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Pacific Current Group Limited (ASX:PAC) Questions to the Company for the Auditor

Announcement posted by Advocate Strategic Investments Pty Ltd 24 Oct 2016

Exhaustive List Contributed By Concerned Shareholders

Questions to the Auditor of Pacific Current Group Limited and Entities 

Mr. Declan O’Callaghan Partner Assurance & Advisory Deloitte Touche Tohmatsu (Deloitte) 

The questions are in advance of Pacific Current Group Limited’s (PAC) Annual General Meeting (AGM) which is to be held in Melbourne on 27 October 2016.

The questions to the Auditor are submitted the Company Secretary of PAC under sec 250PA of the Corporations Act. 2001 (Cth) and are relevant to:

- The contents of the Auditor’s Report for FY 2015 and FY 2016; or

- The conduct of the audit in relation to the financial report to be considered at the 2016 AGM: sec 250PA(1).

The Annual Report 2016 http://paccurrent.com/wp-content/uploads/2016/09/Annual-Report-2016.pdf

The Trust Accounts 2016 http://paccurrent.com/wp-content/uploads/2016/10/30-June-2016-Trust-FS-Final-signed.pdf

Questions specific to PAC’s FY2015 & FY2016 Auditor’s Reports

On 25 November 2014 Treasury Group Limited (TRG), now called Pacific Current Group Limited (PAC), executed a merger and vended $288 million dollars of shareholders’ funds (equity and cash) into a Managed Investment Trust called Aurora Trust, along with a collection of interests associated with USA- and French-based PAC directors Paul Greenwood, Tim Carver (retired), Jeff Vincent of Northern Lights LLC (NL), Gilles Guerin of BNP Paribas (BNP) and others (NL Group). The NL Group investment vehicle that joined its interests with PAC in Aurora Trust is called Northern Lights Capital Partners LLC (NLCP). (BNP separated its interest from NLCP on the merger execution date.)

In an announcement by TRG/PAC, shareholders were told that the following advisers had been appointed to provide services and advice in relation to the merger with the NL group and BNP:

1. non-audit services, Deloitte Touche Tohmatsu (Deloitte); 

2. legal services, Herbert Smith Freehills (Freehills); and 

3. corporate advisory services, Gresham Partners (Gresham).

The corporate fees attached to the merger are numbered in the millions of shareholder dollars.

Since the merger was executed, PAC shareholders have seen $177 million dollars of the $288 million in shareholders funds’ that they contributed to what is now regarded as a questionable merger destroyed.

Question 1.

There had been significant growth in the provision of non-audit services by auditing practices to audit clients throughout the 1990s, in both Australia and overseas. The Report on the Independence of Australian Company Auditors (Ramsay, 2001) (“Ramsay Report”) cites statistics which indicate that for SEC audit clients in the United States, the ratio of accounting and auditing revenues to consulting revenues fell from 6:1 in 1990 to 1.5:1 in 1999 (para 5.76.) The same trend is evident in Australia.

The results of an Australian Securities & Investments Commission (ASIC) survey concerning auditor independence of the Group of 100* companies indicate:

- the widespread provision of non-audit services (particularly taxation advice) to major corporates by audit practices; 

- that audit firms earn substantial fees for providing non-audit services and on average, these account for almost 50% of total fees. (Fee dependency by auditing and   accounting practices is increasingly becoming an issue, but is not expressly regulated by the Corporations Act): ASIC Media Release, dated 16/01/2002.

The non-audit services, the provision of which may compromise independence, include the preparation of accounting records and financial statements; valuation services; internal audit services; IT systems services; temporary staff assignments; acting for or assisting an audit client in the resolution of a dispute or litigation; legal services; recruiting senior management for an audit client; and corporate finance and similar activities.

The extent to which the provision of non-audit services compromises auditor independence has yet to be determined with any degree of certainty, despite the substantial amount of research and analysis published on this issue (see Part 8 of the Ramsay Report). Those who oppose the provision of non-audit or consultancy services by auditors argue that:

- they create circumstances leading to a conflict of interest because the audit practice is serving two different sets of clients: management in the case of;

- non-audit services, and the audit committee, shareholders and others who rely on the audited financial reports, in the case of audit services;

- a prohibition on the provision would not prevent an audit practice from providing non-audit services, only their provision to audit clients;

- the system of compensation or reward within the audit practice may adversely impact upon the integrity of the audit. This might occur where the success in marketing an audit firm’s consultancy services is a significant factor in the practice’s compensation, promotion and reward system. The skills in cross-selling consultancy services are not generally consistent with the requirement for an auditor to exercise professional skepticism.

* Australia’s peak body for CFOs and senior finance executives, drawn from the nation’s major private and business enterprises.

- What were, are and continue to be\ the scope of non-audit services provided by Deloitte in relation to the TRG/PAC merger?

- What were the level of non-audit fees paid to Deloitte in relation to its merger advice?

- Are there currently outstanding fees due to Deloitte for non-audit fees and if so, what is the total amount of these?

Question 2.

Freehills provided legal and advisory services on the TRG/PAC merger.

- Can the Auditor tell shareholders what were the services Freehills provided in relation to the merger and what fees were paid to it?

Question 3.

Gresham provided corporate advisory services on the TRG/PAC merger.

- Can the Auditor tell shareholders what were the services Gresham provided in relation to the merger and what fees were paid to it?

Question 4.

In relation to the merger by TRG/PAC with the NL Group and BNP as recorded in the merger documents and the 2015 and 2016 financial accounts, can the auditor tell us:

- What was the scope of services the Deloitte Auditor was asked to perform by TRG/PAC and the AT? What were the fees paid to the Auditor for FY 2015 and FY 2016? Are there currently outstanding fees due to the Auditor and how much are these?

Question 5.

William Blair is a global investment banking and asset management firm and is based in Chicago. The company acted as the exclusive financial advisor to Northern Lights Capital Group (NLCG) in connection with its merger with Australia-based Treasury Group (ASX:TRG) for the A$193 million in assets to be merged. 

William Blair also provided strategic merger advice for NLCG’s pending merger with Treasury Group and arranged US$46 million of financing in support of NLCG’s contemporaneous acquisition of two boutique asset managers. The merger was announced by TRG to the Australian Securities Exchange (ASX) on 5 August 2014 and executed on 25 November 2014.

- Can the Auditor assure PAC shareholders that the value of A$193 million in assets packaged up by William Blair and merged was thoroughly tested?

- Can the Auditor explain to PAC shareholders, in detail, the terms, conditions, penalties and the specific application of funds that relate to the US$46 million-dollar debt?

- Can the Auditor explain an additional debt of US$4,700,000 which Medley disclosed in the MEDLEY CAPITAL CORP FORM 10-Q (Quarterly Report) Filed 02/09/15 for the Period Ending 12/31/14. See… http://www.otcmarkets.com/edgar/GetFilingPdf?FilingID=10461670

Question 6.

Can the Auditor provide shareholders with details about:

- Who managed the merger due diligence process?  -Which service providers conducted the due diligence process for the TRG/NL merger? 

- What did the due diligence consist of and was it exhaustive having regard to NL Group and BNP merger-introduced liabilities? 

- Did the due diligence process raise concerns, serious or otherwise. by any of the participating advisers which included Deloitte the non-audit service provider? If so, what did, for example, Deloitte say? 

- Did the Auditor enquire about enterprise and strategic risk to TRG/PAC? If so, of what did the risk enquiry consist? 

- Did any of merger advisers, including Deloitte non-audit, indicate that the merger terms disadvantaged TRG and its shareholders? If so what were they? Was this raised with TRG/PAC and what was the response? 

- Who advised TRG/PAC to establish a Managed Investment Trust (MIT) and why? 

- Did the NL Group and BNP give extensive representations and warranties and indemnities over the assets and liabilities packaged up by William Blair for the TRG/PAC merger and if so what were they? 

- Do those representations and warranties and indemnities survive closing?

- Was the transaction an asset merger only with understood liabilities being assumed (and no successor liability concerns)? 

- Did or does TRG/PAC have representations and warranties insurance over its merger with the NL Group and BNP?

- Who were the named signatories on the due diligence sign off for the merger? 

- Who were the named signatories agreeing the execution of the merger? 

- TRG/PAC was a debt-free company before the merger. Current liabilities now exceed current assets. In the Auditor’s opinion, is the shareholders’ company TRG/PAC (and its interest in the AT) now at risk of failure?

Question 7.

The merger created a common board between TRG/PAC and the trustee of the merger vehicle Aurora Trust, namely Aurora investment Management (AIM).

Given that the same directors (then and now) comprise the board of both TRG/PAC and AIM (for Aurora Trust), please advise how you as the company’s Auditor satisfied yourself that the board of TRG/PAC had satisfied itself in respect of:

- The market value of the assets TRG/PAC vended into Aurora Trust?

- The market value of the assets NL Group and BNP vended into Aurora Trust?

- Risk scenario analysis (stress testing)?

- The appropriate apportionment, then and into the future, of the units in Aurora Trust issued to TRG/PAC, NL Group and BNP, given that the Trustee of Aurora Trust assumed the indebtedness and liabilities of the NL Group and BNP entities Northern Lights MIDCO LLC [MIDCO], Northern Lights Capital Group LLC [NLCG], NLCG Distributors LLC [NLCGD] Northern Lights Asset Management LLC [NLAM], WHV Investments LLC [WHV], Northern Lights Alternatives LLC [NLA], Northern Lights Alternative Advisers LLP [NLAA] and Northern Lights Ventures LLC in relation to the assets vended into the AT?

Question 8.

TRG shareholders were told on 5 August 2014 their company was proposing a merger which executed on 25 November 2014. They were then told on 31 August 2016 it was now a joint venture arrangement as distinct from a merger.

- With information now at hand, how can shareholders be sure that the TRG merger was never a merger, but instead was a “busted takeover?”

A “busted takeover” is a highly leveraged corporate buyout that is contingent upon the selling off of some of the acquired company's assets or one’s own. A busted takeover can occur when an acquired company's assets are sold, or capital raised, in order to meet the cost of acquisition. The assets of the acquiring company or the one being acquired may be used together as collateral for the financing required for the deal to go through. Once the target company is acquired, some of its assets are sold in order to pay back a portion of the funds that the acquiring company used to provide or finance the transaction. The acquiring company must properly evaluate the target company's assets to confirm that the sale of the assets will adequately cover the debt.

- Can the Auditor explain why the merger has now been renamed a joint venture, and what is the purpose for doing so? 

- Can the Auditor assure PAC’s shareholders, from its experience, that their company did not participate in a busted takeover as described, and give reasons why this is not the case?

Question 9.

We refer the Auditor to his 2015 and 2016 Reports to the members of TRG/PAC and the specific heading within the report about "Remuneration Report".

- From the audit on remuneration, did you as the Auditor undertake an analysis of or include and disclose the payments or entitlements earned by TRG key management personnel [KMP] or directors for tasks and or benefits obtained from either Aurora Trust or AIM?

- If so, why are these sums not disclosed within the Remuneration Report?

- And if there were any such payments, what were the amounts and to whom were they paid?

Question 10.

Did the Auditor enquire whether any of the remuneration disclosed in the Remuneration Reports related to services provided or benefits received by the TRG KMP or TRG Directors from Aurora Trust or AIM?

- If not, why were these services not included in the Remuneration Report? 

- And if so, to whom were payments made and in what amount?

Question 11.

ASIC is calling on companies to improve the disclosure of executive and director remuneration arrangements. The call follows the release of the results of its review of 50 remuneration reports drawn from 300 of Australia’s largest companies for the year ended 30 June 2011. The new report concludes that some companies still need to provide more effective remuneration reports, in accordance with Section 300A of the Corporations Act 2001, so that shareholders clearly understand the rationale for the directors’ adoption of those remuneration arrangements. PAC was until recently a top 300 company listed on the ASX.

- Can the Auditor assure PAC’s members that the company meets best practice in relation to executive and director remuneration arrangements that are easily understood by the ordinary shareholder, and explain how it meets best practice? And if not, why not?

Question 12.

In a white paper produced by Thomson Reuters titled “Seven Steps for Effective Enterprise Risk Management”. Mismanagement of strategic risks has been shown to be a major cause of loss of shareholder value.

In the report by the Institute of Management Accountants referred to earlier, Evolution of Risk Management -Enterprise Risk Management: Frameworks, Elements and Integration, two studies are cited as analysing value collapse.

One study by Mercer Management Consulting found that 10 per-cent of the Fortune 1000 lost 25 per-cent of their value within a one-month period. Another study, by Booz Allen Hamilton, suggested the primary events triggering the loss of shareholder value were strategic and operational failures.

- Can the Auditor assure PAC’s members from observations and discussions with management that the Auditor is comfortable with how the company manages and deals with strategic risk, and explain how it does so? And if not why not?

Question 13.

A copy of the FY 2016 Aurora Trust (AT) Financial Report to Pacific Current Group Limited (PAC) members was recently lodged with ASX. The report, which was signed on 3 October 2016 by the chairman of the trustee’s directors, included items and figures relating to Aurora Trust’s 2015 annual report. PAC’s members have never been provided with nor seen a copy of Aurora Trust’s 2015 financial report.

- On page 15 of the Aurora Trust 2016 financial report accounts, reference is made to an item described as Y- Redeemable preference units for the amount of $18,591,500. Can the Auditor tell members in plain English, and provide detail about, what preference unit relates to and to whom was the money paid?

- Can the Auditor explain why PAC’s members never received a copy of the Aurora Trust 2015 financial report?

Question 14.

FY 2016 Financial Statements to Pacific Current Group Limited (PAC) Members, Directors’ Report, signed as at 31 August 2016. And the Aurora Trust Financial Report dated 3 October 2016.

Note 2(z) at page 50 of PAC’s FY 2016 Financial Statements states that the liabilities brought to Aurora Trust by Northern Lights Capital Group LLC and from related shareholders Northern Lights Capital Partners LLC with BNP Paribas Capital Partners LLC and others, (the Northern Lights Group) were understated by $8.8 million (US$7.0 million), so that PAC has now recognised an additional loss of $5.6 million.

The Aurora Trust 2016 financial report states on page 60: “ÅThe AFS investments and trade and other payables contributed by Northern Lights were understated by A$8.9 million (US$7.0 million). As a consequence, there was an adjustment to the fair value of the AFS investment securities acquired from Northern Lights, indicating the fair value of one specific AFS investment security’s fair value was not supportable at period end.”

Can the Auditor tell us?

- What was the nature of both the understated $8.8 million? (PAC annual report) or $8.9 million (Aurora Trust annual report) liability? 

- Why the due diligence process, did not pick up on the understated liability? 

- How was the understated liability found and by whom? 

- To which NL Group/BNP AFS investment security did the understatement relate?

- Who were the Treasury Group Limited (TRG) people or consultants (premerger) who were charged with the responsibility of conducting proper due diligence and stress testing on the NL Group/BNP assets and entities? 

- Who were the TRG persons who verified and signed off on the assets and (liabilities) which were ultimately vended into Aurora Trust?

- Who was responsible for the failure to recognise the liability in the first place?

- Have all current and non-current, assets and liabilities been disclosed to PAC’s members in a reasonable way, under ASX continuous disclosure rules, in order for them to assess the true value of the company? 

 -Are there any other matters relating to PAC’s financial relationship with the NL, BNP assets, related parties and others, which have not been disclosed to PAC’s shareholders? Was PAC misled about the NL and BNP liabilities vended into Aurora Trust? 

- If so, has PAC disclosed to the auditor a remedy? 

- Has the auditor been told whether PAC is seeking compensation from NL, BNP and others?

Question 15.

Deferment of the Trust X redeemable preferred units (X-RPUs)

On 15 September 2016, the Trustee determined to defer payment of US$42 million redemption price for Aurora Trust’s class X-RPU, until at least November 2017 or later.

Roughly A$50 million = almost half of PAC’s current market capitalisation.

This is a big number, relative to PAC’s reduced market capitalisation. Is this US$42 million an actual liability (albeit now deferred) or will it be reduced/not payable if the NL assets (now largely written down/off) prove to be worthless? This is what PAC shareholders currently do not know – but it is highly material!

The deferment is permitted under Aurora Trust’s governing documents if the

Trustee determines that certain legacy Northern Lights alternatives boutiques are unlikely to outperform certain legacy Treasury Group alternatives boutiques based on a formula.

- Can the Auditor explain to members in plain English, the formula/particulars of preference share terms and the conditions and rights to redeem these? This is necessary information to provide an informed market.

The Trustee’s decision to defer payment is based on a variety of factors, including the determination that the requisite condition for payment of the redemption amount has not been met. As the Trustee could decide to defer payment to November 2017, Aurora Trust has classified the liability as a non-current liability.

Question 16.

Treasury Group Investment Services Limited (TIS) is a responsible entity(RE) and third-party service provider. Shareholders were told in 2013-14 that TRG intended to substantially grow this business. However, on 15 September 2016, the PAC board of directors approved a resolution to restructure the capital of TIS to return $4.5 million to Aurora Trust. TIS is required to maintain a certain net tangible assets (NTA) dollar value level in accordance with the Corporations Act in acting as a RE.

The NTA is linked to the total funds under management (FUM) in the number of registered managed investment schemes (MIS), and as the number of MIS has reduced, so has the dollar value of the NTA requirement.

As a result, TIS will return surplus cash and implement an equal capital reduction as defined in section 256B(2) of the Corporations Act 2001, on the following terms: 

(a) present total capital will be reduced by $4.5 million, being the surplus cash available within TIS; 

(b) there being one class of share capital in TIS and a sole member (Aurora Trust), the capital reduction will apply to ordinary shares in proportion to the number of shares held by Aurora Trust; and 

(c) $4.5 million will be returned to Aurora Trust following the Reduction.

- Can the Auditor tell member shareholders if TIS’s return of capital is a need for cash at Aurora Trust level – in effect, stripping out TIS reserves? 

- What reasons were given by PAC’s management to the Auditor if any, about killing off of TIS’s potential third party business opportunities?

Question 17.

On 20 April 2016 Pacific Current Group Limited (PAC) announced the sale of its 20% interest in Octis Asset Management Pte. Ltd (Octis) to Jerome Ferracci, Octis Managing Director. PAC will recover the value of all invested capital as a result of the sale and expects no abnormal gains or losses in relation to the price received. The sale was completed pursuant to a clause within the original investment contract. When investing in Octis in 2012, the equity manager had funds under management of $50m and this is now $25.3m.

In the same FY PAC’s Aurora Trust’s combined investment in the Orion, Nanuk and Trilogy was realised. However, unlike Octis, no financial details relating to the disposal have been disclosed to PAC’s shareholders.

- Can the Auditor tell shareholders what were the financial details relating to the disposal of PAC’s and the Aurora Trusts interest in Orion, Nanuk and Trilogy?

Question 18.

Deloitte is the Australian Financial Service Licence Auditor to Pacific Current Group Limited’s (PAC) wholly owned subsidiary Treasury Group Investment Services Limited (TIS)(AFSL) 227326 and its authority holder Aurora Investment Management Pty Ltd (AIM) Authority Number 000473374 which act as Trustee for The Aurora Trust (AT).

PAC owns units representing 65% of the Aurora Trust.

The shareholder ASI is investigating its legal rights in relation to events at PAC over the last 3 years relating to the merger with Northern Lights and the creation of the Aurora Trust.

It appears to ASI that PAC may have been misled as to the value of certain assets vended into the Trust by Northern Lights, especially the entities known as Seizert Capital Partners LLC, AlphaShares LLC, Elessar Investment Management, Inc., Del Rey Global Investors LLC and others.

ASI has asked PAC to produce for inspection by ASI the following documents in its possession relating to the merger of interests associated with, PAC Directors and Executives (past 7 present) Jeff Vincent, Gilles Guérin, Tim Carver, David Griswold Paul Greenwood, Andrew Turner and Jack Swift and their related parties Laird Norton LLC, BNP Paribas, WHV Investments LLC, Northern Lights Capital Partners LLC, Northern Lights Midco LLC, Northern Lights Capital Group LLC, NLCG Distributors LLC, Northern Lights Asset Management LLC, NLCG Distributors LLC, and Northern Lights Alternatives LLP that we know of: -

- A copy of the investment management agreement between AIM and AT;

- Copies of any sub-advisory agreements entered into between AIM, related parties, and others; 

- A copy of the AT Trust agreement; and

- A copy of any or all (unitholder) partnership agreements, agreed by AT unitholders, their related parties, and beneficiaries.

The Company has refused to provide or tell shareholders details about abovementioned agreements nor confirm who may be or are related parties between the PAC, the Trustee, the Trust and within the business assets held by the Trust.

- Can the auditor tell shareholders the entities and individual who make up the related parties?

- Is the Auditor aware of the existence of any investment management or sub advisory agreement having being executed by PAC, TIS or AIM the Trustee? Can the auditor provide details?

- Can the Auditor tell PAC shareholders what are the authorised investments of the Aurora Trust?

- Is the Auditor aware of the existence of any Aurora Trust agreement? And if so can the auditor provide details about the agreement to shareholders and how it may affect them? 

- Is the Auditor aware of any partnership agreements, agreed to by AT unitholders, their related parties and beneficiaries? And if so, can the auditor provide relevant details about the agreement(s) to shareholders and how they might affect them? 

- Can the Auditor explain, what are the fiduciary duties of AIM the Trustee? What can it do or not do? 

- Has the Trustee delegated any of its responsibilities? And if so to whom? 

- Can the Auditor assure PAC’s shareholders the Trustee and the Trustee's Directors are not, conflicted in any way?

In the company of shareholders in attendance at the Company’s forthcoming AGM we look forward to receiving the Auditors answers on the questions raised. 

Yours sincerely, 

Michael de Tocqueville 

Chief Investment Officer 

AFSL Responsible Manager 224560

DISCLAIMER

ASI is the manager of the Advocate Partners portfolio which holds Pacific Current Group Limited shares. As a Constructivist investor, Advocate Partners seeks and attempts to construct a more efficient company through effective engagement or suggest ways to collegiately build or rebuild shareholder value.

This Press Release has been prepared by Advocate Strategic Investments Pty Ltd ABN 77 101 691 598 | AFSL 224560 (ASI) for the information of shareholders. This release has been prepared from information available to ASI on the date of release and from publicly available sources. ASI has not verified this information and no responsibility is accepted for the accuracy, currency or completeness of this information. This release must not be taken to be financial product advice in respect of shares in the Company.

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