British police act as financial regulator in HBOS takedown

The wheels of British justice may grind slowly forward, but it looks like the police—rather than the Serious Fraud Office (SFO) or any financial regulator—finally got their men last week in a scandal that saw dozens of small-business owners ripped off and the bank responsible for it (HBOS) forced to write off £245m (U.S.$306m) of bad debts.

On 2 February six people—including two HBOS managers—were jailed for a total of 47 years and nine months, following a six-year investigation by Thames Valley Police into a complex multimillion-pound corruption and fraud case dating back more than a decade.

The fraud was simple enough on the surface: private business advisers paid bribes to HBOS bank employees in return for the bank passing them customers to rack up fees against. The problem is why the bank was unable to detect or prevent the fraud from taking place and why the case got shunted down to the local cops to sort out.

Between 2002 and 2007 Lynden (Gerard) Scourfield worked as a senior director with the impaired assets team at HBOS in Reading, managing a portfolio of “at risk” businesses for the bank for whom he agreed loans, on the condition that these companies would use an outside business consultancy to help them remain solvent. Mark Dobson was a director based in the bank’s Bishopsgate branch in London working in a similar role.

Scourfield was supposed to have all business loans approved by a senior HBOS manager, but he approved them himself without anyone else checking (the court heard how the HBOS computer system permitted bankers to approve credit positions of clients without approval). And although there was a choice of over 200 turnaround consultancies to choose from, Scourfield usually opted for just one—Quayside Corporate Services (QCS), run by David Mills with his wife Alison as co-director, and which employed both Michael Bancroft and John (Tony) Cartwright.

Their services were not cheap. Distressed companies already saddled with debts, bank loans, and interest payments now had to repay (sometimes exorbitant) consultancy fees as well. This pushed business owners to borrow more money from the bank to continue trading, putting them at higher risk of going bust than they were before the so-called turnaround specialists got involved. In fact, the level of debt rose so high that the bank was forced to write off £245m (U.S.$306m) in bad loans.

It is not clear how Scourfield and Mills first became friends or devised the scheme, but the perverse incentives soon became clear. Thames Valley Police officers discovered that—courtesy of Mills—Scourfield had the exclusive use of an American Express credit card that he used to rack up £31,000 (around U.S.$38,700) worth of expenses, including stays at exclusive central London hotels, a holiday to Barbados, first-class flights, cruises, trips to the races, jewellery, and other luxury goods. He also received envelopes stuffed with cash to pay for orgies with prostitutes. Analysis of Scourfield’s bank accounts also showed an unexplained income of £348,887 (U.S.$435,746) between 2004 and 2007, the court heard.

“The police stepped up to take this case on. They really concentrated on the minutiae of the forensic details and managed to pick their way through over half a billion documents.”

Jeffrey Davidson, Managing Director, Honeycomb Forensic Accounting

Not to feel left out, Mills also bribed fellow HBOS manager Dobson, giving him £30,000 (U.S.$37,500) for recommending his consultancy to high-risk HBOS business customers. Dobson also joined Scourfield on a trip to Thailand to celebrate Mills’ fiftieth birthday.

The fraudulent activity only came to light in 2006—some four years after it started—when a new senior manager, Tom Angus, was appointed that July to take control of the bank’s impaired assets and asked to check Scourfield’s previous loan applications. He described the lax controls and corporate governance failings as “astounding.”

Giving evidence in court, Angus said he had produced an internal review in 2007 focussing on 38 struggling businesses, each of which had received “irregular” loans, owed the bank in total £375m (U.S.$468m), and were all supervised by Scourfield. This left him with “the clear impression that Scourfield had been agreeing substantial amounts of credit to distressed companies … completely without his authority and without any authorisation from [his bosses].”

These observations were backed up by the so-called David Miller report, published in May 2007, plus a separate investigation by HBOS’ corporate financial crime prevention team, which produced the first of its three reports on 27 March 2007. Scourfield left the bank on 8 March that year before formally resigning a month later.

Yet even after all that, HBOS insisted to victims that there had been nothing wrong with QCS. However, the court heard that more than £28m passed from HBOS through the bank accounts of either Mills, his wife, or companies under his control (QCS, Keyside Developments, Sandstone Organisation, Knightingale Investments, and Richard Paffard Consultants) and while not all of that money stayed with the defendants, Mills and his wife “did benefit enormously” (for example, they owned a £2m (U.S.$2.5m) superyacht called “Powder Monkey”).

The fraud has left a long line of victims. Lloyds Banking Group, which took over HBOS during the financial crisis, is out of pocket by £245m (U.S.$306m), and its reputation has taken a dent given that its investigations either turned up nothing or the findings were played down to such an extent that no action was taken.

Many business customers lost everything, and HBOS used heavy-handed techniques to try to recoup the cash it should never have lent. Paul and Nikki Turner, from Cambridge, were ignored for years when they tried to report what was going on after their publishing company, Zenith, was run into the ground. “They defrauded us, denied for 10 years that the fraud had happened, ignored the debt from the fraud, and tried to evict us 22 times in order to cover up the fraud,” Mrs Turner said. Another businesswoman, Joanne Doyle, saw her company and marriage crash because of the scam. The stress caused her to give birth early.

How Lloyds Banking Group intends to remedy the problem

Many of the victims of the HBOS fraud have said that they are going to continue to press Lloyds Banking Group (LBG)—which took over HBOS during the 2008 banking crisis—for compensation, claiming that the bank knew about the wrongdoing earlier and failed to investigate properly. The bank denies this.
In a statement released on 7 February, LBG said that it will undertake a review of all customer cases which may have been affected by criminal activities linked to HBOS’ Impaired Assets office based in Reading. “Customer cases will be considered afresh in light of all relevant evidence including new evidence that emerged during the trial,” says the bank.
In consultation with the FCA, LBG will:
Appoint an independent third party as part of the review. LBG will agree with them the scope, methodology and individual case outcomes of the review.
Contact all those customers they have identified as potentially affected by the criminal activities and provide redress if appropriate. Likewise, any customer who believes they may have been affected can also raise concerns direct with LBG.
Customer cases that will be reviewed include:
Those cases referred by the convicted former HBOS employees to Quayside Corporate Services (QCS);
Customer cases that involved or were managed by QCS;
All previous and any new customer complaints regarding the convicted former HBOS employees and/or QCS services as they related to HBOS Impaired Assets based in Reading.
—Neil Hodge

Ringleaders David Mills and Scourfield were sentenced to 15 years and 11 years and three months’ imprisonment, respectively, for fraud, corruption, and money laundering charges. Mills’ associates, Bancroft and Cartwright, were jailed for ten years and three and a half years, respectively, for their involvement in the scheme. Mills’ own wife, Alison, a co-director of the consultancy he ran, was sentenced for three and a half years for money laundering, while Dobson was sent down for four and a half years.

Sentencing Scourfield, Judge Beddoe called him an “utterly corrupt bank manager” who had “sold your soul, for sex, for luxury trips with and without your wife—for bling and for swag.”

Another man, Jonathan Cohen, who acted as accountant and auditor to Mills’ businesses, was acquitted of fraudulent trading and conspiracy to commit money laundering.

Lisa Osofsky, European chair of governance consultancy Exiger, believes that “this case marks one of the longest set of sentences handed down for individuals found guilty of fraud and is a turning point for the English legal system in cracking down on white-collar crime.”

Jeffrey Davidson, managing director at fraud investigators Honeycomb Forensic Accounting, is impressed that “the police stepped up to take this case on. They really concentrated on the minutiae of the forensic details and managed to pick their way through over half a billion documents.”

Yet despite the convictions and lengthy jail terms, the case also lays bare the problems with investigating and prosecuting corporate financial crime. For example, former U.K.-regulator the Financial Services Authority (FSA) referred the case to Thames Valley Police (whose constabulary covers Reading), because the fraud was not large-scale enough for it to get involved: The scam was limited to one bank branch, was not systemic, and did not impact financial markets (unlike LIBOR, for example). Robert Conway, director of the criminal defence team at law firm Vardags, suggests that given the “legacy issues” from the FSA’s light touch regulation with HBOS, “it would have been politically tricky for the current financial regulator, the Financial Conduct Authority, to oversee this investigation.”

The SFO also did not get involved, because its focus (and limited annual budget—just £44m (U.S.$55m) in total) was concentrated on high-end bribery and corruption cases like Rolls-Royce. John Hartley, head of fraud and financial crime at London law firm Hodge Jones & Allen, says that “the SFO is well-known for having a budget so tight they cannot offer visitors a cup of water, as they have no cups.”

Instead, Thames Valley Police’s Economic Crime Unit had to take the lead, in what it calls “one of the largest fraud investigations of its kind in the U.K.” The case, known as “Operation Hornet,” took over six years to bring to court, involved 151 police officers and staff, and cost more than £7m (U.S.$8.73m) to investigate. Police and Crime Commissioner for Thames Valley, Anthony Stansfeld, made his frustrations clear in a statement: “If Thames Valley Police had not taken on this case no one else would have, and the crime would not have been investigated. The principal perpetrators would have escaped with their reputations intact and with enormous wealth.”

Hartley agrees such an event appears plausible. “There is the chance that this case may never have come to court if budgetary constraints had kicked in. I am sure there will always be a person willing to roll that dice,” he says.

Stansfeld added that other police forces may have had to abandon the case for lack of funds (although cost should not be an over-riding factor in determining cases, according to the Crown Prosecution Services’ Code for Crown Prosecutors), especially since there is no mechanism for them to recoup their costs other than asking the government to increase their budgets.

“There needs to be an agreed policy that if a major fraud is committed, and the SFO does not have the capacity to take it on, then the police force that investigates it is reimbursed by central government, or through a fine or costs imposed on the auditors, the bank, and the offenders involved. In this case there does not appear to be a way to recompense Thames Valley Police and the Council Tax payers who part pay for their police force,” said Stansfeld.

Lloyds has said that it was only the police that had the ability to investigate if there had been a fraud and added: “The trial highlighted criminal actions that bear no reflection on the behaviours of the vast majority of the employees of HBOS at the time or in the group today.”