A Shakespearean tragedy: these were capable men who lost sight of reality

IT WAS just a matter of time. Another tranche of bull market heroes has bitten the dust, victims of leverage and their own greed and ambition.

The Allco boys were pretty special, though, some of the smartest guys in the boom, and veritably outdone by their own smarts. This point cannot be underestimated. Here were some of the finest minds and most capable business people about, people who should have been comfortable and professional in evaluating risk.

Blinded, however, by their own dazzling success in a bull market, they entirely jettisoned the basics. Things like catering for the inevitability of a downturn, for the inevitability that interest rates in US would not stay at 2% for ever, that asset prices go down as well as up.

Really basic things got lost in a paradox of structures so labyrinthine they were impenetrable.

Allco was a quick round trip. It listed in 2001, grew, spun off a constellation of satellites, peaked at more than $13 early last year, collapsed early this year, and is obsolescent

10 months later.

The most profound thing to take from this destruction of Allco is how markets are so reliably duped by entrepreneurs - by their leverage and jumbled structures - at the end of every cycle.

The human factor should never be divorced from the evaluation of economic activity.

The serial collapse of the financial engineers is a series of morality plays, each one starring talented people brought undone by their fatal flaw. Whatever you think of Allco's David Coe or Babcock & Brown's Phil Green, or Michael King who founded MFS, or Eddie Groves, or the Centro crew, these were capable men who simply lost sight of risk and reality. Now they face their own personal tragedies - that is, their fate was of their own making, which is the essence of tragedy is a Shakespearean sense.

Sadly they are taking a lot of people down with them. Babcock's Phil Green, for one, is said to be personally crestfallen at the demise of his company because it has come at such a high cost to those who followed him.

Then there are the bit players: the consultants, directors, lawyers, auditors - all soi-disant experts, too - all with specks of blood on their hands. What did they do to protect these assets? Zero in almost all cases there were fees to be had.

Alan Greenspan's mea culpa is illuminating. The former Fed chairman, once feted as a demigod by financial markets, admitted last week he got it wrong on leaving markets to their own devices. Indeed. The laissez-faire approach has proven a miserable failure. It set in train a credit crisis that now threatens hardship for every household in the world.

The human factor in markets and the failure of regulators proves again markets are comprised of human beings above models, people who are prone to excess and ambition to the point of recklessness.

Greenspan, in his striving to constantly appease the markets, pulled interest rates back to 1% early this decade. Rates were too low for too long and spawned the momentary but dumbfounding success of the likes of Allco.

The Allco boys saw the Macquarie crew making a motza with virtually free credit and promptly mimicked them. Yet they failed to managed risk.

These supposed experts in risk have been laid bare.

Need it be said that David Coe and the Allco boys did not merely influence shareholders into believing their story but bankers, too, bankers whose core job it was to size up risk. They messed that up. Now we are all paying higher rates.

And the complicity - borne of the reasoning that "the boys are smart, they must know what they are doing" - seeped into government. What, after all, would have happened had Allco and Macquarie pulled off their bid for Qantas?

How preposterous it is to think that they inveigled the Government into approving their assault on the national carrier. True, shareholders would have picked up $5.60 a share. Qantas now trades at $2.70. But would taxpayers have had to foot the bill for the Allco demise?

Back then, as is the private equity custom, the consortium of smart guys was to have ripped out all the cash and replaced it with debt, sacked people, generally slashed and burned costs for three years, then tipped the thing, skinned, back into the sharemarket via a suavely PR-ed float with a glossy prospectus and compelling turnaround story.

The $11 billion takeover play was to have been financed with $10 billion in debt - "covenant lite" at that. And Allco was to have had the majority equity stake at roughly 30%. Or controlled the majority stake rather, after winning the bid, exploiting the airline as collateral to borrow, then spinning off the equity stake into a special vehicle that would have been called Allco Australia Aviation Fund or some such.

You can laugh now, it didn't happen, thanks to a suspicious hedge fund manager who refused to vote his stake at the 11th hour because he thought the deal promoters were not being frank with him when they pleaded they didn't have the numbers to get the requisite 50% to proceed with their bid. He held out for more in the mop-up - which never came.

The Allco boys would have kept 5% of Qantas, as little equity as possible themselves in other words, just to keep control of the equity vehicle which in turn was to have controlled the consortium. Then they would have concocted their typical structure so their airline fund or trust had an external manager, which was, of course, despite a fancy title ... the boys again. Creating an external manager creates a whole new suite of fees.

Those proposed "covenant lite" arrangements - all care and no responsibility" - would have cost the taxpayer a pretty penny when the airline had to be nationalised again.

Allco and its peers are about "structuring" and the optimal way to structure something is naturally to use somebody else's cash to buy an asset, gear it up with oceans of debt, spin off an equity vehicle to rip out a few corporate finance fees and syndication fees and what others could possibly be tolerated or disguised.

The structures were always so bamboozling, and deliberately so, so as to repel any investigation. And the contracts and obligations to a deal were always structured to achieve minimal recourse to the promoters ... the boys again.

So it is throughout the Allco empire. Grant Samuel, the very "independent expert" who sprinkled holy water on the Qantas deal as fair and reasonable also delivered its blessing to the Rubicon transaction that ended up being the Trojan horse to Allco's fair Troy. Except that, due to its status as one of the most outrageous related-party transactions of the boom, the Rubicon horse was actually full of Trojans, not Greeks.

Again, the boys got too smart and actually attacked themselves, albeit with imported resources read Allco shareholder funds. David Coe and Rubicon founder Gordon Fell, both Allco directors, gouged tens of millions of dollars in cash from that deal.

We are probably getting into precarious mixed-classical-metaphors territory here but while the Rubicon transaction exposed Allco's frailties, resulted in confidence wilt and latterly cost shareholders a bundle, this glittering citadel of the golden epoch of the paper shuffler was doomed some time before.

The Rubicon, or the point of no return, had been crossed the year before last. Such was the stupefying complexity of the Allco structures, their sheer leverage and veneer of cash flow that it was only a matter of time.

This goes to the heart of the modus operandi of Allco and its peers. It's all about the next deal. A story here three months ago, arising from a leaked B&B email, contained an exquisite anecdote about the group's European operations.

A deal had just been done - no doubt worth tens if not hundreds of millions, the fees had been snipped, the requisite glory won by the gladiatorial deal makers ... then a perplexing problem needed solving.

Now that B&B had acquired this magnificent asset, it needed somebody to run it. After all, asset management was a key plank in the business, and assets can't manage themselves.

Clearly nobody in B&B Europe had been earmarked for the task, or nobody was up for it at least - the next deal beckoned - and the frustrated executive who wrote the email noted, wryly, that a receptionist had been seconded to the task of asset manager. When you think about it, these structured financiers are just that, and the business of running a business isn't in their repertoire.

mwest@fairfax.com.au