Canadian Corporate Recovery The Stuff Movies Are Made Of

Gold, which opened in theatres across Canada on Jan. 27, is the story of a brash, chain-smoking, pot-bellied mine prospector whose dream of finding the motherlode is all-consuming. Down to his last dollar, he meets a rugged geologist who convinces him to visit Borneo, Indonesia and purchase a property deep in the jungle.

Surprise! They strike gold beyond anyone’s wildest dreams, investment bankers start banging down their doors and they quickly become rich beyond belief as kings of industry. That is until the dream suddenly turns to nightmare when their gold strike is discovered to be fraudulent since their samples are salted with river gold.

Most Canadians will assume Gold is based on the $6-billion Bre-X Minerals Ltd. stock-market scam of the 1990s. But for legal and mass-appeal purposes, the company in the film is not Calgary-based Bre-X, but instead fictitious, American based Washoe Mining Inc.

While the story of Bre-X certainly played out like a movie script, like most Canadian scandals, it garnered little interest outside of the mining industry south of the border, especially, almost 20 years later.

About Bre-X

Bre-X Minerals was a Calgary-based junior gold company with a deposit in Indonesia that quickly become an obsession among Canadian stock market investors. Drill results indicated the deposit was rich, big and getting bigger every day. In fact, it appeared each time Bre-X issued new results, the stock would catapult even further.

Following information given by Bre-X CEO David Walsh and the company’s top geologist John Felderhof, investors believed, Bre-X’s Busang deposit was going to be the largest gold mine in history, and it was quickly making the officer, directors and many investors very wealthy. From the initial private offerings at 30 cents a share, Bre-X stock climbed to more than $286.50 on a pre-split basis in the open market. Near the peak of Bre-X share prices, major banks and the media were on board. It appeared Busang was only going to continue getting bigger – that is until Bre-X’s joint venture partner, Freeport McMoRan, a U.S. based company was unable to replicate the assay results being continually reported by Bre-X, and a reputable Canadian consulting geologist was called in to investigate the Bre-X ore samples directly.

Michael de Guzman, Bre-X’s top on-site geologist, who made the first glittering estimate of the site’s potential (eventually claiming the site held 6 million ounces of gold in 1994, before John Felderhof speculated in early 1997, that the site held 200 million ounces) - fell out of a helicopter and the Bre-X story took an abrupt turn. In time, the full details emerged. The independent geologist confirmed there was essentially no gold at Busang. It had all been a fraud.

De Guzman had allegedly tampered with the ore samples, taking tiny grains of gold – first from his own wedding ring or wrist watch and then from small nuggets found in local rivers. -They were addedto bags of crushed drill core being prepared for assay to determine the viability of the mine site.

Hundreds of millions of dollars of investors’ money ultimately disappeared. De Guzman’s death was ruled a suicide. David Walsh threw his hands in the air, claiming he too had been swindled by John Felderhof and the Filipino geologists. John Felderhof also maintained his innocence, putting all of the blame on De Guzman and his team. Investors, shareholders and creditors scrambled to save even a minute portion of what was theirs. And then the company went bankrupt.

How Did Bre-X End Up Insolvent?

What may surprise many, is that the Bre-X actually went insolvent because of the scandal. It was the class action claims that were being initiated against the company by its shareholders that put the company into bankruptcy. Naturally, the value of shares hit rock bottom, but the only creditors Bre-X really had were class action lawyers. Aside from that, the company only owed about $1200 to creditors when it went into bankruptcy in November 1997.

The Trustee’s Role

Bre-X had it all. The mining scam. The unreported stock trading from insiders. Expense account misuse. At one point the Indonesian government said that Bre-X had absolutely no right to the land, which lead to arguments over whether or not Bre-X even had proper title to the land that these mines which allegedly housed millions of ounces in gold.

When the company finally fell from its pedestal and was forced into bankruptcy, MNP’s Rick Anderson, worked on the case as part of the appointed Trustee’s corporate insolvency team.

On the day of the bankruptcy appointment, Anderson was unable to get in contact with David Walsh following the judge’s order to put a receiving order in place thereby requiring the Trustee to take possession. When Walsh was unreachable, a security company was brought in and given firm instructions not to let anybody into the Bre-X building and offices. These efforts were taken to ensure no incriminating documents were destroyed or removed from the premises before the Bankruptcy Trustee was able to take possession of all assets and documents.

Once Anderson did gain full access to the building, he began gathering all materials associated with Bre-X. After approximately two weeks of comprehensive compilation, he left with 65 boxes of materials and proceeded to run the administration.

Anderson was surprised to learn that the company, who at its peak had a market cap of 6 billion dollars, had been doing all of their accounting, tracking and preparation of financial statements on a simple Excel spreadsheet.

Bre-X did have a website with a very simplistic server on it, which Anderson was able to garner a copy of the directory that they had, but it had little information to speak of.

The Minute Book for Bre-X was enormous. Essentially, aside from their initial IPO in the 1980s, the way the company had brought stock into the market was, through private placements in the form of stock options to the insiders. At the board of directors meetings, everyone would get a certain amount of options which they would be able to exercise at a favourable price. And when the decision was made by the individuals that they wanted to exercise their options – they would notify their brokers to sell the stock, at which point they never actually paid the money back to Bre-X as part of the exercise. In short, the shares would be sold and the broker would send a cheque back to Bre-X to cover the exercise costs and the seller would pocket the balance. That was basically how Bre-X shares got into the marketplace, which meant that a large part of that capital was given directly to the insiders exercising their shares rather than going to the company.

Aside from assisting with the bankruptcy work, part of Anderson’s role was to do the forensic accounting that was used by the Trustee to pursue various actions against the Bre-X geologists, former employees, officers and directors, which included analyzing insider trading reports. Using insider trading reports and stock option exercise documentation, a thorough investigation was carried out to assess how much each of those individuals made trading stock (or at least what they had reported to have made).

As part of the investigation, Anderson made a trip to go to Toronto to serve disclosure orders on several brokerage houses to get their trading records. One of several examples of what came about in these investigations, a signature guarantee from one of the director’s share certificates was discovered. Traditionally, the only way a brokerage house would do a signature guarantee on a share certificate when it was being transferred was if the person had an account with that particular broker, however no documentation detailing transactions between a specific director and this broker had been found. A court order was acquired requesting the brokerage house to disclose all of the share transactions and accounts that were held by any and all Bre-X insiders. Results showed that one director in particular had ‘forgotten’ to disclose to the trading public, an excessive amount of trades in the multi-millions.

With multiple court applications filed, Anderson also visited the Philippines, the Cayman Islands, the U.S. and various parts of Canada.

At the end of the day, the role of the Trustee is to review the situation, assess and realize on assets and manage the estate under the Bankruptcy and Insolvency Act (BIA). As an officer of the court, your responsibility is to safeguard and protect the assets of the company which includes the books and records.

The money Bre-X had in its bank account had been paid into court even prior to the bankruptcy, making it the initial capture of assets protected on behalf of creditors. Because litigation was going to be a primary source of revenue that was going to be available for potential distribution back to the creditors, documentation was a crucial aspect of this specific case. Unfortunately, there was nothing left to pay out the actual investors when all was said and done.

From a Trustee’s perspective, an ideal result would have been to distribute the profits that some of the insiders had made to the investors. But in the end, it became a long, drawn out war of attrition. And when you’re dealing with that level of wealth, a Trustee’s resources only go so far.

John Felderhof’s Role

John maintained that he had been in no way part of the falsified claims of gold at Busang. Felderhof had originally transferred all of the money he made in the stock market over to his wife, including his real estate in the Cayman Islands. Because Felderhof’s wife had never been an employee of Bre-X, they thought her funds were not accessible by the Trustee, although she did complete an insider trading report. A Mareva Injunction froze all of their assets, no small feat in the Cayman Islands, a known haven at the time. His wife later divorced him, offering a cash settlement to stay out of her life. Felderhof now supposedly runs a short-order restaurant in the Philippines.

David Walsh’s Role

David Walsh’s defense was that he was an innocent Canadian stock promoter who had essentially been swindled by his entire geological team into thinking he had discovered the ultimate gold mine. Mr. Walsh stood by his claim that he had been an innocent party the entire time, highlighting the fact that nobody had served him with a statement of claim or alleged he had any wrong doing throughout the whole exercise. The fact that he had hyped up the stock and used the information that had been provided to him to make financial gains for himself and his family did not pose a problem for him in terms of culpability.

A few months into Anderson’s investigation however, information was discovered which held David accountable to some extent and a Statement of Claim was issued against him by the Trustee. David was served personally with the Statement of Claim in Calgary by Anderson, only to pass away just a few short weeks later.

Final Outcome

After David’s passing, Bre-X insiders still had far more money and resources than the Trustee. Their strategy, intentionally or unintentionally, was to stretch the investigation out to the point of running to the Trustee out of money. In the end, it was a strategy which paid off as not a single person went to jail. Not one person was convicted of insider trading and not a cent was ultimately paid out to investors from the profits of the insiders who had lost huge sums of money.

One positive outcome? Much tighter regulations on the handling, testing and reporting of mineral samples, along with a lot more control over what companies are allowed to advertise as being provable vs. probable vs. estimated - thus far, helping to prevent another Bre-X situation.

In Closing

The Bre-X situation was a perfect storm of naiveté and ignorance profiting at the expense of willfully blind investors. At the end of the day, it’s a buyer beware world out there. Investment in many ways, is like playing the lottery, you really shouldn’t spend money that you can’t afford to lose. And as the old adage goes, if it sounds too be good true, it probably is.