In order for Ivar’s businesses to continue to succeed, they had to continue to grow. If they stopped growing, Ivar would not be able to repay his earlier debts or continue to pay high dividends. It wasn’t rocket science: to pay a 25 percent dividend every year, you either had to earn 25 percent from your business or else raise more money. To grow by more than that rate, you had to earn even greater profits or raise even more money. The numbers were daunting.
Fortunately for Ivar, his reputation as a savvy businessman had permitted him to raise additional funds, every year. Investors believed he had a unique ability to choose investments, to buy low and sell high. Ivar seemed to make money on virtually everything he touched. And he seemed to touch almost everything, stretching from film to foreign currency speculation to real estate.
At least that was Ivar’s reputation. The truth was more complicated. A large portion of the dividends recently paid by Swedish Match and Kreuger & Toll came from cash raised by International Match in America. In other words, the dividends paid to old investors came from proceeds raised from new ones. That pyramid approach, which had elements of Ponzi’s scheme, couldn’t last forever, and Ivar knew it.
Nevertheless, Ivar really was making money, a lot of it, from match operations throughout the world. Unlike Charles Ponzi’s postal reply coupon scam, Ivar’s profits were real. Swedish Match made and sold billions of boxes of matches every year. Kreuger & Toll built landmark buildings throughout Europe. Ivar had real investments in real businesses, ranging from matches to real estate to film. No one could fake that.
Ivar believed that if he kept raising cash to pay earlier debts his businesses would grow fast enough to survive, even if they continued to pay high dividends. This belief wasn’t unreasonable. If Ivar really could control the production and sale of matches throughout the world, Swedish Match and International Match would be worth a fortune.
But first Ivar had to lock in some match monopoly deals before any obligations came due. He knew liquidity was crucial: even the very best ideas fail if a company runs out of money. Even if Ivar dedicated all of the proceeds from the American new gold debenture issue to business operations, his companies would burn through that cash in a year.
The immediate question was whether Ivar would be able to use the $12 million of new American money to keep his ventures running, or whether he would need it to repay his loans from the Swedish banks. Oscar Rydbeck, Ivar’s banker from Skandinaviska Kredit, the Swedish Credit Bank, already had loaned Ivar more than either man could afford. Rydbeck had become one of the most distinguished bankers in Sweden, in large part by building his career on Ivar’s successes.
Rydbeck was less conservative than most bankers, particularly in Sweden. He looked the part of a banker, though, with rounded jowls, a high forehead, and a neatly trimmed moustache. He dressed the part, too, with a traditional Gladstone collar, gold cufflinks, and a neatly folded front pocket handkerchief. But Rydbeck, like Ivar, was a big picture man and a dreamer. He had cozy relationships with banking regulators, who had permitted him to lend money to Ivar in novel and unconventional ways.
Ivar had raised most of the money that generated his early fortune from Swedish banks, with Rydbeck as his point man. Although Rydbeck had been lending money to Ivar and his Swedish companies for nearly two decades, he still wasn’t sure whether to think of Ivar as a friend. Notwithstanding his central role in Ivar’s success, Rydbeck hadn’t made it into Ivar’s closest circle.
Ivar and Rydbeck had pioneered an early version of “off balance sheet financing,” loans that a company obtains without showing any debts on its balance sheet. The debts are real, but because they are “off” the balance sheet, the company appears healthier than if it had taken out a straightforward loan.
The techniques the men used to justify keeping the debts off the balance sheet varied, but they typically involved the use of companies that were loosely related to Kreuger & Toll and Swedish Match. Their argument was that the debts really belonged to those related companies, not to Ivar’s companies, and therefore they did not need to be listed on the balance sheet. Swedish Match became one of the first companies to borrow millions of dollars through a complex web of interlocking and related corporations and partnerships without recording those borrowings as liabilities on its balance sheet.
During the second half of 1919, Ivar and Rydbeck had suggested to a group of bankers the idea of “a syndicate apart from the Swedish Match Company.”6 The key word was “apart.” Swedish Match would obtain funding through private side deals with several banks. Ivar would use the money for a range of purposes: pay dividends and interest, expand match exports, buy new factories and raw materials, and invest in new industries. Then, Swedish Match would record any gains from these activities in its financial statements. However, it would not record any corresponding liabilities. In other words, the banks would “lend” Swedish Match money, but they would do it in a way that did not appear as a “loan” in Swedish Match’s financial statements. Swedish Match got potential gain without the pain.
To engineer these deals, Ivar and Rydbeck employed financial derivative instruments known as options, which gave the holder the right to buy shares at a specified time and price. The linchpin of Swedish Match’s option transactions was that they were separated from the company: they were “apart” from Swedish Match and therefore were legally distinct.
Specifically, Ivar and the Swedish banks signed a three-year syndicate agreement, and agreed to set “apart” about 60 million kronor for investments. During the first year, Swedish Match would have the right (here was the option) to take over all of the syndicate’s assets for 125 percent of the original amount.7 From that point on, the banks would have the right (again, an option) to force Ivar to buy the assets for the same amount.
Meanwhile, Ivar retained control, as he typically did, and he invested the money on behalf of the syndicate. He also was responsible for bookkeeping. As Ivar reasoned, because the syndicate was legally separate, Swedish Match’s financial statements did not need to show any of the syndicate’s losses or liabilities. Those numbers would not appear on Swedish Match’s income statement or balance sheet.
During its first year, the syndicate Ivar and Rydbeck created lost more than 4 million kronor. But Swedish Match found a way to hide those early losses. In a report to the syndicate, at the end of September 1920, Ivar assured his bankers that the losses were offset by gains on other investments, and that it would be foolish to sell those investments because the gains would be taxed. Better to keep all the money in the syndicate for now. He confidently wrote that “it can be said with certainty that the intrinsic increase in value of the shares belonging to the company fully corresponds to the losses shown in the annual accounts, so that it must be considered completely justifiable to increase the book values for the companies.”8
Ivar knew that “book value” accounting, a traditional approach, generally required that companies record their assets at cost. If a company bought land for 10,000 dollars, it would record the value of that land in its financial statements as 10,000 dollars. Following basic accounting principles, that recorded book value would remain constant, even if the value of the land went up or down. In other words, even if the market value of the land changed, Ivar would not “mark to market” that value.
In his 1920 report, Ivar was arguing that the syndicate should abandon the traditional approach to book value. His reasoning was persuasive: if you know land is now worth 15,000 dollars, why would you continue to record its value at 10,000 dollars? The same was true of other investments. If the actual value of an investment increased, why shouldn’t the recorded value of that investment also increase? Thus, as Ivar argued, it was “completely justifiable to increase the book values.” He was simply marking those values to market.
For example, the syndicate had purchased shares of one company for just over 4.4 million kronor. Ivar argued that those shares had increased in value to 6.8 million kronor. Why show the investm
ent as worth just 4.4 million, when everyone knew it was worth 50 percent more? Ivar didn’t wait for Rydbeck or the syndicate members to endorse his “mark to market” reasoning. Instead, he simply increased the recorded, or “marked,” value of these shares to reflect the gains. A year later, he again increased the marked value of the same investment to 11.4 million kronor.9 Once more, he argued, the value of the investment had gone up, so the financial statements should show that.
Ivar also used the banks’ funds to gamble on foreign currencies. He seemed to have a deep understanding of the factors influencing exchange rates. Either that, or he was really lucky. Ivar’s currency bets were a major source of profits for Swedish Match and Ivar’s personal accounts. In one trade, he made a 250 percent profit - 10 million kronor - by buying US dollars in 1917 at a cheap rate of 2.34 kronor and then selling them three years later at a much more expensive rate of 5.70 kronor. Oscar Rydbeck and the syndicate members apparently believed Ivar had unique skills and knowledge, and a special ability to win these bets.
In 1920, the Swedish Bank Inspection Board discovered the creative approach Ivar and Rydbeck had taken with the banking syndicate. Svenska Handelsbanken, one of the syndicate members, commissioned Oscar Sillén, a public accountant and professor at the Stockholm Business School, to investigate Ivar’s investments, and the Inspection Board members saw some of the details from that investigation.10 The Swedish regulators also learned that Ivar had persuaded the banks to lend money based solely on Ivar’s personal surety, or guarantee of repayment. In particular, the only security for many of the bank loans was Ivar’s personal stake in Swedish Match.
Sillén published an initial report in December 1921, stating his aim “to raise the veil” from Ivar’s companies. By the time of his second report, in April 1922, Sillén had discovered many items that belonged in the financial statements of Swedish Match but instead were listed in the statements of other companies. He found that important assets “did not show up in the balance sheets.” Even after Sillén found what he thought were all of Swedish Match’s assets and liabilities from the syndicate, he still could not put a value on Swedish Match overall, in large part because of the complexities of the company’s exposure to various countries’ foreign exchange rates.
In other words, just before Ivar raised money from American investors in late 1922, an astute public accountant in Sweden had found that Swedish Match’s finances were so complicated that he could not unravel them. The Swedish banks in the syndicate had not truly understood their exposure to Ivar. Sillén concluded that the Swedish Match consortium of companies should be called “The Greatest Speculation Venture in Sweden.”
Sillén also found that “too much responsibility rested on Kreuger alone.” He wrote:Kreuger, whose qualifications I have no reason to call in question, is the only one who really is in command of the whole business. If, for any reason, the company would lose his manpower, then - as far as I can judge - enormous values would be at stake. It is thus of vital interest for the whole group, that a man is placed at Kreuger’s side. This man must be capable of representing Kreuger in the management of the company when Kreuger is away abroad.
The Swedish authorities were horrified. Their job was to protect the banking system, and they criticized the banks for lending so much money to Ivar without adequate security. The regulators’ conclusion was simple: the syndicate had exposed the banks to too much risk, and it should be dismantled. The banks needed to diversify their exposure to Ivar. One banking inspector reported that “the match concern’s leading man is in debt to various banks for approximately 22 million crowns, where the security appears largely to consist of match shares, in addition to which he has contingent liabilities amounting to 42.6 million crowns.”11 In December 1922, the Swedish Banking Inspectorate concluded: “Therefore, it is evidently high time that the banks arrange for an extraordinary, completely impartial, examination of the whole group.”12
Only someone with Rydbeck’s influence could have calmed the regulators. Rydbeck used his close contacts to persuade the Inspection Board not to intrude right away on any banking relationships. He argued that self-regulation was a more flexible and safer approach. The regulators should trust the banks to do the right thing. After all, Rydbeck argued, it was in the banks’ self-interest to survive. There was no need for costly new rules.
The final Inspection Board report reflected Rydbeck’s influence. The regulators concluded that “It seems as though all paths should be exploited to free the banks from these credits, for example by their conversion to share or bond loans or their transfer to foreign financial institutions.”13 However, the report was phrased as merely advice; the regulators ultimately did not require that the syndicate disband or take any specific action to reduce its exposure to Ivar and Swedish Match. They accepted self-regulation.
With Rydbeck’s assistance, the syndicate continued until 1922, the year of Ivar’s meeting with Durant. Indeed, the banks desperately wanted it to continue. Even if Ivar’s accounting methods had been questionable, the syndicate was making the banks a fortune. And the banks were not only lending money to Ivar; they were his biggest shareholders. When Swedish Match reported annual profits of about one-fifth of its capital, and paid hefty dividends, much of that money went to the banks. Even as the post-war global recession weighed on other companies, Swedish Match’s financial statements defied economic gravity. Ivar reported profits from investments, currency speculation, and, most of all, the sale of matches throughout the world.
In 1922, Swedish Match showed profits of more than 9 million kronor and paid a dividend of 12 percent. Kreuger & Toll, Ivar’s parent company, paid a 25 percent dividend.14 During the first three years of the syndicate, the banks had doubled their money. Not surprisingly, the bankers adored Ivar. They called him the “Match King,” for good reason.
Still, the regulators had made the bankers nervous and raised questions they couldn’t answer. How, when Sweden’s post-war economy was in serious trouble, did Ivar’s companies continue to make so much money? Were Ivar’s strategies sustainable? Could he continue to raise money? The bankers knew Swedish Match’s financial statements were fishy. But how fishy?
Oscar Rydbeck estimated Ivar’s net worth at the time as at least 25 million kronor, which made Ivar one of the wealthiest men in Europe. Nevertheless, Rydbeck wasn’t sure whether Ivar could afford to prop up his companies with personal guarantees and new cash. The Swedish financial markets were relatively small, and Ivar already had raised as much capital as anyone could raise there. Rydbeck knew Ivar had to find a new source of funds.
Rydbeck began suggesting they wind down the syndicate. Svenska Handelsbanken and Skandinaviska Kredit, two of the leading participant banks, asked Ivar to settle their loans, and return their money. It wasn’t urgent, and the banks agreed to remain invested in Ivar’s companies in the interim. But the Swedish bankers wanted to be prudent. They couldn’t lend all of their money to Ivar, and there simply wasn’t enough money left in Sweden to support his ambitious plans. They gently mentioned to Ivar that he might want to consider raising funds somewhere else.
Ivar was insulted. This was the time when he had increased his focus on American bankers, and had asked his broker Lagerkrantz to set up a meeting with Donald Durant. Ivar called the Swedes “blockheads.” He told one Swedish banker, “You haggle about giving me money. But when I get off the boat in New York I find men on the pier begging me to take money off their hands.”15
Durant and Lee Higginson hadn’t known about Sillén’s report or the concerns of the Swedish banking regulators. Nor had they realized that Ivar had tapped the capacity of the Swedish markets. They were focused more on Ivar’s future match monopoly deals than on his previous sources of funds.
As to those new deals, there really wasn’t anything to concern Lee Higg. Nothing had happened yet. When Ivar finally closed a loan to a foreign government, they would watch it closely. Until then, what could possibly happen to International Match’s
cash?
Like other American investment bankers, Durant and his partners relied on auditors to notify them of any problems. Durant assumed that a top accounting firm would spot anything significant, and notify him immediately.
During the early 1920s, the law didn’t require that foreign firms use accountants before raising capital in the United States. Nevertheless, Lee Higginson, like other top-tier banks, wouldn’t touch a company without an independent audit from a leading accounting firm. They were suspicious of any client who even questioned whether such an audit was necessary.
Ivar understood Lee Higginson’s perspective, and he had been proactive in hiring an auditor. His primary concern was to avoid Price Waterhouse, the firm that already knew too much about him from his difficulties with Diamond Match. He was concerned that Price Waterhouse employees might tell Durant and his partners about Ivar’s previous dealings with them. Ivar resolved not to repeat the disaster from 1921, when W.E. Seatree of Price Waterhouse had caught Ivar’s aggressive sidekick, Eric Landgren, falsifying financial figures in negotiations with Diamond Match. Ivar had learned an important lesson from that fiasco. He needed to remain in direct personal contact with his accountants. He needed to find an American accountant he could trust and control.
Ivar therefore recommended Ernst & Ernst, the accounting firm he had asked Anders Jordahl, his Norwegian sidekick, to hire when they first ran into trouble with Diamond Match. Ivar wasn’t happy about the added intrusion into his business, but Ernst & Ernst was the least bad alternative. Moreover, by insisting that International Match hire a top accounting firm, Ivar impressed the American bankers and investors with his forthrightness.
The Match King Page 8
