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Collapse of Atlantic Acceptance Corporation and its effect on the structure of liabilities and quality… Weekes, Irvine Duncan 1968

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THE COLLAPSE OF ATLANTIC ACCEPTANCE CORPORATION AND ITS EFFECT ON THE STRUCTURE OF LIABILITIES AND QUALITY OF REPORTING OF CANADIAN FINANCE COMPANIES by IRVINE DUNCAN WEEKES B.A., Univ e r s i t y of Alberta, 1963 A THESIS SUBMITTED IN PARTIAL FULFILMENT OF THE REQUIREMENTS FOR THE DEGREE OF MASTER OF BUSINESS ADMINISTRATION i n the Faculty of Commerce and Business Administration We accept this thesis as conforming to the required standard THE UNIVERSITY OF BRITISH COLUMBIA A p r i l , 1968 In p re sent ing t h i s t he s i s in p a r t i a l f u l f i l m e n t of the requirements f o r an advanced degree at the U n i v e r s i t y of B r i t i s h Columbia, I agree that the L i b r a r y s h a l l make i t f r e e l y a v a i l a b l e fo r re ference and Study. | f u r t h e r agree that permiss ion fo r ex ten s i ve copying of t h i s t he s i s f o r s c h o l a r l y purposes may be granted by the Head of my Department or by hits r ep r e s en t a t i v e s . It i s understood that copying or p u b l i c a t i o n of t h i s t he s i s f o r f i n a n c i a l gain s h a l l not be a l lowed without my w r i t t e n permi s s ion . Department of The U n i v e r s i t y of B r i t i s h Columbia Vancouver 8, Canada 7sfL a/ . 0 ABSTRACT On June 14th, 1965, Atlantic Acceptance Corporation Limited, a major Canadian finance company failed to meet a $5 million matured short-term secured note and three days later the company was placed in receivership by Montreal Trust Company, the trustee. This thesis represents a study of the growth, development and collapse of Atlantic Acceptance, and the effects of that collapse on the structure of l iabil i t ies and the quality of reporting on the activities of finance and consumer loan companies in Canada. From the outset, I would like to bring to the reader's attention the fact that this thesis was completed before the findings of the Ontario Royal Commission on the collapse of Atlantic were made public. The evidence presented to the Commission has been so voluminous and intricate, that after more than two years of study, Mr. Justice Hughes of the Ontario Supreme Court, who served as Chairman of the Ontario Royal Commission on Atlantic, has not yet been able to present his report. It is expected that the above report will be made public later this year (1968). The thesis is divided into three Chapters. Each Chapter is divided into sections which might in themselves have been treated as chapters, except that to do so would have, in my view, broken the continuity of the study. i Chapter I serves as an introduction to Atlantic. Here the reader will learn that over the l ife of the company, especially in the early nineteen-sixties, Atlantic Acceptance Corporation was completely out-performing the Canadian finance industry. In the Appendix to Chapter I, tables are drawn up to trace the growth pattern of Atlantic Acceptance. Chapter I also discusses the general nature of the finance industry, and the methods in which finance companies finance their assets. It concludes by investigating the financing techniques employed by Atlantic Acceptance Corporation. Chapter II is a study of the precipitating factors in the collapse of Atlantic Acceptance. Here, the Haves Lending Model is presented as a normative model for the conduct of the affairs of financial institutions. The rather exhaustive and comprehensive evidence on Atlantic's lending, management and auditing practices presented in this Chapter, indicates that the affairs of Atlantic Acceptance and its subsidiaries were not conducted in accordance with the principles collected and published by Professor Douglas Hayes. In Chapter II i t will be learned that Montreal Trust Company, the trustee, brought legal action against the President of Atlantic and members of the accounting firm which audited the sub-sidiaries, alleging a conspiracy on the part of the defendants and each of them to defraud the plaintiff. In Chapter III the concern is with the effects of the collapse of Atlantic Acceptance on the structure of l iabil i t ies and the quality of reporting on the activities of finance and consumer loan companies in Canada. ' Evidence is presented to show that: (1) as a result of Atlantic's collapse, finance and consumer loan companies in Canada saw a flight of funds out of their short-term paper, and an increase in their use of bank borrowings and advances from parent and associated companies; (2) the collapse of Atlantic has led the finance and consumer loan industry and the Investment Dealers Association of Canada to develop a new improved method of reporting on the activities of finance and consumer loan companies in Canada. Since March 1967, minimum standards of reporting for a l l finance and consumer loan companies doing business in Canada have been: audited financial statements, appropriate Robert Morris Associates question-naires, and the Canadian Sales Finance Long Form Report. Since finance companies in Canada are now major intermediaries in both the commercial and financial industries, we conclude that there should be a special Act of Parliament under which their operations are conducted. This Act should be known as the Finance Company Act. There should also be an Inspector of Finance Companies with similar powers to those given the Inspector of Chartered Banks, and finance companies should be brought into a closer working arrangement with the Bank of Canada so that they would be made more responsive to monetary policy. TABLE OF CONTENTS Page ABSTRACT i LIST OF TABLES v i LIST OF ILLUSTRATIONS v i i i Chapter I. INTRODUCTION 1 Why A t l a n t i c Corporation Should Be Studied 1 History of A t l a n t i c Acceptance Corporation 3 General Nature of Finance Business 6 Appendix 2 3 Summary and Conclusion 39 I I . PRECIPITATING FACTORS IN THE COLLAPSE OF ATLANTIC ACCEPTANCE CORPORATION LIMITED 41 The Quality of Receivables i n the Sales Finance and Consumer Loan Sectors 42 Quality of Receivables i n the Commercial Loans Sector 43 Major Source of D i f f i c u l t y 46 A General Model for the Formulation of Lending P o l i c i e s 49 Explanatory Notes and Discussion of The Hayes Lending Model 52 Lending P o l i c i e s of A t l a n t i c Acceptance Corporation 57 Management Practices 68 Auditing Practices Followed By A t l a n t i c Acceptance 75 Hegemony of The President of A t l a n t i c Acceptance Corporation 76 Summary and Conclusion 79 i v Chapter I I I . THE EFFECT OF THE COLLAPSE OF ATLANTIC ACCEPTANCE CORPORATION ON THE STRUCTURE OF LIABILITIES AND QUALITY OF REPORTING ON THE ACTIVITIES OF CANADIAN FINANCE COMPANIES E f f e c t on the Structure of L i a b i l i t i e s of Canadian Finance and Consumer Loan Companies Constructive Changes i n the Quality of Reporting of Canadian Finance Companies Analysis of Schedules i n the CANSAF Report Summary of Major Improvements i n Sales Finance Company Reporting Summary and Conclusion BIBLIOGRAPHY LIST OF TABLES Table Page I - I Atlantic Acceptance Corporation Limited Nature of Business Engaged In 9 I - II Atlantic Finance Corporation Limited Distribution of Loans 10 I - III Dollar Growth of Atlantic Acceptance Corporation 23 I - IV Atlantic Acceptance Corporation Percentage Growth Over Previous Year Major Assets and Liabilit ies 25 I - V Sales Finance and Consumer Loan Companies Growth Trends 1960 - 1965 27 I - VI Sales Finance and Consumer Loan Companies Percentage Growth 1960 - 1964 28 I - VII Atlantic Acceptance Corporation Dollar Growth of Revenue and Expenses 29 I - VIII Atlantic Acceptance Corporation Percentage Growth Over Previous Year Revenue and Expenses 31 I - IX Atlantic Acceptance Corporation Percentages of Receivables 33 I - X Sales Finance and Consumer Loan Companies Percentages of Receivables 34 II - I Receivables in Commodore Group 44 II - II Estimate of Realizations at June 17, 1965 46 II - III Atlantic Acceptance Corporation Limited No. of Accounts and Corresponding Receivables 48 v i V l l Sales Finance & Consumer Loan Companies Structure of L i a b i l i t i e s Quarterly Y i e l d s on Money Market Instruments and Long Term Government of Canada Bonds Net New Issues of S e c u r i t i e s - Payable i n Canadian Dollars Net New Issues of S e c u r i t i e s - Payable i n Other Than Canadian Dollars Canadian Chartered Banks Non-Personal Term and Notice Deposits and Bankers' Acceptances Outstanding LIST OF ILLUSTRATIONS Figure Page II - I The Hayes Lending Model 51 I I I - I Structure of L i a b i l i t i e s of Sales Finance and Consumer Loan Companies 91 I I I - II Structure of L i a b i l i t i e s of Sales Finance and Consumer Loan Companies 92 I I I - I I I Quarterly Y i e l d s On Money Market Instruments 93 v i i i CHAPTER 1 INTRODUCTION On June 15th, 1965, Atlantic Acceptance Corporation Limited, one of Canada's fastest growing finance companies failed to meet a maturing $5 million short-term secured note and two days later, Montreal Trust Company, the trustee, placed Atlantic Acceptance Corporation under receivership. This study is an attempt to gather and assess some of the factors surrounding the collapse of Atlantic Acceptance, and the effects of that collapse on some of the practices and institutions related to the Cana-dian finance industry. Financial analysis will not form a major part of this study. One will find on investigation that the financial statements of Atlantic Acceptance were in good order. It would be almost impossible to recognize any of the difficulties which the Atlantic Complex was heading for, simply by analyzing the financial statements. My research and analysis lead me to conclude that the weaknesses lay elsewhere, in manage-ment, in operating practices, in integrity and in many other areas which this study will investigate, and which are not reflected in the financial statements. Why Atlantic Corporation Should Be Studied Atlantic Acceptance conducted business on an international basis.''" ''"Atlantic Acceptance Corporation borrowed funds in both Canada and the United States. See Appendix A to this chapter. Atlantic also granted loans in the United States, Canada and the Bahamas. This will be further developed in Chapter II. 1 2 Its collapse could have far reaching repercussions on the opera-tions of a l l Canadian and United States companies which issue short-term notes, since investors in Atlantic securities stood to lose $32,355,920 on June 17, 1965.2 If Atlantic's demise was not an unusual event, and i f we can demonstrate that i t was a predictable outcome, then we should expect that students, investors and companies would want to become aware of the practices which led to Atlantic's collapse. Many investors bought Atlantic's notes because other well-known companies had invested funds in Atlantic's paper, and some of these investors placed their trust in what Executive Magazine refers to as rule of thumb recommendations:^ viz . , (1) The experience, ability and integrity of management, including directors. (2) The periodic checks of the company's activities provided by the auditors. (3) The policing power of bank lenders, reinforced by their ability to withdraw their lines of credit on very short notice. If we can demonstrate that these rule of thumb recommendations were inadequate (and my analysis of the factors surrounding Atlantic's collapse leads me to believe that they were inadequate), we would expect that investors will now look more closely at the role of a trustee; they ^Report of Receiver and Manager, Atlantic Acceptance Corporation  Limited, Montreal Trust Co., Toronto, August 18, 1965, p.5. J . Rossant, "Atlantic Acceptance: Even the Big Ones Got Stung" New York Times, November 14, 1965, p . l . 4\P. Creighton, "Why Didn't Someone Foretell the Bursting of Atlantic's Bubble," Executive, Vol. 8 No. 2 (February, 1966), pp. 42-45. 3 will want to look beyond the normal statements of adherence to accepted accounting practices made by auditors, they will seek clarification of the position of auditors of parent companies and auditors of subsidiaries; they will question the level of disclosure made by management, to inves-tors and shareholders, on a company's assets, l iabil i t ies and credit granting practices; they will be concerned about reserves for bad debts and a company's loss experience; they will take a closer look at levels of managerial authority; they will look closely at the operating practices of those companies showing extremely high growth and offering high yields on investment instruments, and they will be concerned about adequacy of lines of credit by finance companies. History of Atlantic Acceptance Corporation^ Atlantic Acceptance Corporation Limited was incorporated under Ontario Charter on January 28th, 1953, but did not commence operations until July 1953. The first office opened was in Hamilton, Ontario, and many other offices were subsequently opened. In 1956 Atlantic Acceptance purchased Talbot Finance Company Limited (changing the name to Atlantic Acceptance Corporation (St. Thomas) Ltd.) of St. Thomas, Ontario. In 1956 the company also formed Atlantic Finance Corporation Limited and Great Lakes Insurance Agencies Limited, wholly owned subsidiaries. In 1959, Atlantic Acceptance acquired Premier Finance Corporation Limited of Toronto, and formed a new subsidiary, Commodore Sales For historical reference Corporation and Subsidiaries, see to the formation of Atlantic Acceptance the Financial Post Corporation Service. Acceptance Limited. During 1961, the Company acquired Standard Discount Corporation Limited, which operated in the soft goods field in Metropolitan Toronto, and opened a United States subsidiary, Commodore Factors Limited, to handle the United States business of Canadian customers. In 1961 also, Atlantic Acceptance Corporation (St. Thomas) Limited sold a l l its assets to the parent company and became a branch office. Great Lakes Insurance Agencies Limited surrendered its charter on December 29th, 1961, and Atlantic Acceptance Corporation (St. Thomas) Limited, surrendered its charter on July 23rd, 1962. Since incorporation, Atlantic Acceptance had no major changes in top management. There had been additions to upper levels of management to assume responsibility for the increased network of branches that were opened in the late 1950's and early 1960's, but C. Powell Morgan had held the office of president, continuously. It would appear that the Company believed in specialization, since over the years, either through outright purchase or incorporation, sub-sidiaries were developed to handle specific areas such as consumer loans, industrial loans, and small loans. Other companies were incorporated to handle collection problems, and to service the business transactions of Canadians in the United States market.^ Subsidiaries Atlantic Finance Corporation Limited.--A public Company, it was ^The Financial Post Corporation Service has adequate historical evidence on Atlantic's development. 'See Financial Post Corporation Service. In Chapter II specific evidence on this area will be assessed. 5 incorporated on February 22nd, 1956, under Ontario Charter. It was engaged mostly in the making of small loans; i .e . , loans of less than $1,500.00 to individuals across the country. Premier Finance Corporation Limited.--This finance company was purchased by Atlantic Acceptance in 1959. It was incorporated under the Ontario Companies Act and had as its sole purpose the financing of sales of soft goods through retail outlets in the Toronto area. Commodore Sales Acceptance Limited.--This acceptance company was incorporated in 1959 under Ontario Companies Act. Its major business is the financing of industrial receivables and inventories across the country and internationally. It was a private company, wholly owned by Atlantic Acceptance. Concourse Agencies Limited.--Wholly owned by Atlantic, this company was not engaged in financing. It was incorporated under the Ontario Companies Act in 1959 as a public company for the special purpose of collecting accounts for the parent company and subsidiaries, and for other associated agencies. Pay As You Study Plan Limited.--This company was incorporated as a private company in November 1959, under Ontario Charter, for the special purpose of financing technical school courses in Toronto and Ottawa. It was wholly owned by Atlantic Acceptance Corporation. Atlantic Acceptance (Toronto) Limited.--Incorporated privately under the Ontario Companies Act to finance automobile sales in the Toronto area in 1960. It was one hundred per cent owned by Atlantic. Adelaide Acceptance Limited.—An Ontario incorporated private company, it was totally acquired by Atlantic on March 8, 1962. Its purpose was the financing of dealer car sales and inventory across the 6 country and also the acceptance of paper of retail sales companies. Standard Discount Corporation Limited.--All shares in this company, an Ontario private company, were acquired by Atlantic Acceptance Corpo-ration on October 25th, 1961. The business of Standard Discount Corporation was the financing of sales of soft goods in the Metropolitan Toronto.area. Commodore Factors Limited.--This company was incorporated in New York in January 1961, by Atlantic Acceptance to handle United States g business for Canadian customers. Branches At the time of its collapse in June 1965, Atlantic"Acceptance Corporation and its subsidiaries operated thirty-one acceptance branches, and seventy-one small loan branches in a l l the Provinces except Quebec. General Nature of Finance Business^ (a) Retail Instalment Financing. The principal part of retail instalment financing consists of the purchase of secured retail instalment obligations that arise from the sale of new and used automobiles. Finance companies also purchase retail instalment obligations that arise from the sale of mobile homes, trucks, farm equipment, and miscel-laneous consumer goods. °Most of the information in this section on Subsidiaries was built up by combining information carried in the Toronto Globe and Mail of March 15, 1966, with data found in Financial Post Corporation Service Cards. S^ee Report of Receiver and Manager, op. cit . p. 2. ^Alexander A. Robichek and Alan B. Coleman, Management of  Financial Institutions: Notes and Cases, (San Francisco: Holt, Rinehart and Winston Inc., 1967), pp., 361-363. The development of this section of the study owes much to Robichek and Coleman. 7 Most retail automobile obligations are purchased without recourse to the dealers. The down payment and credit of any and a l l consumers has to be acceptable to a finance company before a contract is purchased. Some finance companies receive a guarantee, or repurchase agreement from the dealer in some cases of retail automobile obligations, and in most cases of other retail obligations, (b) Wholesale Financing. Wholesale financing or what is better known as "floor planning" is principally made up of secured advances to auto-mobile dealers to facilitate their carrying of automobile inventories. A small amount of wholesale financing is also done for dealers in mobile homes, trucks, and farm machinery and equipment. Robichek and Coleman suggest that wholesale financing is important to a l l finance companies operating in the automobile market, for unless dealers are assisted in the financing of their inventory, the number of retail instalment contracts available for purchase by any finance company would be adver-sely affected. It is quite common for a dealer to assign a l l his retail paper to the finance company which provides his wholesale financing. ^ 11-The writer's experience in the money market and his conver-sations with money managers lead him to believe that this is the case. 8 (c) Personal Instalment Loans. In most instances, personal instalment loans to individuals are secured by liens on personal property. A l l of these loans are subject to Federal Government Legislation which limits the 12 maximum interest charges on loans up to $1,500. Atlantic's personal loans business had been expanding up to the time of its being placed into receivership. This is evidenced by the fact that there were seventy-one small loans 13 branches across Canada in June of 1965. (d) Commercial Loan and Other Instalment Receivables. The commercial loans business consists of secured short- and other medium-term loans to business enterprises; e.g., manufac-turers, wholesalers and retailers. Commercial loans are secured by current account receivables, by inventories and by fixed assets. Other commercial instalment receivables consist of time sales obligations purchased at a discount from manufacturers, distri-butors and dealers engaged in the selling of communications equip-ment, photo-copying equipment, and construction and industrial equipment. These receivables are usually secured by liens on the property being financed.^ •^Royal Commission on Banking and Finance, Queens Printer, Ottawa, 1964, p. 209. •^ See Report of Receiver and Manager, op. cit . p.2. •^For a much fuller description of the Sales Finance and Consumer Loan business in Canada, see Royal Commission on Banking and Finance, op. c i t . , ch. 11 pp. 203-211. 9 Nature of Business Engaged in by Atlantic Acceptance Corporation In outlining the history of Atlantic Acceptance, above, mention was made of the general nature of the business carried on in the subsidiaries, but this could be more clearly depicted in table form. As examples, the following two Companies are chosen: TABLE I - I ATLANTIC ACCEPTANCE CORPORATION LIMITED NATURE OF BUSINESS ENGAGED IN Source - - Report of Receiver and Manager, Atlantic Acceptance Corporation Limited, August 18, 1965 Percentage of Area Receivables Automobile 1) Retail 47% 2) Wholesale 11% 3) Capital 3% Industrial and Heavy Equipment 7% Large Loans 14% Furniture and Appliances 7% Home Improvements 4% Mobile Homes 3% Livestock 3% Miscellaneous 1% 100% On June 17th, 1965, total receivables in this Company were $57,771,161.15 ^Report of Receiver and Manager, op. cit . p. 2. 10 TABLE I - II ATLANTIC FINANCE CORPORATION LIMITED DISTRIBUTION OF LOANS Source - - Report of Receiver and Manager, August 18, 1965 Percentage of Type of Loan Receivables No. of Accounts Small Loans (up to $1,500) 537» 37,400 accounts Large Loans (over $1,500) 39% 6,000 accounts Furniture and Appliances 8% 10,400 accounts 100% 53,800 accounts On June 17th, 1965, total receivables outstanding in Atlantic Finance Corporation were $35,199,946.16 Atlantic's commercial and industrial loans were made mostly by three subsidiaries: Commodore Sales Acceptance Limited, Commodore Factors Limited, and Adelaide Acceptance Limited. On June 17th, 1965, receivables held by these three companies amounted to $51,413,876.''"^ Sources of Financing for Canadian Finance Companies  While retained earnings and advances from parent companies are sources of financing for finance companies in Canada, the major sources are: bank loans, demand and short-term notes (i .e. , notes varying from maturity within twenty-four or forty-eight hours to maturity within one 1 6 Ib id . p. 2. ^Ibld. p. 3. For fuller commentary on the commercial and industrial aspects of Atlantic's business, see Montreal Trust Company, Receiver and Manager, Atlantic Acceptance Corporation Limited in  Receivership, Memorandum as to Initial Award of Compensation, Toronto, November 17, 1966, p. 10 and passim. year), and long term bonds.^ Prior to 1957 bank borrowings played an extremely important part in the financing of most finance companies' assets, but during the monetary tightness of that year, the banks cut back heavily on their loans to finance companies and suggested to the finance companies that in addition to their lines of credit, they should also establish stand-by 19 credit arrangements. The finance companies were not willing to enter into a stand-by 20 credit arrangement with the chartered banks. They held the opinion that since the chartered banks were so quick to cut their credit lines when tightness occurred in the financial system, and since this might be 21 done at the expressed direction cf the Central Bank, they would be much better off i f they cultivated monetary sources outside the banking fraternity. With the active assistance of investment dealers, finance companies made much more extensive use of the short-term money market 22 and also increased the level of their l iabil i t ies in long-term bonds. Lines of Credit and Stand-by Credit To have a line of credit with a bank in Canada does not mean •'-^ Royal Commission on Banking and Finance, op. cit . p. 211. -^Ibid., Ch. 11 p. 213 and passim. Bank credit lines were actually cut by 21% in 1956-57 and by 50% from 1959 to early 1960. 2 0 I b i d . , p. 214 2^In 1956, loans made to finance companies by chartered banks were actually curtailed at Central Bank's direction. See p. 221 of Royal Commission on Banking arid Finance. 22Proceeds from long-term bonds often invested in short-term marketable securities as a hedge against the drying up of bank funds. See Royal Commission on Banking and Finance, op. c i t . , p. 213. 12 that a company has firm access to credit from that bank. As far as can be ascertained from interviews with two money 2 3 managers in Vancouver, lines of credit are not entered into under written contracts. They are gentlemen's agreements through which a given amount of credit will be made available for a company to draw: down as the company's needs for bank funds arise. Lines of credit can be cut off at any time by a banker, with only twenty-four hours' notice to the client. Lines of credit are not paid for. Stand-by credit, on the other hand, is a much firmer arrange-ment than a line of credit. Under stand-by credit arrangements, a company pays its banker a set fee for access to a given amount of dollars. Over the past two years in Canada, the fee for stand-by credit has been as high as one-half of one per cent per annum, even 9 / though these fees have never been made a matter of public record. The firm business contract replaces the gentlemen's agreement here, but the cost has forced finance companies to avoid stand-by credit arrangements except under extremely tight money situations. Even though i t is common practice in the United States for banks to require borrowers to maintain compensating balances that are a certain percentage of their line of credit or the amount of loans out-25 standing, to date this has not been widespread in Canada. However, 2 3 M r . G. J . Hook, Chief Executive Officer, B. C. Central Credit Union, Vancouver, B. C. Mr. John A. Smart, Director, Pemberton Securities Limited, Vancouver, B. C. 2^No documentary reference available, but this has been the writer's experience. 2-*See for example, John M. Chapman and Frederick W. Jones, Finance  Companies: How and Where They Obtain Their Funds, (New York: Graduate School of Business, Columbia University, 1959), p. 49. 13 i t is not too far-fetched to subscribe to the view that in extremely tight money situations, the technique of compensating bank balances could be used in Canada. Generally Established Canadian Finance Company Practice  While finance companies in Canada have turned extensively to the short-term money market for funds since 1957, they never relinquished their relationship with the chartered banks. Most finance companies have evolved the practice of covering a l l their short-term note l iabi-l it ies ( i .e . , a l l notes maturing from demand to ninety days) with bank lines of credit. Whereas they might never have to use their bank lines, business operations were sounder when bank credit was available as a last resort. Should a l l buyers of finance paper want their money back on maturity of the notes, and should i t be difficult to sell new notes to cover, the finance companies would have merely to turn to the banks to 26 maintain their cash resources at the same level. Since much of their funds are raised in the United States short-term paper market, many Canadian finance companies also maintain '. lines 27 of credit with United States banks. This is also the case in the United States. See Chapman and Jones, op. c i t . , p. 53. 2?See Royal Commission on Banking and Finance, op. c i t . , Ch. 11 for fuller coverage. 14 Financing Techniques Employed by Atlantic Acceptance*^  Even though Atlantic Acceptance was a Canadian finance company, almost from the date of its inception the Company looked to the United States for the major portion of its financing. One could contend, of course, that the United States money market was more amenable or that businesses in the United States and Americans in general are greater risk takers than Canadians. However this hypothesis should be demon-strated in a different study. Suffice i t to say that nowhere in the voluminous reports on Atlantic Acceptance have we been able to find any policy statements purporting to explain why Atlantic Acceptance chose to concentrate so much of its raising of in i t ia l capital and subsequent capital expansion needs in the United States. As a fledgling finance company Atlantic Acceptance was first sponsored on Wall Street in 1954 by Lambert and Company, which at that time was a relatively new but highly successful private firm of invest-ment bankers. Alan T. Christie, a Canadian-born financier who had worked for the Bank of New York, and Jean Lambert, founder of Lambert and Company, were two key members of Lambert and Company. Mr. Christie persuaded Mr. Lambert and his other partners to invest $300,000 in Atlantic Acceptance. (Atlantic Acceptance had been brought to Mr. Christie's attention by C. Powell Morgan who was then not a full-time employee of Atlantic's.) 2^ The financing techniques employed by an operating company are not normally public knowledge. We are grateful to Mr. M. J . Rossant of The New York Times for his excellent reporting on this area of Atlantic's affairs. This section is based almost totally on Mr. Rossant's study. See M. J . Rossant, loc. cit . p. 1 and 85. 15 Lambert and Company agreed to invest in Atlantic under two conditions: (1) that Alan T. Christie join Atlantic's board of directors and (2) that C. Powell Morgan, a chartered accountant and former General Manager of a Canadian mining company, become a full-time employee of Atlantic's. Mr. Jean Lambert, President of Lambert and Company, was born and educated in France and started his firm in 1949. Lambert grew to be highly respected on Wall Street. He was usually introduced as a monetary authority who had served as a member of the French delegation to the Bretton Woods Conference which led to the formation of the United Nations, and as a member of other international conferences. Rossant tells us that a check into Mr. Lambert's background revealed that he was 9 Q employed at these meetings as a translator. 7 In late 1954, Lambert and Company sold Atlantic Acceptance securities to Consolidated Toronto Development which i t controlled. Later that year when Lambert and Company needed more funds for the expansion of Consolidated Toronto and Atlantic Acceptance, Mr. Christie turned to Harvey Mole, head of the giant United States Steel Pension Fund for support. Mr. Mole and Mr. Christie had been colleagues at the Bank of New York. The Consolidated Toronto Development - - Atlantic Acceptance investment prospects appealed to Mr. Mole, and the United States Steel Pension Fund became the first institutional investor in Atlantic Acceptance.30 yRossant, loc. cit., p. 1. -^Rossant, ib id . , p. 85. 16 With 1.66 bil l ion dollars in assets, the United States Steel Pension Fund was the largest in the United States. Mr. Mole had an out-standing reputation in the investment community. He was known for his devotion to research, and his daring in making investments. Mole was not partial to fixed income securities offering a relatively secure return, nor to common stocks for their capital gain prospects. Mole preferred bonds with a "sweetener" in the form of warrants to purchase the common stock, or convertible debentures, or what is known in common investment parlance as "mezzanine money"; i .e . , securities between stocks and bonds that offer both a good yield and a promise of appreciation. Another very early investor in Atlantic Acceptance securities was the Ford Foundation. In the mid nineteen-fifties, Lambert and Company approached the Ford Foundation soliciting their investment in Atlantic Acceptance. The Ford Foundation carried out an independent study of Atlantic's management, competitors, and bankers. The study was favourable and the Foundation invested in Atlantic. The fact that United States Steel Pension Fund and the Ford Foundation were early investors in Atlantic Acceptance led Wall Street to receive Atlantic with open arms. An increasing number of American firms were placing funds in Atlantic Acceptance Corporation in the late nineteen-fifties. Morgan Guaranty Trust was the first United States institution to go against the trend towards investment in the growing Canadian finance company. In 1959, Lambert and Company tried to persuade Morgan Guaranty to invest in Atlantic, but Morgan Guaranty refused, on the grounds that 3 1 I b i d . , p. 85. 17 Atlantic was engaged in too diversified a lending programme and its management was over-centralized in the authority of its President. It is only fair to point out that Morgan Guaranty had confidence in Lambert and Company, having placed $2 million of its client's pension funds into Lambert International Corporation, a group formed to specialize in invest-ments in Europe. United States Steel Pension Fund was also reported to have invested $4 million dollars in this European venture, receiving in part, notes, and common stock, and warrants to buy more common stock, as 32 security for its investment. Until 1959^ 3 when Atlantic's growth prospects suddenly became evident to the international investment community, its pattern of attrac-ting investors was based almost exclusively on the "old-school" in group principle. Either Mr. Christie, or Mr. Morgan or a partner of Lambert and Company approached respected investors whom they knew and tried to impress them with the investment prospects of Atlantic. We do not suggest that anything is wrong'with this approach. Atlantic was growing rapidly, and investors' commitments were paying o f f . ^ The Wall Street investment firm of Kuhn, Loeb and Company took the initiative in 1959 of inviting C. Powell Morgan to call on them after some of the firm's partners had heard of Atlantic's rapid growth. Kuhn, Loeb and Company offered to market Atlantic's obligations and 32 R o s sant, loc. cit . p. 85. ^^ See Financial Post Corporation Service for early figures on Atlantic's growth. See also tables in Appendix to this Chapter. 3^See Tables I:III to I:VTII in Appendix to this Chapter. 35Rossant, loc. cit . p. 85. 18 Mr. Morgan agreed. The investment firm then carried out an in-depth study of Atlantic, visiting its operations and inspecting its books, and came away convinced that Atlantic was a sound company. Kuhn, Loeb did not take any of Atlantic's securities into its own portfolio, nor did i t market any of Atlantic's common shares. It concentrated on private placement of senior and junior securities with institutions, mostly with insurance companies. Impressed by Atlantic's growth, by the fact that United States Steel Pension Fund and the Ford Foundation were early investors, and by Kuhn, Loeb's recommendation, portfolio managers were willing to invest in Atlantic securities.3*' In the early nineteen-sixties Atlantic Acceptance was growing at a faster rate than i t had in earlier years.3^ The pattern of its finances was not based on extensive use of bank credit. Atlantic Acceptance held a line of credit of only $5 million with the Toronto Dominion Bank, in Toronto. The Company was content to raise its funds in the money market and through sale of long-term debt instruments.3^ It is interesting to note that Atlantic's common stock base was only 365,000 shares from the time of its incorporation in 1953 up to 1961 when the number of common 39 stock shares authorized was increased to 1,000,000. During this period of rapid growth, a chain of branches was set up to handle the increasing volume of business across the country and the subsidiaries were looking more closely at the wide commercial and 3 6 I b i d . , p. 85. 3^See Tables I-III and I-IV of Appendix to this Chapter. 3^See Table I-IX of Appendix to this Chapter. 3^See records in Financial Post Corporation Service. 19 industrial loan market.^ The Company's growth demanded increasingly large amounts of borrowed money and C. Powell Morgan was spending more and more of his time with prospective lenders who were impressed by the Company's growth record, by the fact that United States Steel Pension Fund, the Ford Founation, and Lambert and Company were creditors, and by the imprimatur of Kuhn, Loeb and Company. No one seemed to be concerned about the lack of large bank lines of credit, or by the fact that no lines of credit were held with New York banks, even though the New York money market was supplying most of the short-term funds for Atlantic.^'''" A l i s t of some of the holders of various Atlantic notes on June 15, 1965, would highlight the extensive use the Company made of the money market. (See Appendix A.) By 1964, Great Northern Capital Corporation, a Canadian holding company, owned more than fifty per cent of Atlantic's common stock and therefore controlled the Company.42 At this time too, Lambert Inter-national found that investment prospects in Europe were not as good as anticipated, so Lambert International bought controlling interest in Great Northern Capital Corporation and subsequently controlled Atlantic Acceptance. In 1964 Atlantic Acceptance decided to sell more common stock to increase its borrowing base. At the end of 1963, the number of common shares outstanding was 356,637 and by the end of 1964 this number was 4^This is Mr. Rossant's contention, but the Tables in Appendix to this Chapter bear him out. In Chapter II we will cite more empirical evidence on this point. 4lRos sant, loc. cit . p. 85. 4 2 I b i d . . p. 85. 20 increased to 684,718 shares, a net increase of 328,081 common shares. In January 1964, 88,081 shares were issued under a rights offering, and / Q in November 1964, 240,000 shares were sold for cash. Lambert Inter-national was forced to take up over fifty per cent of the 1964 issue and saw its original investment of $300,000 in Atlantic increase to $7.5 million. The sale of common stock in 1964 enabled Atlantic to increase its borrowings, and in early 1965 Kuhn, Loeb and Company helped the Company in its placement of an $8.5 million long-term issue. At the same time Atlantic increased its short-term l iabil i t ies through sale of short-term secured paper. These funds were used to make more loans.^ Rossant tells us that a few investors close to Atlantic; v iz . , Kuhn, Loeb and Company and The Toronto Dominion Bank, suggested to C. Powell Morgan that Atlantic slow down, but Morgan continued to increase his debt and the firm's volume of receivables.^^ Sometime around the end of 1964, Lambert International learned that C. Powell Morgan was diverting his energies away from Atlantic's affairs and into other financial projects, and that Atlantic was finan-cing these projects. Lambert International grew uneasy and placed another partner, Mr. Paul C. Sheeline, on Atlantic's Board along with Mr. Christie. This was the first infusion of new blood into a board ^%ee record of The Financial Post Corporation Service. ^Actual financing done in 1964 and 1965 was: $43 million in Senior Notes, $5 million in Subordinated Notes, and $6 million in new share capital. See Report of Receiver and Manager, op. c i t . , p. 2. ^Rossant's contention is supported by Atlantic's financial statements, and the Receiver's reports. 21 of directors that had virtually remained the same since 1954.^ In early 1965, the New York Hanseatic Corporation, a large securities dealer that had placed more than $12 million dollars of Atlantic's notes between 1962 and 1965, learned of G. Powell Morgan's diversified activities, and in April this Corporation requested a report from the Toronto Dominion Bank on Atlantic's credit standing. On May 5th, 1965, the Toronto Dominion Bank reported to the New York Hanseatic Corporation that Atlantic's credit standing was favourable.4^ In the spring of 1965, Kuhn, Loeb and Company made its second investigation into Atlantic's affairs and were satisfied that everything was in order. So satisfied were they, that they tried to persuade Morgan Guaranty Trust to make a bridge* investment in Atlantic. Morgan Guaranty refused, on the grounds that their investment in Lambert International was large enough. In late May 1965, First National City Bank purchased a $3 million Atlantic note as a three-month bridge, despite the fact that Mercantile Bank of Canada, their Canadian subsidiary, had always steered clear of Atlantic. At the beginning of June, the Madison Fund purchased a one million dollar, one month Atlantic note, through Kuhn, Loeb and Company.48 On Friday, June 11th, 1965, Royal Securities Corporation, a Canadian investment house, placed a $5 million Atlantic note with 4^No change in directorships is noticeable in the Company's reports until 1964. 4^Rossant, loc. cit . p. 85. 4 8 I b i d , p. 85. *A "bridge" investment is interim financing. A Company may sometimes make this kind of arrangement with a lender during the short period preceding a major placement of securities. 22 Societe Financiere pour Commerce et 1'Industrie Ltee for the weekend. On Monday, June 14th, Atlantic Acceptance issued a cheque for $5,010,000 covering principal and interest to Royal Securities Corporation to redeem its weekend note. When Royal Securities presented this cheque to The Toronto Dominion Bank, i t was not accepted by that bank. C. Powell Morgan and Mr. Christie tried to convince the public that creditors would not lose, that Atlantic was only facing a minor short-term financing crisis. Three days later, on June 17th, 1965, Montreal Trust Company, the trustee, made application to the Supreme Court of Ontario for an order appointing it receiver and manager of Atlantic. The Ontario Supreme Court complied.^ 49see text of Report of Receiver and Manager, op. cit . p. 1. TABLE I - III DOLLAR GROWTH OF ATLANTIC ACCEPTANCE CORPORATION Source — Financial Post Corporation Service June 30, June 30, June 30, Dec. 31, Dec. 31, Dec. 31, Dec. 31, 1954 1955 1956 1956 1957 1958 1959 $ $ $ $ $ $ $ 3,173 35,345 33,295 19,839 23,380 18,673 1,563,281 Receivables less reserve 1,226,202 1,054,053 1,403,867 2,181,921 2,218,400 2,554,336 .9,27?,695 Total current assets. . . . 1,230,109 1,095,228 1,438,534 2,208,778 2,243,258 2,575,479 10,859,542 Fixed assets after 5,889 7,006 11,029 11,172 10,681 13,332 53,580 Excess cost of subsidiaries 9,621 9,621 9,621 234,436 1,248,998 1,135,222 1,566,028 2,261,440 3,308,193 3,317,050 11,189,330 792,202 340,000 675,000 1,380,000 1,415,421 1,258,284 2,887,393 2,116,875 Total current l iabil i t ies . 851,234 404,542 818,251 1,458,232 1,517,025 1,389,926 5,595,07 3 143,992 86,982 97,063 132,367 255,058 160,997 703,513 300,000 300,000 300,000 1,145,570 769,954 3,539,337 Capital stock 247,331 330,118 330,230 339,869 339,897 914,730 1,115,740 6,441 11,280 18,204 28,752 46,214 78,027 213,410 378,875 690,686 620,283 750,546 726,233 1,185,553 5,264,469 1.44:1 2.71: 1 1.76: 1 1.51:1 1.48:1 1.85:1 1.94:1 TABLE I - III Continued Dec. 31, Dec. 31, Dec. 31, Dec. 31, Dec. 31, 1960 1961 1962 1963 1964 $ $ $ $ $ Cash 506,251 Receivables less reserve for losses . 18,936,989 Total current assets. . . . 19,474,312 Fixed assets after depreciation 106,962 Excess cost of subsidiaries 236,208 Total assets 19,843,720 Bank advances 2,498,655 Short term notes 8,621,774 Total current l iabil i t ies . 11,859,107 Deferred income 1,837,229 Long term debt 4,121,518 Capital stock 1,570,329 Retained earnings 4i2,703 Working capital 7,615,205 Ratio 1.64:1 347,759 418,692 825,485 910, 392 34,247,157 60,815,509 88,277,839 128,706,639 34,634,887 61,365,899 89,231,909 129,617,031 208,286 186,994 191,678 133,682 993,676 991,335 941,335 1,075,145 36,305,805 63,272,966 91,570,275 132,937,729 3,984,290 3,164,025 3,958,690 9,500,000 10,331,501 21,583,031 27,983,072 41,561,492 15,420,290 26,380,112 33,644,625 54,691,829 2,489,658 3,902,113 5,325,579 6,930,836 14,105,059 25,152,144 42,985,467 55,408,511 3,660,125 6,925,649 8,485,791 14,455,087 562,396 839,354 1,098,154 1,404,340 19,214,587 34,985,787 55,587,284 74,925,202 2.25:1 2.33:1 - . 2.65:1 TABLE I - IV ATLANTIC ACCEPTANCE CORPORATION Percentage Growth Over Previous Year Major Assets and Liabilities June 30, June 30, Dec. 31, Dec. 31, Dec. 31, Dec. 31, 1955 1956 1956 1957 1958 1959 Receivables (less reserve for losses). . (14.04%) Total Assets ( 9.11%) Bank Advances . . (57.08%) Short Term Notes _ _ _ _ Long Term Debt (Commenced) Capital Stock .33.47% Retained Earnings 75.13% Working Capital 82.30% 33.19% 55.42% 1.67% 15.14% 263.29% 37.95% 44.41% 46.29% 0.27% 2 37.33% 98.53% 104.44% 2.57% 12.49% 129.47% - - - - - - - - - - - - (Commenced) - - - - - 281v86% 32.79% 359.68% - - - 2.92% - - - 169.12% 21.97% 61. 38% 57.94% 60.73% 68.84% 173.51% (10.19%) 21.00% (3.24%) 63.25% 344.05% TABLE I - IV Continued Dec. 31, 1960 Dec. 31, 1961 Dec. 31, 1962 Dec. 31, 1963 Dec. 31, 1964 Receivables (less reserve for losses). 104.07% 80.85% 77.56% 45.16% 45.80% 77.34% 82.96% 74.28% 44.72% 45.18% (13.46%) 59.46% (20.59%) 25.12% 139.98% 307.29% 19.83% 108.91% 29.65% 48.52% 16.45% 242.23% 78.32% 70.90% 28.90% 40.74% 133.08% 89.23% 22.53% 70.34% 93.38% . 36.27% 49.25% 30.83% 27.88% 44.65% 152.32% 82.08% 58.89% 34.79% TABLE I - V SALES FINANCE AND CONSUMER LOAN COMPANIES Growth Trends 1960 - 1964 (Fourth Quarter) Source - - D.B.S. 61-006 1960 1961 1962 1963 Millions of Dollars 1964 29 29 29 39 62 2,037 2, 365 2,751 3,200 2,317 2,340 2,726 3,191 3,686 195 212 259 310 544 493 672 859 1,062 621 689 760 869 1,031 166 192 223 261 288 113 127 140 163 186 TABLE I - VI SALES FINANCE AND CONSUMER LOAN COMPANIES Percentage Growth 1960 - 1964 (Fourth Quarter) Source - - D.B.S. 61-006 1961 1962 1963 1964 ( 0.39%) 16.10% 16.32% 16.32% 0.7 3% 16.50% 17.06% 15.51% (30.60%) 8.72% 22.17% 19.69% 36.31% 27.83% 23.63% 10.95% 10.30% 14.34% 18.64% 15.66% 16.15% 17.04% 10.34% 12.39% 10.24% 16.43% 14.11% TABLE I - VII ATLANTIC ACCEPTANCE CORPORATION Dollar Growth of Revenue and Expenses (Year End) Source - - Financial Post Corporation Service (6 mos.) June 30 June 30 June 30 Dec. 31 Dec. 31 Dec. 31 Dec. 31 1954 1955 1956 1956 1957 1958 1959 Revenue 109,780 191,940 Operating expenses 66,426 118,700 Net earnings 43,354 67,740 Interest charges 22,959 39,235 Net profit (after taxes) . . . . 14,700 19,324 215,030 187,014 394,554 502,819 1,286,830 129,072 113,117 209,859 269,495 687,127 83,308 72,947 183,545 231,524 598,153 43,065 45,892 120,125 138,832 268,048 23,536 18,496 33,989 48,391 152,883 TABLE I - VII Continued Dec. 31 Dec. 31 Dec. 31 Dec. 31 Dec. 31 1960 1961 1962 1963 1964 Revenue. 2,696,006 4,641,788 8,124,449 10,807,285 15,317,478 Operating expenses 1,484,189 2,711,182 4,756,874 6,146,353 8,382,720 Net earnings 1,210,767 1,928,506 3,364,893 4,658,322 6,931,258 Interest charges 609,061 1,162,939 2,179,388 3,449,082 4,977,091 Net profit (after taxes) 270,424 356,352 608,120 814,403 1,100,004 TABLE I - VIII ATLANTIC ACCEPTANCE CORPORATION Percentage Growth Over Previous Year Revenue and Expenses (6 mos.) June 30 June 30 Dec. 31 Dec. 31 Dec. 31 Dec. 31 1955 1956 1956 1957 1958 1959 Revenue 74.84% 12.03% (13.03%) 110.98% 27.44% 155.92% Operating expenses 78.69% 8.73% (12.36%) 85.52% 28.42% 232.84% Net earnings . 56.25% 22.98% (12.44%) 151.61% 26.14% 158.35% Interest charges 70.89% 9.76% 6.56% 161.76% 15.57% 93.07% Net profit (after taxes) 31.46% 21.80% (21.41%) 83.76% 42.37% 215.93% TABLE I - VIII Continued Dec. 31 Dec. 31 Dec. 31 Dec. 31 Dec. 31 1960 1961 1962 1963 1964 Revenue 109.51% 72.17% 75.03% 33.02% 41.73% Operating expenses 115.99% 82.67% 75.45% 29.21% 36.38% Net earnings 102.42% 59.30% 74.48% 38.44% 48.79% Interest charges 127.22% 90.94% 87.40% 58.26% 44.30%. Net profit (after taxes) 76.88% 31.78% 70.65% 33.92% 35.07% TABLE I - IX ATLANTIC ACCEPTANCE CORPORATION Percentages of Receivables 1954 1955 1956 (6 mos.) 1956 1957 1958 1959 1960 1961 1962 1963 1964 Bank Advances. . 64.61% 32.23% 48.08% 63.25% 63.80% 49.26% 31.12% 13.15% 11.63% 5.20% 4.48% 7. 38% Short Term Notes . . . 22.81% 45.53% 30.17% 35.49% 31.70% 32.29% Long Term Debt . . . - - - 28.46% 21.37% 13.75% 51.64% 30.14% 38.14% 21.76% 41. 18% 41. 36% 48.69% 43.05% Capital Stock . . . 2 0. 17% 31.32% 23.52% 15.58% 15.32% 35.81% 12.02% 8.29% 10.69% 11.39% 9.61% 11.23% TABLE I - X SALES FINANCE AND CONSUMER LOAN COMPANIES Percentages of Receivables Source - - D.B.S. 61-006 (Fourth Quarter) 1960 1961 1962 1963 1964 13.74% 9.57% 8.96% 9.41% 9.69% 26.60% 24.20% 28.41% 31.23% 33. 19% 30.37% 33.82% 32.14% 31.59% 32.22% 9.42% 9.42% 9.49% 9. 00% APPENDIX A PARTIAL LIST OF MAJOR ATLANTIC CREDITORS Source - - Globe and Mail, Toronto, August 2 5 , 1 9 6 6 Demand Notes Atlantic Sugar Refineries $ 3 0 0 , 0 0 0 British Mortgage & Trust Co 2 0 0 , 0 0 0 Canadian Gas & Energy Fund 4 0 0 , 0 0 0 Commodore Sales Acceptance Ltd 7 5 0 , 0 0 0 Denison Mines Ltd U.S. 4 0 0 , 0 0 0 Gairdner & Co. in trust 5 0 0 , 0 0 0 Home Smith Properties Ltd 5 0 0 , 0 0 0 Northwest Nitro-Chemicals Ltd U.S. 2 5 0 , 0 0 0 Royal Bank of Canada 2 , 0 0 0 , 0 0 0 Toronto-Dominion Bank 1 , 2 5 0 , 0 0 0 Short-Term Notes American Lutheran Church U.S. $ 5 0 0 , 0 0 0 Atlantic Sugar Refineries Ltd 1 , 0 0 0 , 0 0 0 Aviation Electronics Ltd 1 0 0 , 0 0 0 Borg-Warner Corp U.S. 5 0 0 , 0 0 0 British Mortgage & Trust Co 2 , 2 0 0 , 0 0 0 Campbell Soup Co U.S. 1 , 0 0 0 , 0 0 0 Campbell Soup Co. Ltd 2 5 0 , 0 0 0 Canada & Dominion Sugar Co U.S. 1 , 0 0 0 , 0 0 0 Canada Permanent Trust Co 1 , 3 9 6 , 0 0 0 Canadian Bar Association 4 0 , 0 0 0 Canadian Uti l i t ies Ltd 1 , 1 0 0 , 0 0 0 Chesapeake 6c Ohio Railway Co U.S. 2 , 0 0 0 , 0 0 0 Chrysler Canada Ltd U.S. 1 , 0 0 0 , 0 0 0 Consolidated Finance Corp 1 , 0 1 0 , 0 0 0 Credit Suisse (Canada) Ltd 2 5 0 , 0 0 0 CTV Television Network Ltd 1 5 0 , 0 0 0 CTV Television Network Ltd U.S. 2 5 , 0 0 0 Denison Mines Ltd 2 5 0 , 0 0 0 Dow Chemical of Canada Ltd 2 , 9 5 2 , 0 0 0 Eastern & Chartered Trust Co 5 0 6 , 0 0 0 First National City Bank of New York U.S. 3 , 0 0 0 , 0 0 0 Hayes Steel Products Ltd 2 5 0 , 0 0 0 International Trust Co 2 5 0 , 0 0 0 Lambert & Co 5 0 , 0 0 0 Madison Fund Inc U.S. 1 , 0 0 0 , 0 0 0 Wm. M. Mercer Ltd. . ' 4 2 5 , 0 0 0 3 5 36 APPENDIX A - - Continued Short-Term Notes (Continued) Minnesota Mining & Mfg U.S. $1,000,000 Montreal Trust Co. Acct. V-286 500,000 Moody's Investors Service Inc U.S. 50,000 National Lead Co U.S. 2,500,000 Otto Family U.S. 268,000 Pacific Great Eastern Railway 360,000 Proctor & Gamble Co. of Canada Ltd. 1,500,000 Rayonier Canada (B.C.) Ltd 750,000 Rayonier Inc U.S. 1,000,000 Skelly Oil Co 1,000,000 Societe Financiere pour Commerce et 1'Industrie Ltee. (SFCI) 5,000,000 Toronto-Dominion Bank U.S. 4,000,000 Underwriters Bank Inc., Hamilton, Bermuda U.S. 500,000 University of Minnesota Regents U.S. 250,000 University of Pennsylvania Trustees 560,000 Witco Chemical Co. Inc U.S. 1,000,000 Junior Short-Term Subordinated Note British Mortgage & Trust Co $1,000,000 Medium-Term Notes Aetna Life Insurance Co U.S. $2,000,000 Burlington Investments Ltd 100,000 First National City Trust Co. of Canada 100,000 Ford Foundation U.S. 2,000,000 Mrs. Nedra Pilkey 50,000 Prismac Ltd. # 700,000 Long-Term Notes, Series A Aetna Insurance $5,400,000 American Missionary Association 170,000 Annuity Fund of Congregational Ministers 170,000 Berkshire Life Insurance Co 500,000 Connecticut General Life Insurance Co 1,000,000 Connecticut Mutual Life Insurance Co 4,000,000 Continental Assurance Co 1,500,000 Continental Ill inois National Bank & Trust 500,000 Corp. for the General Council of Congregational Christian Churches of the U. S . 42,000 Eaton Retirement Fund Trustees 2,038,000 Guardian Life Insurance Co 1,923,000 Life and Casualty Insurance Co. of Tennessee 280,000 Lincoln National Life Insurance Co 2,250,000 Massachusetts Mutual Life Insurance Co 3,046,000 Mutual Benefit Life Insurance Co 1,500,000 National Life Assurance Co., Toronto 800,000 New England Life Insurance Co 2,000,000 APPENDIX B ATLANTIC ACCEPTANCE CORPORATION Common Stock Performance Source - - Financial Post Corporation Service Earnings/ Price Range Price/ Share Dividend High Low Earnings 1955 0.10 Nil 9. 00 6.00 75. 00 1956 0.19 Nil 7.00 5.00 31.57 1957. . . . 0.33 Nil 7.00 5.00 18. 18 1958 0.19 Nil 6.75 5.00 30.92 1959 0.70 Nil 14.50 5.13 14.02 1960. 1.01 0. 10 16.75 12.00 14.23 1961 0.94 0.45 26.50 16.25 22.74 1962 1.52 0. 65 26.00 17.50 14. 31 1963 1.50 0.80 22.25 16.25 12.83 1964 1.65 1. 00 20.50 14.00 10.45 1965 - - 22.25 (April) 1.05 (July) - - -Trading suspended on July 12. Price of Common was $1.65 APPENDIX C STATEMENT OF CONDITION ATLANTIC ACCEPTANCE CORPORATION AT JUNE 17, 1965 Assets available to creditors: Book Value Estimated Realizable Value Cash on hand $ 1,320,866 $ 1,320,866 Notes and Accounts Receivable net $ 54,000,000 Atlantic Acceptance $57,771,161 Atlantic Finance 35,199,946 35,000,000 Commodore Sales Acceptance 35,719,586 13,500,000 Commodore Factors 10,915,899 3,000,000 Adelaide Acceptance 4,778,391 700,000 Standard Discount 3,816,200 2,800,000 Other Subsidiaries 987,689 980,000 Total notes and accounts receivable net 149,188,872 109,980,000 Income tax receivable 556,321 556,321 Prepaid exp. & other assets 963,385 400,000 Equipment & leasehold imprv. 203,482 100,000 Unamortized Costs 2,577,000 Total Assets for Creditors $154,809,926 $112,357,187 Less: Unearned interest Due dealers Net Assets for Creditors Liabil it ies to Senior Notes* Surplus (deficit) $ 7,535,829 1,388,529 $ 8,924,357 $145,885,569 106,863,340 $ 39,022,229 $ 8,924,357 $103,432,830 106,863,340 ($ 3,430,510) Other Liabil it ies: Subordinated notes Junior subord. notes Other creditors $16,798,820 4,351,679 7,774,911 $ 28,925,410 $ 10,096,819 $ 28,925,410 ($ 32,355,920) Source - - Report of Receiver and Manager, op. cit . p. 5. 38 SUMMARY AND CONCLUSION There is no doubt that the growth of Atlantic Acceptance Cor-poration was, by comparison with that of the Canadian finance industry, very commendable. Atlantic Acceptance's assets grew from $1,248,998 at the end of 1954 to $132,937,729 at the end of 1964,5 0 whereas assets of the finance industry in total grew only from $998 million at the end of 1954 to $3,686 million by the end of 1964.5 1 Since Atlantic was a relatively new entrant to the finance industry, one could contend that a comparison of its performance with that of a mature industry would be partially unfair, but even as late in its growth cycle as 1961 to 1964 Atlantic's assets were growing at rates of 82.96%, 74.28%, 44.72% and 45.18%, respectively, whereas total asset growth in the overall finance industry during the same years was only 0.7 3%, 16.50%, 17.06%, and 15.51%, respectively. 5 2 From the analysis presented in Chapter I, and in the Appendix to Chapter I, one is forced to ask himself this question: Why was Atlantic Acceptance Corporation so different from other finance com-panies in Canada? Its business interests seemed no different from that of the sales finance and consumer finance industry in general; 5 0See Table I-III in Appendix to this Chapter. 5-*-See Table I-IV in Appendix to this Chapter. Also Bank of Canada Statistical Summaries, Supplements. 5 2See Tables I-IV and I-VI in Appendix to this Chapter. 39 40 its financial structure was not strikingly different from that of the industry in general; the fact that i t borrowed in the United States was not peculiar to Atlantic Acceptance; growth in business is not a sin, why therefore be concerned with Atlantic? In aswering the above question, i t ought not to be out of order to pose another question - - Why would a company which was performing so well suddenly go into receivership? Are we to take its President's word that the Company was only facing a short-run financing problem? Are we to believe that Atlantic Acceptance's demise occurred only because of its inability to meet the terms of a maturing short-term secured note? It will be contended that Atlantic Acceptance Corporation did not collapse solely because of its inability to meet its obligation on June 14th, 1965. In Chapter II evidence will be assessed and analyzed with the intention of demonstrating that the collapse of Atlantic Acceptance stemmed from a long line of mismanagement and unethical practices which culminated inevitably in the events of June 14th and 17th, 1965. CHAPTER II PRECIPITATING FACTORS IN THE COLLAPSE OF ATLANTIC ACCEPTANCE CORPORATION LIMITED In this Chapter the aim is to investigate what may be regarded as the major causes of the collapse of Atlantic Acceptance Corporation.. The investigation will be concerned with: the quality of receivables in the Sales Finance, Consumer Loan and Commercial sectors of Atlantic's business, but major emphasis will be placed on the Commercial sector for reasons which will be stated as the Chapter develops. After focusing on the quality of receivables, our plan is to investigate those practices which may have been direct contributors to the quality of the receivables which Atlantic Acceptance Corporation held on June 17th, 1965. We shall be concerned with factors such as: lending policies, management practices, auditing procedures, and com-plete hegemony of the President over the Board of Directors. We will take the approach of citing actual cases to highlight the practices followed. Our plan of action is drawn on the principle of first outlining the theoretical aspects of lending and management policies, presenting evidence under the various subheadings, and then writing a summary and conclusion at the end of the Chapter. We feel that this approach will result in a less disjointed effort. One could contend that there is a common thread running throughout the entire fabric of Atlantic Accep-tance Corporation. This thread of mal-practice and mismanagement 41 42 will be seen more clearly i f presented in an overall conclusion, rather than in short pieces at the end of each section. 1. The Quality of Receivables in the Sales Finance and Consumer Loan Sectors  (a) Atlantic Acceptance Corporation Limited. In its f irst report to note holders, Montreal Trust Company, the Receiver and Manager of Atlantic Acceptance Corporation, stated that total receivables in the parent company, Atlantic Acceptance Cor-poration Limited, at June 17, 1965, were $57,771,161 after provision for losses of $2,818,000 and that this provision was increased by $1,765,538 on June 17th, to give appropriate discounting to delin-quent accounts. The report stated further that in the automobile category, wholesale and capital loans appeared to be excessive and inadequately secured. Under investigation were a number of cases in the "large loans" category not properly classified as sales finance paper. The Receiver warned that reserves for further losses of as much as $3,700,000 should be set up, thus reducing estimated receivables to approximately $54, 000,000. ^ (b) Atlantic Finance Corporation Limited. The Receiver concluded that this part of Atlantic's receivables presents the best chance for recovery. The extent of receivables in Atlantic Finance Corporation's small-loan portfolio amounted to $35,199,946 on June 17, 1965, after provision for losses of $492,490.2 •^ Report of Receiver and Manager, 6p. cit . , p. 2. 2 Ib id . , p. 2. 43 (c) Standard Discount Corporation Limited. As at June 17, 1965, receivables in this subsidiary amounted to $3,816,200. Standard owed Atlantic $2,266,104 and a further $561,363 was owing to The Premier Finance Corporation Limited, an inter-company account. The Receiver estimated that at least inter-company account balances could be recovered i f Standard were sold as a going concern. It was further anticipated by the Receiver that Atlantic's original investment in Standard of $861,367 might be recoverable to some extent. (d) The Premier Finance Corporation Limited. In their first report to note holders the Receiver tells us that Atlantic had decided to liquidate this subsidiary prior to the date of receivership, and its lending operations had ceased. At June 17, 1965, total receivables were $696,394 after a loss provision of $1,696,042. Included in the receivables was $788,500 owing by Racan Photo-Copy Corporation Limited, Toronto, secured by a chattel mort-gage. A petition in bankruptcy was filed against Racan, with slight possibility of recovery. The Receiver's report points out further, that proceedings were taken in respect of a large group of delinquent accounts in order to reduce potential losses.^ 2. Quality of Receivables in the Commercial Loans Sector Atlantic's Commercial loans were handled by three companies basically: 3 Ibid . , p. 2. ^Report of Receiver and Manager, op. cit . , p. 3. 44 Commodore Sales Acceptance Limited Commodore Factors Limited Adelaide Acceptance Limited. The Receiver and Manager suggest"* that since there is some over-lapping in the receivables of the above three subsidiaries, they should be considered as one. Their business was conducted from a separate office from Atlantic 1s in Toronto, and fe l l under the personal super-vision of the President of Atlantic Acceptance Corporation, C. Powell Morgan.^ TABLE II - I RECEIVABLES IN COMMODORE GROUP Company Receivables at June 17, 1965^  Commodore Sales $35,719,586 Commodore Factors 10,915,899 Adelaide Acceptance 4,778,391 $51,413,876 In the Commodore group, "it would be prudent to reserve for losses of approximately $34,000,000", says the Receiver. "In almost a l l cases the outstanding loan exceeds the apparent value of the borrowing company, or the value of any specific collateral or security which can be realized. About 25% of the receivables are notes of Aurora Leasing Cor-Q poration Limited, a public company not owned or controlled by Atlantic." 0 5 Ib id . , p. 3. 6 Ibid . , p. 1. 7 Ibid . , p. 5. ^Report of Receiver and Manager, op. c i t . , p. 1. 45 About $10,000,000 of Commodore Sales' receivables are owing by Aurora Leasing Corporation. Of the balance of $25,000,000, about $3,500,000 is involved in bankruptcy action. One claim against a group of dis-count stores, secured only by inventories and fixtures, will realize only about $70,000. A claim against Racan Photo-Copy Corporation Limited for $440,000 on an assignment of book debts has doubtful value. A loan of $3,780,000 appears to have no security other than a bloc of shares of Lucayan Beach Hotel and Development Limited. . . . Through similar loans and advances to a construction company in Grand Bahama, Atlantic and Aurora had a total of $10,000,000 outstanding (in the Lucayan Beach Hotel), the only security for which was a minority interest in the hotel company.9 The same poor portfolio quality is exhibited by Commodore Factors Limited. Bankruptcy action was brought against General Spray Service Inc. and Turf Kings Enterprises of New York to protect a claim of $2,250,000 but apparent liquidation value is only fractional. A loan inthe amount of $1,200,000 to a paint company, has a potential realizable value of only $250,000.10 On June 17th, 1965, Aurora owed Adelaide Acceptance $2,500,000. When the Receiver learned that Fredericks Department Store of London, Ontario, was going out of business, steps were taken to enforce a chattel mortgage of $600,000 held by Adelaide Acceptance, but recoveries were less than $100,000. Except for a few cases, other Adelaide Accep-tance loans have l i t t l e apparent recovery value.H 9 Ib id . , p. 3. •^Report of Receiver and Manager, op. c i t . , p. 3. 1 1 Ib icL, p. 3. 46 TABLE II - II - Summary* ESTIMATE OF REALIZATIONS AT JUNE 17, 1965 Total Anticipated Company Receivables Realizations Atlantic Acceptance Cor-poration Limited Atlantic Finance Corporation Limited Standard Discount Corporation Limited Commodore Sales Acceptance Limited Commodore Factors Limited . . Adelaide Acceptance Limited . Other Subsidiaries $ 57,771,161 35,199,946 3,816,200 35,719,586 10,915,899 4,778,391 987,689 $149,188,872 $ 54,000,000 35,000,000 2,800,000 13,500,000 3,000,000 700,000 980,000 $109,980,000 *For more thorough information, please refer to Appendix C of Chapter I. 3. Major Source of Difficulty A study of the Statement of Condition of June 17, 1965^ reveals that out of total notes and accounts receivable of $149,188,872, the Commodore Group of subsidiaries, i .e . , Commodore Sales Acceptance Limited, Commodore Factors Limited and Adelaide Acceptance Limited, accounted for $51,413,876 or approximately one-third of total notes and receivables outstanding. See Appendix C to Chapter I of this study. 47 We may note further, that out of an estimated realizable loss on receivables of $39,208,872, the Commodore Group accounted for $34,213,876 or an overwhelming 87%. On the basis of the above evidence, i t would seem reasonable that any attempt at assessing the precipitating facets in Atlantic's collapse should be aimed squarely at those subsidiaries concerned with the granting of commercial loans. Atlantic Acceptance Corporation and Atlantic Finance Corporation are important too, but the evidence of loss in the latter two companies is not nearly as striking as in the Commodore Group. It does not seem logical that losses of the size of $34,000,000 are built up over very short periods, subsequently a study of Atlantic's practices might reveal patterns of mismanagement which were bound to lead to financial difficulties, i f not financial collapse. 48 TABLE IT - III No. of Accounts and Corresponding Receivables ATLANTIC ACCEPTANCE CORPORATION LIMITED Company No. of Accounts Notes Receivable-^ Atlantic Acceptance Corporation 34,184 $ 53,282,257 Atlantic Finance Corporation Limited . . 54,477 33,167,133 Commodore Sales Acceptance Limited . . . 63 35,560,344 17 10,707,401 16 4,295,612 Standard Discount Corporation Limited 70,714 3,683,083 The Premier Finance Corporation Limited 6,997 666,849 Atlantic Acceptance (Toronto) Limited) Pay As You Study Plan Limited ) Concourse Agencies Limited ) 108 290,364 186,576 $141,653,043 According to an executive^ ± n the finance industry, consumer finance is built on the theory of lending a large number of people a small amount of money. Atlantic Acceptance seems to have followed this dictum l^ Memorandum As To Init ial Award of Compensation, op. c i t . , p. 5. •^Deductions for unearned interest and estimated allowances for losses account for the difference between figures in this table and those in Appendix C, Chapter I. 1:>R. W. Yantis, President of Delta Acceptance Co. Ltd. , of London, Ontario. "Atlantic Couldn't Have Measured Up to U. S. Yard-sticks", Globe and Mail, Toronto, Oct. 20, 1965, p. B9. 49 in its sales finance and consumer loans, but chose a completely dif-ferent rationale in its granting of commercial loans. 4. A General Model for the Formulation of Lending Policies  This section is based totally on a study conducted by Douglas 1 6 Hayes on the formulation and execution of bank lending policies in the United States of America. Since Professor Hayes' findings are based on empirical detailed study of nine large banks in the United States, i t seems reasonable to conclude that the practices detailed in his study have evolved over a period of years and have been found adequate and successful. It seems reasonable further to assume that lending policies of commercial banks should be applicable to finance companies, since finance companies and banks deal basically with the same lending principles, especially in the commercial loan sector. On the other hand, commercial banks have been in successful operation much longer than finance com-panies, and it ought to be natural for well run finance companies to formulate their lending policies along the lines of many of the successful policies developed by the commercial banks. A further consideration which led to the use of Professor Hayes' study as a normative model may be found in the fact that whereas the literature on lending policies for chartered banks is available (though scant), the literature on lending policies for finance companies is harder to locate. l^Douglas Hayes, Bank Lending Policies, Issues and Practices, (Ann Arbor, Michigan: Bureau of Business Research, Graduate School of Business Administration, University of Michigan, 1964), Chapters 3, 5, 6 and 7. 50 Operational Characteristics of Commercial Loans'' -7.--(1) There must be a large enough number of qualified loan officers to give personal attention to borrowers. New lending officers are required repeatedly for replacement and expansion. (2) Close contacts with borrowing firms are made at management level. (3) Since borrowers may be representative of a variety of indus-tries, special technical knowledge will be required of loan officers. (4) Adequate servicing of loans requires regular personal calls. (5) Adequate credit information must be available on each customer, so that credit decisions will be based on careful analysis, satisfactory to top management, internal auditors, and outside examiners. (6) Top management, i .e . , the chief executive officers and the Board of Directors, usually desire to be informed of major decisions in the commercial loan portfolio, and to have some control over the portfolio's composition, since commercial loans represent major risk asset exposure. Ibid., p. 36. FIGURE II - I THE HAYES LENDING MODEL - Commercial Loan Organization Chart Board of Directors Executive Committee (Board) Composition: 3 to 5 officer and non-officer members Loan Committee Composition: Group heads plus some executive officers GROUP A GROUP B GROUP C GROUP D Vice-presidents, Assistant Vice-presidents Assistant Cashiers Credit Department Composition: Credit Manager Senior Credit Analysts Junior Credit Analysts 52 Explanatory Notes and Discussion of The Hayes Lending Model.--The major concept in the Hayes lending model is the concept of the commercial loan organization working as a unit. Each department has its duties and responsibilities, which may be separate and distinct, but no department operates as an entity in itself. Chain of command responsibilities proceed downward from the Board of Directors through the various intermediary committees and groups into the credit department. In this manner senior management is kept constan-tly aware of a l l developments in the lending organization. The Loan Group.--In Professor Hayes' Study^ he found that the loan group is organized in such a way that i t becomes a discussion unit for the consideration and making of decisions on loan requests which may need more than one point of view because of their size and complexity. In each loan group, specific officers are responsible for given customers, and senior officers are expected to supervise the work of less experienced personnel. In this way senior officers can review loan rejections before final notice to customers, and the heads of loan groups become natural lines of communication between chief executive officers and the lending staff. The Credit Department-^.--This department is essentially a service and advisory group, mainly clerical in nature. It arises out of the recognition that formal credit files and analysis of borrowing customers would greatly assist in the rendering of intelligent decisions on loan requests. Hayes, op. c i t . , p. 39. Ibid., p. 40 53 The major functions performed in the credit department are: ( 1 ) The collection of a l l data and information pertinent to the present and future financial status of customers and potential customers. (2) The collection and fi l ing of a l l information on a customer's past relations with the organization. (3) The maintenance of a correspondence section relating to a l l information dealing with requests for credit information, or credit investigation of a customer. 2 0 Loan Groups and Committees .--It is in the loan groups and committees that we find the primary responsibility for initiating credit arrangements, but here there is a limit to final decision authorities. Individual loan authorities are increased upward according to rank on the assumption that the same abilities which led to promotion should permit greater exercise of individual judgement. Hayes refutes the argument that the committee system could lead to delay in making decisions by holding the position that: most commercial customers usually do not need immediate action; well managed companies anticipate credit needs and make loan requests well in advance; loan committees meet every day, and except for large loans requiring executive committee approval delay cannot be greater than twenty-four hours; and finally, special authorities are granted for urgent situations. 2^ 2 0 I b i d . , p. 43. 2 1 I b i d . , p. 43. 54 22 Executive Committee of the Board .--This is a special high level loan committee with its own functions. It's prior review and approval are required on loans over a specific size. Variations in loan approval by this committee ranged from loans of $200,000 up to loans of $2 million. The functions of the executive committee of the board appear to be especially structured towards active participation in the lending process and the exercise of responsibility for major asset acquisitions on the part of members of the Board of Directors. These functions are: (1) Top level screening of major asset acquisitions., (2) Detailed review of past due loans. (3) The seeking of management explanation of actions taken or contemplated on delinquent or slow paying customers. Special Review Loans Officer or Committee23.--This officer or committee does not appear in the Hayes lending model but operates as an integral part of the lending organization nevertheless. The objective of the special review loans officer is to assist chief executive officers and the Board of Directors in effectively evaluating risk exposure and formulating lending policies. The special review loans officer attempts to meet the objectives of his office in any or a l l of the following ways: (1) By making periodic reports to senior officers and to the executive committee on the credit status of major borrowers. (2) By regular follow-ups of planned payment programmes on larger loans and reports to senior management on problem loans. 2 2 I b i d . , p. 46. 2 3Hayes, op. c i t . , pp. 48 - 49. 55 (3) By regular examination of problem loans or past due loans and reports on progress made to eliminate delinquency. (4) Through periodic analysis, by industry and maturity, of the composition of the loan portfolio, including cash flows to and from the loan account. In the empirical study mentioned above, Professor Hayes found that the nine organizations assessed, not only operated under a clearly defined system of interrelationships in lending responsibility, but also adhered to set lending policies. These lending policies formed the framework in which the organization chart was operative. The lending policies were both general in nature, and specific. General Lending Pol ic ies 2 4 . - -(1) Personal visits should be made to a borrower's offices or plant at least once each year. (2) Agency reports such as Dunn and Bradstreet should be obtained on a l l new accounts. (3) Financial and trade publications should be reviewed and pertinent articles kept in the borrower's files. (4) Contacts should be maintained with suppliers, customers and competitors of a borrower. (5) The purpose of loans should be indicated. (6) A l l conversations with customers in relation to their accounts should be followed by written memoranda on the conversations. (7) Files should be maintained on a l l borrowers, for three basic reasons: 2 4 I b i d . , pp. 71 - 74. 56 (a) They provide an accurate historical record of the essential features of the customer's relationship with the lending body. (b) They are the source of data for loan evaluation and assist in the making of loan decisions. (c) They provide a summary record of a l l verbal communica-tions which may be pertinent. Specific Lending Policies.--(a) Collateral Requirements2-^ (1) Collateral is required for a l l business loans, regardless of the risks involved. (2) The unsecured collateral arrangement dominates, because i t is more economical for both parties to the transaction. (b) Financial Statements2^ In relation to this important area, Professor Hayes found the following policy directives: (1) In a l l cases of commercial loans, comparative balance sheets, and income statements are required for the previous three to five years. (2) If a loan is adequately secured with marketable collateral, financial statement requirements are waived. (3) On some types of loans, (e.g. term loans) income state-ments for ten years are required in addition to cash flow analyses and forecasts. 2 5 I b i d . , pp. 118 - 119. 2 6 I b i d . , p. 71. 57 (4) On large loans, audited statements are axiomatic. i (5) Some of the banks studied regard audited statements as standard procedure on a l l business loans, others indicate that audited statements are preferrable. (6) Robert Morris Associates make the unqualified recom-mendation that a l l commercial loans must have annual audits. Did the policies followed by Atlantic Acceptance Corporation conform to any of the principles collected and published by Professor Hayes? Did Atlantic's operating practices follow the general model outlined in this section? These are questions to which answers will be provided at the end of this chapter after evidence of Atlantic's practices is gathered in the ensuing sections. It might very well be that the answers wil l be obvious as the chapter develops. 5. Lending Policies of Atlantic Acceptance Corporation*1'  After Atlantic's collapse, Montreal Trust Company, the Receiver and Manager, retained the services of General Acceptance Corporation of Allentown, Pa., to undertake a preliminary assessment of Atlantic's business. 2^For information on almost a l l of Atlantic's policies, we have to depend on testimony given to the Royal Commission set up by the Government of the Province of Ontario to look into Atlantic's collapse, or on testimony given at court hearings, or on studies carried out by accountants and investigators retained by the Receiver and Manager. 58 Essence of General Acceptance Findings re Commercial Loans 2^.--General Acceptance Corporation related that it's officers had a difficult time obtaining satisfactory current information on several accounts. They found that financial control over the commercial sector was non-existent. There was no evidence of credit action, or of lending policies or of limitations on the amount of loans permitted to be made by any one borrower. Commodore Sales Acceptance and Commodore Factors were in theory operated by Mr. A. G. Woolfrey, but he held no credit granting authority. A l l loans in the Commodore Group were approved by the President of Atlantic Acceptance or were directed to be made by the President, C. Powell Morgan. No reporting system was maintained. There were no reports, internal or otherwise re delinquency of principal, interest, the con-dition of accounts or related collateral. The only available reports were monthly unaudited balance sheets and statements of operations prepared by Wagman, Fruitman and Landeau, chartered accountants. Operational field audits were concerned only with reconciling the lender's accounts receivable with borrowers accounts payable. There was no evidence that appraisals were obtained on real estate, machinery, or other types of fixed asset loans. No evidence was on fi le as to the value of loan collateral. 28A11 information under this sub-heading based on A Memorandum submitted to Montreal Trust by General Acceptance Corporation of Allentown, Pa., and introduced as an exhibit in an Ontario Supreme Court hearing of a proposal by General Acceptance Corporation to take over certain Atlantic Assets. Carried in Globe and Mail, Toronto, October 15, 1965, p. B6. The text of the original memorandum is s t i l l con-fidential. 59 No financial statements were obtained on inspection of an account, and no procedure was evident as to the obtaining of future financial statements. General Acceptance Corporation's officers found that Atlantic's commercial files were devoid of credit agency reports, or other reference checks, and that most accounts were dormant. A few of these were paying interest, but in many cases interest appeared to be accruing and to be added to principal. As examples of the lending policies practised by the Commodore Group, General Acceptance Corporation cited three cases. (1) The last financial statement on f i le for D. H. I. Limited was dated November 30, 1962. This statement showed a deficit in capital position of $182,000 and an operating loss. Commodore Sales had an investment of $4.5 million dollars in D. H. I. on June 17th, 1965. (2) Aurora Leasing Corporation owed Commodore Sales $10.7 million on June 17th, 1965, but there was no Aurora financial statement in Commodore Sales' files. (3) Commodore Factors continued to make unsecured operating advances to Pro Musica Ltd. , as this company gradually deteriorated, and by June 17th, 1965, Pro Musica owed Commodore Factors more than $1,200,000. General Acceptance's officers found that the lending practices followed by the Sales Finance segments of Atlantic's subsidiaries were also questionable. There was a general lack of controls in a l l regions serviced by Atlantic. 60 In Edmonton, where there was a large loan and industrial paper business, many accounts were rewritten in the last 90 days of their term to remove them from delinquency status, and loans were generally supported by questionable collateral. No loan appraisals were on f i le for real estate loans. No credit information was on f i le , and no evidence that there was investigation of a borrower's credit rating. In the London, Ontario, office, there were industrial loans on which no payment had been made for years and on which the collateral was either gone or represented no equity. In St. Catherines, the files showed a reluctance to write off delinquent loans, a high delinquency rate and inadequate collateral. In Toronto, there was high delinquency in home improvements, and very poor documentation. In two cases the records showed that Atlantic had guaranteed a dealer loan of $600,000 from the Royal Bank, but this contingent l iabi l i ty was not reflected in any of the company's finan-cial statements. 9 q Writing in the Memorandum As To Initial Award of Compensation, v the Receiver and Manager point out that "Although the loans made by the (Commodore Group) were not too numerous, nearly every one was in arrears".30 of great concern also was the fact that most of the borrowers were unknown to the senior executives of Montreal Trust Company and its solicitors, and a check of telephone directories and other reference books failed to provide any information on borrowers from the Commodore Group.31 ^Memorandum As To Init ial Award of Compensation, op. c i t . , p. 5. 30ibid., p. 5. 3 1 I b i d . , p. 5. The Receiver and Manager state further that "preliminary examination of the large commercial and industrial loans, . . . and the subsequent audit of accounts, revealed that Atlantic and its subsidiaries had continued to carry on their books receivables, which, in fact had become worthless or were of l i t t le value". 3 2 Preliminary investigation led the Receiver and Manager to dis-cover that the President of Atlantic, together with partners in the firm which acted as auditors of the Commodore Group, owned either directly or indirectly, many of the borrowing companies, and that many of these debtors kept their offices at the same address as the Commodore Group's auditors and retained Fruitman, Wagman, and Lando as their auditors. 3 3 "It became apparent", says the Memorandum, "that many devious and highly complicated schemes had been used to enable the loans to be made in the first instance and then to be carried on the lenders' books so as to appear to be reasonably current and collectible." 3 4 Atlantic's Commercial loans fe l l into three categories: (a) Those that had to be liquidated immediately on receivership, e.g. General Spray Service Inc. (New York) Fredericks Department Stores Limited (London) Valley Farms and Enterprises Limited (Ottawa) Associated Canadian Holdings Limited (Toronto) The "Little Scot" Group of Discount Stores (15 companies located in various Ontario centres). 3 2 I b i d . , p. 7. 3 3 I b i d . , p. 10. 3 4 I b i d . , p. 11. 3 5 I b i d . , pp. 10 - 11. 62 (b) Those to which small advances would result in eventual  sale as going-concerns. e.g. Canadian Nevil Enterprises Inc. (Buffalo) Furniture Sales Registered (Toronto) D. H. I. Limited (Brampton) American Marsh Pumps (Canada) Limited (Brantford and Toronto) Sprayfoil Inc. (Milwaukee) Symphony Paints Inc. (Cleveland). (c) Those in which substantial additional financing would  lead to much greater recovery. e.g. Lucayan Beach Complex Treasure Island Group Conarm Developments Limited. Not only were the loans made to these companies a source of problems for the Receiver, but the character of the borrowers seems to have been highly questionable also. "In almost.everyone of the loans in each of the three categories the Receiver and Manager felt i t necessary to police the day to day transactions of the borrower. Most of the debtors could not be relied upon to carry on their business operations without close supervision."-^ Early in its investigation, the Receiver and Manager found that in many cases, registration and fi l ing of securities for loans had not been properly carried out. Four cases may be cited. 3 6 I b i d . , p. 12. 3 8 I b i d . , pp. 23 - 24. 3 7 I b i d . , p. 23. 63 (1) The first case involves an assignment of book debts given by Aurora Leasing Corporation Limited to Commodore Sales. The assignment was filed in the proper office, but Aurora's trustee in bankruptcy contended that the assignment against i t is null and void because of deficiencies in the affidavit which was to have been filed with the assignment. The Receiver and Manager estimates that Commodore Sales stands to lose $600,000 more in the bankruptcy of Aurora than i t would have lost, i f the assignment is held to be unenfor-ceable. (2) A floating charge debenture given by Fredericks Department Stores Limited in favour of Adelaide Acceptance was not properly registered and is unenforceable. This resulted in a decrease of $145,000 in the estimated recovery of Adelaide in the bankruptcy of Fredericks Department Stores. (3) A chattel mortgage and a floating charge debenture given by American Marsh Pumps (Canada) Limited in favour of Commodore Sales were unenforceable, resulting in a decrease in the recovery of Commodore Sales of approximately $21,000. (4) An assignment of book debts given by Trans Commercial Acceptance Limited in favour of Commodore Sales was improperly registered, and is unenforceable. 64 A look at specific companies-^ to whom Atlantic granted loans will provide us with excellent insight into some of the practices followed by Atlantic Acceptance and its subsidiaries. Valley Farms and Enterprises Limited4^ Mr. R. Ingo, a chartered accountant with Clarkson, Gordon and Company, a firm retained by the Receiver and Manager to study Atlantic's affairs, told the Royal Commission that in September 1961, Valley Farm borrowed $15,000 from Aurora Leasing Corporation. By the end of 1961, the debt was $75,000, and by the end of 1962, Valley Farm's debt to Aurora was $674,000. The debt jumped to $916,000 in 1963, and up to $958,000 in September 1964. On May 31st, 1965, the debt was $873,000, and on August 11th, 1965, Valley Farm went into bankruptcy. In October 1962, the Commission learned that Adelaide Acceptance lent Valley Farm $250,000, and that no payments were made on account of principal. Valley Farm's records indicated no evidence of any security pledged for loans. Valley Farm's books showed a net loss of $69,000 in 1962, but 39A11 information on specific loan granting practices followed by Atlantic is based on evidence given to The Royal Commission Inquiry into Atlantic's affairs. Since the findings of the Commission are not yet published, we have to depend on reports carried in the press. 4^Valley Farms and Enterprises Limited was a used cow lot. It did not actually make loans to customers to buy cows, but endorsed their loans from Atlantic or an Atlantic affiliate. If customers failed to honour their contracts, Valley Farms repossessed their cows and kept them on their lot for sale to packing houses. See "Used Cows Easily Repossessed", Globe and Mail, Toronto, March 22, 1966, p. B2. 65 actual loss on farming was $98,000, and by 1964, there was a net deficit of $162,630 in shareholder's equity. Valley Farm's land was extremely poor farm land. An expert appraiser and a Commission witness valued the land and buildings at $82,700. The Commission learned that the land was worth only $16.00 per acre, but that Valley Farms carried the land on its books at $400 per 41 acre. D. H. I. Limited In testimony given to the Royal Commission on Atlantic by accoun-tant investigators of the Clarkson Gordon firm, i t was brought out that in 1961, Commodore Sales Acceptance loaned D. H. I. Limited $30,000 on inventory and finished goods. Late in 1961, D. H. I. Limited experienced financial difficulties and sold an eighty per cent interest to Inter-provincial Factors Limited. The Commission learned that in 1962, C. Powell Morgan used $350,000 of Aurora Leasing Corporation's funds to acquire Interprovincial's eighty per cent interest in D. H. I. Limited. In 1961, D. H. I. Limited lost $7,124 on sales of $1,234,000; in 1962, D. H. I. lost $387,424. In 1963 its loss was $330,950. In 1964, its loss was $1,563,559, and for nine months to September 30th, 1965, 4 1"Dairy Farm owed $1,301,500, Atlantic Inquiry Told", Globe and  Mail, Toronto, March 18, 1966, p. B7. A l l evidence on Valley Farms and Enterprises came out of Mr. Ingo's testimony. We will learn later that both Valley Farms and Aurora Leasing Corporation were controlled by C. Powell Morgan, Atlantic's President. We have already learned (foot-note 8 of this Chapter) that twenty-five percent of the receivables in the Commodore group were notes of Aurora. "After its in i t ia l investi-gation of the nature of certain of the accounts, the Receiver and Manager determined that there were various outstanding loans which could only have been made as the result of fraudulent or dishonest acts." Valley Farms and Enterprises was one of these accounts. Action was brought against Morgan et al. See p. 24 of Memorandum As To Initial Award of Compensation. 66 D. H. I. lost $1,319,290. In 1961 D. H. I. showed a deficit of $128,709, and by 1965 the deficit was $3,737,933. In 1961, before C. Powell Morgan controlled D. H. I. Limited, its borrowings from Commodore Sales were $30,000, and by September 30th, 1965, D. H. I. owed Commodore Sales $4,411,899. For this large obligation, 4? D. H. I. offered only $2,105,626 in collateral. Nevil Enterprises Incorporated In testimony before the Royal Commission on Atlantic, R. H. Scott of Clarkson Gordon pointed out that Nevil Enterprises Incorporated, a Buffalo plastics manufacturing company, owed the Atlantic Group of Companies $5 38,632 at the end of 1961, and by July 31st, 1965, the debt had risen to $2,030,923. Security for this loan was approximately $20,000 in accounts receivable, inventory of about $106,000, and other assets of $31,276. Over the same five year period, Nevil's losses increased the Company's accumulated deficit from $155,223 in 1961 to $1,756,585 in 1965, and the President's personal debt to the Company increased from $137,864 to $231,281. In 1964, the President's salary of $20,000 and expenses of $36,400, plus his secretary's (female) salary of $31,200 totalled approximately one-half of gross sales revenue of $161,000. Direct cost of sales was $155,000. C. Powell Morgan was Vice-President of 4 2 "Della Scala's Window, Door Firm Opens Wide for Probe", Financial Post, Toronto, May 14th, 1966, p. 10. A l l information on D. H. I. may be found in this article. The Receiver and Manager has not made public a l l documentation on individual accounts. 67 Nevil Enterprises Incorporated.4 3 It has been contended that Atlantic displayed a strong reluc-tance to write off loans that were delinquent. 4 4 It has been suggested further that Atlantic followed the Kreuger pattern of financing.4-' It was further suggested that Atlantic threw good money after bad,4^ and that the so-called theory of slips led ' from one difficulty to 4 3 F o r testimony relating to Nevil Enterprises Incorporated, see "Two Million Borrowed on $157,000 Security; Witness", Globe and Mail, Toronto, June 23, 1966, p. 28. 44Anthony Ross, Accountant for the Commission, testified that a $600,000 debt owing to Adelaide Acceptance Limited by Fredericks Depart-ment Stores was pledged as security behind notes up to the point of Atlantic's collapse, in spite of the fact that no interest or principal payments had been made for many more than sixty days. See Ralf Hyman, "Atlantic's Statements often Wrong; Witness", Globe and Mail, Toronto, October 27, 1966, p. 34. euger was the Swedish match king whose empire collapsed in the nineteen-thirties. Like Kreuger, Morgan kept making loans to increase the Company's growth and to attract new funds from investors. Like Kreuger, Morgan also believed i t necessary to conceal his mistakes and to prevent loan defaults to maintain the pretense that the Company was in good shape. See Rossant, New York Times, November 14, 1965, pp. 1 and 85. 4^When interest was not paid on commercial loans, i t was simply added to the face amount of the loan. The loan was increased and designated on the books as being in good standing. Atlantic felt i t could not stand a default or bankruptcy. See F. J . McDarmid, Financial Post, November 20, 1965, p. 18. C. Powell Morgan testified before an Ontario bankruptcy hearing that his purpose in helping some associates finance purchase of shares in Hugo Oppenheim and Son, a private Berlin bank, was ultimately to "improve Atlantic's position, and get the weak position in Pro Musica taken care of". The buyers of the bank shares had agreed to turn over up to $500,000 worth of their profits to and on behalf of Pro Musica. See "When The Roof Fel l in at Atlantic", Business Week, New York, (February 5, 1966), p. 68. 68 another. 4 7 Liberal bookkeeping practices4^ are also blamed for Atlantic's difficulties. It would appear that the evidence assessed so far supports a l l of the postulates presented above. However, whereas Atlantic's lending policies and the quality of its receivables are extremely important, we would contend that these situations should be assessed in conjunction with other practices which the Atlantic group followed. Some of the practices we will discuss might even provide us with the rationale which led Atlantic to the kinds of lending policies which i t followed. 6. Management Practices* C. Powell Morgan was a director of Fredericks Department 4 7 This theory suggests that Atlantic started on the right track, but made some bad commercial loans around 1960. Instead of writing them off, Atlantic shaded its standards, and advanced more money to keep the borrowers going. An example is provided in the Pro Musica Case. "As the Company steadily deteriorated in financial stature", saysG. A. C.'s report to the Receiver and Manager, "Commodore Factors continued to make operating advances." Cf. "When The Roof Fel l in at Atlantic", loc. c i t . , p. 68. 4 8 A t lantic apparently took a large part of its finance income into earnings as soon as i t made a loan, thereby increasing immediate profits at the expense of future results. As early as 1963, internal memoranda at Toronto Dominion Bank raised questions re Atlantic's bookkeeping practices. Atlantic's reported increase in net income accompanied by deferral of branch expenses and loans to some doubtful accounts were cause for concern. Atlantic's line of credit was con-tinued. See John Lee, "Hearing Told of Last Ditch Effort to Meet Debts", New York Times, March 9, 1966, p. 51. ^Information on management practices arises out of testimony given at the Royal Commission hearings into Atlantic's collapse. 69 Store, 4 9 an Atlantic debtor, which was declared bankrupt in 1965. Mr. Morgan's wife was one of the three major shareholders of Associated Canadian Holdings, a company which, in 1964, sold 200,000 out of the 300,000 Lucayan Beach Hotel shares sold to the public. Harry Wagman, partner of the firm which acted as auditors of the Commodore Group, was treasurer of Associated Canadian Holdings. In August 1965, when Associated Canadian Holdings was placed into bankruptcy, the Company owed Atlantic $1,181,369.51 Morgan was an active partner in Dominion Leasehold Limited in association with Harry Wagman of Wagman, Fruitman, and Lando. He was also a director of Phantom Industries Limited, and Leland Publishing Limited, companies which went into bankruptcy while indebted to Atlantic Acceptance.52 Harry Wagman and William Walton were directors of Valley Farms and Enterprises Limited, and C. Powell Morgan was a shareholder. Each 5 3 of these men held three shares out of the nine share capital issue. J C. Powell Morgan owned twenty-five per cent of Dalite (Canada) Limited. Atlantic Acceptance Corporation lost $4.2 million dollars 4 9Frank Kaplan, "Atlantic's Waves Spreading Again", Financial  Post, Toronto, July 31, 1965, p. 1. 5 0 I b i d . , p. 1. -'•'-Frank Kaplan, "Atlantic's Waves Spreading Again", loc. cit . , p. 1. -^Frank Kaplan, "Atlantic's Dollar-Hunt Coming Into Open", Financial Post, Toronto, January 15, 1966, p. 35. 5 3np r ob e Told of Payments to Morgan", Globe and Mail, Toronto, March 19, 1966, p. 34. 70 when Dalite (Canada) Limited was placed in bankruptcy in August, 1965. Dalite (Canada) Limited in turn owned fifty per cent of Dalite (Grand Bahama) Limited, a construction company in the Bahamas. The other fifty per cent of Dalite (Grand Bahama) Limited was owned by Chartered Manage-ment Services Limited, a company controlled by C. Powell Morgan.^4 Dalite (Canada) Limited transferred funds from Commodare Sales Acceptance into Dalite (Grand Bahama) Limited, which was established specifically to deal with the Lucayan Beach H o t e l . W e have already learned that on June 15th, 1965, the Lucayan Beach Hotel owed Atlantic and Aurora a total of $10,000,000.56 If we look at a few specific cases we will find an equally strong indictment of management practices. The Acquisition of Adelaide Acceptance Corporation L. Murray Eades, a Toronto lawyer, testified before the Royal Commission on Atlantic that on March 5th, 1962, acting as a nominee for William Walton, he bought a l l the common and preferred shares of Crest Finance Corporation Limited for $11,000. On March 6th, Eades sold the shares to Atlantic Acceptance for $27,000. For his services, Eades received $661 from Chartered Management of Canada Limited, of which William Walton was President, and C. Powell Morgan was the largest ^ 4Ralf Hyman, "Finance Firm's System of Invoicing Leaves Atlantic's Probers Baffled," Globe and Mail, Toronto, September 22, 1966, p. B4. 5 5 I b i d . , p. B4. -^See footnote 9 to this Chapter. shareholder. Crest Finance Corporation's name was later changed to Adelaide Acceptance Corporation.^7 Aurora Leasing Corporation^8 Carl Solomon, a Toronto lawyer, testified before the Royal Commission on Atlantic that as President of Aurora, he was only the nominee of C. Powell Morgan, since the shares registered in his name were held for Morgan. Morgan, theoretically was neither a director, officer or shareholder of Aurora, but "Mr. Morgan was the manager of Aurora, and he was running the affairs of Aurora and everyone looked to Morgan for information". 59 Charles Austin, a chartered accountant with Clarkson Gordon and Company, also informed the Commission that C. Powell Morgan gained control of Aurora around 1960, and that Aurora was apparently purchased with its own funds. According to Mr. Austin, Aurora borrowed funds from Commodore Sales Acceptance. This money was paid to Mr. Walton, a partner of Morgan's, who was supposed to deposit i t into a trust account held with Solomon and Samuel, a Toronto law firm, to pay Aurora's debts. Walton apparently kept the remainder, after paying Aurora's debts. Harry Wagman of Fruitman, Wagman, and Lando was f>7"Probe H e a r s Tale of Quickie Deal", Vancouver Sun, March 11, 1966, p. 27. S^when Atlantic Acceptance Corporation went into receivership on June 17th, 1965, twenty-five per cent of receivables in the Commo-dore Group of Companies were held by Aurora. See footnote 8 of this Chapter. -^"Atlantic Probe Told of Payments", Vancouver Sun, March 15, 1966, p. 29. 6 0 also a Morgan associate in Aurora. Valley Farms and Enterprises Limited The Commission learned from Mr. K. Ingo, a chartered accountant with Clarkson, Gordon and Company, that in 1962 Valley Farms' books showed directors' loans payable of $169,391. Aurora Leasing Corporation and Adelaide Acceptance made substantial loans to Valley Farms Enter-prises, ^1 and out of this money, Messrs. Morgan, Wagman, and Walton were paid. Mr. Ingo produced cheques to verify this, but no evidence was found that the directors had advanced funds to Valley Farms Enterprises. Treasure Island Properties Limited^3 For $6,000, Mrs. Julia Faust, a London housewife, purchased 1.88 acres of land in London in 1962 and later the same day sold i t for $100,000 to Treasure Island Properties Limited. The Commission learned that Mrs. Faust was the sister-in-law of a Mr. Reid, a London lawyer and business partner of C. Powell Morgan. The profit of $94,000 was deposited in trust for Marco Holdings, which in turn held i t in trust for NGK Invest-64 ments. ^"Company Bought with Its Own Funds", Globe and Mail, Toronto, March 15, 1966, p. B3. 61-See Footnote 40 of this Chapter. 62"Probe Told of Payments to Morgan", Globe and Mail, Toronto, March 19, 1966, p. 34. ^3The Treasure Island Group was one of the group of Companies financed by the Commodore Group. See Footnotes 35 and 36, Category "C". 6 4"Can't Recall Who Got $5,000 Cash", Globe and Mail, Toronto, March 31, 1966, p. 35. C. Powell Morgan was President and a director of NGK Invest-ments, along with W. P. Gregory, an Atlantic director. NGK Invest-ments went into bankruptcy on July 29th, 1965.65 Old Angelo's Restaurant In 1962 Atlantic Acceptance loaned John Belli Operations Limited, owners of Old Angelo's Restaurant of Toronto, $65,132 to discharge debts owing to creditors which included Premier Finance and Commodore Sales (Atlantic subsidiaries). There was a variance of $7,579 between the amount borrowed and that paid to creditors. According to a pass book of The Guarantee Trust Company offered in evidence before the Commission, $2,500 of this variance was paid to C. Powell Morgan, $5,000 was paid to William Walton and Harry Wagman, and $79.00 was paid to the law firm of Solomon, Samuel and Rosen. Mr. Morgan also received $3,277 drawn on Chartered Management Consultant's Limited, which supposedly resulted from overvaluation of Mr. Bell's equity in Old Angelo's. The Commission learned further that C. Powell Morgan owned equity in Old Angelo's to the extent of $1,334 in common shares valued at 93 cents per share, and 276 preferred shares valued at $10.00 per share. Morgan's total holdings represented 13 1/3% of Old Angelo's total shares outstanding.6 7 65"Probe Told of Payment to Morgan", Globe and Mail, Toronto, March 19, 1966, p. 34. ^"Atlantic's Loan To Old Angelo's Leads Probe Into Financial Tangle", Globe and Mail, Toronto, May 13, 1966, p. B3. 6 7 I b i d . , p. B3. 74 Nevil Enterprises Limited The Royal Commission on Atlantic learned from Mr. R. W. Scott, an accountant investigator with Clarkson, Gordon and Company, that in July, 1962, Nevil Enterprises Limited, Toronto, borrowed $269,000 from Adelaide Acceptance, which Nevil of Toronto loaned to its Buffalo affil iate. Nevil of Buffalo used $216,000 to reduce its loan with Commodore Factors (another Atlantic affiliate), and paid $40,000 into M. Levinson's (President of Nevil Enterprises Limited) bank account in Toronto. 6 8 Mr. Scott testified further that on the same day that $40,000 was transferred to Mr. Levinson's bank account in Toronto, Annett Partners Limited, a Toronto Stock Exchange member firm, received $40,000 from "N. Leviniss" for the account of C. Powell Morgan who had bought one thousand shares of Atlantic Acceptance at $17.50 per share. These shares were later delivered to Mr. Morgan's account at Jenkin, Evans and Company Limited, another Toronto Stock Exchange member firm, which subsequently delivered them to Mr. Morgan. Mr. Morgan was vice-president of Nevil Enterprises Limited.^ 9 68"Two Million Borrowed on $157,000 Security: Witness", Globe and  Mail, Toronto, June 23, 1966, p. 28. 6 9 I b i d . , p. 28 75 7. Auditing Practices Followed By Atlantic Acceptance We have learned that although Deloitte, Plender, Haskins, and Sells, Chartered Accountants, were the principal auditors of Atlantic Acceptance Corporation Limited, this firm did not audit the Commodore Group of subsidiaries. The auditors for the Commodore Group were Wagman, Fruitman and Lando, Chartered Accountants, who in turn acted as auditors for companies responsible for seventy-nine percent of receivables of Commodore Sales, and also acted as auditors for twelve of the forty-two borrowers of funds from Aurora Leasing Corporation.7^1 While we could contend that Deloitte, Plender, Haskins and Sells might have done otherwise than accept at face value the statements of auditors of subsidiaries which were responsible for such a large portion of Atlantic's receivables,7-'- we must remember that chartered accounting practice in Canada assumes a high degree of integrity on the part of 72 members of individual firms. We may note further that in testimony given to the Royal Commission on Atlantic, Mr. James Duncan, a partner of Atlantic's 7^Frank Kaplan, "Atlantic Probe Already Having Effect on Accoun-ting Methods", Financial Post, Toronto, December 17, 1966, p. 19. 7 •'-The Commodore Group of Companies accounted for one-third of the receivables of Atlantic Acceptance. See Memorandum As To Init ial Award of Compensation, op. c i t . , p. 5. 7 2See Articles 2 - 8 of Code of Ethics and Rules on Professional  Conduct of Institute of Chartered Accountants of British Columbia. Note especially Article 6. Note also that Article 7 states that, "No member shall submit any information as a statement of fact unless he has made reasonable verification thereof in the circumstances.". principal auditors, led the Commission to believe that his firm was misled into thinking that i t would act as auditors for Atlantic Accep-tance and its subsidiaries. Mr. Duncan testified that it was only after a final meeting with Mr. Morgan that his firm learned of what Morgan termed "commitments to others which would change in due course". 7 3 8. Hegemony of The President of Atlantic Acceptance Corporation  The single striking feature about the development and collapse of Atlantic Acceptance Corporation is the almost complete hegemony and total involvement of C. Powell Morgan in the affairs of the Atlantic complex itself and in those of major debtors of the Atlantic complex. We have already demonstrated Morgan's involvement on the management side, but his dominance over the Board of Directors seems to have been equally strong; e.g., the Commission learned from David Davidson, Secretary-Treasurer of Atlantic, that Vice-President Aubrey Medland once proposed at a Board meeting that a l l loans over $25,000 should be approved by the Board, but that Medland received no support. Nor did he (Medland) receive satisfactory answers to questions on reserves for unearned income or allowances for doubtful accounts. Mr. Medland was dubbed "meddling Medland" by Mr. Morgan and thereafter refrained from ques-tioning Mr. Morgan's management techniques.7 4 7 3 Ral f Hyman, "Morgan Was Dominant, Probe Told", Globe and Mail, Toronto, November 9, 1966, p. 19. 7 4 I b i d . , p. 19. 77 We learn further from Mr. Davidson's testimony that the level of interest and competence on the part of Atlantic's directors seemed to subscribe to the dominance displayed by Mr. Morgan; e.g. Alan Christie, President of Great Northern Capital Corporation, attended meetings frequently but had no day to day knowledge of the finance business. Mr. Christie relied heavily on Mr. Morgan and financial statements. He did not support Mr. Medland's request for additional information. Wilfrid Gregory, President of British Mortgage and Trust, attended meetings frequently. Had no great knowledge of finance business. Very willing to agree to any proposal made. Never enquired re doubtful accounts, or existence of large loans. Seldom initiated policy. Walter H. Martin. Attended most board meetings. Took no active part in policy formation. Relied on judgement and opinions of more qualified people. William Wallace. Only attended those meetings meant to deal with matters of particular concern. Spent most of winter months in Florida, and had no special knowledge of the finance business. It ought not to be difficult then to appreciate the fact that Alan T. Christie could testify before the Commission that Morgan had unlimited ability to make loans, and that none of the directors knew of loans to the Lucayan Beach Hotel. 7^ 7-*We are indebted to Mr. Ralf Hyman of The Toronto Globe and Mail for his excellent coverage of this part of the testimony to the Royal Commission on Atlantic Acceptance Corporation. / 0 Ral f Hyman, "May Have Erred: Atlantic Director", Globe and  Mail, Toronto, December 16, 1966, p. B3. 78 Could we say that J . Aubrey Medland's action on June 18th, 1965, (three days after Atlantic failed to pay off a maturing short-term secured note) when Mr. Medland bought one thousand Atlantic common shares at $6.00 per share, was indicative of a lack of familiarity with Atlantic's affairs on the part of some directors? 7 7 A compelling example, we would suggest, of the directors' lack of familiarity. 7 7 Ralf Hyman, "Bought 1000 Shares in Atlantic 3 Days After Collapse: Director", Globe and Mail, Toronto, December 17, 1966, p. 30. SUMMARY AND CONCLUSION From the evidence presented in this Chapter, i t would seem reasonable to conclude that the collapse of Atlantic Acceptance Corporation stemmed from a combination of factors, most of which were not of sudden occurrence. Mr. Morgan would have us believe that Atlantic's inability to meet a maturing short-term secured note of $5,000,000 on June 14th, 78 1965, was responsible for the company's collapse, but it is con-tended that this failure was strongly related to decay that had set in in the Atlantic complex over earlier years. It is significant that on June 14th, 1965, Atlantic Acceptance had already overdrawn by a significant margin "the amount of revolving credit granted to i t by its bankers".79 It is also significant that on June 14th and 15th, 1965, short-term notes to the extent of $13,458,000 were maturing, and a further $12,000,000 in notes were 80 maturing in the following thirty days. It is even more upsetting when we consider that "turnover in short-term and demand notes to maintain the debt structure (of Atlantic Acceptance) reached an average of $4,000,000 on each business day in the six weeks preceeding 7oMemorandum As To Init ial Award of Compensation, op. cit . , p. 3. 7 9 I b i d . , p. 3. 8 0 I b i d . , p. 3. 79 80 default with no cut back in lending volume as the money market tightened. " 8 1 One is forced to ask himself this question - - Why did Atlantic Acceptance have only a $5,000,00082 line of credit when finance com-pany practice is to cover short-term notes oustanding with bank lines Q O of credit, J and, Why did Atlantic not maintain a line of credit in the United States of America when part of its major financing was done in that country? 8 4 On June 17th, 1965, estimated realizable value of receivables was $109,980,000 out of a total of $149,188,872,85 but one and one-half years later, on November 17th, 1966, when circumstances had sorted them-selves out, estimated realizable value of receivables was only $89,500,000.86 This leads us to the conclusion that Atlantic's cash flow was affected. Its delinquency rate was high. To remain in busi-ness as a viable entity Atlantic was forced to depend on a high turnover of short-term paper in the money market, since the flow of cash into the Company was insufficient to meet maturing obligations, and to finance the expansion which the Company went through in late 1964 and early 1965. Q 1 Atlantic Acceptance Corporation, Report of Receiver and Manager, op. c i t . , p. 2. 8 2Rossant, loc. c i t . , p. 85. 8%ohn M. Chapman and Frederick W. Jones, op. cit . , pp. 45 - 53. 8 4See Appendix C to Chapter I. Report of Receiver and Manager, op. c i t . , p. 5. 8^Memorandum As To Init ial Award of Compensation, op. cit . , p. 28. 81 Receivables increased by $40,500,000 in 1964 and by a further $21,000,000 in the first five months of 1965. Ten new branches were opened in 1964, seven in the small loans field, and the 1964 Annual Report listed 31 acceptance branches and 71 small loan branches. In 1965, 34 small loan branches were opened. . . . It is apparent that the great increase in new small loan branches, almost a l l of which are operating at a loss would have had a serious impact on the earnings of Atlantic Acceptance Corporation Limited in 1965.°' Mr. J . L. Biddell, President of Clarkson Company Limited, a trustee in bankruptcy, claimed that "responsibility for the collapse of Atlantic rests entirely with a small handful of not-so-clever but completely arrogant scoundrels, thoroughly familiar with the bankruptcy 0 0 game".' From an academic viewpoint, i t is not necessary to use language as strong as that of Mr. Biddell's. Our task has been to collect, analyze, and test the practices followed by Atlantic Acceptance against experienced operating practice. When we compare Atlantic's practices with the model drawn for us by Professor Hayes, and with the principles surrounding that model, we find that Atlantic falls short on a l l counts. Atlantic's loan granting tech-niques, its managerial and auditing involvement, and the lack of leader-ship and familiarity with operating practices on the part of the Board of Directors, do not meet Hayes' standards. Atlantic's practices have been sufficiently questionable to result in Montreal Trust Company bringing legal action against Fruitman, Wagman and Lando, auditors of the Commodore Group of subsidiaries, and also against C. Powell Morgan and 8 7Report of Receiver and Manager, op. c i t . , p. 2. 88"Scoundrels are Blamed for Collapse of Atlantic", Globe and Mail, February 4, 1966, p. 1. 82 William Walton, alleging a conspiracy of the defendants, and each of 89 them to defraud the plaintiffs. There has been a strong tendency in this Chapter to place most of the blame for auditing practices followed on the shoulders of the auditors of the subsidiaries. This is partially unavoidable, especially when we consider the extent of their involvement with the Commodore Group and companies associated with the Commodore Group, and also the tenor of Rules 19 and 3 390 of The Code of Ethics and Rules on Profes-sional Conduct of the Institute of Chartered Accountants. However, Deloitte, Plender, Haskins and Sells, principal auditors of Atlantic, should also share some blame for the mismanagement of Atlantic. Auditors in Canada do not only check figures and testify as to the accounting accuracy of financial statements, they must also be satisfied that the accounting methods and practices followed by their clients are in accor-dance with generally accepted accounting principles. 9^ Deloitte, Plender, "^ Memorandum As To Init ial Award of Compensation, op. c i t . , p. 13. See also John Lee, "Study of Finance Conce n's Default to Open Today", New York Times, March 7, 1966, p. 35. 9 0 Rule 19: No member or members in practice shall express a professional opinion or allow their names to be used in connection with any financial statement of any person, firm, corporation, society, con-cern or organization, whether incorporated or not, in which any of them or any of their immediate families have a direct or indirect beneficial interest, which is sufficient to influence the independence of the member or members, unless a ful l disclosure thereof is included in a report accompanying such financial statement. Rule 33: No practising member shall fa i l to inform a client of his business or personal connections, affiliations, or interests of which the client might reasonably expect to be informed by him. 91-See the Text of any auditor's statement at the conclusion of any Canadian public company's annual report. 83 et al , did act as auditors for Atlantic Acceptance Corporation Limited, and Atlantic Finance Corporation Limited, and from the text of General Acceptance Corporation's Report to the Receiver, the business practices followed by these companies, especially on loan granting, were also 92 questionable. On the other hand, the fact that "No member shall submit any professional information as a statement of fact unless he has made reasonable verification thereof in the circumstances",^3 strengthens the contention that even with the concept of individual integrity and professional ethics which underpins Canadian chartered accounting practice, Deloitte, Plender, Haskins and Sells must share some of the blame for the lack of prior knowledge of some of Atlantic's affairs. ^2See Footnote 28 of this Chapter. Delinquency in these two companies was also over $3 million on June 17th, 1965. 9 3 Article 7 of Code of Ethics and Rules on Professional Conduct  of the Institute of Chartered Accountants of British Columbia. CHAPTER III THE EFFECT OF THE COLLAPSE OF ATLANTIC ACCEPTANCE CORPORATION ON THE STRUCTURE OF LIABILITIES AND QUALITY OF REPORTING ON THE ACTIVITIES OF CANADIAN FINANCE COMPANIES It will be recalled from Chapter I, that since 1957 Canadian finance companies have turned increasingly to the short-term money market^  for funds. Since Atlantic's collapse was triggered by its inability to meet a matured $5 million short-term secured note, and since its management practices did not conform to the practices followed by well established lending institutions, i t seems reasonable to assess the changes in the structure of the l iabil i t ies of Canadian finance companies. It will further be recalled that Atlantic's collapse was unex-pected and found many experienced investors holding Atlantic Acceptance securities. It seems reasonable therefore to study the quality of reporting on the activities of finance companies in Canada, in an attempt For good descriptions of the Canadian money market see: H. Buck and J . J . Dowsley, "The Short Term Money Market and Instruments", Canadian Banker, 73 : 3, Toronto, pp. 79 - 84. Royal Commission on Banking and Finance, op. c i t . , Chapter 16. J . P. S. MacKenzie, "The Development of the Commercial Paper Market in Canada", a paper presented to the Canadian Political Science Association at MacMaster University, Hamilton, Ontario, on June 9, 1962. Dominion Securities Corporation Limited, "Canada's Short Term Money Market", Toronto, June 1966. Douglas H. Fullerton, The Bond Market in Canada, (Toronto: The Carswell Company Limited, 1962). 84 85 to determine the extent of improvements in this area since the collapse of Atlantic Acceptance Corporation. 1. Effect on the Structure of Liabilities of Canadian Finance and Consumer Loan Companies  The collapse of Atlantic Acceptance Corporation has been of such recent occurrence that scholars and commentators have not yet had time to reflect on its impact on the structure of l iabil i t ies of Canadian finance and consumer loan companies. However, statistical information compiled from Bank of Canada and Dominion Bureau of Statistics publications indicates that changes have taken place in the financial structure of Canadian sales, finance and consumer loan companies. This section represents an attempt to measure the magnitude and direction of these changes. TableTII - I represents actual dollar figures of amounts held in various key categories of l iabil i t ies of a l l sales, finance and consumer loan companies in Canada from 1961 to second quarter 1967. The reason for choosing such a short span of years lies in the fact that neither the Bank of Canada nor D. B. S. related statistics go back beyond 1960. Figures III - I and III - II depict the percentages which the various l iabi l i t ies under study are, in relation to total l iabi l i t ies . Figure III - I shows that bank loans and overdrafts to finance and consumer loan companies fluctuated slightly between 7.00% and 9.00% of total l iabi l i t ies between 1961 and second quarter 1965, and then suddenly rose to 12.7% at the end of 1965, but reverted after a few 86 months.2 Over the same period borrowings from the Canadian short-term money market were rising from a low of 20.00% of total l iabil i t ies at the end of 1961 to a high of 28.00% in the middle of 1964. These borrowings then fe l l to 23.2% at the end of 1964, a figure around which they fluctuated until third quarter 1965 and then rapidly fe l l to 17.3%, the lowest point reached since Bank of Canada statistics were collected in 1960. Since year end 1965, finance company borrowings from the Canadian short-term money market have gradually increased to about 21.6% of total l iabil i t ies concurrent with a fa l l off in bank borrowings from a high of 12.7% to a more traditional 7.5% of total l iabi l i t ies . The information stated above seems to indicate that finance companies tend to use bank borrowings to some extent as replacement for funds from the short-term money market, and vice versa. Figure III - I shows also that borrowings in the United States short-term money market were increasing concurrently with borrowings in the Canadian short-term money market. Borrowings in the United States market rose from a low of 1.5% of total finance company l iabil i t ies in 1961 to a high of 5.4% of total l iabil i t ies in mid-1964 and have been gradually falling ever since. Two other important changes in Canadian finance and consumer loan company l iabi l i ty mix are noticeable since the end of 1964. These The Bank of Canada, in July 1965, actually encouraged chartered banks to take on the short-term l iabil i t ies of finance companies. The Bank of Canada offered to make more credit available to the chartered banks i f necessary. See Financial Post, Toronto, July 17, 1965. 87 are the percentages of total l iabil i t ies represented by borrowings from parent and associated companies and long term bonds. In both cases the trend has been upwards. In the former case the increase has been from 12.00% at year end 1964 to 18.3% in mid-1967. This approximates the 1961 - 1962 period, a period of generally tight money in Canada. In the latter case, the rise has been less spectacular, from approximately 28.00% to 30.00% of total l iabi l i t ies , indicating no strong switch to long term financing. Several questions must be answered. Has the change in the structure of finance and consumer loan l iabil i t ies since mid-1965, specifically the fa l l off in the amount of finance paper sold in both the Canadian and United States short-term money markets, been due to: (1) the United States attempts to improve their balance of payments problems; (2) a rise in Government of Canada long term bond yields; (3) increased competition from the chartered banks, or (4) were there another set of factors that might be responsible? Figure III - III which is a graphic representation of some of the information in Table III - II depicts that prime finance paper rates in Canada have be'en constantly higher than either Canadian or United States treasury b i l l rates or yields on chartered bank term deposits during the period 1965 to 1967. Figure III - III depicts further that the spread between prime finance ninety-day rates and the rates offered by the other three credits mentioned, grew increasingly greater from the beginning of 1964 to the end of 1967. Tables III - III and III - IV indicate that in spite of this growing spread, finance and corporate issuers of short-term securities suffered negative net new issues of 88 securities in both Canada and the United States in the years 1965 to 1967. In 1966, finance and corporate issuers of short-term securities did have a positive increase in their net new issues in Canada but the net increase here was far below the level of 1964. If we wish to contend that United States balance of payments problems in 1964 accounted for the downturn in the net increase in Canadian finance and corporate paper placed in the United States since 1964, how can we account for the substantial increase in Canadian Government and corporate bonds placed in the United States since 1964, especially when we consider the relatively long term nature of the latter securities when compared to finance and corporate paper? Is i t not also significant that the downturn in Canadian finance and corporate short-term paper placed in the United States during the years under consideration, was occurring at a time when the spread between Canadian yields and American yields was growing wider, in favour of United States investment in Canadian short-term securities? The data presented above would lead us to conclude that the downturn in net new issues of finance and corporate paper placed by Canadian companies since 1965 cannot be blamed on United States balance of payments problems. Table III - II shows us that since the end of 1965 and for a l l of 1966 the yield on prime finance ninety day paper has been higher than the long term yield on Government of Canada bonds, and has remained competitive ever since. Tables III - III and III - IV show us further, that the net new issues of securities placed by the Govern-ment of Canada in both Canada and the United States have been 89 substantially lower since 1964 than they were in previous years. These figures would not indicate that the fa l l off in finance and corporate short-term paper was due to increased competition from long term Government of Canada issues. Table III - II indicates that since 1964 prime finance ninety day rates have been continuously higher than chartered bank term deposit rates. It is also evident that the spread between these rates grew wider in 1965 and 1966. This information does not lead.us to believe that on a yield basis, chartered banks were trying to attract short-term funds away from investment in finance and corporate short-term securities. Table III - V contains two very important pieces of information. In the first place, there was a substantial increase in chartered bank non-personal term and notice deposits during the years 1964 to 1967, a period which saw a fa l l off in issues of finance company short-term secured notes, and secondly, there was a large increase in bankers' acceptances3 outstanding. These figures would indicate that chartered banks were attracting funds that might have been invested in finance and corporate short-term paper, but that this did not occur because of active competition on the part of the chartered banks. 3A banker's acceptance is a form of draft or b i l l of exchange drawn by a borrower and signed or "accepted" by the borrower's bank. Minimum denomination is $100,000 and maximum denomination is $1,000,000. Maturities range from thirty to ninety days. After having his bank accept the corporation's draft, the corporate borrower then sells the acceptance to a money market dealer who re-offers the acceptance for sale to money market lenders. See Dominion Securities Corporation Limited,"Canada's Money Market" op. c i t . , p. 8. 90 The facts suggest that the downturn in net new issues of Canadian finance and corporate short-term paper since 1964 in both Canada and the United States cannot be blamed on the activities of any of the institutions discussed above, but on some other factors or set factors. The factor that seems to us to be of particular note during the years 1964 to 1967 was the collapse of Atlantic Acceptance Corporation on June 15th, 1965, especially when we consider the rise in the level of bankers' acceptances outstanding since 1964. •7 | 1 1 1 - I f —1— i _ --- - — — - - - P 1 _._ 1 i - - q ri.... l). r i T ? ' . i . D „ r i ; _ > 1 ..._ ... r L l t l C ;_. J . L J . C 1 1 1 . -- - - - - -- -- - - - y _ ... - -- --- — - - — - - - -- .... - -- - ... - - - - - - - - - - - X .L. 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D T T A R T F R T i Y V T T . T fW M O N E Y M A R K E T . iTNS'PT.TTMF.NTS --- - - - 1 1 ' M J ~ % Canada •f | -H ; fi-f "Stat-rstic I I I I l i 1. I 1 i - - - - - | -i i [ T i l l "S'urnmarres i -- - - - - -. . . -- --- - - - -- - . . . - -- - iree --— -— - M o i f c _( 1 ---- -— - -- _ J . C H _ . _ _ ^ W V -: i i ' t i , , s ? i i , f-i ? 1 i rr iZa i i 4. -JBankjo;f 1 : i i i I .Montrea' M i l l ! L......... J_. i U - i i "L. ._. - 1 - r - --t I ! M M ! 1 ! 1 1 --- - . . . - - . . . - - . . . 1 - -- -- - --- - - - -i i i 1 q ' R R ~ - - ... -i - . . . -._. - • - 1 i i i l 1 — M i l i --1 -- - . . . - - - - - 1967 1 - -1 . . . . -— — - - -( i -FF - - -i i -- .-- | - - 1 -- - - - - -- -- ... ---- _ — - - _ -- -__ — „ - - - --— i -- - - - - _T.tA.K_ -: 1 . . . - -i - ... L __ -J-1 - . . . . . ... — - Jr_ F - ... i '• i 1 I 1 i 1 TABLE III - I SALES FINANCE & CONSUMER LOAN COMPANIES STRUCTURE OF LIABILITIES (MILLIONS OF DOLLARS) Source - - D.B.S. "Business Financial Statistics - Balance Sheets" Catalogue 61-006 Item Year and Quarter 1961 1962 2Q 3Q 4Q 1Q 2Q 3Q 4Q Borrowings from Parent & 361 368 396 415 427 434 417 464 209 214 166 195 166 2 33 198 212 Demand and Short Term Notes: 565 564 489 465 512 540 570 580 37 35 28 26 26 39 38 54 Long Term Bonds, Debentures and Notes: - payable in $ Canadian) 634 636 660 687 700 712 723 758 - payable in $ Foreign ) 174 180 187 192 199 206 208 223 120 121 128 127 133 139 145 140 2,325 2,350 2,290 2,340 2,401 2,560 2,561 2,726 TABLE III - I Continued Item Year and Quarter 1963 1964 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q Borrowings from Parent & 463 480 460 493 493 449 453 452 211 221 214 308 274 291 263 310 Demand and Short Term Notes: 706 725 706 733 884 1,039 900 858 48 64 70 68 102 124 187 202 Long Term Bonds, Debentures and Notes: 566 584 609 622 634 645 690 743 210 240 225 243 242 258 260 282 234 246 248 261 255 273 276 288 147 151 159 163 171 175 183 186 2,849 3,005 2,986 3,191 3,365 3,598 3,579 3,686 TABLE III - I Continued Item Year and Quarter 1965 1966 1967 1Q 2Q 3Q 4Q 1Q 2Q 3Q 4Q 1Q 2Q Borrowings from Parent & Associated Companies. . . . 491 620 605 686 732 719 743 794 811 815 Bank Loans and Overdrafts . . 305 316 417 534 400 431 335 403 294 308 Demand and Short Term Notes: - payable in $ Canadian . . 968 965 827 734 879 943 953 903 1,008 967 - payable in $ Foreign . . 184 186 190 164 161 126 81 93 95 82 Long Term Bonds, Debentures and Notes: - payable in $ Canadian . . 773 845 844 869 87 3 857 882 892 916 954 - payable in $ Foreign . . 302 269 254 303 342 358 376 376 382 373 302 308 314 331 328 344 349 354 352 359 194 189 195 175 177 125 133 125 129 138 3,895 4,096 4,028 4,228 4,293 4,345 4,282 4, 391 4,428 4,467 TABLE III - II QUARTERLY YIELDS ON MONEY MARKET INSTRUMENTS^  AND LONG TERM GOVERNMENT OF CANADA BONDS Source Bank of Canada Statistical Summaries McLeod, Young, Weir & Company Limited Bank of Montreal 90 day 90 day 90 day 90 day 180 day Long Term Canadian U. S. Prime Bank Bank Gov't, of Date Treasury Bil ls Treasury Bil ls Finance Paper Term Deposits Term Deposits Canada Bonds Jan. '64 3.77% 3.50% 4.00% 4.00% 4.25% 5.14% March *64 3.88 3.55 4. 12 4.00 4.25 5.24 June •64 3.59 3.48 3.92 3.75 4.00 5.21 Sept. '64 3.73 3.56 4.29 4.00 4.13 5.19 Dec. '64 3.82 3.87 4.54 4.25 4. 38 5.04 March '65 3.62 3.92 4. 38 4.25 4. 38 5.07 June '65 3.93 3.78 4.75 4.38 4.50 5.16 Sept. '65 4.13 3.98 5.08 4.50 4.63 5.42 Dec. •65 4.54 4.46 5.96 4.88 5.0.0 5.48 TABLE III - II Continued 90 day 90 day 90 day 90 day 180 day Long Term Canadian U. S. Prime Bank Bank Gov't, of Date Treasury Bil ls Treasury Bil ls Finance Paper Term Deposits Term Deposits Canada Bonds March '66 5.06% 4.56% 5.96% 5.13% 5.13% 5.70% June '66 5.00 4.44 6.12 5.13 5.13 5.72 Sept. '66 5.01 5.50 6.16 5.13 5. 13 5.77 Dec. •66 4.96 4.75 6.42 5.13 5.13 5.77 March '67 4.13 4.15 5. 38 4.88 4.88 5.50 June '67 4.28 3.46 5.54 4.88 4.88 5.96 Sept. '67 4.76 4.63 5.92 5. 38 5. 13 6.34 Dec. •67 5.55 4.99 6.50 5.88 5.88 6.65 One might have taken note of covered (for exchange rate purposes) yield differentials, however the evidence on covering cost is not conclusive. TABLE III - III NET NEW ISSUES OF SECURITIES - PAYABLE IN CANADIAN DOLLARS (MILLIONS OF DOLLARS) Source - - Bank of Canada Statistical Summaries - Supplements Gov't, of Provincial Municipal Corporate Treasury Finance Corporate Year Canada Bonds Bonds Bonds Bonds Bil ls Paper Paper 1955 399 260 215 393 195 73 4 1956 -500 348 135 599 -150 99 1957 -52 504 176 578 50 65 -6 1958 1,383 469 199 478 -130 -98 72 1959 289 319 218 111 582 180 -4 1960 705 462 277 323 -92 24 71 1961 1,044 937 337 227 -100 -51 65 TABLE III - III Continued Year Gov't, of Canada Bonds Provincial Bonds Municipal Bonds Corporate Bonds Treasury Bil ls Finance Paper Corporate Paper 1962 425 611 210 259 280 144 58 1963 634 618 388 376 75 166 -43 1964 557 590 324 559 -100 259 46 1965 -57 481 252 919 10 -162 -120 1966 415 1,159 259 508 20 99 30 1967 102 343 45 80 60 -63 -8 TABLE III - IV NET NEW ISSUES OF SECURITIES - PAYABLE IN OTHER THAN CANADIAN DOLLARS (MILLIONS OF DOLLARS CANADIAN) Source - - Bank of Canada Statistical Summaries - Supplement Gov't, of Provincial Municipal Corporate Finance Corporate Year Canada Bonds Bonds Bonds Bonds Paper Paper 1955 -60 -50 19 -37 - - -3 1956 -116 191 89 209 - - -1 1957 -68 44 103 387 - - -1 1958 -2 144 149 192 - - -2 1959 -149 249 84 8 - - 2 1960 -1 23 89 8 -10 1 TABLE III - IV Continued Gov't, of Provincial Municipal Corporate Finance Corporate Year Canada Bonds Bonds Bonds Bonds Paper Paper 1961 -55 7 -20 132 -24 1 1962 96 97 20 173 28 18 1963 119 283 2 235 13 -9 ° 1964 - - 357 115 208 134 -1 1965 -5 247 20 329 -38 -1 1966 -5 357 69 415 -71 9 1967 — 119 42 57 11 -6 TABLE III - V CANADIAN CHARTERED BANKS NON-PERSONAL TERM AND NOTICE DEPOSITS AND BANKERS'ACCEPTANCES OUTSTANDING (MILLIONS OF DOLLARS) Source - - Bank of Canada Statistical Summaries Year Non-Personal Term & Notice Deposits Bankers' Acceptances^ Outstanding 1955 464 -1956 444 -1957 548 -1958 618 1959 558 -1960 576 -1961 929 -1962 997 8 1963 1,191 10 1964 1,505 11 1965 2,044 149 1966 2,346 168 1967 3,714 165 Bankers' Acceptances were not instituted in Canada until 1962. 103 104 2. Constructive Changes in the Quality of Reporting of 'Canadian Finance Companies  Early in the spring of 1966, a joint Committee of the Federated Council of Sales Finance Companies and the Investment Dealers Asso-ciation of Canada met to develop a new form of comprehensive reporting for "finance companies in Canada.^ On March 23rd, 1967, the Federated Council of Sales Finance Companies and the Investment Dealers Association of Canada adopted the Canadian Sales Finance Long Form Report (CANSAF Report) as part of the new minimum standard of reporting for Canadian sales finance companies.7 The overall result of the joint decision of the above two bodies is that three documents now comprise the minimum standard of reporting for sales finance companies doing business in Canada. These three documents are: Audited financial statements, Robert Morris Associates questionnaires, and the CANSAF Report.8 It was suggested to me by a Vancouver Investment Dealer that Industrial Acceptance Corporation Limited (I.A.C.) was the first Canadian finance company to improve its level of reporting to share-S^ee "Canadians Develop Improved Reporting Form for Sales Finance Companies", Financial Executive, New York, October 1967, pp. 84 - 85. This article states that the joint meeting was held as a direct result of the collapse of Atlantic Acceptance Corporation. 7See cover of Canadian Sales Finance Long Form Report. 8See foreward to the Canadian Sales Finance Long Form Report. The aim of the CANSAF Report is to supplement information contained in the appropriate Robert Morris Associates questionnaires and audited financial statements, so that investors and investment dealers will be supplied with corporate data and statements of policy pertinent to their investment decisions. 105 holders and investors as a direct result of the collapse of Atlantic Q Acceptance Corporation. Industrial Acceptance Corporation published a supplement to its 1965 annual report which incorporates the requirements of the Robert Morris questionnaires, and comes very close to the stan-dards laid down in the 1967 CANSAF report. Since I.A.C. is the largest sales finance company in Canada, with assets of over one bil l ion dollars, i t ought not to be too presumptuous to regard i t as a pace setter, and i t seems to me that an attempt to highlight the improvements in reporting standards that will result from use of the CANSAF Report will be more significant by comparing the CANSAF Report with the supplement to I .A.C.'s 1965 annual report. The CANSAF Report is divided into an introductory section and nine schedules. In the introductory section the report is concerned with such concepts as: statement of policy; definition of terms used; suggested form of auditors' statements and optional information. Under the policy section, individual sales finance companies are expected to describe their policies, method of treatment and the statis-tical significance of sections such as: renewals, extensions, delin-quencies, doubtful receivables, write-offs, detail of confirmation by auditors, amortization of intangible assets, income tax, non-recurring items, and methods of taking up income.^ The section entitled "Definition of Terms Used" provides ^This information was gained in an interview conducted with Greenshields Inc. of Vancouver during the winter of 1968. Greenshields Inc. are fiscal agents for I.A.C. •^Canadian Sales Finance Long Form Report, p. 2. 106 effective guides to sales finance companies for completion of the report and to the reader for correctly interpreting the data. In the suggested wording of the auditor's report, sales finance companies are encouraged to make ful l use of their auditors. Auditors are encouraged to go beyond simple concern for reasonable belief in the accuracy of financial statements, since they must be satisfied as to the completeness of information in the CANSAF Report and the Robert Morris questionnaire and must also certify that a borrowing company is operating in conformity with a l l its borrowing agreements.H In the "Optional Information" section sales finance companies are expected to inform investors of any aspect of their operations not covered in the annual report, prospectus or any other form, particularly with regard to current and future plans and the composition and exper-ience of corporate management.Xi Until the introduction of the CANSAF Report, financial analysts and investors in Canada have found i t difficult to make meaningful comparisons among sales finance companies in Canada. Adoption of the common and comprehensive reporting method offered in the CANSAF Report will alleviate this difficulty. Meaningful company-to-company, and company to industry comparison will now be possible. J l-^ See Canadian Sales Finance Long Form Report, p. 6. 1 2 I b i d . , p. 6. 1 3 This view is also shared by the Financial Executive. See "Canadians Develop Improved Reporting Form for Sales Finance Companies", loc. c i t . , pp. 83 - 85. 107 We may point out that the supplement to I .A.C.'s 1965 annual report does not concern itself with statements of policy, except on staff development and diversification.-;. It does concern itself with definition of terms used, e.g., renewals, income tax, methods of taking up income, but the auditors of I.A.C. are not involved in any way."*"4 Analysis of Schedules in the CANSAF Report Schedules 1 and 2.--These schedules cover subsidiaries and affiliated companies' operations. The nature and amounts of investments by the parent company must be revealed, including the percentage of the parent company's assets these investments represent. These two schedules will indicate whether the parent company carries most of the business itself, or through its subsidiaries and affiliates. As pointed out in Chapter II of this study, a significant cause of Atlantic Acceptance's problems was attributed to less than arms' length transactions in inter-company relationships. Schedules 1 and 2 are similar to C.24 and C.25 of the Supplement to I .A.C.'s 1965 annual report, but Schedules 1 and 2 are more compre-hensive in that they ask for a l i s t of advances to subsidiaries and affiliates, and also for the proportion of the parent company's assets represented by the investment in associated companies, whereas C.24 and C.25 do not indicate the proportion of the parent company's assets ^See Supplement to 1965 Annual Report, Industrial Acceptance  Corporation Limited, Montreal, March, 1966, p. 4 and passim. 108 represented by investment in subsidiaries.^ Schedule 3^.--Schedule 3 will disclose the maximum credit granting authority in a sales finance company by class of business and by level of management. The concern here is with: (a) the size and nature of major investments and commitments to be approved by (1) the Board of Directors, (2) senior management, (3) field management; (b) the spread of responsibility through the various levels of management. This will indicate whether one man has hegemony over the company's operations, or whether the company is run by a well constructed management team. Schedule 3 lists only three levels of management, but under the "Optional Information" clause in the introductory section, i t is expected that i f other management levels exist, their authority will be delineated under this schedule. Schedule 3 would effectively cover one of the more glaring weak-nesses that existed in the operations of Atlantic Acceptance Corporation, i .e . , the lack of a proper delineation of management authority and responsibility for credit granting, and dominance of one individual over the Board of Directors and a l l levels of management. It also comes very close to satisfying the conditions of the Hayes model outlined in l^ See Canadian Sales Finance Long Form Report, pp. 4 and 5, also Supplement to 1965 Annual Report, Industrial Acceptance Corporation, pp. 28 - 29. •I £ Canadian Sales Finance Long Form Report, p. 6. 109 Figure I of Chapter II. There is no section in the supplement to I.A.C.'s 1965 annual report which is similar in requirements to Schedule 3 of the CANSAF Report. I .A.C.'s supplement contains a senior management organizational chart,17 but responsibilities and credit granting authorities are not covered in this document. We may point out that even though the CANSAF Report does not ask for an organizational chart in any specific schedule, i t is expected that such a chart would be presented under the "Optional Information"Clause.I8 Schedule 4.--The requirements of this schedule are not new. The requirement here is for compilation of the volume of contracts purchased during the year, in specific categories, excluding renewals. This schedule is basically no different from Sections C.2 to C.12 of the supplement to I .A.C.'s 1965 annual report, except that C.2 to C.12 contain renewals and go a bit further than Schedule 4 in stating average term to maturity and share of market held.^ Schedule 5.--Schedule 5 shows the maturities of receivables at the year end by class of business and year of maturity. "Accounts not scheduled" indicates the dollar amount in accounts requiring collection activity in relation to total receivables by category. The structuring of total receivables into those with and without precomputed charges should permit application of unearned income to the related receivables. 17Supplement to 1965 Annual Report, op. c i t . , p. 11. 18CANSAF Report, p. 3. l^See CANSAF Report, p. 7, and compare with Supplement to I .A.C.'s 1965 Annual Report, pp. 16 - 25. 110 Schedule 5 contains renewals. A comparison with Schedule 4 will therefore show the renewal balance by type of business. The notes to Schedule 5 will indicate the adequacy of the reporting company's allowance for bad debts. We may note that the supplement to I.A.C.'s 1965 statement also contains allowances for doubtful accounts in Sections C.2 to C.12 . 2 0 Schedule 6.--This schedule outlines the various classes of debt and the mix of short-term and long term debt. It indicates whether refinancing problems could occur over the coming five year period. Schedules 5 and 6 will serve to match receivables and debt. Provision for the matching of debt and receivables is not as conveniently arranged in I.A.C.'s 1965 supplement to the annual report as i t is in the CANSAF Report. The I.A.C. report covers debt obligations in widely scattered sections, C.40, C.48 and C.49, and covers receivables in sections C.2 to C.12 mentioned above. However the I.A.C. supplement brings these two areas together in Appendix A quite effectively and indicates that for the first five years maturities of receivables are substantially greater than maturities of debt.2-*-In Appendix B, the I.A.C. report goes further than the require-ments of the CANSAF Report and explains the stipulations of significant debt covenants of the I.A.C. group. 2 2 2 0See CANSAF Report, p. 8. See Supplement to 1965 Annual Report, Industrial Acceptance Corporation, pp. 16 - 24, and p. 42. 2 2 I b i d . , p. 43. I l l Schedule 7.--This schedule is a historical summary of the provision for doubtful accounts. It shows a finance company's provision for losses in each of the preceding five years. A comparison of the net losses in one year with the closing balance of the previous year should give a good indication of the adequacy of provision for losses. A strong comparison can be made between the provisions of this schedule and those in C.17 of I .A.C.'s supplement. The difference lies in the fact that I.A.C.'s supplement compares only two years as opposed to five years for the CANSAF Report; but I .A.C.'s supplement does highlight the company's loss experience as a percentage of total receivables over ten 23 years. Schedule 8.--This schedule is concerned with analysis of the change in new investment in receivables and the sources of financing such change. It represents no more than an analysis of changes in working capital. I .A.C.'s supplement contains no comparable section and we may regard this section as an addition to a l l previous reporting done by finance companies in Canada. Schedule 9.--Schedule 9 deals with coverage of demand and short-term notes. The same information given under this schedule will be found in I.A.C.'s supplement to the 1965 annual report, but whereas in the CANSAF Report the information will be clearly and precisely presented under one schedule, in the I.A.C. supplement this information is minutely 2 3 C f . CANSAF Report, p. 10 and Supplement to 1965 Annual Report, I .A .C. , pp. 27 - 28. 112 presented over a large number of sections. 2 4 Summary of Major Improvements in Sales Finance Company Reporting Found in the CANSAF Report  (1) Full details of investment by a parent company in its sub-sidiaries and affiliates. (2) A schedule of the maturities of a l l receivables, by type, and by term. (3) A schedule of debt maturity with comprehensive structuring by class and by term. (4) A ful l explanation of a parent company's method of taking up income. (5) A delineation of the range of credit granting authority in a sales finance company's management structure. (6) More complete disclosure of a parent company's liquid position, including coverage of demand and short-term secured notes. (7) Statements of policy and definition of terms used which would make i t easier for investment analysts and investors to assess the relative performance of sales finance companies. The publishers of the CANSAF Report ask us to treat i t as a good starting point in the evaluation of sales finance companies, and not as a panacea. Their view is that: 2 4 C f . CANSAF Report, Schedule 9, p. 12 and Supplement to 1965 Annual Report, Industrial Acceptance Corporation, C.19 to C.48, pp. 28 to 34. It will be found that C.40.07 is a summary of C.19 to C.48. 113 An evaluation of a company cannot be complete without an evaluation of the capabilities and performance of its management. Corporate policies are a reflection of manage-ment and are subject to interpretation and amendment in actual application. Corporate statistics are the net result of the application of management's operating decisions and are only one dimension in the evaluation of a company.25 Foreward to the CANSAF Report. 114 SUMMARY AND CONCLUSION In Chapter I we traced the growth and development of Atlantic Acceptance Corporation Limited. In the last section of that Chapter attention was focused on the financing techniques employed by the company. At the conclusion of Chapter I, a few very important questions were posed. How could a company that seemingly performed so well suddenly wind up in receivership? Was Atlantic's demise the result of a shortage of short-term secured funds, or was i t a result of a more deepseated mismanagement of the company's affairs? Chapter II represented an exhaustive attempt to demonstrate the major hypothesis of this study, i .e . , that Atlantic's failure to meet a maturing $5 million short-term secured note on June 14th, 1965 was a symptom of the decay that had set in in the Atlantic complex over earlier years. In Chapter III we analyzed the effect of Atlantic's collapse on the structure of l iabil i t ies and the quality of reporting on the activities of Canadian finance and consumer loan companies. It seems to me that the most constructive development in the Canadian finance industry since the collapse of Atlantic Acceptance Corporation has been the improvement in the level of reporting which Canadian finance companies must now make to shareholders and to the general public. There is l i t t le doubt that i f Atlantic Acceptance had been required to meet the reporting standards now established in the CANSAF Report, the Canadian public would have been forewarned of 115 the difficulties which finally led to the company's collapse. In any case i t would have been more difficult for management to stray as far as i t did from ethical and established practice. There are many questions s t i l l left to be answered in relation to the Canadian finance industry. Whereas every schedule and clause in the CANSAF Report seems especially patented to obviate the difficulties into which Atlantic fe l l , we are s t i l l forced to question ourselves on the judiciousness of leaving the policing of this growing and extremely important industry totally in the hands of the finance and investment industry. In Canada we have special Acts covering the activities of chartered banks, trust companies, credit unions and other deposit taking institutions. Why is i t that finance companies are allowed to operate under the broad purview of the Companies Act? Is i t because they do not yet accept deposits? It seems to me that the Canadian finance industry now touches a large enough segment of Canadian l ife to warrant its own special Act of Parliament. I would recommend that the Government of Canada enact a special Statute governing the activities of finance companies operating in Canada, a Statute to be known as the Finance Company Act. I would further recommend that a Federal Inspector of Finance Companies be appointed with similar powers to those granted the Inspector of Chartered Banks, and that finance companies be brought into a working relationship with the Bank of Canada so that their operations would be carried out in accordance with Government monetary policies. BIBLIOGRAPHY Public Documents Canada. Bank of Canada Statistical Supplements, Summaries. Ottawa: Queen's Printer, 1960-66. . Dominion Bureau of Statistics. Business Financial Statistics -Balance Sheets. Catalogue 61-006. Ottawa: Queen's Printer, 1960-67. . Royal Commission on Banking and Finance. Ottawa: Queen's Printer, 1964. Books Chapman, John M. , and Jones, Frederick W. Finance Companies, How and Where They Obtain Their Funds. New York: Graduate School of Business, Columbia University, 1959. Hayes, Douglas. Bank Lending Policies, Issues and Practices. Ann Arbor, Michigan: Bureau of Business Research, Graduate School of Business Administration, University of Michigan, 1964. Fullerton, Douglas H. The Bond Market in Canada. Toronto: The Carswell Company Limited, 1962. Robichek, Alexander A. , and Coleman, Alan B. Management of Financial Institutions: Notes and Cases. San Francisco: Holt, Rinehart and Winston Inc., 1967. 116 117 Articles and Periodicals Affleck, E. L. "Generally Accepted Accounting Principles - Is There a New Deal in the Offing?" Canadian Chartered Accountant, 85 (September, 1964). Ashley, C. A. "Relations Between Management and Auditor," Canadian Chartered Accountant, 88 (April, 1966). "Atlantic Couldn't Have Measured up to U. S. Yardsticks," Globe and Mail, Toronto, October 20, 1965, p. B9. "Atlantic's Loan to Old Angelo's Leads Probe Into Financial Tangle," Globe and Mail, May 13, 1966, p. B3. "Atlantic Probe Told of Payments," Vancouver Sun, March 15, 1966, p. 29. "Atlantic Spark New Laws," Financial Post, Toronto, March 19, 1966, p. 23. "Atlantic's Statements Often Wrong: Witness," Globe and Mail, June 23, 1966, p. 28. Beedle, A. "Subsidiaries Not Audited by Us: A Dissenting View," Canadian Chartered Accountant, 89 (September, 1966). Bonham, D. H. "Reliance on Other Auditors," Canadian Chartered Accountant, 86 (March, 1965). "Bought 1000 Shares in Atlantic 3 Days After Collapse: Director," Globe  and Mail, December 17, 1966, p. 30. Buck, H. , and Dowsley, J . J . "The Short Term Money Market and Instru-ments," Canadian Banker, 7 3:3. "Can't Recall Who Got $5,000 Cash," Globe and Mail, March 31, 1966, p. 34. "Company Bought With Its Own Funds," Globe and Mail, March 15, 1966, p. B3. 118 Creighton, P. "Why Didn't Someone Foretell the Bursting of Atlantic's Bubble?" Executive, Vol. 8, No. 2, Don Mills , Ontario, (February, 1966). Culbert, T. N. "Audit Opinions and the Accountant's Responsibility," Canadian Chartered Accountant, 88 (April, 1966). "Dairy Farm Owed $1,301,500, Atlantic Inquiry Told," Globe and Mail, March 18, 1966, p. B2. "Delia Scala's Window, Door Firm Opens Wide for Probe," Financial Post, May 14, 1966, p. 10. "Finance Firm's System of Invoicing Leaves Atlantic's Probers Baffled," Globe and Mail, September 22, 1966, p. B4. Financial Post Corporation Service. Atlantic Acceptance Corporation Limited. Toronto: Maclean-Hunter Publishing Company Limited, 1954-65. Kaplan, Frank. "Atlantic's Waves Spreading Again," Financial Post, July 31, 1965, p. 1. . "Atlantic's Dollar Hunt Coming Into Open," Financial Post, January 15, 1966, p. 35. Lee, John. "Hearing Told of Last Ditch Effort to Meet Debts," New York Times, March 9, 1966, p. 51. . "Study of Finance Concern's Default to Open Today," New York Times, March 7, 1966, p. 35. MacCallum, A. R. "The Auditor and Fraud," Canadian Chartered Accountant, 84 (March, 1964). 119 "May Have Erred: Atlantic Director," Globe and Mail, December 16, 1966, p. B3. "Memorandum to Montreal Trust Company, - General Acceptance Corporation," Globe and Mail, October 15, 1965, p. B6. McDiarmid, F. J . Financial Post, November 20, 1965, p. 18. "Morgan Was Dominant, Probe Told," Globe and Mail, November 9, 1966, p. 19. Mulcahy, G. "The Auditor's Report on Consolidated Statements," Canadian Chartered Accountant, 88 (April, 1966). "New Watch Dog or a Longer Leash?" Canadian Chartered Accountant, 89 (November, 1966). "Probe Hears Tale of Quickie Deal," Vancouver Sun, March 11, 1966, p. 27. "Probe Told of Payments to Morgan," Globe and Mail, March 19, 1966, p. 34. Rossant, M. J . "Atlantic Acceptance: Even The Big Ones Got Stung," New York Times, November 14, 1965, p. 1. "Scoundrels are Blamed for Collapse of Atlantic," Globe and Mail,. February 4, 1966, p. 1. "Two Million Borrowed on $157,000 Security," Globe and Mail, June 23, 1966, p. 28. "Used Cows Easily Repossessed," Globe and Mail, March 22, 1966, p. B2. "When The Roof Fel l in at Atlantic," Business Week, (February 5, 1966). Unpublished Material Atlantic Acceptance Corporation Limited and Montreal Trust Company. "Composite Indenture providing for Issuance of and Securing Senior Notes." (Incorporating the Original Indenture dated as of February 1, 1961). 120 Dominion Securities Corporation Limited. "Canada's Short Term Money Market." Toronto, 1966. Federated Council of Sales Finance Companies and the Investment Dealers Association of Canada. "Canadian Sales Finance Long Form Report." Toronto, March, 1967. Industrial Acceptance Corporation Limited. "Supplement to 1965 Annual Report." Montreal, March, 1966. Institute of Chartered Accountants of British Columbia. "By-Laws, Code of Ethics and Rules on Professional Conduct." Vancouver, British Columbia, 1966. Mackenzie, J . P. S. "The Development of the Commercial Paper Market in Canada." Paper presented to the Canadian Political Science Association at MacMaster University, Hamilton, Ontario, June 9, 1962. Montreal Trust Company. "Atlantic Acceptance Corporation Limited, Report of Receiver and Manager." Toronto, August 18, 1965. . "Atlantic Acceptance Corporation Limited, Report of Receiver and Manager." August 3, 1966. . "Atlantic Acceptance Corporation in Receivership, Financial Statements." Toronto, December 31, 1965 and 1966. . "Atlantic Acceptance Corporation Limited in Receivership: Memorandum As To Initial Award of Compensation." Toronto, November 17, 1966. . "Atlantic Acceptance Corporation Limited in Receivership, Report of Receiver and Manager." Toronto, August 15, 1967. 121 Wood, Gundy and Company Limited. "The Canadian Short Term Money Market." Toronto, 1968. OTHER SOURCES Greenshields Inc., Vancouver. Personal interview with Mr. J . Harkness of the money market department. November, 1967. Institute of Chartered Accountants of British Columbia, Vancouver. Telephone interview with Mr. R. Hunter, C.A., March, 1968. MacLeod, Young, Weir & Company Limited, Vancouver. Personal interview with Mr. D. Pearson of the money market department. January, 1968 and March, 1968. Pemberton Securities Limited, Vancouver. Personal interview with Mr. John A. Smart of the bond department, February, 1968. Royal Securities Corporation, Vancouver. Personal interview with the Sales Manager. November, 1967. University of British Columbia, Vancouver. Personal interview with Associate Professor R. Blain of the Faculty of Commerce and Business Administration. 

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