'REASONABLE TO ME': How Westpac loaned $165,000 for a franchise business and it cost a blind woman her home

Photo; Getty Images.
  • Evidence at the banking Royal Commission delved into Westpac’s business lending processes.
  • The questioning centred on a $165,000 loan for a franchise, using a home owned by a then 59-year-old woman on a disability pension .
  • Westpac’s general manager of commercial banking conceded ‘box ticking’ took priority over the benefit to pensioner as guarantor of the loan, in contravention of the bank’s policy.

A Westpac branch staffer pre-filled in answers to crucial compliance questions on a business loan “in anticipation” that the blind pensioner acting as guarantor would get the professional advice required in order to make the documents legal, the Royal Commission into misconduct in the financial services industry has heard.

As the commission turns its attention to the behaviour of banks when issuing small business loans over the next fortnight, Westpac’s Commercial Banking general manager, Alastair Welsh, was in the witness box for a second day as the latest case study, involving a 67-year-old blind and chronically ill pensioner, Carolyn Flanagan, whose home was put up as security on a $165,000 loan to her daughter to buy a mobile pool franchise.

Senior counsel assisting the commission Michael Hodge QC, pressed the bank on its lending procedures and whether they were lax in this case. Welsh insisted they were appropriate for the circumstances on multiple occasions, but ultimately conceded that the bank could have done more to take Flanagan’s financial circumstances into account when she agreed to guarantee her daughter’s loan.

The banker involved in issuing the loan even pre-signed her name as a witness to Flanagan’s signature, although it was subsequently crossed out. Westpac argues she did it as a mistake.

When the loan failed, the bank sought to sell Flanagan’s home. The Financial Ombudsman Service sided with the bank in the subsequent dispute, but eventually a deal was struck with the bank that allows the pensioner, who’s had cancer and a stroke, to stay in her home until her death, with the bank owed $170,000 plus 3% p.a. interest.

Welsh told senior counsel assisting the commission Michael Hodge QC, that Westpac had very little knowledge of the pool-servicing franchise it issued a $165,000 loan, but when he subsequently reviewed the loan, the amount sounded “reasonable to me”.

The franchise fee was $85,000 and counsel assisting detailed a range of inconsistencies in the “deal build” that supported the loan application.

Westpac also had minimal procedures in place around the provision of an accurate measure for business valuation, but focused instead on valuing Flanagan’s house.

Under questioning from royal commissioner Kenneth Hayne, about whether the bank was more focused on box ticking than the circumstances surrounding Flanagan’s personal circumstances and the fact that she was on a disability pension, Welsh said “I think that’s right”.

And the bank seemingly ignored warning signs related to Ms Flanagan’s lack of involvement in the business – an essential criteria to the bank issuing the loan.

Welsh conceded to Commissioner Hayne that the bank’s process to check whether there is a commercial benefit to Flanagan as its lending rules required was “tenuous at best”.

Knowledge of the business

Laying out the timeline of events, counsel assisting noted that a loan application was made in September 2010 proposing that Flanagan’s house would be used as security. A franchise agreement was signed on August 23, which included a franchise fee of just over $85,000 to be paid by 31 August 2010.

“Perhaps the daughter’s partner had purchased the franchise fee, and was potentially taking out a loan to repay that,” Hodge suggested.

“That could be the case,” Welsh said.

“Well you just have no idea do you,” Hodge said. “Nothing on the face of these documents from 2010 enable you to answer these questions.”

Welsh said that ordinarily in the process of determining the prospective value of a business for lending purposes, he would ordinarily talk to other team members and look at revenue and cash-flows.

When Hodge highlighted that the loan issued was $165,000 while the franchise agreement said $85,000, Mr Welsh said he has to form his own view about a company’s value.

“$165,000 for a mobile pool-service business with equipment and truck seemed reasonable to me,” Welsh said.

The commercial banking GM said the loan received the appropriate level of scrutiny for such a small figure.

Alistair Welsh.

Welsh confirmed that Westpac didn’t use any documents which specifically broke down the cost of the business and its estimated value.

While the franchise agreement set up some budgeted revenue and expense figures, Westpac also didn’t obtain the financials of any comparative franchises in forming a view on value.

“If you can’t get the financials, you can’t say sorry we’re not gonna lend money,” Welsh said.

“You’d say it if you didn’t have Ms Flanagan’s house for security wouldn’t you,” Hodge retorted.

Hodge then asked Welsh whether it was fair to say that the security of a home affects the approach bankers take to approve the loan.

After a long pause, Welsh disputed the assertion.

“Looking at cash-flows, details. What you do is you take is a reasonableness test, because you’re trying to help small businesses get off the ground,” Welsh said.

“The customer said it was going to cost $165,000 and we approved the loan. Deals change and move around but it doesn’t seem un-normal to me.”

Earlier, Hodge asked what loan-to-value (LVR) ratio was used in approving business loan. Welsh said LVRs aren’t used for the purpose of business lending.

Hodge highlighted that when the loan of $165,000 was approved, the transaction risk was assessed as medium.

There was also an LVR ratio of 66% — but that was based on the value of the underlying security in the form of Ms Flanagan’s house.

Further questioning of Welsh revealed that Westpac had no idea how the money was being spent one it had issued the loan

Benefits to Carolyn Flanagan

Hodge also scrutinised Westpac’s processes about what benefits should flow to the owner of an underlying security for the purposes of guaranteeing a loan.

Typically, if the guarantor is not an employee of the business or a shareholder eligible for dividends, the bank’s standard procedure is to exercise particularly high levels of caution.

Hodge noted that the franchise agreement, included a business plan that listed potential roles for four employees.

Two roles had been filled by Ms Flanagan’s daughter and her partner, while the other two roles were still vacant.

Noting that Flanagan was not listed as an employee in the franchise agreement, Hodge asked Welsh if those inconsistencies raised any concerns. Mr Welsh said it didn’t, but he said any issues would “trigger a conversation” between the bank and applicant to resolve them.

When the business was established, Flanagan was listed as a shareholder with shares to the value of $1.

Given that Flanagan wasn’t an employee of the company, Hodge asked Welsh whether a shareholding of $1 was ordinarily sufficient for issuing a loan of that size.

“That’s correct”, Welsh said.

Commissioner Hayne interjected:

“In your experience Mr Welsh, would a proprietary company of this kind pay a dividend?”

“I’m not sure,” Welsh responded. “In the normal course there probably would not be dividends at this level.”

“Fair to say it’s rare?”

“Yes I think that’s correct,” Welsh said.

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