& Bishopsgate Group, London & Bishopsgate International NV and London & Bishopsgate International Management. All performed very different functions but, as Maxwell intended, the similarity of the names was liable to confuse outsiders. Adding to the confusion, some of the different London & Bishopsgate companies operated from the same premises and with the same staff.
Having established LBI as his new ‘investment bank’, with IMRO approval, Maxwell sought customers to establish his credibility for financial management. In spring 1988, he bought 25 per cent of First Tokyo Trust, a Scottish investment trust founded in 1980 which controlled £70 million of Japanese shares owned by institutions and private investors. Although Maxwell posed as a buyer in the name of London & Bishopsgate Holdings, a third of the money he used belonged to the pension funds.
Initially, Maxwell’s investment (codenamed ‘Setting Sun’) did not alarm Alan McInroy, the sober Scottish chairman of the First Tokyo Trust, who thought Donoughue ‘charming and competent’. Over the following two years, if any man other than the Maxwells could understand what was happening within First Tokyo, it was Donoughue. Donoughue presented himself, Larry Trachtenberg and Andrew Smith as investment geniuses. Their proposal to McInroy was to improve First Tokyo’s unspectacular performance. Instead of simply investing in Japanese shares, said Donoughue, the Trust should sign a contract to use LBI’s computer programme ‘Japan 60 GAS’ to anticipate the Japanese market’s performance and beat other investors.
Initially, McInroy was irked by Donoughue’s ambitions and opposed the plan, because it contradicted the Trust’s sober purpose, and anyway the transfer of the Trust’s powers to LBI would be expensive. But McInroy was soon outmanoeuvred. Exploiting his svelte patter and his political background, Donoughue had toured the institutions, winning their support for his idea. His management of the Trust was confirmed on 9 January 1989 when he joined First Tokyo’s board with two other Maxwell employees, George Willett, a taciturn stockbroker, and Robert Bunn. Just at the moment when Maxwell’s need for money – to buy MCC shares, to pump money into MCC by purchasing assets, and to pay for his accumulated losses since the stock market crash in 1987 – became pressing, McInroy had effectively allowed his control over the board’s six directors to dissolve, except in extremis by use of his casting vote. ‘I had no choice,’ he would explain. ‘The institutions supported Donoughue and Maxwell.’
Soon after, the Tokyo market fell sharply and Andrew Smith offered Maxwell a solution. It was called stock lending, a perfectly legitimate strategy invented in New York. Financial institutions and investors often required shares for a short period – overnight or a few days – to comply with securities laws or to cover speculative positions. Rather than buying the shares and incurring substantial costs, the investors borrowed them for a fee. In turn, to protect the registered shareholder from loss or theft, the borrower provided securities or cash worth more than the shares. Undertaken in this way, stock lending was risk-free.
It was in its pure form that, on 27 January 1989, Trachtenberg and Smith suggested to McInroy that First Tokyo could generate extra income at no risk by stock lending the shares in its reduced £60 million fund. Overcoming his initial reservations, McInroy agreed to a six-month trial. Unfortunately, however, he failed to ask a number of pertinent questions about the transactions, and most of all he failed to examine the contract between First Tokyo and LBI. He merely demanded that Morgan Stanley, the Trust’s bank which held the share certificates in its safe in London, should accept all the risk. Trachtenberg and Donoughue were told to obtain an undertaking to that effect from Morgan Stanley, whose vice-president Thomas Christofferson duly gave it. Trachtenberg and Donoughue then assured McInroy that the bank had agreed to be the guarantor, though the First Tokyo chairman appears never to have asked for written evidence. ‘That wasn’t my responsibility,’ he later explained.
Inevitably there was confusion about responsibility for the management of First Tokyo’s £60 million – confusion which was very much Robert Maxwell’s intention. First Tokyo had a contract with London & Bishopsgate International Investment Management, who were to manage the fund in accordance with the wishes of First Tokyo’s board of directors. LBIIM was owned by London & Bishopsgate Holdings, which in turn was owned by Headington Hill Investments, Maxwell’s private company ultimately owned by the Liechtenstein foundation. But it was the entirely distinct LBI which was undertaking the stock lending. This confusion was ignored by McInroy, not least because during the first year the profits seemed to exceed expectations.
McInroy’s legal advisers seem also not to have appreciated the deft self-protection of LBIIM’s contract with First Tokyo. While one clause at the top of the agreement permitted stock lending, another, much later clause allowed LBIIM to stock lend ‘in house’ for a ‘fair price’. Astutely, Maxwell and his cohorts had covered themselves in the event of future recriminations.
Unknown to McInroy, soon after the stock lending was approved Maxwell allowed Trachtenberg to use First Tokyo’s shares in an unauthorized manner. First Tokyo’s stock was being lent, not in an orthodox way on the open market, but to Maxwell privately, that is to London & Bishopsgate Holdings. And the collateral for the prime Japanese stock was not cash but MCC shares. To the Maxwells, the beauty of the operation was that First Tokyo’s shares were never sold, so preserving the myth that the fund was inviolate and untouched. The only risk was to First Tokyo’s innocent investors. The evidence suggests that by February 1990 Lord Donoughue ought to have suspected the unannounced use of those shares. In September of that year, Kevin would offer some of those First Tokyo shares to Julie Maitland of Crédit Suisse as collateral for the £50 million private loan.
By November 1990, as Maxwell vainly searched for relief from the recession and from the rising interest rates on his total debt of $3.5 billion, First Tokyo’s £60 million was only a small part of his requirements. For more than a year, he had also been stock lending pension fund shares using the technique proposed by Trachtenberg and Smith. During summer 1989, on the Maxwells’ instructions, Trachtenberg had negotiated the use of pension fund shares to raise cash from John Di Rocco, head of Lehman Brothers’ International securities lending department. To conceal the scheme, the contract signed by Kevin on BIM’s behalf was made complicated. Lehmans would be given shares from BIM’s portfolio, and in exchange would give Treasury bills to Maxwell. Maxwell would immediately sell the bills back to Lehmans, who would pay him in cash. The end result would be that Maxwell had cash and Lehmans had the security of the pension fund shares. In theory, the pension funds would retrieve their shares after buying back the Treasury bills. In the meantime, the impression was preserved that the pension funds still owned the shares unencumbered.
There was one major obstacle to overcome to obtain that cash. On each share certificate, the owner was registered as BIM. To use those pension fund shares, Maxwell needed to invent a cover story to explain his entry into such an unusual transaction.
The reason provided by Trachtenberg to Di Rocco was that BIM needed cash so that it could reinvest the money in shares which would produce higher returns than its existing portfolio, while simultaneously retaining the investment benefit of the shares it pledged. To Maxwell’s delight, Di Rocco accepted the business. Whether the banker realized by specific inquiries that BIM was the manager of pension fund assets would remain uncertain and be subsequently contested. But he and his superiors did realize that the arrangement was ‘purely a funding exercise’, and their suspicions ought to have been aroused because the circumstances were so unusual. It was unusual in two ways: first, the bank was to pay the cash into Maxwell’s private accounts; and second, neither Trachtenberg nor Andrew Smith was a director of BIM. Indeed, Trachtenberg said he represented LBIIM, which was acting as BIM’s agent.
There was one final hurdle. Before the pension fund shares could be used for stock lending, Trachtenberg required Trevor Cook’s consent. At the end of October 1989, after reading LBI’s terms for stock lending, Cook, BIM’s manager, signed an agreement. But that agreement – between BIM and LBI – was different from the contract with Lehmans signed by Kevin on LBI’s behalf, which was not for stock lending
