A&O adamant derivatives albatross can still take off
13 December 2010 | By Luke McLeod-Roberts
17 January 2011
6 December 2010
8 September 2008
30 March 2009
8 September 2009
There is something that seems ill-fated about Allen & Overy’s (A&O) foray into the derivatives services sector.
Back at the beginning of the last decade the firm established derivatives risk analysis business Derivative Services. It was set up soon after star partner Dan Cunningham joined from Cravath Swaine & Moore, with a view to him giving a shot in the arm to the firm’s activity in this sector.
However, the launch date of 11 September 2001 could hardly have been less auspicious and Derivative Services posted years of losses. The latest accounts reveal that it lost £548,424 in 2009.
While the firm argues that Derivative Services has “a robust business comprising several highly successful online services”, one of those services, docGenix, has not exactly been a resounding success.
Like Derivative Services, the timing for the launch of this tool for the over-the-counter derivatives industry was hardly ideal. It was set up two weeks before the collapse of Lehman Brothers in September 2008.
Speaking about the firm’s wider derivatives business, a former partner argues that it is “still doing pretty well”, but points out that the margins across the market, especially at the commoditised end, have inevitably been hit by the collapse of Lehman.
“It was smoke and mirrors that people were able to charge so much before [Lehman’s collapse], and the mystique’s worn off,” he says.
Last year Derivative Services, which owns a 58 per cent stake in docGenix, but has a 100 per cent interest in its subsidiary’s losses, was forced to write down £1.3m on its behalf. Senior partner David Morley and partner Jonathan Brayne, who are the designated members, were apparently not exposed to the liabilities.
“Business after business is having to take impairment charges at the moment - it’s completely normal,” comments Addleshaw Goddard professional services and LLP group head Richard Linsell. “However, if you were trying to sell this business today it wouldn’t be worth what it was.”
In July Derivative Services refused to stump up further cash for docGenix. Instead it has begun speaking to new investors about finding additional sources of funding.
A&O claims the losses recorded by docGenix are par for the course for a start-up and that it is “still behind the business”. But a note in the accounts questions just how far its support goes. It states: “In the event that no new source of funding can be identified, the operations of docGenix LLP will cease during the year ended 31 December 2010.”
Despite the troubles A&O claims that this is not the end of the line for parent company Derivative Services.
“Although Derivative Services’ consolidated financial statements are affected by docGenix’s trading performance, its own trading, profits and cashflow are not,” the spokesperson adds, pointing to an increased interest in the products it offers due to regulatory changes in the sector.
The former A&O partner has little doubt about the rationale behind the firm’s controversial move into the derivatives services business.
“I’m sure this was just another way of subsidising Dan Cunningham,” he says.
Cunningham did not reply to an email or phone call requesting comment. Nevertheless, it is known that a 2001 A&O memo to partners, laying down the terms of Cunningham’s remuneration package prior to his arrival, proposed a 15 per cent interest for him in a new derivatives venture.
“This interest may prove worthless, but is capped in value at $15m [£9.5m],” said the memo.
The firm argues that this is “all ancient history”. However, Cunningham still holds a stake in the troubled business. After leaving A&O in 2009 for Quinn Emanuel Urquhart & Sullivan, he exchanged his stake in Derivative Services for a 7.8 per cent share of docGenix, suggesting that he will be following the talks with “other investors” with great interest.