The Rise And Fall Of The Sixth Great European Power

Or why data governance matters

There once was a wool trader in Exter by the name of Johann Baring. To help finance and facilitate transactions for the family business, Johann’s two sons John and Francis created the “John and Francis Baring Company”. The year was 1762.

Under Francis’ leadership, the company expanded far beyond the wool trade. By 1796, Barings had already helped finance the purchase of 1 million acres of remote land that became (part of) the State of Maine. But their real claim to fame came in the year 1802, when they were called on by Napolean to facilitate the Lousiana Purchase. Initially only seeking to buy just the city of New Orleans, Thomas Jefferson quickly saw the value in Napolean’s proposal to sell the entire Lousiana territory, which would double the size of the United States. Napolean was a motivated seller — the territory had been nothing but trouble for him and he also needed the money to wage a new war against England. Barings guided both parties through the negotiations process and helped strike the deal at $15 million (~$300 million in 2016). Most of the deal ($11.25mm) was paid for in US government bonds, but Napolean needed cash immediately to finance the war. So as part of the deal, Barings bought the bonds from Napolean at a 13.3% discount. In 2016 terms, Barings earned $30 million in profit from a single transaction. And it helped broker one of the most significant transactions in world history.

Through a succession of large financing deals, Barings earned a reputation as a trusted facilitator for European monarchs and gained an enormous amount of clout.

By 1818 it was said that “Europe had six great powers”: England, France, Prussia, Austria, Russia…and Barings

In the two centuries that followed, the fortunes of Barings waxed and waned, but it remained one of the most important commercial banks for England. In 1846, Barings facilitated purchases of maize as famine relief for Ireland (Barings refused any commission for related work). In 1886, Barings brokered the listing of the Guinness Brewery. And in WWII, Barings facilitated liquidation of British assets to help pay for American aid.

The year is now 1992. Barings was one of the oldest banks in existence and had offices all over the world. At the time, trading in financial derivatives was heating up and one of Barings’ star derivatives traders was a 25-year-old by the name of Nick Leeson, who headed the trading operations in the Singapore office. One of the strategies that Leeson oversaw involved arbitraging Nikkei index futures between Osaka vs Singapore exchanges. The core of the strategy was in finding different prices for the same asset between different exchanges. Barings would then profit by simultaneously buying the asset in one exchange and selling it on another — pocketing the difference while taking on very little risk.

Addicted to high risk and high rewards, Leeson went rogue. Instead of doing both sides of the trade to protect himself, he took on enormous bets on the direction of the Japanese stock market by entering only one side of the arbitrage trade. This had the potential to make more money, but at massive risk. Leeson was able to get away with it because he also oversaw the settlement desk of the Singapore desk. As a result, he was able to falsify computer records to move money and trades around. Initially his bets paid off. In 1993, Leeson made 10% of the entire bank’s profits and was considered a golden boy of the bank. But things quickly turned south. By December 1994, Leeson had created about £200 million in losses for Barings. Rather than confess, Leeson succumbed to gambler’s ruin. He doubled down on his bets to try and make back the losses while at the same time cooked the books to show £102 million in profits.

The reckoning finally came for Leeson in 1995. The Kobe earthquake hit Asian markets hard and sent Leeson’s bets down the drain. In a last-ditch effort, Leeson made an even bigger bet on a rapid recovery, which never happened. On February 23rd of 1995, Leeson left a note that read “I’m sorry” and went on the run. Around the same time, Barings auditors finally discovered the fraud when reconciling internal books. It was too late. Leeson lost £827 million, roughly 2.5x the total value of the bank’s assets. The 230-year-old bank, with a long and proud history, was done.

Leeson ended up in prison, but nothing could save Barings from collapse. It was declared insolvent and eventually sold to ING for £1. The collapse of Barings caused banks across the industry to take a long and hard look at their own internal practices. Most of them have put rules into place that the trading and settlement operations must be headed by different parts of the organization. Many of them, with the encouragement of FDIC, mandates that anyone in the trading operations take at least two weeks of vacation per year. Finally, they’ve all invested massively in integrated IT systems that could have helped catch the fraud much sooner.

The real lesson in the collapse of Barings is less about the malfeasance of a single trader and more about the spectacular failure on the part of Barings management to put in place proper compliance, data governance and risk management processes. Barings was one of the first famous scandals in which IT was seen as an “accomplice”, where “not only can IT systems enable malfeasance on a large scale, but very little specialist knowledge is required in order to turn the computer into an accomplice”. This was then followed by a string of corporate disasters (e.g., Enron) that eventually led to the Sarbanes-Oxley Act. One of the main points in that piece of legislation was the idea of personal responsibility for executives and gave CIOs even more motivation to be paranoid about data protection.

Twenty-three years later, enterprises are becoming increasingly data-driven and this lesson is all the more relevant. From Barings, to Enron, to 2008, to Cambridge Analytica, there are a non-stop sequence of high profiling failings to show that even though history doesn’t always repeat, it certainly rhymes. Executives looking to transform their organizations with data must take heed lest they become the next cautionary tale. Data governance matters, and not just because Gartner said so.

Twitter: @changhiskhan

Get the Medium app

A button that says 'Download on the App Store', and if clicked it will lead you to the iOS App store
A button that says 'Get it on, Google Play', and if clicked it will lead you to the Google Play store