A little malfeasance with that mille feuille…?

We wrote recently about the malfeasance that apparently occurred at jeweller Folli Follie; and how it eventually became clear that certain numbers simply did not make sense once tested.

Now comes another example, replete with irony and the potential for slapstick (of the pie-in-face variety) in the form of the near-collapse of publicly-quoted, UK-based café chain Patisserie Valerie (PV), whose original Soho premises some of the Awbury Team can remember visiting more decades ago than they care to remember!

To summarize recent events: on October 10, the company’s directors asked for PVs shares to be suspended, as they had discovered “potentially fraudulent accounting irregularities” in the company’s accounts. Subsequently, the CFO (who had been at the company since 2006) was arrested and bailed by the UK’s Serious Fraud Office, while the company’s major shareholder and Chairman, Luke Johnson, provided emergency loans to keep the business solvent. The Board has since called an emergency shareholders’ meeting for November 1 to approve a “rescue rights issue”, failing the success of which it warns the company may well go into administration.

One delicious irony is that Mr. Johnson, who is an experienced businessman and well-respected entrepreneur, had (a week before the news on PV broke) published an article in the UK’s Times newspaper entitled “A business beginner’s guide to tried and tested swindles”. If it were not true, who could make it up?!

While much remains to be revealed about what exactly caused PV’s near-failure, certain known facts do beg the question about corporate governance and the vigilance of the company’s auditors, Grant Thornton.

For example:

– On September 14 (i.e., almost 4 weeks before the Board’s actions), HMRC had filed a petition in the High Court in London to wind up PV’s key operating subsidiary for a significant unpaid tax bill (since apparently settled)
– The company had reported net cash in its balance sheet of c. GBP 28MM as at the end of its half-year in March 2018. However, it turned out that in fact it had 2 “secret” lines of credit at HSBC and Barclays on which it had borrowed some GBP 10MM, implying that a reported net cash position of GBP 28MM had somehow become a net borrowing positon of GBP 10MM, a “hole” of GBP 38MM, and this for a business that reportedly turns over c. GBP 120MM a year
– Same store sales were almost identical on an annualized basis for the past 5 years at c. GBP 600,000 per store
– Significant sales of shares acquired under incentive schemes were recently made by, amongst other, the now-suspended CFO. Some of the awards made had apparently not been disclosed

The Board professed (and there is absolutely no reason to disbelieve its members) that it was unaware of the HMRC petition and cash shortfall. However, this makes any outside observer wonder what sort of controls, checks and balances were in place to monitor the company’s financial and tax positions; and how, in a fairly unsophisticated business, with rapid turnover and minimal inventory or receivables, no-one, including its Board, bankers and accountants thought to verify its systems were fit for purpose. Was this negligence, or the consequence of a sophisticated and long-standing fraud?

Of course, as always, it is easy to perceive issues with benefit of hindsight and when one is looking for them (such as the remarkably consistent same store sales levels), but the fact that the HMRC had pressed matters to the point of taking the extreme step of filing its petition (and no-one on the Board professed to know), or that there was an almost GBP 40MM “hole” in the company’s cash position does strain credulity.

At Awbury, we “collect” such examples as a reminder that one should always assess key factors for credibility before making any material decision; and we look forward to learning more about what happened, how and why.

The Awbury Team

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