Bre-X: The Giant Fraud that Started with a Bang Ends with a Regulator’s Whimper
From the stock market watchdogs who permitted the premature listing of the company to the cops and regulators who were unsuccessful in bringing even a single fraudster to justice, Bre-X was a colossal failure at every level.
It’s not surprising that the Ontario Securities Commission has decided not to appeal the acquittal of John Felderhof, the only person ever to be charged in the infamous Bre-X fraud. Frankly, there have been so many strange twists and remarkable disappointments with this case that there is really little left to be astonished about. As we noted here with chagrin even before this recent setback, the OSC is clearly losing its appetite for criminal prosecution, partly because it has been doing so badly in that regard and partly because it has a leadership culture that prefers to retreat to its less aggressive era. This was pretty much reflected in a statement by OSC chair David Wilson, who told Macleans recently that the agency’s priority was “not to beat the drumbeat of more criminal cases.” As we observed previously, there were many problems with the case, and where it was heard at Canada’s lowest court level, that were beyond the OSC’s control. But if you look at the length of time it took to have the case tried (seven years), the three- year-long motion and appeal interval where it was trying to have the judge removed, and the full year it took for the judge to write his decision (there was no jury in this case) the outcome was probably as predictable as the bewildering process that gave birth to it.
So it is that the largest mining fraud ever has now become the biggest bungled case of its kind in history. From the stock market watchdogs who permitted the premature listing of the company on the prestigious TSE 100 without due diligence to the shut-eyed independent directors, credit rating agencies and analysts who saw only the glitter of fools gold and eventually to the cops and regulators who were unsuccessful in bringing even a single fraudster to justice —and now have given up entirely— Bre-X was a colossal failure at every level. It might also serve as a cautionary lesson to today’s old line boardroom stalwarts who argue that too much emphasis has been placed in recent years on structure and that there is no connection between the architecture of corporate governance and corporate performance. I will have more to say about the confused logic and selective memory of those who would move the boardroom back to the future in another posting. But it would be hard to find a worse example of corporate governance than Bre-X — unless of course you were looking at Hollinger Inc. during Conrad Black’s era or Research In Motion more recently or the nearly 25 percent of companies listed on the TSX Venture Exchange that do not comply with even the minimum disclosure regarding their own boardroom practices which is required as a condition of listing by that exchange.
In the entire decade since the scandal unfolded, not a single agency, regulator or individual has admitted even the slightest responsibility, however indirect, for this calamity. No apology has ever been made to the investors who lost billions or to the larger investing public which has an irrefutable stake in the integrity of the capital markets and the institutions that guard them. No criminal has ever been convicted. You would almost think Bre-X were an inexplicable act of nature for which no mortal can be held accountable. At least not in Canada.
If the Bre-X fiasco occurred elsewhere, and certainly if it happened in the United States, outraged legislators and congressional committees would be in full flight holding hearings to find out why the company went so far beyond the arm of justice. They’d call aggrieved shareholders as witnesses and demand that stock market officials, regulators and justice department chiefs appear before them. They’d want to know if this case was symptomatic of any larger problem and whether such a travesty could happen again in the form of another memorable name. But in Canada, where it is hard to imagine a more dysfunctional system of securities regulation and boardroom crime policing, the biggest disaster in mining history ends with barely a whimper. And the politicians go back to sleep.
Exactly ten years ago, in an Op-Ed column in the Financial Post, I first brought to public light a number of the corporate governance failures that allowed Bre-X to happen. As we close the book on this sad saga, I thought it would be interesting to reprise the article that in many ways foreshadowed all the other failures that came to be associated with that scandal.
J. Richard Finlay
Originally published in the Financial Post, August 1997
Continuing denials of culpability by former directors of Bre-X Minerals Inc. and securities regulators show once again that there is a predictable rhythm to corporate governance issues in the wake of disaster. In what has become the corporate version of line-dancing, academics and the media stamp their feet in demands for reform, regulators scurry for cover from the descending wrath of shareholders, and directors pirouette in elegant assertions that things will change. But when the revivalistic music stops, exhausted directors too often slump back into their boardroom seats, returning to their customary somnolent ways. The ritual is recurring in the Bre-X debacle.
Bre-X was a massive fraud to be sure. But it was also a massive failure of corporate governance. And the failure occurred on a number of fronts. With its insider board, dubious disclosure record, curious insider trading patterns, ever-expanding boasts about ore deposits and confusion about who owns them, Bre-X was a time bomb waiting to go off. But those who could have defused it heard only the siren song of fast money and not the tick, tick, tick, of impending ruin.
Of Bre-X’s board of six, only two members qualified as independent directors. The TSE’s guidelines for publicly traded companies call for a majority of outside, independent directors. This did not appear to bother many institutions or funds. When directors began to engage in heavy insider trading, regulators and advisors should have seen the signs and looked deeper into the details of the operation. Previous problems about licensing and ownership should have provided clues. Few followed that trail. When directors made ever-exaggerated claims about the size of the Busang find, regulators and investment advisors could have demanded more details. None did.
At its height, Bre-X had a market capitalization greater than Imperial Oil, Bombardier, Inco and Molson combined. And that was without any sales or profits. That alone should have prompted major financial institutions and pension funds, to say nothing of regulators, to take a closer look at the company. It never happened.
Another board that should also be doing some soul-searching is the TSE’s. The TSE’s guidelines on corporate governance raise an interesting question: Why does the TSE itself not comply with them?
Of the TSE’s board of 14, only four directors qualify as being independent. That’s far from a majority and far short of its own guidelines on corporate governance. Would a board composed of a majority of independent directors who are unaffiliated from member institutions have been more cautious about Bre-X? Would it have been more wary about putting Bre-X on the blue chip composite index when the company had no track record and when there were so many unanswered questions? Like many things about this scandal, we may never know. But we do know from the past, and from the TSE’s own study, that independent directors make for better boards. And better boards are motivated by the longer view, not necessarily the fastest buck.
Modern corporate governance practices, as every regulator and investment advisor has been taught, have grown out of disasters like Bre-X. The collapse of Great Britain’s Royal Mail Steam Packer Company in the 1930s (which, like Bre-X, also had a board of six directors) and Robert Maxwell’s empire, the S & L scandal in the United States and the demise of Confederation Life and dozens of other financial concerns in Canada all have involved failures of corporate governance. Had those lessons been applied in the Bre-X case, the fraud likely never would have achieved the level it did because institutional investors and regulators simply would not have endorsed a company that failed to practice even the most elementary standards of good corporate governance.
Directors, regulators and investment advisors are paid to read the signs of disaster as well as the portents of profit. The investing public is still waiting for an explanation as to why they failed in their duty over Bre-X.
