How did those running business not know how close to the brink it was and were the auditors asleep at the wheel?

Thousands of Worldspreads’ clients contacted the special administrators appointed to the financial spread-betting business this week to find out where their money had gone.

Dublin-based Worldspreads, which operates mainly from the UK, collapsed dramatically last week when its board discovered a £13 million (€15.6 million) funds shortfall. The company owed clients £29.7 million, but had just £16.6 million in the kitty to pay them.

The hole in Worldspreads’ finances was only discovered as the board was preparing the ground for newly-appointed interim chief executive Roger Hynes, who was due to take over from Conor Foley, the company founder who resigned in the middle of last week.

Both the board and Foley stated last week that the chief executive’s resignation from the company, in which he held an 18 per cent stake, had nothing to do with the crisis that unfolded in the wake of his departure.

Foley himself said he only learned of the shortfall on Friday, the same day Worldspreads was forced to suspend trading in the company’s shares. But how did it happen?

At this stage, it appears the problem is tied into the high-risk nature of spread-betting. Jane Moriarty of KPMG, one of the special administrators appointed to the company this week, says Worldspreads only partially hedged those risks.

Worldspreads offered clients the chance to bet on the movement of shares, currencies, indices and publicly-traded financial instruments of all kinds on world markets.

Unlike conventional betting, losses in spread-betting are multiples of the initial stake if the bet goes against the punter. Winnings, too, are magnified. If for example a Worldspreads client wanted to bet on the movement in Vodafone stock, they would be offered a spread of say £1.72 to £1.74.

They could “buy” the spread for £1 at £1.74. If the stock rose to £1.76, they would win £2, if it rose to £1.84, they would win £10, and so on. However, if the stock fell to £1.64, they would lose £10.

Equally, they could “sell” the spread at £1.72 for £1. If it fell to £1.62, they would make £10, if it rose to £1.82, they would lose £10.

Like all bookies, Worldspreads’ profits depended on its clients losing money. To a certain extent, this involved the company taking similar risks to its clients.

To counter this, spread-betting companies hedge their clients’ positions with a third party. Put simply, where they are exposed to big losses if a client’s bet comes off, they place a similar bet with somebody else to cover at least part of those losses. The flip side is that they forgo some of

their potential profits as well.

Moriarty is not surprised Worldspreads only partially hedged its risks. “It seems that this is how most people run their books,” she adds.

She and colleague Samantha Bewick took over as joint special administrators this week, so are still at a very early stage of the process. They were appointed by the UK’s Financial Services Authority(FSA) and their first job is to retrieve as much of clients’ funds as possible.

Worldspreads’ collapse left about 15,000 customers in the lurch. KPMG confirmed yesterday thousands had been in touch over the last few days. The good news is they are likely to qualify for the financial services compensation scheme that operates in Britain. This guarantees individual losses up to £50,000.

As the average client is owed about £2,000, it is likely that most, if not all, qualify for the scheme. The scheme requires that, in order to be covered, clients’ trades have to take place in the UK. As a result, KPMG could not give a definitive answer yesterday on the position of customers outside that jurisdiction.

Worldspreads also managed a spread-betting service provided by Ladbrokes. The bookmaker issued a statement earlier this week saying that it was guaranteeing all client funds.

Earlier this week, the FSA notified the police about the Worldspreads collapse, which means the authority believes there is at least a possibility of fraud or some other wrongdoing.

Foley set up Worldspreads in Dublin in 2000 with a group of colleagues, former finance director, Niall O’Kelly, who resigned last month, Brian O’Neill and Fergus Rice.

The business floated in Dublin and London in 2007, and subsequently spun off its Irish operation, now called Marketspreads, to its management, including O’Neill and Rice.

Marketspreads goes to the High Court next week to seek judgment against O’Neill and Rice for €1.7 million. Last year, its board discovered that they had directed €1.4 million of the company’s funds to another business in which they are involved, Sportspread. Both left the company in July.

All of Worldspreads’ founders have now left their respective businesses, leaving serious financial question marks behind them.

Foley said last week he planned to pursue other interests. He is a shareholder in a recently founded high-end bookmaking business, The Sporting Circle, in which Worldspreads former business development manager, Conall McSorley, is also involved.

Marketspreads is now the last vestige of the company that Foley and his colleagues founded 12 years ago. It released a statement this week saying it was trading profitably and that the Irish Central Bank recently gave it a clean bill of health. The company also stressed that it segregates client and business funds.

However, there has been a delay in filing its accounts with the companies’ registrar. The hold-up is tied to a dispute with Worldspreads over a €1.65 million payment due this year for the purchase of the business. Marketspreads does not believe it is obliged to pay this money.

Worldspreads’ collapse throws up a list of questions. The biggest is how did Foley, O’Kelly and their executive and board colleagues not know just how close to the brink the business was?

And were the auditors, Ernst Young, asleep at the wheel?

The joint administrators will have to investigate the directors’ conduct and examine the circumstances of the collapse. What they find should help to answer at least some of those questions.

All of Worldspreads’ founders have left their respective businesses, leaving behind serious financial question marks