What FDs need to know about contract risks...

CASE IN POINT: Industrious

Commercial property fund Industrious failed when its two holding companies under the Dunedin group could not get funding from its bankers, because some of its tenants could no longer pay the rent. Neither could it secure funding from other lenders.

PwC's Tony Lomas views it as an example of how an FD's ability to see the risks to their business from the potential weakness of other businesses needs closer examination.

"The company was perfectly capable of managing its leases even though the individual tenants were in distress - more voice than you’d like, pressure on rents – it was suffering a bit but had very professional people running it," Lomas says. "But the financing structure had £750m debt on it [reported as £650m total debt by Property Week] and had become levered and levered and levered to this point. It just needed a bit more cash, at least £15m. It had £10m but was locked in a waterfall and couldn't use the cash for the purpose it needed it for without everybody's consent.

"Then it needed just another £5m - a tiny problem, really, but the lenders wanted everyone signed up – then, crucially, £500m of its £750m debt had a credit default swap on it and the bank that had the benefit of that [RBS] didn't want to jeopardise it. So the company said, 'If I let them use that money to stay alive the [other] guys might say I shouldn’t have done that, so I better go and ask them.'”

Those other guys turned out to be a special purpose vehicle and the £500m in assets came from it having issued six strips of bonds to investors.

"So this bank says, 'I want [the SPV] to say, 'It's ok to do this'; but they say, 'I'm not doing anything - I'm just the SPV, I'll ask these people over here [other lenders]. The guy at the top says, 'The first loss is down there, so I'm not saying anything, I'll just sit on my hands.'

"The guy at the bottom panics - and they can't get the consent. So what do they do? They stick it into insolvency."