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Investment Advisers: A Case Study
Gideon Investments Pty Limited - Morison Guildford & Associates Limited

9   Did Morison Guildford act as investment advisers, investment brokers, issuers or promoters in regard to Gideon or associated companies?

Offer of securities to the public

9.1   We have no doubt that there has been an offer of securities to the public for subscription. The circumstances of Gideon's initial contracting with investors, whether directly or through Morison Guildford, constitute an offer to the public for subscription. The contract clearly involves the issue of securities, whether of a category in the explicit list in section 2D(1) of the Securities Act, in particular a unit in a unit trust, or a participatory security.

Issuers

9.2   The Securities Act 1978 defines the issuer in regard to participatory securities or unit trusts as the manager. This would be Gideon. We do not consider that Morison Guildford was an issuer of the securities.

Promoters

9.3   Promoter means a "person who is instrumental in the formulation of a plan or programme pursuant to which the securities are offered to the public".

9.4   A distinction must be made between "promoting" as used in its colloquial sense and being a promoter under the Securities Act.

9.5   A promoter for the purposes of the Securities Act is a person who is instrumental in the formulation of a plan or programme pursuant to which securities are offered to the public.

9.6   On the basis of the evidence available to us, we have concluded that Morison Guildford and Morison and Guildford were not promoters. The evidence does not suggest they were instrumental in the formulation of a plan to offer the securities in New Zealand as promoters.

Investment advisers

9.7   The definition of an investment adviser under the Investment Advisers (Disclosure) Act 1996 includes "a person who, in the course of the person's business or employment gives investment advice". The definition of investment adviser excludes the issuer or promoter of the securities to which the advice relates. The definition also excludes a person who only transmits investment advice relating to the particular securities. We consider that there is sufficient evidence to show that Morison Guildford and its directors were investment advisers.

9.8   We have seen two examples of statements prepared by Guildford consisting of a comparison of the prospective returns from existing insurance policies and prospective returns from Gideon. These were prepared for persons who subsequently invested with Gideon.

9.10   Other evidence that Morison Guildford acted as investment advisers includes:

• Statements from investors that they relied on advice from Morison Guildford when deciding to investment with Gideon.
• Morison Guildford's investment adviser disclosure statements.
• Morison Guildford's suggestions to clients that they transfer money from existing insurance policies to Gideon.
• A compilation of financial statements for Morison Guildford stating that Morison Guildford's principal business is the sale of "insurance / investment products".
• The activities of Morison Guildford in soliciting funds for Gideon.

9.11   We consider that Morison Guildford and its directors were acting as investment advisers. The firm and its directors did not distribute disclosure statements at the time. However, under section 4 of the Investment Advisers (Disclosure) Act 1996, an investment adviser need only supply a disclosure statement at the request of investors. There is no evidence from the investors we communicated with that any request was made.

9.12   If Morison Guildford and its directors acted as investment advisers they would have had an ongoing interest in the affairs and management of the scheme. An investment adviser is likely to have a duty of care and a fiduciary duty towards persons to whom he or she is recommending investments in securities. These duties are likely to require an investment adviser to have a sufficient basis, through some form of due diligence, for recommending investment in a particular security. There are a number of steps that a person recommending investment in a particular offer of securities might be expected to take, by way of due diligence, before making a recommendation, particularly where there is a continuing relationship between the issuer and the adviser. These include:

• Checking the qualifications and experience of the investment manager.
• Ensuring that the prescribed offer documents exist.
• Analysing the offer documents.
• Analysing the financial statements.

9.13   If an investment adviser has an ongoing role in relation to an investment product it would be prudent for the adviser also to consider periodically the adequacy of the annual and other periodic reports on performance of the investment fund, and to form an opinion that a basis for making the recommendations remains.

Investment brokers

9.14   Section 2 of the Act defines "investment broker" as meaning "a person (whether or not the person is also an investment adviser) who in the course of his or her employment receives investment money or investment property". The definition excludes "a person who only transmits investment money or investment property [to an issuer] without being able to apply the money or property for any other purpose".

9.15   From the records provided, investors made payment to Gideon via Morison Guildford. The funds were held in accounts in the name of Gideon, but over which Morison and Guildford had authority. Funds were usually then transferred into a bank account held by Gideon with the National Bank in Auckland.

9.16   From notes made on the bank statements, it appears that Morison Guildford was acting under instructions from Gideon in relation to those funds. Investors' funds can be traced going into the account, and when added together equal the lump sums paid to Gideon on a regular basis.

9.17   One exception to this is the purchase of shares in Morison Guildford, where funds were not paid to Gideon's National Bank account, but instead were paid to Morison and Guildford and their spouses, although it appears with the consent of Bastion.

9.18   The matters that indicate Morison Guildford acted as an investment broker are:

• Control of the Gideon account. Morison Guildford claims to have acted upon the instruction of Bastion in transferring funds for Gideon.
• The interest from the Gideon account held by Morison Guildford was applied for the benefit of Morison Guildford (or to offset costs incurred in communicating with Bastion and investors in Gideon).
• Money was taken out of the Gideon account and placed with Telfer Properties Martinborough Limited. Morison Guildford claims that this was as instructed by Bastion.
• Money was taken out of the Gideon account to pay for shares in Morison Guildford for Spaincroff. Morison Guildford claims that this was as instructed by Bastion.
• Money was taken out of the Gideon account as a loan to Morison Guildford. Morison Guildford claims that this was authorised by Bastion.

9.19   Morison Guildford did not comply with section 3 of the Investment Advisers (Disclosure) Act relating to the disclosure of information as an investment broker.

10   Liability Questions

10.1   The Commission does not have the power to make rulings on application of the law. This is for the Courts. However with that caveat, we raise the following questions of liability relating to Morison Guildford.

Civil liability

10.2   We consider that questions arise about a possible breach of fiduciary duty and duty of care given the circumstances and manner in which investment advice was given, and the manner in which investors' funds were applied by Morison Guildford - whether or not they were acting on the instructions of Bastion.

Criminal liability

10.3   Money was withdrawn from the Gideon Investments Client Account by Morison Guildford on a number of occasions for the benefit of people other than investors.
This includes money withdrawn in regard to:

• Spaincroff Holdings Limited.
• Telfer Properties Martinborough Limited.
• A loan to Morison Guildford.
• Interest incurred on money in the account.
• A number of other unexplained withdrawals.

10.4   We have considered these payments and the possible potential criminal implications. We have conferred with the Serious Fraud Office. After careful review the Serious Fraud Office has informed us that there is insufficient evidence for them to take any action.

Securities Act and Investment Advisers (Disclosure) Act liability

10.5   We have considered whether Morison Guildford may be liable as a promoter of Gideon. The evidence available to us does not support that conclusion.

10.6   Questions of liability arise in regard to Morison Guildford's possible role as an investment broker. This matter will be forwarded to the Registrar of Companies for his further consideration.

11   Summary of Conclusions

11.1   Morison Guildford has been extensively consulted in the preparation of this report and has made a number of submissions on it. However, it should be noted that the work of the Commission is not based on an adversarial Court process and the Commission does not have the power to make definitive findings on questions of law in its general review work.

11.2   We consider that Bastion's actions have caused harm to a significant number of people. It seems clear that he committed fraud on a major scale. We do not consider that either Morison or Guildford was aware of Bastion's fraud. However, we consider that persons in an intermediary investment advisory role have certain obligations to those who invest money on their advice or with their assistance. On the basis of the information that has been available to us we consider that Morison Guildford's conduct was incompetent and irresponsible. They appear to have taken a key role in obtaining investment money from New Zealanders for Gideon. They did not question the lack of offer documents. Their formal evaluation and monitoring of Gideon was close to non-existent and certainly fell short of what might reasonably be expected of a firm offering investment advisory and broking services to the general public.

11.3   Regardless of whether the actions of Morison Guildford in withdrawing money from the Gideon Investments Client Account might have breached sections of the Crimes Act, we consider that the way in which Morison Guildford withdrew the funds was inappropriate. They appear not to have told investors that they were withdrawing funds. They were unable to point to any records or written instructions from Bastion to support their assertions that the withdrawals were made on Bastion's instructions. Moreover, clause 5 of the management agreement expressly prohibited loans being made by the trustee of Gideon from the fund (see paragraph 2.28). Morison Guildford had copies of this agreement. In the circumstances, the incompleteness of their records is highly inappropriate. They appear to have been indifferent to the interests of their clients and to the manner in which client money was applied.

11.4   Regarding remuneration, Morison and Guildford clearly believed that they were receiving a reward for their activities in soliciting funds for Gideon. This was not generally disclosed to investors. They were also receiving commission by advising investors to take out new insurance policies. This might be an example of churning, advising and helping to give effect to excessive turnover of policies for the purpose of bringing in commissions.

11.5   This report has been prepared as a review of market practice. We think the matters in this report highlight a number of deficiencies in the behaviour of people committed to representing the general public. While we do not regard this as a typical case, we have encountered a number of other situations where important deficiencies have occurred in the operation of investment advisory businesses.

11.6   We have recently made recommendations to the Government on regulation of investment advisers. We think that the events outlined in this report provide an example of the type of matters that our recommendations are intended to help address. In particular these events illustrate the value of rules about mandatory investment adviser disclosure, and rules about recommending illegal offers of securities.

11.7   We add that our report also highlights the need for investors in New Zealand to act with prudence in making their investment decisions. Investors have a right to certain information under the existing securities and investment adviser laws. We have no evidence that Gideon investors sought to obtain this information. We think they should have done so.

12.   Referrals

12.1   We are referring this report for consideration by the following persons and organisations:

• The Minister of Commerce.
• Investors in Gideon.
• The Registrar of Companies.
• The Financial Planners and Insurance Agents Association.
• The Insurance and Savings Ombudsman.

Appendix "A"

Ref: 300-140 / #24672
TERMS OF REFERENCE: MORISON GUILDFORD AND ASSOCIATES LIMITED

Pursuant to sections 10 and 18 of the Securities Act 1978, the Securities Commission has decided to review the facts and circumstances of the issue and promotion of and the giving of investment advice about securities issued by Gideon Investments Pty Limited ("Gideon") or any associated company including in particular the role of Morison Guildford and Associates Limited ("Morison Guildford"). The period of the inquiry is from March 1996 to 16 March 2000. The Commission wishes to consider:

1. whether the offer of securities issued by Gideon or any associated party was made in New Zealand in accordance with New Zealand law,

2. whether Morison Guildford and/or its directors acted as investment advisers, investment brokers, issuers or promoters in regard to Gideon or any associated company,

3. whether Morison Guildford complied with the law relating to investment advisers,

4. the steps Morison Guildford took to meet its duty of care and fiduiciary duty in giving advice to its clients about investment with Gideon,

5. whether it is desirable to clarify and/or amend the law relating to investment advisers,

6. any other matters material to the inquiry;

and to decide whether the Commission should comment on these matters to any appropriate body, publish a report or take any other action.

Subject to the Commission's discretion to amend the terms of reference as it may consider fit.

15 March 2001

Appendix "B"

28 June 1998

Dear Clients

Hawks, doves and bears

We have talked about the "Goldilocks" economy before. Well it appears Goldilocks has wrong-footed the bears again. That at least is the message emerging from the US in their first quarter growth numbers, where growth was above expectations and inflation was negligible. The story of the economy that is neither too hot nor too cold moves from one happy chapter to another.

In Europe, meantime, the tale is the more ancient one of the tortoise and the hare. But here too, the message is relatively cheery. Unperturbed by the Asian crisis, continental Europe - the tortoise to the US hare in the present economic cycle - has seen domestic demand take over as the chief impetus behind first quarter economic growth. This week its main equity markets were either hitting new peaks or standing within spitting distance of them.

The problem for me however, is that on closer inspection the picture for the US and Europe is not quite as rosy as appears at first sight. On the American side, the bullish case for equities rests on the assumption that corporate earnings are in robust shape. But the pointers are largely in the other direction.

Corporate profits for the first quarter are stagnant. At the same time inventories are accumulating fast and the external trade deflect is widening. A profits squeeze in the developed world is an obvious and natural consequence of the Asian crisis. It is hard to see why the US should be immune. As for Europe, recent data suggests that business confidence in Germany and France is faltering.

The big questions for equities are nonetheless concentrated in the Anglo-American markets, where there is growing concern over the weaker earnings outlook. Company profit warnings are coming thick and fast, while analysts are downgrading corporate earnings forecasts in large numbers.

Much still hinges on the future path of the Japanese currency, for a weakening Yen is the chief means by which Japan exports deflationary pressure around the world. The recent Japan-US intervention succeeded briefly in stabilising the Yen but by the end of this week the currency had returned to the status quo.

That is a measure of the bearishness of Japan. But the pessimism has yet to percolate through to equity valuations in the West. With each new profit warning or earnings downgrade, investors simply turn their attention elsewhere in search of another growth story. And despite the possibility, or by now perhaps the probability, of a worsening of debt problems in Asia, the bank stocks that have played such an important part in powering the bull market still have their supporters.

Overall the risk in equities is becoming even more daunting. The point will come when Goldilocks finds broken glass and tin tacks in the porridge.

In the next two weeks the end of the year accounts will be finalised. While we have a solid performance in April/May, June has not been so good. Without being exact, the return should still be approximately 43%-45%. All clients will have to make a decision as to whether they wish to roll over their profits or have them paid out. The sooner we are aware of your requirements the easier it will be to organise. Accordingly, could you ensure that you either fax or write to my Sydney office as soon as possible. I hope everyone has been satisfied with the year and I look forward to catching up with as many of you as possible in the next couple of months.

FIRST QUARTER PERFORMANCE	17.4%
SECOND QUARTER PERFORMANCE	23.1%
THIRD QUARTER PERFORMANCE	4.3%
FOURTH QUARTER PERFORMANCE

April

May

June

CUMULATIVE TOTAL

Yours faithfully

Mike Bastion