Terra Securities scandal

[
Terra Securities]

The Terra Securities scandal was a scandal that became public in November 2007 and involved highly speculative investments by eight municipalities of Norway in various hedge funds in the United States bond market.Mark Landler: [http://www.nytimes.com/2007/12/02/world/europe/02norway.html?_r=1&hp&oref=slogin "U.S. Credit Crisis Adds to Gloom in Arctic Norway"] "New York Times", December 2, 2007 (Retrieved on December 2, 2007)] The funds were sold by Terra Securities to the municipalities, while the products were delivered by Citigroup. The municipalities involved were Narvik, Rana, Hattfjelldal and Hemnes in Nordland, Vik and Bremanger in Sogn og Fjordane, Haugesund in Rogaland, and Kvinesdal in Vest-Agder, all large hydroelectricity producers.

The nature of the investments were that they were very complicated, geared, and that they had high risk through a small upside but a very large downside. Terra Securities, now bankrupt, was subsidiary of Terra Markets, which is owned 66.73% by Terra-Gruppen, an alliance and co-branding company owned by 78 local savings banks in Norway, and the remaining 33.27% by the management of the company. Citigroup is the world's largest bank, and based in the United States.

Background

In 2001, Vik municipality found a loophole in the "Municipality Act" and invested borrowed money in the stock market, by first investing and then seeking permission later. This utilization of the loophole was confirmed by the Norwegian Ministry of Local Government and Regional Development in 2002, because the money borrowed was secured in future income. Vik had borrowed NOK|70 million through DnB Markets based on annual payments of NOK 10M, secured through income from hydroelectric power production. This money was then invested in bonds through Terra Securities in 2001 and 2002. [cite web |url=http://e24.no/boers-og-finans/article2112738.ece |title=Terra utnyttet smutthull |author=E24 Næringsliv |date=2007-11-21 |language=Norwegian]

The same year, in 2001, the four Nordland municipalities Narvik, Rana, Hemnes and Hattfjelldal borrowed money to invest in complicated bonds issued by Citigroup and sold through Terra Securities. The municipalities also signed a confidentiality clause with Terra, which ensured that no independent third party could insure the quality of the investments. It has been questioned if such a clause, under the circumstances, could be legal.

For Narvik part of the capital came from the municipality selling 50% of Narvik Energi, the municipal power company, in 2002 to DONG Energy and HelgelandsKraft. The other three municipalities had ownership in HelgelandsKraft (Rana 26.8%, Hemnes 7.0% and Hattfjelldal 2.5%) as well as property tax income from power stations owned by Statkraft. These municipalities were investing future income from these sources.

The main advisors in Terra were Knut Anders Opstad and Harald Norberg, [cite web |url=http://www.dn.no/forsiden/naringsliv/article1248366.ece |title=Terra-rådgiverne tjente grovt |author=Dagens Næringsliv |date=2007-11-27 |language=Norwegian] of which the latter has been formerly fined by the Norwegian National Authority for the Investigation and Prosecution of Economic and Environmental Crime in the early 1990s for illegal sale of bonds to private individuals. [cite web |url=http://www.hegnar.no/bors/article236797.ece |title=Terras superselger tidligere straffet |author=Finansavisen |date=2007-11-21 |language=Norwegian] They had tried to sell the investments to all municipalities with power income by contacting the Association of Norwegian Power Municipalities, but had been rejected by the organization. [cite web |url=http://www.dn.no/forsiden/politikkSamfunn/article1240264.ece |title=Ønsket å selge tapspapirer til alle |author=Dagens Næringsliv |date=2007-11-21 |language=Norwegian]

Nature of the investments

After the reinvestment in 2007 the municipalities gained a potential upside on their investments of between 0.5% and 3.0% above risk-free placements, but instead risked losing not only their entire investment, but in the worst case twice what they invested. A total of NOK 451M was invested, but geared by borrowing additional tenfold of the money, so in reality the municipalities were investing between NOK 4 and 5 billion. In a worst case scenario the municipalities could lose NOK 900M—twice their initial investment. Tor Sydnes in Wassum Investment Consulting claimed in an interview with Dagens Næringsliv that there was a huge disproportion in risk, and the difference in the vast risk and minimal upside was unacceptable: "It is completely incomprehensible that they said yes". [cite web |url=http://www.dn.no/forsiden/politikkSamfunn/article1241654.ece |title=Enorm risiko - minimal oppside |author=Dagens Næringsliv |date=2007-11-23 |language=Norwegian] When translating the prospectus from English to Norwegian, Terra has chosen to systematically not include any warnings of risks that had been in the original prospectus from Citigroup. [cite web |url=http://www.dn.no/forsiden/politikkSamfunn/article1241777.ece |title=Terra vedgår forskjell i prospekter |author=Dagens Næringsliv |date=2007-11-22 |language=Norwegian]

The model of the investment was so complicated that the CEO of Terra Securities could not confirm that even he actually understood how it worked. [cite web |url=http://e24.no/boers-og-finans/article2115784.ece |title=Her er modellen politikerne skulle forstå - prøv selv |author=E24 Næringsliv |language=Norwegian |date=2007-11-22] The deficit from the investment came in late 2007 due to the credit bubble in the United States.

The investments made by Haugesund involved NOK 227.5M being placed as a security for Citigroup, so in case loans to United States municipalities were defaulted beyond 3.32%, Haugesund would have to pay this to Citigroup. The mayor of Haugesund, Petter Steen jr. claims that he thought the municipality was buying a bond in Statkraft. Instead they were selling such a bond as security for the hedging they were performing for Citigroup.

Total investments in Terra/Citigroup scheme:
* Bremanger: NOK 170 million
* Hattfjelldal: 103M
* Haugesund: 220M
* Hemnes: 84M
* Kvinesdal 32M
* Narvik: 52M
* Rana: 297M
* Vik: 38.5M

candal reaction

After Finansavisen started writing about the case, and the municipalities suspected that they had been conned, they hired expertise from the law firm Lund & Co. as well the financial advisory firm Pareto. The Financial Supervisory Authority of Norway announced that they would perform an investigation of the case, in relation to the legality of the products sold and the amount of information provided by Terra. [cite web |url=http://www.dn.no/forsiden/borsMarked/article1238390.ece |title=Tilsynet gransker Terra |author=Dagens Næringsliv |date=2007-11-20 |language=Norwegian] Minister of Local Government and Regional Development Magnhild Meltveit Kleppa asked the County Governor of Nordland to investigate if the agreements made are legal according to the "Municipality Act". [cite web |url=http://e24.no/makro-og-politikk/article2112768.ece |title=- Vil sjekke lovligheten |author=E24 Næringsliv |date=2007-11-21 |language=Norwegian]

Terra-Gruppen started an internal investigation, but has only relocated the two advisors and claiming that top management could not be responsible for the questionable behavior of the products. Still Sverre Leiro, CEO of NorgesGruppen and one of the two independent members of the board of Terra-Gruppen resigned on 23 November 2007, claiming that sitting on the board would tarnish his and NorgesGruppen's image.

On 26 November Terra announced that they were willing to take the downside of the investments made in 2007 by the four Nordland municipalities, totaling a loss of NOK 150M. This would leave the initial loss at bay, giving a loss for the municipalities of NOK 150M. As of 27 November the municipalities had rejected the offer. Local politicians in Narvik feared that they would have to sell the rest of Narvik Energi if they could not get out of the agreement with Terra.

On 28 November the Financial Supervisory Authority of Norway announced that they would withdraw all operating licenses held by Terra Securities. Director of the authority, Bjørn Skogstad Aamo said the reason was many and serious breaches of requirements for good and correct information to clients. [cite web |url=http://www.dn.no/forsiden/naringsliv/article1249754.ece |title=Terra Securities ferdig |author=Dagens Næringsliv |date=2007-11-28 |language=Norwegian] Subsequent to this the company filed for bankruptcy and the CEO of Terra-Gruppen, Ola Sundt Ravnestad, announced his resignation. [cite web |url=http://www.dn.no/forsiden/naringsliv/article1249984.ece |title=Bitter Terra-sjef går av |author=Dagens Næringsliv |date=2007-11-28 |language=Norwegian] Ravnestad will receive NOK 5.5 million in salaries after he retires from the job.

Due to the bankruptcy in Terra Securities, Citigroup announced on 30 November, that they would sell the funds on the open market, essentially inflicting a cost of about NOK 350M on the municipalities. [cite web |url=http://e24.no/boers-og-finans/article2127873.ece |title=Stenger fond |author=E24 Næringsliv |date=2007-11-30 |language=Norwegian]

On 7 December Tønsberg District Court gave the eight municipalities arrest in all personal property of the salesman Knut Anders Opstad, including his private holding company, Opstad Invest AS. [cite web |url=http://e24.no/boers-og-finans/article2144306.ece |title=Kraftkommunene tar arrest i Terra-meglerens formuesverdier |author=E24 Næringsliv |date=2007-12-10 |language=Norwegian] Representatives for the municipalities indicated they would seek arrest also of other involved parties' property.

On 17 June the municipality of Rana fired their chief of administration, Jan Reitehaug, and the chief of accounting. [cite web |url=http://www.dn.no/forsiden/politikkSamfunn/article1426447.ece |title=Terra-rådmann får fyken |author=Dagens Næringsliv |date=2008-06-17 |language=Norwegian] This was due to an independent consultant report that concluded with the municipality breaking four paragraphs of the "Municipality Act" as well as the municipalities own financial policy. It further showed that the chief of administration did not understand the representatives were salesmen—but thought they were advisors. The administration also failed to get political permission for several of the transactions, and failed to bookkeep broker fees because they did understand what they were. [cite web |url=http://www.dn.no/forsiden/politikkSamfunn/article1421564.ece?WT.svl=article_title&jgo= |title=- Skjønte ikke at Terra tjente penger |author=Dagens Næringsliv |date=2008-06-11 |language=Norwegian]

In August several of the municipalities announced they would consider pursuing Citigroup in a court case in either the United Kingdom or the United States, to hold Citygroup responsible for the losses. [cite web |url=http://www.dn.no/forsiden/politikkSamfunn/article1479617.ece |title=Kan tjene 300 mill. på Terra-saken |author=Dagens Næringsliv |date=2008-08-30 |language=Norwegian] On 8 Spetember the eight involved municipal councils unanimously voted to hold DnB NOR and Depfa Bank responsible for their losses, through issuing loans that were illegal according to the Municipality Act. This involves the municipalities will no longer honor the loan commitments, and stop payments. Kjell-Idar Juvik claimed he hoped the banks would be willing to negotiate the matter, and hoped to avoid a case in the courts, but implied the municipalities would not hesitate to bring the matter to court. [cite web |url=http://www.dn.no/forsiden/naringsliv/article1486178.ece |title=Terra-kommunenes trumfkort |author=Dagens Næringsliv |date=2008-09-09 |language=Norwegian] DnB Nor announced that following day that they are considering taking legal action against the municipalities for force them to continue payments. [cite web |url=http://thenorwaymail.blogspot.com/2008/09/dnb-nor-are-threatening-municipalities.html|title=DnB Nor are threatening legal action |author=E24 Næringsliv |date=2008-09-09 |language=English]

Press coverage

The incident has been subject to extensive press coverage with headlines and entire first pages in both local and national newspapers, as well as in-depth research articles in the financial press. TV coverage has involved both news and debate programs on several channels, along with treatments by comedians in comedy shows.

Involved parties

*Eight municipalities, which were fooled by Terra Securities representatives, not being informed of the high risks. Also, the legality of providing "future expected income" as security for loans has been questioned. Risk huge loss from their speculative investments. The municipalities have been fronted by their mayors:
**Asgeir Almås (Labour, Hattfjelldal)
**Karen Margrethe Kuvaas (Labour, Narvik)
**Kjell-Idar Juvik (Labour, Hemnes)
**Erik Lidal (Centre, Vik)
**Odd Omland (Labour, Kvinesdal)
**Petter Steen jr. (Conservative, Haugesund)
**Kåre Olav Svarstad (Labour, Bremanger)
**Geir Waage (Labour, Rana)
*Lund & Co. (judicial) and Pareto Group (financial)—have acted as advisors for the municipalities.
*Terra Securities—Sold the funds to the municipalities, without informing of the true nature of the risk, and as a consequence of this now bankrupt.
*Terra Securities IScite web |url=http://www.na24.no/naeringsliv/article1471044.ece |title=Hemmelige verdier i skjult selskap|author=NA24 |date=2007-12-01 |language=Norwegian (Retrieved on December 2, 2007)] —an "inner company". The owners received almost 200 million NOK from this company last year. The role of this company and its relation to now defunct Terra Securities ASA is not fully known.
*Harald Norberg and Knut Anders Opstad—The two salesmen who actually sold the funds to the municipalities.
*Owners of Terra Securities (Terra-Gruppen owned by 78 savings banks as well as the executive managers Ola Sundt Ravnestad and Odd Arne Pedersen)—Have received hundreds of million NOK from Terra Securities since the illegal transactions were initiated. Risk lawsuits from involved parties, and loss of goodwill.
*DnB NOR—Supplied loans for the municipalities to perform the investments. Legality of loans are questioned.
*Depfa Bank—Supplied loans to Haugesund and Narvik.
*Citigroup—Issued the bonds to Terra, who onsold the securities to the Norwegian municipalities. While "the risks were clearly conveyed by Citigroup to Terra" (according representatives from Citigroup), the risks of the prospects were allegedly not communicated to the final buyers. Size of commissions and other earnings from the purportedly illegal transactions is not known. The letter dated November 27, 2007 from "The Financial Supervisory Authority of Norway" to "Terra Securities ASA", states that "The Supervisory Authority contends that Terra Securities ASA's presentation appears insufficient and misleading because central elements like the possibility of potential extra payments and losses, together with the size of these, are omitted." (...) The material from Citigroup is significally more detailed than the material from Terra Securities ASA. However, this document is also missing information about crucial risk for the municipalities, namely the risk to have to furnish additional security in the form of money. (...) "The Supervisory Authority contends that Citigroup's presentation, as well as the presentation from Terra Securities ASA, appears insufficient and misleading because central elements like information about potential extra payments and the size of these are omitted." (translated)"Terra Securities – Kommune fond linket obligasjon" (document discussed in "Letter from The Financial Supervisory Authority of Norway to Terra Securities ASA (2007-11-27). Forhåndsvarsel om tilbakekall av tillatelse.")] "Citigroup Municipal Investors TOB Capital Municipal Portfolio" (document discussed in "Letter from The Financial Supervisory Authority of Norway to Terra Securities ASA (2007-11-27). Forhåndsvarsel om tilbakekall av tillatelse.")]
*SEB Merchant Bank—Acted as a broker between Citigroup and Terra Securities, and was the initial opponent against Citigroup of the funds.
*Financial Supervisory Authority of Norway—Control authority that withdrew the concession of Terra Securities,cite web |url=http://pub.tv2.no/multimedia/na/archive/00527/Kredittilsynet_til__527202a.pdf |title=Forhåndsvarsel om tilbakekall av tillatelse.|author=Letter from "The Financial Supervisory Authority of Norway" to "Terra Securities ASA"|date=2007-11-27 |language=Norwegian(Retrieved on December 2, 2007)] and is making further inquires concerning the legality of people and parties involved in Terra.
*Norwegian National Authority for the Investigation and Prosecution of Economic and Environmental Crime—The police unit that will have to charge any parties for violating Norwegian law.
*County Governor of Nordland—Investigating if the municipalities have breached the "Municipality Act" during the investment process.

References

External links

* [http://e24.no/boers-og-finans/article2115784.ece?service=bildeviser&nr=0&felt=brodtekst Model of the investment] (E24 Næringsliv)
* [http://www.terra.no Terra-Gruppen] no icon