Friday, January 09, 2009

Manulife Says News Report of Accounting Probe is False

Scotia Capital, 9 January 2009

• The National Post recently ran a story alleging MFC is facing an accounting probe by the Attorney General of Indiana into the tax treatment of a supposed leveraged lease arrangement with an Indiana non-profit electricity cooperative (Hoosier Energy Rural Electric Cooperative). MFC says reports of an accounting probe are false.

What It Means

• The story falsely (per MFC) alleges an investigation stems around a $120 million tax benefit to MFC ($0.07 EPS) because of a slip in credit rating of one of the parties to the complex tax deal agreed in 2002.

• MFC is an investor in leveraged leases. In the U.S. several recent court cases related to their tax treatment have been concluded in favour of the tax authorities. In recent quarterly reports MFC claims it believes the deductions originally claimed in relation to its investment in leveraged leases are appropriate, but increased its provision for disallowance by US$33 million ($0.02 EPS) in Q2/08 to US$178 million ($0.13 EPS). MFC further disclosed that, although not expected to occur, should the tax attributes of its leveraged lease investments be fully denied, its maximum tax exposure would be US$387 ($0.28 EPS)
Financial Post, Eoin Callan, 8 January 2009

Manulife Financial Corp. has sought an expedited ruling from a U. S. court over a financial dispute with an electricity co-operative in Indiana, in a move that may help the insurer draw a line under a complex case that has attracted political heat.

Canada's largest insurer is thought to be seeking a ruling within as little as 30 days from an appeal court weighing whether Manulife is owed US$120-million arising from the collapse of a tax deal with the utility.

The dispute was triggered at the height of the crisis in the banking system, when trust between financial institutions was at a historic low. But there were tentative indications yesterday that a resolution might be nearing, with people close to both sides not ruling out an out-of-court settlement.

A settlement could potentially cool the interest in the case by U. S. authorities such as the Office of the Indiana Attorney General, particularly if it is seen as having little affect on customers of the utility in the midwestern state. The state's chief legal enforcement office began making formal enquiries last month after the financial dispute escalated, according to people familiar with the matter.

Manulife said yesterday a report in Wednesday's Financial Post "that state regulators in the U. S. were investigating accounting practices regarding investments made by the company's U. S. division was completely erroneous."

The company said in a statement that, "it has not been advised by any regulators -- and has no reason to believe-- that any of its accounting practices are being investigated."

People familiar with the matter said the insurer had received inquiries from the Office of the Indiana Attorney General on Dec. 12. A spokesperson for Manulife yesterday declined to provide a copy of the correspondence, saying it related to a matter that was being treated as "confidential."

People close to the company said they did not view any requests for information the company may have received from the Office of the Indiana Attorney General as constituting a probe of its accounting practices.

The company is thought to have co-operated with the request and supplied documentation to the attorney general's office related to a complex tax transaction between Manulife's U. S. subsidiary, John Hancock, and Hoosier Energy Rural Electric Cooperative.

The transaction was cited last month in the U. S. Senate as an example of a type of tax deal entered into by many financial institutions that leading lawmakers and federal authorities have been working to shut down. A dispute between the two companies was triggered when the financial crisis caused a slip in the credit rating of Ambac, one of the parties providing insurance against default on the deal.

Manulife yesterday supplied the Financial Post with highlighted excerpts of affidavits and court submissions that reflect its view of the transaction.

"There is nothing nefarious or commercially unusual about these financial arrangements and, in all events, they were of Hoosier's doing," the documents stated.

"Hoosier and its advisors, not Hancock, structured the transaction and Hoosier and Hancock negotiated the contracts and closed the transaction at issue here in the State of New York," the documents said.

The court submission states: "Hancock demanded payment from AMBAC because AMBAC's credit ratings dropped below the minimum level of creditworthiness specifically negotiated by the parties and Hoosier has been unwilling (or unable) to replace AMBAC with an adequate alternative. All agree that Hancock has scrupulously adhered to the procedures provided for in the contracts. The problem is that Hoosier no longer wants to live up to its contractual commitments.")
Financial Post, Eoin Callan, 6 January 2009

Manulife Financial Corp. is facing a probe of its accounting practices by U.S. state enforcement officials in connection with the insurer's role in a controversial tax shelter that has collapsed amid the credit crisis, according to people familiar with the situation.

The Attorney General of Indiana and authorities from other American states where the Canadian insurer operates have contacted the company seeking greater disclosure about how it is treating questionable tax schemes on its books, these people said.

The probe by the chief legal enforcer for the midwestern state underlines how the economic fallout from the credit crisis is bringing the practices of financial institutions under scrutiny, and creating a potential quagmire for Manulife.

Indiana initiated its probe after a recent move by Manulife that would force a non-profit electricity cooperative in the state into bankruptcy by claiming a $120-million payment on a complex financial transaction constructed around an elaborate tax-avoidance structure viewed by authorities as abusive.

While the windfall would provide Manulife with a cash injection at a time when its U.S. subsidiary is draining capital from the parent company because of heavy exposures to volatile financial markets, the claim risks releasing a protracted regulatory backlash against the insurer.

The fresh state-level probe is understood to be aimed at getting a better understanding why Manulife's U.S. subsidiary, John Hancock, has been unable to reach a settlement with the Indiana utility, the Hoosier Energy Rural Electric Cooperative, which serves about 350,000 customers in the American corn belt.

Enforcement officials are thought to be seeking insight into whether the impasse is in any way being aggravated by the pressure on the capital reserves of insurance companies and the way in which they treat tax items on their books.

The financial claim is currently before the courts and has drawn the ire of U.S. lawmakers who regard the underlying tax structure as a sham. It has also spurred action by local authorities who fear consumers will be hurt by the fallout.

In a letter seen by the Financial Post that was sent to Senate Majority Leader Harry Reid and House Speaker Nancy Pelosi, a senior member of the U.S. Congress warned that "foreign corporations" were exploiting the credit crisis to deprive the government of tax dollars and force vital utilities into distress.

Manulife is in a position to claim the $120-million because of a slip in the credit rating of one of the parties to the complex tax deal agreed in 2002. This would allow the Toronto insurer to reap the full benefits of the deal -- set up to transfer tax benefits -- before the U.S. Internal Revenue Service steps in.

But the chances of Manulife ultimately succeeding in recovering the funds is looking increasingly slim.

Congressional aides have told the Financial Post that leading Senators are currently drawing up a law that would create a punitive excise tax of up to 120% on any money recovered by Manulife and other financial companies engaged in similar efforts to shut down tax deals with non-profit utilities early.

Manulife said the chairman of its audit committee, Richard DeWolfe, was unavailable to discuss the matter, while John Hancock declined to comment.

The company's independent auditor, Ernst & Young, did not respond to requests for an interview.