Business Page March 14, 2004


Corporate near-failure: the case of Equitable Life


The near collapse of the world's oldest - two hundred and forty-two years - and most prestigious insurance company, resonates with issues of import to Guyana. It was a failure of governance, inadequate regulatory oversight, CEO arrogance, a business model that had outlived its usefulness and possibly audit failure involving Ernst & Young - with which Ram & McRae of which this columnist is Managing Partner is associated - which were responsible. The Tony Blair government will face another problem trying to ward off the calls by policyholders for compensation after the Lord Penrose Report revealed several failures by the regulatory authorities, which might have contributed to the dramatic decline in what was once regarded as an indestructible star among insurance companies.

Equitable Life was very British in character - it was the most popular choice for the preparation of retirement income, particularly for the professional class in the UK. But it also offered coverage abroad, including several overseas universities among which is the University of the West Indies. The company would invest policyholders' money and pay out bonuses to them after consultation with its actuaries. However, the Penrose Report found that its underlying assets could not support the bonuses, and that the company's solvency - its ability to meet its obligations as they fell due - had been overstated by very weak bases of valuation of assets compounded by valuation practices of "dubious actuarial merit." An actuary is one who is trained to calculate the premiums, reserves, dividends, bonuses, pension and annuity rates, using a wide range of financial, demographic and economic assumptions based both on historical as well as projected data.

The ghost of Globe Trust

The longevity of the company is due partly to the innate conservativism of the industry, and the fact that there was little competition on price. The modest returns paid to policyholders allowed for a greater retention for reserves for the lean times through which every economy and industry goes. More recently, however, competition in the financial services sector in the UK, as indeed elsewhere, has increased, and providers have been paying out far more than could be justified. As a columnist in the Financial Times of March 10 noted, "nemesis was inevitable," and in an eerie recollection of our own Globe Trust which ranks highly among the corporate governance failures in Guyana, "Equitable closed its doors and told its policyholders that they would not receive the full sums they were expecting."

Like Globe Trust, the problems of Equitable did not happen overnight; they had been simmering since 1998 when Equity decided to approach the UK courts in order to gain approval for cuts in the bonus to which it was committed. It first approached the court in January 1999, and having got the court's nod in September 2003 it was astounded when the decision was reversed, first in the Court of Appeal, and then in the House of Lords which ruled in July 2002 that the Society must honour its original commitments totalling more than 1.5B pounds sterling.

Comprehensive failure

Unable to meet these commitments, Equitable sought several suitors, and in February 2001 Halifax agreed to pay 1B pounds sterling for Equitable's sales force and non-profits policies. The Halifax deal which included a promise to inject additional capital was approved in February 2002. Meanwhile Equitable has sold off some of its assets, further restricted payments to its policyholders, imposed substantial exit charges on its members and sued auditors Ernst & Young for 2.6B pounds sterling, and has been granted leave to sue former non-executive directors for 3.3B pounds sterling. An earlier action against E&Y was thrown out as "fanciful." The part played by chartered accountants is also being investigated by the Institute of Chartered Accountants in England. Even the insurance and the accounting professions have been criticised for their "comprehensive failure by industry and by standard-setting bodies" to produce workable accounting standards for the life assurance industry.

Lord Penrose who is both an accountant and a commercial judge, took much longer than was anticipated when he was appointed in December 2000 by Ruth Kelly, Economic Secretary to the Treasury. His report (800+pages) has, however, won wide acclaim in the industry and financial circles for its comprehensive coverage and analysis of the compelling account of the events leading up to the near collapse. The recriminations are flying fast with the usual blame game with which we are all too familiar.

Lord Penrose found that management practices at Equitable were "dubious" and nurtured a culture of "manipulation and concealment." One of his principal conclusions was that the "Society was the author of its own misfortunes" and that the balance of blame lay more with Equitable than with its regulators, who were found to be "startlingly incompetent." While identifying among several supervisory failures the absence of toughness in the way the firm was supervised, it cleared the regulators of any "maladministration or negligence." Lord Penrose singled out the Department for Trade and Industry (DTI) in particular for its insufficient understanding of how to measure the solvency of a firm like Equitable.

Incompetent non-executive directors

The report noted that non-executive directors were "ill-equipped", "ill-prepared" and "incompetent," as regards the particular difficulties of supervising a complex life assurance firm, and described the chief executive from 1991 to 1997 as "manipulative, obstructive and dismissive." He says the company board had neither sufficient information nor the skills to come to grips with the finances of the firm. Not surprisingly, the former directors are unlikely to accept this broadside, and Chris Headdon, a former chief executive of Equitable Life, criticised the report for failing to take a balanced view of the facts.

The report has heightened the calls by policyholders for action for compensation by the government owing to the failings of the company's three regulators, the Department of Trade and Industry until 1997, the Treasury in 1998 and the Financial Services Authority (FSA) from 1999. The company itself has indicated that it is considering financing its customers' proposed legal action for "misfeasance" against the government, while Ms Kelly will be facing questions by Parliament about the report.

The liberalisation of the economy and the introduction of competition have necessitated new legislation providing for regulators across the economy, including the utilities, the financial sector, insurance and the Stock Exchange. These are in addition to the regulators for co-operatives, trades unions, companies and professional bodies, including legal and accounting bodies. As readers of this column will be aware, many of the provisions in the Companies Act are completely ignored, while the deficiencies in accounting, and the relevant professional body's unwillingness to sanction its members for their egregious failures, are all too familiar.

Triumph of evil over good

Despite the introduction of several major pieces of legislation to regulate the business sector, there is a growing sense of frustration at the lack of enforcement and the feeble and facile argument about the need to have the legislation inculcated by the relevant sector before the law is enforced.

The one glimmer of hope for regulation when Chief Justice Carl Singh ruled against the Bank of Guyana in the Globe Trust case, implicitly criticizing it for its weak oversight role, has evaporated, as those responsible - the regulator, the accounting profession and the directors - have simply gone about their business as if they had done nothing wrong. The administrator appointed by the Bank of Guyana has a duty to the depositors and the shareholders - and indeed to the public - to bring action against those responsible for the losses of hundreds of millions of dollars belonging to thousands of depositors in Globe Trust.

This was a remarkable opportunity for the country to address the wider issues involved in the failure, but it seems that once again, the evils of race, inertia, politics and the network have triumphed over the good of the country.

Insurance companies are starting up all over the place, producing a quality of financial statements that is a discredit to the accounting profession and the regulator, yet there is no action. This column's regular calls for better governance in the insurance industry have been ignored. The practice of providing pensions for directors, for example, should be made illegal as fostering permanence over performance. Yet some of the directors of insurance companies are also directors of other public companies. If they do not practise good governance in their own entities, can they be expected to practise it elsewhere?

We have heard too many complaints about the weaknesses in the legal system and the willingness of certain members of the legal profession to stymie regulatory progress at the behest of their well-heeled clients. But it is hard to believe that this is true of all lawyers, or that the courts would be unwilling to take up the challenge of new regulatory issues. Yes, we have a PUC which seems unable to successfully carry out its mandate and protect consumers, but did the Globe Trust case not show that there is a willingness and an impartiality which is not being utilised?


The Penrose Report into Equitable Life should be a must-read for all those in the insurance industry, the regulators and those concerned with governance generally. Its length is because of its comprehensiveness and there is something for us all, not least our politicians. The government in the UK is now being called upon to defend the conduct of the regulators, while in Guyana the government is completely off-the-hook, even in relation to the broken promise that the government would compensate the small depositors.

To allow the Globe Trust matter to die a natural death is to send the message to non-executive directors in other entities, that this society's tolerance for incompetence, lawlessness and ill-preparation is acceptable in critical sectors of the economy, regardless of its impact on the lives of the people.

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