adams freely admitted that payments were made by the company for electricity, heating and the use of a telephone in his home and for petrol for the cars used by his wife and himself. Furthermore, the initial payment for a Morris 1500 motor car driven by Adams' wife was made by E.A.I. The motor car was actually purchased by M.B.A. (Credits) upon hire purchase terms. Eventually when neither E.A.I. nor M.B.A. (Credits) was in a position to make any further payments upon the motor car, Adams' wife retained it as her own and continued to pay the instalments of hire.

Of course, after possession of Kenilworth was obtained by Adams, E.A.I. was not only paying directly a substantial proportion of the personal expenses of the Adams family, but was also providing them with a home of exceptionally high standard.

Adams' explanation of his use of E.A.I.'s moneys was not satisfactory. He said that he assumed that amounts which should have been debited to his or his wife's loan account with the company were properly entered but he apparently took no steps to see that this was done and did not in a number of instances provide sufficient information to the appropriate employee to enable it to be done. Since Adams took the view that one of the problems of E.A.I. was that it " had idiot accountants who didn't do their job " it would seem to have been incumbent upon him to take special steps to ensure that proper records were kept. He viewed the provision of such things as petrol, electricity and heating for domestic purposes as being properly payable by E.A.I.

Adams' explanation of the use of the company's moneys to pay those of his creditors who were attempting to execute judgments or to bring about his bankruptcy is worthy of particular mention. He maintained that agreement was reached between the company and himself that certain of his liabilities which had accrued should be paid by the company on his behalf. There is no resolution to that effect recorded in any of the minutes of the meetings of the Board of Directors or of the members of E.A.I. and it would be curious if there were in view of the comments of Miss Taylor in her letter dated the 6th August 1969 to the directors of E.A.I. The reason which Adams gave for the agreement was that it was in the company's interests to avoid the embarrassment of his financial predicament and to save him from bankruptcy. Bankruptcy meant, of course, that he could not continue as a director of E.A.I. Even so, payments were only made even by E.A.I. at the last moment to avoid Adams' bankruptcy and the reason for this was that the sums were not inconsiderable and, as Adams put it, " because neither the company not myself until such time as it obtained moneys, were able to pay them ".

If the amounts, other than payments by way of salaries or directors' fees, which are identifiable in the records of the company as having been paid by E.A.I. to Adams or his wife or on their behalf had been properly debited to whichever of his or her loan accounts was appropriate, the debit balances, giving credit for all repayments, as at the 31st July 1970 would have been in the case of Adams, $18,371.50 and in the case of his wife, $3,903 .14. An amount of $1,000.00 in addition would have been debited to one or other of their accounts since that amount appears in the cash book with no indication of which account was to be charged.

Emoluments Received by the Directors of E.A.I.

Adams' Betting Transactions

48

ADAMS' BETTING TRANSACTIONS. Adams had an interest in two race-horses " Run Silent " and " Guide

Me", which he said were the property of his wife, although payments were made by him in satisfaction of their purchase price. Moreover, so far as "Guide Me" is concerned, it is clear that the agreement for its purchase was made by Adams and that he intended the horse to race in his name. Adams' wife also owned, as has been mentioned, stables at Lower Dandenong Road, Mordialloc, and had at one time leased another race-horse, "Dimensional".

Adams was a regular gambler and wagered substantial sums, particularly upon his wife's horses. One of those horses was not without some success in the races in which it was entered. Generally speaking, the size of the wagers made by Adams was not large by some standards, although obviously too large for a man in Adams' financial situation. There was, however, a period during April and May 1970 when large amounts were wagered by Adams and this period coincides, not unexpectedly, with a time of imminent financial crisis for Adams. It is, I think, clear enough that the great bulk of Adams' betting transactions were made with one bookmaker with whom he had established credit facilities. That bookmaker provided me with a record of Adams' account with him from the 13th September 1969 to the 7th November 1970 which is set out hereunder. The amounts appearing in the credit and debit columns are the total amounts owed to or by Adams at the end of a days' betting. The individual wagers do not appear.

13.9.69 27.9.69 1.10.69 4.10.69 ] 1.10.69 15.10.69 18.10.69 1.11.69 4.11.69 8.11.69 15.11.69 22.11.69 20.12.69 27.12.69 26.1.70 31.1.70 7.2.70 14.2.70 21.2.70 28.2.70 7.3.70 9.3.70 14.3.70 18.3.70 21.3.70 28.3.70 30.3.70 4.4.70 11.4.70 18.4.70 2.5.70 9.5.70 30.5.70 18.7.70 15.8.70 22.8.70 29.8.70 5.9.70 12.9.70 26.9.70 30.9.70 3.10.70 10.10.70 17.10.70 31.10.70 3.11.70 5.11.70 7.11.70

Flemington Moonee Valley San down Flemington Caulfield Caulfield Caulfield Flemington Flemington Flemington Sand own Caulfield Moonee Valley Sandown Moonee Valley Flemington Sandown Flemington Caulfield Caulfield Flemington Flemington Flemington San down Moonee Valley Caulfield Caulfield San down Caulfield Moonee Valley Caulfield Flemington Moonee Valley Caulfield Moonee Valley San down Caulfield Caulfield Flemington Moonee Valley San down Flemington Caulfield Caulfield Flemington Flemington Flemington Flemington

Cash

Cash Cash Cash Cash Cash

Cash Cash Cash Cash

Cash Cash Cash Cash Cash Cash Cash Cash

Cash Cash Cash Cash Cash Cash Cash Cheque Cheque Cheque Cheque Cash Cash Cash Cash Cheque Cash Cash Cash Cheque Cheque Cash Cash Cheque Cash

Cr. Dr. $2.00

255.00

130.00

360.00

10.00

324.00 260.00

295.00

352.50

250.00

10.00

350.00 297.50

135.00 660.00

270.00

160.00

370.00 950.00

130.00

$70.00 40.00

305.00

140.00 140.00 260.00 200.00

615.00

290.00

540.00 540.00

170.00

160.00

100.00 285.00

175.00

1200.00 400.00

1100.00 830.00 200.00 160.00 200.00

460.00

90.00

290.00 612.50

380.00

$5571.00 $9952.50 Dr. $4381.50

Thus the net amount lost by Adams over the whole of the period covered by the account was $4,381 . 50.

49

Adams denied that, save for one instance, any moneys of E.A.I. were used by him for the purpose of betting. Certainly it does not appear that the moneys of the company were used on any large scale but in the sense that the amounts of cash withdrawn by Adams from time to time, ostensibly to be debited to his loan account, together with the salary paid to him by E.A.I. obviously constituted the source of his funds for betting, moneys originating in E.A.I. and not part of Adams' salary appear to have been used in his wagering transactions. Adams had no sufficient alternative source of funds to finance his betting operations other than E.A.I. before the acquisition of B.B.I. and Cambridge. With the acquisition of the two New South Wales companies, further funds were available to Adams, at least by way of salary payments, and all of the amounts paid by Adams in respect of the bets pl1aced wi'th his bookmaker in the month of May 1970 were drawn on bank accounts in Sydney and were, according to Adams, savings from the salaries paid by B.B.I. and Cambridge.

There was one occasion upon which E.A.I.'s moneys were used directly for the purpose of betting which was admitted by Adams and was the subject of evidence from other witnesses. This was when Adams gave inSitructions to Woodham in Sydney and Young, an employee in Hobart, to draw from the funds of the company the sum of $250. 00 and $200. 00 respectively, and wager these sums on " Run Silent ", which was racing upon the day in question. Adams admitted giving the instructions but thought that the amount involved in Hobart was somewhat less than $200.00. He also felt that the sums had been repaid to the company, although the accountant of E.A.I., Jordan-Hill, said that he had no know­ledge of any repayment. Woodham. on the other hand, recalled in detail the circumstances of the withdrawal of the $200. 00 in Sydney and gave evidence that Jordan-Hill had told him that the amount had been reimbursed. Young, the employee from Hobart, was not called lto give evidence, he having been dismissed from the employment of E.A.I. some time previously because of defalcations involving approximately $900. 00 in the Hobart office of E.A.I.

It is quite plain that funds from Lutine and from B.B.I. were used to pay for the horse " Guide Me " which Adams had agreed to purchase on terms for $15,000.00. The vendors of the horse, which was eventually repossessed, were Mr. and Mrs. N. A. Byrne. A cheque dated the 17th July 1970 was drawn on Lutine's bank account in Perth and paid to N. A. Byrne. This payment was admitted by Adams to be one of the instalments due upon "Guide Me". He said, however, that it represented arrears of salary. Separate cheques for $1,000.00 each were on the 18th March 1970, the 6th April 1970 and the 30th April 1970 drawn by Adams on B.B.I.'s bank account in Sydney and paid to the Byrnes. The notation in the butt of each of the B.B.I. cheques refers to M. J. Adams loan account or M. J. Adams loan, presumably to indicate some intention to debit a loan account with the amounts involved. The practice of debiting a loan account with amounts withdrawn from a company when there is no real prospect or intention of repayment does not appear to me to differ from a straight out misuse of that company's funds. I put this view to Adams on several occasions and he insisted that he had both the means and intention of repaying the sums which he " borrowed " from the companies with which he was concerned. However, when questioned about the means of repayment he was unable to give any satisfactory reply.

THE COLLAPSE OF E.A.I. At the time I commenced my investigation, E.A.I. was not in liquida­

tion, although it was apparent that it inevitably would be wound up sooner or later. Both Adams and Gower maintained unrealisticaJly that the company could have got on its feet were it not for the adverse publicity which it received from about the middle of 1970 and for the fact of my appointment as an inspector to investigate its affairs. This is plainly nonsense as the figures demonstrate and so far as publicity is concerned it should be added that Adams was described to me as a man who delighted in publicity, good or bad. His activities during the first part of my enquiry support this view.

Not unnaturally, during the .Jatter half of 1970 Adams was concerned, if it were possible, to sell the shares held by him and M.B.A. (Credits) in E.A.I. There was a genuine prospective purchaser whose interest ceased after his accountant had conducted a preliminary examination of the company's affairs which revealed a deficiency of some $515,000.00.

After my investigation had started, John Dennis Beasley, who carried on his business activities through a company called Austabond Company Pty. Ltd., emerged as a person interested in the issued shares in E.A.I. This was a matter of concern for it was possible, if not probable, that

7895/71.-4

Adams' Betting Transactions

The Collapse of E.A.I.

The Collapse of E.A.I.

50

Adams would attempt to extricate himself from his financial plight by the sale of the shares to someone who was prepared to acquire them in order ,to extract from E.A.I. its register and then aHow the liquidation of the company to take place. The register was, of course, the one asset which may have had some real value and which ought to have been available to the creditors of the company upon any winding up. At 'l&st history sugg~sted the possibility to which I have just adverted.

After some difficulty in obtaining his presence, Beasley appeared before me and gave evidence that Austabond Company Pty. Ltd. had, indeed, purported to purchase the shares held by M.B.A. (Credits) in E.A.I. for the sum of $100.00. The documents comprising the insurance register of E.A.I. had, however, been seized by me pursuant to the powers vested in me under the Companies Act 1961.

Beasley described himself as a management consultant who also handled finance. He was born in Engrand and reached there the equivalent educational standard of the Leaving Certificate. After three years in the Royal Navy as a Sick Berth Attendant, he became a licensed recovery and investigation agent in New South Wales. He was concerned for a time with a New South Wales company which he maintained he had created, Property Accident Commercial and Executive Insurance Company Ltd. and had then assumed the role of management consultant. One of his functions as a management consultant was, apparently, the exertion of pressure of one sort or another upon debtors to induce them to pay their debts to his clients. It was in the exercise of this function that Beasley came into contact with B.B.I. in Sydney. Out of this contact came a meeting between Beasley and Adams. Beasley asked Adams could he help and said he would like to have a look at E.A.I. Adams then, according to Beasley, offered to give Beasley an authority to act as manager of E.A.I. and this authority was subsequently given. The particular conversation during which this arrangement was made took about ten minutes. Beasley then came to Melbourne and eventually an agreement was executed which ought, I think, to be reproduced in full:-

" An AGREEMENT made this day of 1970 between M.B.A. (CREDITS) PTY. LTD. of Ground Floor, 424 St. Kilda Road Melbourne (hereinafter called "the Vendor") of the one part and AUSTABOND COMPANY PTY. LTD. of 225 George Street Sydney (hereinafter called " the Purchaser ") of the other part.

WHEREBY IT IS AGREED as follows: 1. The Vendor agrees to sell and the Purchaser agrees to purchase

for the sum of ONE HUNDRED DOLLARS all of the Vendor's shares in East Australian Insurance Company Limited (hereinafter called " the Company ").

2. The Purchaser hereby agrees to indemnify Michael John A dams and Marion Ann Adams both of ' Kenilworth ', Kenilworth A venue Beaconsfield for all their personal guarantees given to the Company, or for the benefit of the Company.

3. Any loan account which the said Michael John Adams and Marion Ann Adams have with the Company shall be considered to be part of the consideration for the above purchase and &uch loan account shall not be recoverable from those two persons.

4. The Company agrees to assign to the vendor for a nominal sum not exceeding ONE HUNDRED DOLLARS all its rights under a Contract of Sale for the purchase of Lutine Marine and General Insurance Company and the purchaser hereby covenants and guarantees the performance by the Company of this unde-rtaking.

5. The Purchaser shall not be responsible for any of the establishment costs of the Company and shall be indemnified by the Vendor Company in relation to any claims made by any persons whatsoever for such establishment costs excluding however any current trading debts of the Company and the amount due to the Estate of the late Mrs. McDonald in relation to the money deposited by her as security for the Commonwealth Treasurer's Statutory bond.

6. The Purchaser shall pay all legal costs and any duties applicable to this Agreement."

The agreement is undated but must have been executed in the month of August 1970.

At the time of the execution of the agreement, Austabond had a paid up capital of $2. 00 and Beasley himself had assets of less than $8,000. 00, $5,500.00 of which was his equity in his house in Sydney. There can

51

have been no genuine intention to place E.A.I. upon a sound financial basis and whatever other plans Beasley had in mind were thwarted by the liquidation of E.A.L So far as Adams is concerned, the agreement with Austabond Company Pty. Ltd., in view of that company's financial resources, gained him nothing but is another demonstration of his incapacity for the appreciation of financial realities.

mE POSITION OF E.A.I. AT THE 31st JULY 1970

For the purposes of the investigation of E.A.I., it seemed to me desirable that some attempt be made to assess the financial position of the company at about the time of its collapse. Such an attempt was made despite the obvious difficulties occasioned by the fact that the entries in the ledger of the company cover only the first two months of its operation. I have already mentioned that, in addition, the cash records of the company were not complete and in many instances the officers of the company were able to give little, if any, assistance. It was necessary, therefore, to accept at face value such entries in the books of the company as existed and to rely upon what information the various witnesses could give. The estimate of the financial position of E.A.I. which was made is at the 31st July 1970, this being the most practicable date to choose. In making the estimate, however, knowledge of events which occurred after that date were used to estimate values at that date. Even so, it must be conceded that because of the circumstances surrounding E.A.J. and a number of other small companies in the insurance field, it was difficult to accurately assess values. The following is the estimate which was made of the financial position of E.A.I. at the 31st July 1970.

AssETS Cash at Bank Trade Debtors Estimated Recoveries

from Third Parties .. Motor Vehicles, Fixtures

and Fittings Land and Buildings Shares in Subsidiary

Companies Fixed Deposits Deficiency

Contingent Liabilities.

$ 14,143 50,000

35,251

3,000

20,000 548,593

670,987

LIABILITIES Provision for Unexpired

Risk Trade Creditors Loan from Holding Co. Sundry Creditors Outstanding Claims Loans from Subsidiary

Companies

Loss by Vendor on sale of property.

Loss by Mortgage on sale of shares in subsidiary company.

Claim by Vendors for breach of contract.

$

285,040 44,490 50,437 28,058

186,806

76,156

670,987

The book value of the trade debtors of E.A.I. at the 31st July 1970 according to the companies records was $128,882.00. However, one substantial debtor, I.I.B., is in liquidation and there is reason to believe that some others would have difficulty in meeting their liabilities. Moreover, E.A.I. appears to have given authority to some brokers acting on its behalf to pay claims out of premium receipts. These payments were not credited to the brokers' accounts in the books of the company at the 31st July 1970.

In respect of some interstate offices of the company, there were no estimates available of recoveries from third parties. Where this was so, estimates were based upon recovery experience in Victoria. No provision for costs of collection was made in the figure given for estimated recoveries from third parties

Such assets as E.A.I. purported to own were in many instances not purchased in the name of the company and its title to them was dubious. It can, I think, be confidently said that the figure given for the company's assets would not be exceeded, even although as an estimate it is for practical purposes nominal.

The provision for unexpired risk was calculated during the period in question using a sliding scale to make allowance for the increased premium income towards the end of the period. The figure given as being " Loan from Holding Company " relates, of course, to the transaction in which E.A.I. eventually acquired the issued shares in B.B.I. and Bonus

The Collapse of E.A.I.

The Position of E.A.I. at the 31st July 1970

The Position of E.A.i. at the 31st July 1970

Conclusions

52

Benefits Insurances Pty. Ltd. The figure is given upon the assumption that those shares were validly acquired. As far as possible, in assessing the outstanding claims reliance was placed upon estimates given by officers of the company but where such estimates were not available an independent estimate was made.

Dealing with the contingent liabilities, it will be recalled that the contract for the purchase of the property " Kenilworth " was rescinded, but there may be, of course, a loss incurred upon the resale of that property and any such loss would, under the terms of the contract, be a liability of the company. Similarly, although E.A.I. was forced to relinquish possession of the shares which it purchased from Lutine, there may be a liability under the contract for the purchase of those shares for losses suffered as a result of the company's default. Adams' denial that E.A.I. was bound by its contract to purchase issued shares in Cambridge was the subject of dispute and if that contract remains binding then moneys may be payable by E.A.I. to Cambridge pursuant to or for breach of that contract.

As I have already mentioned, various sums were paid by E.A.I. to Adams and his wife which in the aggregate were substantial. These sums, apart from salary, were said to be by way of loan but recovery of these amounts is highly unlikely. Also unlikely is the recovery of amounts which were paid by E.A.I. to various companies controlled by the Adams, also ostensibly by way of loan. So far as the latter " loans " are concerned no useful purpose is served by attempting to estimate the amounts involved because of the impossibility of any reasonable degree of precision. Any recovery of the amounts loaned to Adams or his wife or the companies controlled by them has been disregarded in the estimate of the financial position of th_e company.

It also seemed to me to be desirable that an attempt should be made. to estimate the ratio of claims to premium income experienced by E.A.I. during its existence. For reasons which appear above, I expected it to be substantially above that enjoyed by companies established in the business of comprehensive insurance of motor vehicles. The exercise was started, but with the best efforts of those assisting me in the accountancy aspects of this investagition, it became evident after a time that lack of accurate information would make any estimate so highly problematical as to be of no practical value. The attempt was therefore abandoned.

CONCLUSIONS. It is not, I think, exercising the wisdom of hindsight to say that E.A.L

could never have succeeded and that from the beginning this ought to have been apparent to those whose duty it was to administer the company.

The company did not merely lack capital resources ; for all practical purposes it had no capital at all. The fact that it represented itself as having an issued share capital of $100,000. 00, when the issue of 194,993 shares was financed by E.A.I. itself can only have been a pretence adopted for the purpose of deception. When this initial deception is coupled with the transaction in which M.B.A. (Credits) acquired shares in B.B.I. and Bonus Benefit Insurances Pty. Ltd. and sold them, within a matter of days to E.A.I. at a profit of $87,000. 00 in order to extinguish the loan financing the .purchase of shares in E.A.I. by M.B.A. (Credits), the deception which was intended becomes even plainer. ·

. E.A.I. was able to achieve a substantial cash flow in a short time by offering competitive rates for the ·comprehensive insurance . of motor vehicles, by using brokers who were concerned to sell motor vehicle insurance in a manner which . would produce a rapid return without any re~l regard for the quality of business which they were offering to the insurance company and by an almost complete failure to apply any underwriting policy in the selection of risks to be insured.

Without any proper investment of the funds being paid to the company in the form of premium income, E.A.I. embarked on a programme of expansion by the acquisition of insurance companies which, with the possible exception of Lutine, were in a position equally or more perilous than the position of E.A.I. itself. .

The administration of E.A.I. was plainly incompetent. Adams, who was in fact in charge of the company's affairs, not only lacked the experience but, in my view, the competence to run a business carrying with it the responsibility for large sums of money. His confidence far outstripped his ability and he had demonstrated himself to be entirely unsuitable to be at the head of any insurance company even before he had placed himself in that position. Not only was Adams incompetent but he

53

was without scruple in the use of the company's funds for his own purposes. His attempts to justify as loans the expenditure of moneys for purposes which were clearly unconnected with the business of E.A.I. was nothing more than bravado. Not even Adams could seriously have anticipated any reasonable prospect of the repayment of the sums involved but, if he did, then this is a further demonstration of his incompetence in the management of the affairs of the company. His use of the company's funds in "invest­ments " such as " Kenilworth " indicates a scant regard for his responsi­bilities. However, I think it must be conceded that E.A.I. would not, in any circumstances, have had any chance of success even apart from the misuse of some of its funds.

Gower during the time he was managing director of E.A.I. was at least as incompetent as Adams but his incompetence was apparently due to ill health which had all but destroyed his will and, to some extent, his capacity to perceive the course along which Adams was directing the company. Certainly he did nothing to correct or even voice a complaint about the maladministration of the company which ought to have been obvious from the beginning to a man of his experience.

It is no part of my investigation of the affairs of E.A.L and M.B.A. (Credits) to suggest ways of preventing the repetition of the events which have led to great hardship being imposed upon many innocent people who were insured with E.A.I. I cannot, however, forbear from commenting that if the experience of E.A.I. is any guide, the provisions of the Insurance Act 1932-1966 are clearly inadequate to afford any reasonable protection to policy holders who insure with a newly-established insurance company dealing in the comprehensive insurance of motor vehicles. When one has regard to the estimated outstanding claims of E.A.I., it is plainly apparent that the deposit of approved securities to the value of $20,000. 00 required under the Act is of little comfort to the policy holders whose claims are unsatisfied. The answer may not lie in an increase in the value of the deposit required. Obviously, the requirement of a deposit which is too high would have the effect of restricting competition in a field of endeavour where it would generally be accepted as desirable. Nevertheless, some form of increased supervision or restraint appears to be needed. This is, for consti­tutional reasons, a problem which is probably more appropriately the responsibility of the Commonwealth than the States and I shall not pursue the matter further.

I have not thought it necessary to arrive at any general conclusions concerning the conduct of the affairs of M.B.A. (Credits). Apart from its beginnings, it has been of importance only in relation to the affairs of E.A.I. and the part which it played in those affairs is sufficiently apparent in the body of this report.

DARYL DAWSON.

By Authority: C. H. RIXON, Government Printer, Melbourne.

Conclusions