The Daily Telegraph and some other sources have reported that the liquidators of Patisserie Valerie (CAKE) have filed a claim in the High Court against Grant Thornton over the audits of Patisserie Valerie in the years before it went into administration.
I reported previously that the accounts of Patisserie were a complete fiction – see Reference 1 below – with the assets of the firm overstated by more than £90 million.
The liquidators are FRP Advisory and they have appointed lawyers Mischon de Reya to pursue the case. Will this mean that if the action is successful that ordinary shareholders will see any return? Highly unlikely I would guess as secured creditors will take priority, and those include the former Executive Chairman of the company, Luke Johnson, who lent the company many millions in an attempt to keep if afloat before it failed. In addition there will be very substantial legal costs which cannot always be recovered in full even if the action is won. In addition, administrations and liquidations always consume a very large amount of cash.
Grant Thornton only recently lost another legal action over their audit work at AssetCo where they not only blamed everyone else for the defective accounts but actually claimed that AssetCo was better off not knowing the truth of its own financial position! See Reference 2 below.
The Financial Reporting Council (FRC) have proposed to tighten up the responsibility of auditors to identify fraud (see Reference 4) which has been far too lax in the past. But the Patisserie action will depend on the historic rules. However the Courts have clearly made it plain that irresponsible audits will not be totally excused. Without wishing to prejudge the case, Grant Thornton looks like they will have a lot of explaining to do because the fraud looks a simple case of assets such as cash being grossly overstated. Grant Thornton have however said they will “rigourously defend the claim”.
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It’s that time of year when we review our investment performance over the last year and some of us realise that it would have been lot better if it was not for the few disasters in our share holdings. For example, this is what well known investor David Stredder tweeted before Xmas: “End of 2018 and most of this year has been pretty awful investing wise for me…ACSO, CRAW, BUR, SOM, OPM & JLH were all top 15 holdings and lost 50% or more. CRAW actually went bust. First signs of recovery in two of those and thankfully my top three holdings GAW, JDG & INL have all doubled and covered most my losses but shows investing cannot be fab returns every year. Often a roller coaster ride and must prepare yourself…Sell half on first bad news, slice profits, make friends, share bad and good times as happen to all of us. Enjoy the festive break”.
For those like me that cannot remember all the TIDMs of the several thousand listed companies, the failings were in Accesso, Crawshaw, Burford Capital, Somero, 1PM and John Lewis of Hungerford. The positives were Games Workshop, Judges Scientific and Inland Homes. As an aside I do wish investors would put the company name not just the TIDM (EPIC) code when referencing companies in tweets. A lot of the time I have no idea what they are talking about.
As in most years, I have also had failures. Patisserie was a wipe-out. It went bust after a massive fraud. Thankfully not one of my bigger holdings but I ignored two of the rules I gave in my book “Business Perspective Investing” – namely avoid Executive Chairmen, and directors who have too many roles. I lost money on a number of other newish holdings but not much because I did not hold on to the duds for long.
One of the keys to successful long-term investing is to simply minimise the number of failures while letting the rest of your investments prosper. It is important to realise that investment is a “loser’s game”. It is not the number of sound investments one makes that is important, but the number of mistakes that one avoids that affects the overall performance of your portfolio.
A good book on this subject which I first read some years ago is “Investment Policy – How to Win the Loser’s Game by Charles D. Ellis”. It covers investment strategy in essence but it also contains some simple lessons that are worth learning. He points out that investing is a loser’s game so far as even professional investors are concerned, let alone private investors. Most active fund managers underperform their benchmarks. A lot of the activity of investors in churning their portfolios actually reduces their performance. The more they change horses with the objective of picking a winning steed, the worse their performance gets as their new bets tend to be riskier than the previous holdings, i.e. newer holdings are just more speculative, not intrinsically better. That is why value investing as followed by many experienced investors can outperform.
But Charles Ellis supplied a very good analogy obtained from Dr. Simon Ramo who studied tennis players. He found that professional tennis players seemed to play a different game to amateurs. Professionals seldom make mistakes. Their games have long rallies until one player forces an error by placing a ball just out of reach. But amateurs tend to lose games by hitting the ball into the net or out of play, i.e. they make a lot of unforced errors. The amateur seldom beats his opponent, but more often beats himself. Professional tennis is a winner’s game while amateur tennis is a loser’s game.
In a recent review of my book by Roy Colbran in the UKSA newsletter he says “the book takes a somewhat unusual line in telling you more about things to avoid than things to look for”. Perhaps that is because I have learned from experience that avoiding failures is more important to achieve good overall returns. That means not just avoiding investing in duds to begin with, but cutting losses quickly when the share price goes the wrong way, and getting out at the first significant profit warning.
However, the contrary to many negative qualities in companies are positive qualities. If they are unexceptional in many regards, they can continue to churn out profits without a hiccup if the basic financial structure and business model are good ones. Compounding of returns does the rest. If they avoid risky new business ventures, unwise acquisitions or foreign adventures, that can be to the good.
The companies most to avoid are those where there might be massive returns but where the risks are high. Such companies as oil/gas exploration businesses or mine developers are often of that nature. Or new technology companies with good “stories” about the golden future.
There were a couple of good articles on this year’s investment failures in the Lex column of the FT on Christmas Eve. This is what Lex said about Aston Martin (AML): “Decrying ambitious ventures is relatively safe. Many flop. We gave Aston Martin the benefit of the doubt, instead”. But Lex concedes that the mistake was to be insufficiently cynical.
Lex also commented on Sirius Minerals (SXX) a favourite of many private investors but where Lex says equity holders are likely to be wiped out. Well at least I avoided those two and also avoided investing in any of the Woodford vehicles last year.
To return to the loser’s game theme, many private investors might do better to invest in an index tracker which will give consistent if not brilliant returns than in speculative stocks. At least they will avoid big losses that way. Otherwise the key is to minimise the risks by research and by having a diverse portfolio with holdings sized to match the riskiness of the company. As a result I only lost 0.7% of my portfolio value on Patisserie which has been well offset by the positive movements on my other holdings last year. It of course does emphasise the fact that if you are going to dabble in AIM stocks then you need to hold more than just a few while trying to avoid “diworsification”.
Not churning your portfolio is another way to avoid playing the loser’s game. And as Warren Buffett said “Rule No. 1: Never lose money. Rule No. 2: Never forget rule No. 1.” – in other words, he emphasised the importance of not losing rather than simply making wonderful investment decisions.
Those are enough good New Year resolutions for now.
The stock market seems to be in limbo as business waits to see the outcome of Brexit politics. In my portfolio, small cap companies are drifting down and even large funds and trusts have been declining. Is this due to currency effects or the realisation that “star” fund managers such as Neil Woodford cannot be relied upon? Others are just bouncing around. However there was one exception yesterday when GB Group (GBG) jumped 14% after a positive trading statement. That company is one of my more successful longer-term holdings but there may be more growth to come from it because of the sector in which it operates. On-line id verification is becoming essential for many businesses.
The Administrator for Patisserie Holdings has issued their final report before the business moves into liquidation and another firm took over from KPMG to look into any legal recovery from the past auditors (Grant Thornton) and others. The handover was due to a conflict of interest. The Serious Fraud Office is still investigating the affairs of the company and a number of arrests have been made, but ordinary shareholders should not expect any return and it could be years before the legal processes are completed from past experience of similar situations. Even preferential creditors may not receive anything. The administration has so far cost £2.3 million.
The Financial Reporting Council (FRC) have announced a new Stewardship Code to improve the activities of institutional investors – see https://tinyurl.com/y5no8ot4 . There is more emphasis on “Purpose, values and culture” and the recognition of environmental, social and governance (ESG) factors.
This is all very worthy, but personally I would prefer the FRC concentrated on tightening up the quality of public company accounts for which it is responsible. It also needs to be a lot more forceful on patent audit failures that enable frauds to go undetected for years as at Patisserie – and there have been many other similar cases of not just downright fraud but also over-optimistic presentation of accounts.
This morning (25/10/2019) I attended a presentation by Halma Plc (HLMA) in the Investec offices. It was given by Charles King, Head of Investor Relations and it was a highly professional presentation unlike many we see. I have held shares in the company for four years and it confirmed that my choice of it as an investment was sound. But I did learn a bit more.
I’ll cover some of the key points that were made. This company has strong fundamental growth drivers. It has grown both organically and my acquisition over 45 years and now has 45 companies in the portfolio which primarily operate independently. One might call it a conglomerate. It focuses on life saving technology businesses – in essence “safer, cleaner, healthier”, in global niche markets. These are often regulated markets which helps on defensibility and growth. Demographic trends help as more people who are older and fatter promote growth and higher regulatory standards also move in. There is a lot of diversity in the products.
They aim for 15% growth per annum and have 6,000 staff in total. They bet strongly on “talent” to run the businesses. In essence there are many little companies all run by entrepreneurs who are left to operate as they wish. These people are paid on the basis of profit achieved in excess of the cost of capital but one requirement they look at when recruiting is that they must have “low egos”. There is only a small group of central staff handling some corporate functions.
Their focus is on acquiring companies with low capital intensity and ROTIC of greater than 16% when their cost of capital is about 8%. They are very diversified internationally but see opportunities to grow more in Asia/Pacific and other developing markets.
The high share price was questioned (or as one person put it: “it’s in nose bleed territory”). It’s currently on a forecast p/e of 32 according to Stockopedia which is higher than when I purchased shares in 2015 but the share price has more than doubled in that period. This company is like many high revenue/profit growth companies – they never look cheap but simply grow into their share price.
However the share price has fallen back of late like a lot of highly valued technology stocks that I hold. The speaker attributed this to market trends, not management share selling. Growth companies tend to go out of fashion as economic headwinds appear.
But if they stick to the business model, with the high return on capital and sensible acquisitions, I doubt they can go far wrong. In summary a useful and enlightening meeting for a company that until recently kept a low profile. But it is now in the FTSE-100 (market cap £7 billion).
Burford Capital (BUR) have published a report by Professor Joshua Mitts over the alleged manipulation of their share price in early August, i.e. market abuse by “spoofing” and “layering”. It links it to the shorting attack by Muddy Waters and is fairly convincing.
They have also published a “witness statement” for an application in the High Court for disclosure of trading information from the London Stock Exchange so as to identify who was trading. In it they also appear to be suggesting that there may have been some “naked” short selling taking place, i.e. sales not covered by borrowed stock which they indicate is illegal under EU Short Selling Regulation 2012.
My opinion on the merits of Burford as an investment or who is going come out smelling of roses in this battle are unchanged – it could be neither. Incidentally I will be discussing the merits of Burford as an investment at some length in my presentation on my book “Business Perspective Investing” at the ShareSoc Birmingham Seminar tomorrow evening (Tuesday) – see https://tinyurl.com/yxryk2h2 . It’s not too late to register and it should be an interesting discussion.
Woodford Patient Capital (WPCT) issued their interim results this morning. Net asset value per share was down 26% on the previous year end. The share price removed unmoved but it was already at a discount of nearly 40% to the Net Asset Value and more write-downs in their portfolio have been made since the half year end. The discount is quite extreme for any investment trust. There have been more board changes and there is a lengthy article in the Financial Times this morning on the pressure faced by Neil Woodford to quit managing the trust. The article suggests the board has lost confidence in Mr Woodford and is courting other asset managers – but who would want to take it on?
I happened to visit a Patisserie Valerie café in York during my Northern vacation last week. Now under new management of course. But the service was absolutely dire, prices were high and there were few customers there when other cafes in the town were busy. One customer walked out because of the slow service. Looks like the new management have taken on a problem.
Yesterday the administrators (KPMG) of Patisserie (CAKE) issued their initial report. It makes for grim reading. The hole in the accounts was much worse than previously thought with an overstatement of net assets of at least £94 million. That includes:
Intangible assets overstated by £18m;
Tangible assets overstated by £5m;
Cash position overstated by £54m;
Prepayments and debtors overstated by £7m;
Creditors understated by £10m.
The accounts were clearly a total fiction. It is uncertain whether there will even be sufficient assets to make a distribution to preferential and unsecured creditors. As expected ordinary shareholders (who are not creditors) will get nothing. You can obtain the KPMG report from here: http://www.insolvency-kpmg.co.uk/case+KPMG+PJ12394136.html
KPMG suggest there may be grounds for legal action against various parties including Patisserie auditors Grant Thornton by the administrator, but as Grant Thornton are the auditors of KPMG they are suggesting the appointment of another joint administrator to consider that matter.
Otherwise it looks a fairly straightforward administration with assets sold off to the highest bidders and reasonable costs incurred.
Another recent administration was that of Interserve (IRV). This was forced into a pre-pack administration after shareholders voted against a financial restructuring (effectively a debt for equity swap) which would have massively diluted their interest. But now they are likely to get nothing. Mark Bentley of ShareSoc has written an extensive report on events at the company, and the shareholder meeting here: https://tinyurl.com/yy7heunl . He’s not impressed. I suspect there is more to this story than meets the eye, as there usually is with pre-pack administrations. They are usually exceedingly dubious in my experience. As I have said many times before, pre-pack administrations should be banned and other ways of preserving businesses as going concerns employed.
Brexit. You may have noticed that the stock market perked up on Friday. Was this because of some prospect of Mrs May getting her Withdrawal Agreement through Parliament after all? Perhaps it was. The reasons are given below.
There were two major road blocks to getting enough MPs to support the deal. Firstly the Irish DUP who had voted against it. But they are apparently still considering whether they can. On Thursday Arlene Foster said “When you come to the end of the negotiation, that’s when you really start to see the whites of people’s eyes and you get down to the point where you can make a deal”. Perhaps more concessions or more money for Northern Ireland will lubricate their decision.
Secondly the European Research Group (ERG – Jacob Rees-Mogg et al) need to be swung over. Their major issue is whether the Agreement potentially locks in the UK to the Irish “Backstop” protocol for ever. Attorney-General Geoffrey Cox’s advice was that it might, if the EU acts in bad faith. I have said before this legal advice was most peculiar because nobody would enter into any agreement with anyone else if they thought the other would show bad faith. Other top lawyers disagree with Cox’s opinion. See this page of the Guido Fawkes web site for the full details: https://tinyurl.com/y4ak6q3c
Mr Cox just needs to have a slight change of heart when his first opinion must have been rushed. He has already said that the Vienna Convention on international treaties might provide an escape route so he is creeping in the right direction.
Mrs May will have another attempt at getting her Withdrawal Agreement through Parliament, assuming speaker Bercow does not block it as repeat votes on the same resolutions are not supposed to be allowed in Parliament.
It was very amusing watching a debate at the European Parliament over Brexit issues including whether an extension of Article 50 should be permitted – the EU can block it even if the UK asks for it. The EU MEPs seemed to have as many opinions as UK MPs on the issues. The hardliners such as Nigel Farage wish that it not be extended so that the UK exits on March 29th. Others are concerned that keeping the UK in will mean they have to participate in the EU elections in May with possibly even more EU sceptics elected.
It’s all good fun but it’s surely time to draw this matter to a close because the uncertainty over what might happen is damaging UK businesses. A short extension of Article 50 might be acceptable to allow final legislation to be put in place but a longer one makes no sense unless it’s back to the drawing board. But at least the proposal for another referendum (or “losers vote” as some call it) was voted down in Parliament. Extending the public debate is not what most of the public want and would surely just have wasted more time instead of forcing MPs to reach a consensus.
The latest example of a public company publishing misleading accounts is Metro Bank (MTRO). Both the FCA and PRA (the bank regulator) are looking into the “misclassification” of some loans which resulted in the bank overstating its regulatory capital. The result was that it has had to do an equity share issuance to bolster its capital.
There was a very good letter to the FT today on the subject of improving accounting and audits from Tim Sutton. He suggested the US Sarbanes-Oxley Act had improved the standards in the USA enormously so that revision of financial statements has been declining. To quote: “Section 404 requires management to assess and report annually on the effectiveness of the company’s internal control structure and procedures. In addition, the company’s external auditors must attest to the effectiveness of those controls”. As he points out that might have prevented the fraud at Patisserie (CAKE), and no doubt avoided the issues at Metro and other companies. It sounds an eminently good idea. I realise Sarbanes-Oxley did receive some criticism in the USA after it was first introduced due to the extra costs it imposed, but if that is the only way to ensure reliable accounts, I suggest it is worth paying. It was perhaps over-complicated in implementation in the USA but some of the key features are worth copying.
The latest announcement says that “the London sales market remains subdued”. Sales are being achieved but at a slower rate and margins are under pressure due to increased incentives and discounts. So they are putting an increased focus on “build-to-rent”. Other bad news is that contracts are being delayed on larger projects, partly due to planning delays. The result will be profit before tax for FY2020 will be significantly below FY2019.
Another announcement this morning was the preliminary results from GoCompare (GOCO). This is a price comparison web service, particularly focused on car insurance, but also covering utilities and other products. It is of course fronted by Italian opera singer Gio Compario in TV advertisements which I certainly prefer to the Moneysupermarket ones.
It was particularly interesting watching the results presentation – probably available as a recording on their web site. Results were much as forecast, with only a slight increase in revenue but a 20% increase in adjusted earnings. This is due to optimisation of marketing. You can see that these kinds of companies have to spend an enormous amount on marketing to catch customers when they are thinking of switching suppliers. GOCO spent £80 million on marketing last year, down from £89 million) to achieve revenue of £152 million.
They have made acquisitions to diversify revenue and this has led to an increase in debt, but the interesting news was about a new subscription service called WEFLIP. This automatically switches your energy supplier, among a panel of agreed suppliers, if you can potentially save £50. This will enable them to retain customers, with the suppliers paying the subscription fee. They plan to spend £10 million on marketing this in the coming year and have already done a “soft” launch to ensure the product and market are OK. Clearly though, this might be perceived as a bit of a gamble.
The market was unimpressed and the shares have fallen by another 5% today after a long decline in recent months. It’s now on a prospective p/e of less than 9 and yield of about 3%. I remain a holder at those levels.
Yesterday the share price of Accesso Technology Group (ASCO) dropped over 35% after the company issued a trading update and also announced that Executive Chairman Tom Burnet was moving to become a non-executive director. This company has been one of the great growth stories on AIM after Tom took charge as CEO in 2010. Revenue has grown more than 6 times since then but profits and cash flow have been more variable. But Tom is a very persuasive speaker and the share price multiplied by more than 25 times to reach a peak of 2800p in September 2018 – it’s now 930p.
I first purchased the shares in 2012 when the business was selling a solution for theme park queuing and most of their revenue came from one customer. They have now developed the technology to have wider applications and have a wider customers base of “visitor attractions”. Acquisitions have also been made to broaden the product offering and the strategic plan of the business was to become a “consolidator” in the ticketing and other IT solutions to this sector.
Tom Burnet was made Executive Chairman in May 2016. That concerned me somewhat because he is clearly a very forceful person and I generally do not like Executive Chairmen unless there is a very good reason to have that kind of sole dictatorship such as the company being in dire difficulties – there did not seem to be such a justification here, and it is of course contrary to Corporate Governance guidelines for good reasons.
I sold most of my shares over 2016, 2017 and 2018 after the share price continued to ramp up driven by momentum and some investors apparently feeling that Tom could do no wrong. He seemed to think likewise when I prefer more humble personalities as CEOs. Institutional investors also piled in. But the financial numbers were not all that impressive – indeed I queried the poor return on capital and large increase in administrative expenses at last year’s AGM. Other commentators queried the revenue recognition, poor cash flow and high levels of software development capitalisation. Director share sales by Tom and others in 2018 were also a negative.
That’s the history, so what about the current valuation? The last published financial results were the interims for the 6 months to end June 2018 when I made a note that the prospective normalised p/e was 47! But Accesso’s interim results are usually very untypical of the full year figures as it’s a very seasonal business – not many people visit theme parks in the winter. But they did mention the impact of IFRS15 on revenue recognition where they had previously been recognizing the full value of tickets, not just their commission income. This is probably why current analysts’ forecasts show a fall in revenue for the 2018 year versus 2017, with a resumption of growth thereafter.
The latest announcement suggested the full year results will be “broadly” in line with market expectations – which is a bit tendentious bearing in mind we are now well past the financial year end already. It also mentions a one-off cost exceptional cost of $1.7 million on an acquisition which was aborted in October 2018. Why was there no announcement of this at the time as surely it was price-sensitive information?
Actually figuring out what the likely earnings will be for 2018, particularly as the new board might wish to take a bath and clean out any questionable capitalisations is almost impossible without more information.
My fall-back valuation method in such circumstances is to look at the market cap revenue multiple. Revenue forecast for 2019 is $138m which equates to £106m when the current market capitalisation is £254m. So the multiple is 2.4 which is relatively low for a high growth business, with good IP (protected by patents), high recurring revenue figures from existing customers and some profits rather than losses. The business might look very attractive to trade buyers who could strip out a lot of the overhead costs (which is why revenue multiples are important in valuing such companies).
There may be more bad news to come of course, but at least they now have a conventional board structure with a new non-executive Chairman (Bill Russell) who seems to have a very relevant background.
The dangers or having a dominant and forceful Executive Chairman have of course been reinforced by events at Patisserie (CAKE) where Luke Johnson had that role. Having a more conventional board structure might not have prevented the fraud there altogether, but it might have enabled the non-executive directors to more easily question the way the company operated, the internal controls and the information being provided to them. Indeed it might have ensured more questioning non-executive directors were appointed to the board in the first place. A separate Chairman might also have questioned whether Luke Johnson was spreading himself too thinly across his numerous business interests.
The corporate governance principle of having a non-executive Chairman is not something investors should ignore.
Postscript: I corrected the revenue growth figure and the market cap sales multiple figure a few hours after the above was first published after I identified some sloppy research, but the conclusions were unchanged.
A week ago, an award of damages of £21 million plus interest and costs was made against Grant Thornton for their breach of duty when acting as auditors of AssetCo Plc (ASTO) in 2009/10. See https://www.bailii.org/ew/cases/EWHC/Comm/2019/150.html for the full judgement. I understand Grant Thornton may appeal. These are the key sentences in the judgement: “It is common ground that in those years the senior management team at AssetCo behaved in a way that was fundamentally dishonest. During the audit process management made dishonest statements to GT, provided GT with fabricated and massaged evidence and dishonestly misstated reported profits, and provided GT with flawed and dishonest forecasts and cash flow projections. Outside of the audit process, management were engaged in dishonestly ‘overfunding’ assets (i.e. misleading banks as to the costs of new purchases etc so as to borrow more than was permitted), misappropriating monies, dishonestly under-reporting tax liabilities to HMRC, concluding fraudulent related party transactions and forging and backdating documents. GT accepts that it was negligent in a number of respects as the company’s auditor in failing to detect these matters…”
In 2012, AssetCo (ASTO) was forced to make prior period adjustments for 2010 that wiped more than £235m off its balance sheet. AssetCo was, and still is, an AIM listed company now operating in the fire and emergency services sector.
This is undoubtedly a similar case to Patisserie (CAKE). According to a report by Investors Champion, former Chairman Luke Johnson suggests it “has possible relevance for a claim against Grant Thornton” and he will be pushing the administrators to instigate similar action. Let us hope it does not take as long at ten years and millions of pounds in legal costs which administrators may be reluctant to stand.
According to a report in the FT, manufacturers are stockpiling goods at a record rate in anticipation of supply chain disruption from Brexit. Importers are also stockpiling goods – for example Unilever is storing ice-creams and deodorant such as its Magnum ice-cream bars which are made in Germany and Italy. There is also the increasing demand for warehousing by internet retailers, even for smaller “sheds” to enable them to provide next day or even same day delivery.
Big warehouses are one of the few commercial property sectors that has shown a good return of late and I am already stacked up with two of the leaders in that sector – Segro (SCRO) and Tritax Big Box (BBOX). On the 31st January the Daily Telegraph tipped smaller company Urban Logistics REIT (SHED) for similar reasons and the share price promptly jumped by 7% the next day wiping out the discount to NAV.
There has been much misinformation spread about Nissan’s decision to cancel manufacture of a new car model in the UK. They denied it was anything to do with Brexit. This was to be a diesel-powered model and as they pointed out, sales of diesel vehicles are rapidly declining in the UK. The same problem has also hit JLR (Jaguar-LandRover). One aspect not taken into account in many media stories was that Japan has just concluded a free trade deal with the EU. Japanese car manufacturers no long need to build cars in Europe to avoid punitive tariffs. Where will the new vehicle now be made? Japan of course!
There has been lots of media coverage of the politics of Venezuela and its rampant inflation. A good example of how damaging extreme socialism can be to an economy. Over twenty-five years ago it had a sound economy and I had a business trip scheduled to visit our local distributor there. But at the last minute the trip was cancelled after a number of people were killed in riots over bus fares. I never did make it and I doubt I will ever get there now.
Yesterday Staffline Group (STAF) issued a statement first thing in the morning saying that the publication of results scheduled for that day would be delayed. The shares promptly dropped by about a third. Later in the day it stated that “the company can confirm that this morning concerns were brought to the attention of the board relating to invoicing and payroll practices within the Recruitment Division”. A full investigation was promised and the shares were then suspended. Is this yet another accounting scandal in an AIM company one wonders? Generally after such announcements, only bad news comes out.
Staffline is a recruitment/staffing and training business. It’s one of the largest AIM companies with revenue of nearly a billion pounds and reported profits of £71 million last year. It has been growing rapidly in recent years.
I have never held the stock although I did see a presentation by the company a couple of years ago. In general I don’t like employment businesses as they tend to follow economic cycles and the sector has few barriers to entry. I also considered the company to be at risk from regulatory and tax problems. The company also has considerable debt which is odd for this kind of business which generally have a “capital light” structure. Investors might have been concerned by the announcement on the 8th January that net debt had risen to £63 million at the 2018 year-end.
Investors will have to keep their fingers crossed for further news.
I covered in some previous blog posts the issue that audit quality is generally poor and that false accounts and outright fraud are regularly missed by audits – and it’s not just one or two firms – the whole audit industry seems to be incompetent in that regard. The Commons BEIS Committee held a meeting yesterday and one of the witnesses was David Dunckley, head of Grant Thornton, who audited the accounts of Patisserie (CAKE). He admitted that auditors did not look for fraud when auditing accounts and that there was an “expectation gap”. Committee members were not impressed.
Meanwhile Investor’s Champion revealed that Luke Johnson and Paul May, directors of Patisserie, owned a property that was leased back to a subsidiary of the company. As a related party transaction this should have been disclosed in the Patisserie accounts but was not.
The FT also disclosed that at least 30 shareholders had signed up to support a legal case with law firm Teacher Stern. But other investors are talking to other solicitors. In such cases it can be many months before the basis of a claim is clear and solicitors tend to jostle for the business of pursuing a claim in the meantime – one might call some of them “ambulance chasers”. Investors are advised not to spend money on such actions until the basis of a claim, and the ability to both finance an action and identify asset rich defendants is clear.
I reported a week ago on a “Capital Markets Day” at Cloudcall (CALL) – see https://roliscon.blog/2019/01/18/cloudcall-investor-meeting-sophos-rpi-and-brexit/ . There was much discussion on whether the company should raise more finance, via debt or equity. I suggested they needed more equity. This morning they announced a placing of 2.4 million shares at 100p to raise (the share price last night was 109p. It represents about 10% dilution for other shareholders. The placing was completed in minutes so they had clearly lined up existing investors in advance. The cash will be invested (i.e. spent) on sales and marketing.
But they are also refinancing and extending their debt facility. Let us hope they don’t have to use it.
More bad news from Patisserie (CAKE). A report in the Guardian, based on sight of the information sent to bidders by the administrator, suggests that the accounts were false as far back as 2014. That’s when the IPO on AIM took place. In addition, sales in established stores had fallen by 4% in the last two years and the remaining 122 stores were on course to make a £2 million loss in the year to September 2019.
The Guardian report mentioned a number of possible bidders for some of the outlets, but generally few of them. So the chance of a major realisation for the benefit of creditors in such a “fire sale” process seems unlikely.
Brexit. After last night’s votes in the Commons, the battle lines between Theresa May and the EU look to be drawn up. She is getting near a clear mandate from Parliament which will help in the battle with EU bureaucrats and politicians who are adamant they won’t renegotiate the Withdrawal Agreement. But they will have to if they don’t want the UK to exit without one, which would threaten a lot of EU country exports. Come March 28th, it will be time for a face-saving compromise – no change to the Withdrawal Agreement – just the addition of a codicil providing alternatives to the Backstop.
Momentum Investing. Are investors falling out of love with Momentum Investing? Momentum investing has been one of the most attractive investing strategies in the last few years. If a share price was going up, you just bought more, regardless of fundamentals. There were many academic studies showing that it was a very effective strategy. In ten years of rising shares prices, it was relatively foolproof. But when share prices are going down, as in the last part of 2018, it does of course work in reverse. You have to sell shares as the prices drop.
Just reviewing a few model portfolios run by investment magazines and on-line portals suggests to me that momentum investing is no longer working as the 5 year and longer returns generated are worse than the market as a whole. The moral is that there are no simple solutions to achieving superior investment returns. Once everyone is aware of a successful strategy, its benefits disappear as they are traded away.
It looks like we will have to revert to the hard work of doing financial and business analysis of companies rather than simply following shooting stars.