Five-year run of foreign exchange losses raise fundamental questions over controls

The Ludwig report is likely to be highly critical of control systems and management at Allfirst and possibly at the AIB group itself, writes Mary Canniffe, Investment Editor.

Revelations that the $691 million loss at the Allfirst subsidiary of AIB goes back over a five year period instead of the one year originally stated raise even more serious questions about the controls and management at the US bank and its Irish parent.

Describing the Allfirst foreign exchange trading loss as "a very serious very regrettable event", AIB group chief executive Mr Michael Buckley was adamant he did not want "to get into the detail of how it happened, to whose benefit, what control issues and management oversight issues" arise in advance of the Ludwig report. But there can be little doubt now that this report will be highly critical of control systems and management at Allfirst and possibly at the group.

A number of differences have emerged between the initial details disclosed by AIB and the latest information presented yesterday:

Losses Now Go Back Over Five Years Trading: AIB Group chief executive Mr Michael Buckley said on February 6th that the $750 million (now reduced to $691.2 million) loss from the alleged fraud started in 2001. Now it has transpired that the losses goes back to 1997. For five full financial years Allfirst controls and treasury management apparently failed to spot any irregular or questionable trading. AIB now says 2.5 per cent of the total loss ($17.2 million) occurred in 2002, 54 per cent ($373.3 million) in 2001, 30.5 per cent ($211 million) in 2000 and about 13 per cent between 1997 and 1999. As far back as 1997, it has now been discovered, there was a loss of $29.1 million from proprietary foreign trading at the small Allfirst treasury operation.

Mr Buckely accepted that the new longer timescale of the alleged fraud raised more serious questions for AIB: because "controls were circumvented or broke down over a longer period" and because the individual at the centre of the alleged fraud acting in "an incredibly devious and complex way identified and found a way around each control point".

He was absolutely confident" that the losses did not go back before 1997, because "the investigating team has rolled back all the trades Mr Rusnak undertook to the point of the first loss and the first set of activities to cover up that loss".

Controls less than adequate at Allfirst: On February 6th Mr Buckley and head of finance Mr Gary Kennedy expressed their confidence in Allfirst controls. Mr Buckley said the controls in place were "up to the best international standards". They insisted the bank had been the victim of complex, determined and sophisticated fraud, comparing the situation with the difficulty of protecting a house with a burglar alarm against a sophisticated burglar. Mr Buckley said procedures were there to prevent it. How they were over-ridden is what the original investigation was about and whether there was collusion with other individuals..... this is fraud and conspiracy...It was really complicated." he said.

Now it transpires that Allfirst controls were not up to the same standards as those at the AIB Capital Markets division and it had "quite a different risk management environment".

That its controls could have been overridden for such a long period, even if by a complex fraud, raises very serious treasury and management control issues about Allfirst and about central controls at AIB where risk limits and policy principles for different types of trading are set.

Mr Buckley yesterday reiterated the fraud aspect of the loss yesterday. "This was about manipulating records.. records at Allfirst Treasury appeared not to be exceeding limits but were ..".

Since the Allfirst debacle AIB has "revalidated all the elements of the control framework within Capital Markets and in Poland including a detailed review of trades as well as systems, Mr Kennedy said yesterday.

AIB indicated on February 6th that its losses had crystallised at $750 million: They have now been reduced to $691.2 million. Explaining the difference, Mr Buckley said the first priority was to come to the market with a figure for the maximum loss position. What he did not say on February 6th was that Allfirst then still had some "naked" or exposed positions on foreign exchange contracts that had not been closed off or hedged. Closing out these contracts cost Allfirst less than estimated hence the $59 million reduction in the loss.

AIB goes public: AIB now has decided to make public the Ludwig "findings and actions recommended" in the Ludwig report which is due to be completed by March 9th and will be released in mid-March. Up to now it had not decided whether to release the details.