On June 9, with his 150-year-old Portuguese corporate dynasty close to collapse, patriarch Ricardo Espirito Santo Salgado made a desperate attempt to save it.
Salgado signed two letters to Venezuela’s state oil company, which had bought $365 million in bonds from his family’s holding company. The holding company was in financial trouble. But the letters, according to copies seen by Reuters, assured the Venezuelans that their investment was safe.
The cartas-conforto – letters of comfort – were written on the letterhead of Banco Espirito Santo, a large lender controlled by the family. They were co-signed by Salgado, who was both the bank’s chief executive and head of the family holding company.
“Banco Espirito Santo guarantees ... it will provide the necessary funds to allow reimbursement at maturity,” said the letters.
There were problems, though: by promising that the bank stood behind the holding company’s debt, the letters ignored a directive from Portugal’s central bank that Salgado stop mixing the lender’s affairs with the family business. The guarantees were also not recorded in the bank’s accounts at the time, which is required by Portuguese law.
The following week, after intense pressure from regulators, Salgado resigned. Within a month, the holding company, Espirito Santo International, filed for bankruptcy, crumbling under €6.4 billion in debt. In August, Banco Espirito Santo was rescued by the Portuguese state, after reporting €3.6 billion in losses.
The two letters, whose existence was made public last month but whose details are revealed here for the first time, are a key part of an investigation into the spectacular fall of one of Europe’s most prominent family businesses. Portuguese regulators and prosecutors are examining them along with the bank’s accounts and other evidence to determine whether there was unlawful activity behind the fall of the Espirito Santo empire.
So far, shareholders and investors in the family companies and Banco Espirito Santo have lost more than €10 billion, making this one of Europe’s biggest corporate collapses ever.
The letters offer a glimpse into how Salgado ran the Espirito Santo empire and its crown jewel, the bank, virtually unhindered. In addition, interviews with family members, company officials and Portuguese regulators, as well as financial documents, show how the 70-year-old patriarch consistently blurred the lines between the bank’s interests and those of his family and even his country.
Around the time he signed the letters, Salgado sought public funds to save the family empire, arguing that it was important for Portugal.
“This is not just my problem, it’s a national problem,” he told officials at Portugal’s central bank, according to people at a meeting they held.
Salgado declined to comment for this story. One person close to him said Salgado had asked Portuguese authorities to help him fix the family business in 2013. The bank’s collapse, the source said, could have been avoided.
The corporate meltdown also shines a light on Portuguese and Luxembourg regulators and the gaps that can open up when companies span different jurisdictions.
The Espirito Santo family companies were mostly registered in Luxembourg, while their main asset – Banco Espirito Santo – was in Lisbon. Little information was exchanged between regulators in the two countries. That helped hide the true state of the family companies’ affairs.
Portuguese financial regulators knew in January about deep financial problems at Espirito Santo International, the family’s Luxembourg-based umbrella holding. ESI, though, continued to borrow heavily in the months that followed, with deepening consequences for the Lisbon-based bank.
Luxembourg’s regulator CSSF said it did not supervise any holding companies of the Espirito Santo family, while the country’s central bank said it had no responsibility for supervising Espirito Santo entities.
Portugal’s central bank and its markets watchdog CMVM both say they acted promptly and efficiently. Portugal’s central bank says Banco Espirito Santo former managers repeatedly violated its directives. CMVM chief Carlos Tavares told a parliamentary committee earlier this year that the watchdog had examined Espirito Santo companies various times over the past six years and alerted prosecutors about possible wrongdoing after finding “signs of abuse of insider information” and a “possible crime of abuse of confidence”.
There are now several investigations under way regarding the Esperito Santo empire
Portugal’s prosecutor general says there are now several investigations under way regarding the Espirito Santo empire, but has given no details.
Antonio Roldan, an analyst for Portugal and Spain at Eurasia Group in London, says the EU, the European Central Bank and the International Monetary Fund, who arranged the €78 billion bailout of the Portuguese state in 2011, should also have spotted problems.
“Portugal was supposed to be under very close supervision” by international authorities as a condition of the bailout, he said.
Under Salgado’s leadership the bank more than doubled its share of the Portuguese lending market to 20 per cent in 2013, becoming Portugal’s second-largest lender after a state-run bank.
As part of the bailout terms, Banco Espirito Santo, like other Portuguese banks, was no longer allowed to pay dividends to its shareholders, including the Espirito Santo clan, who at that time owned a majority stake in the lender. That meant a big source of the family’s income was gone.
The stock market value of Banco Espirito Santo fell to €1.97 billion at the beginning of 2012 from 3.5 billion a year earlier – costing the family €420 million on paper. Most banks sought state-backed loans. Banco Espirito Santo did not. Salgado boasted the bank had maintained “strategic independence”.
Turnover at the family’s hotel, property and other businesses suffered. To avoid selling assets or losing their controlling stake in the bank, the family companies, led by Salgado, simply borrowed more – including from the bank, and from the bank’s customers.
The Bank of Portugal discovered Banco Espirito Santo’s heavy loans to Espirito Santo family companies and asked auditors KPMG to go through ESI’s accounts and the results were shocking: ESI’s accounting had “materially relevant” irregularities that put into question the “veracity and completeness of accounting records,” according to a copy of the KPMG report seen by Reuters. The report’s contents have not been detailed before.
KPMG found that ESI had either not recorded or had under-reported financial liabilities and risks, had grossly overvalued its assets, and had scant evidence for its reported transactions. The €6.4 billion of debt it held at the end of September 2013 was an ‘atomic bomb’, according to a person close to ESI, because most of it had to be paid back within one year.
After the audit, the Bank of Portugal ordered the bank to make sure any loans it had made or would make to family businesses were secured by assets, in case the family could not repay its debts. The central bank also ordered that any of the bank’s retail clients who had bought bonds from the family business be given guarantees that their money was safe.
The existence of the audit was not made public at the time. But Reuters has learned that four months later, in April, the board of ESFG – the family company that owned a 27.4 per cent stake in Banco Espirito Santo – was alerted to the problems at its parent company ESI.
Parent company ESI set out to repay the bonds it had sold to Banco Espirito Santo retail clients. There was a problem, though: the reimbursements did not come from new revenue. Instead, ESI and other family companies issued even more debt.
The companies issued bonds through an opaque transatlantic ping pong, involving an ESFG holding company in Panama and another family-linked firm, according to people familiar with the family company accounts. Many of the bonds – whose value could reach €5 billion– ended up back in the hands of Banco Espirito Santo clients.
That opened up the prospect that the bank would have to compensate clients in the event that the holding company could not repay the bonds.