Intuition with Diligence

I like food and I like cooking and during my career I have been successfully involved in owning and running restaurants. A restaurant is hard work yet benefits immensely – like any business – from good marketing, having the right front of house and, very importantly, the right back of house: Someone to meet and greet and someone to oversee the finance respectively.

It is the front end that attracts your customers and keeps them coming and returning and the back end that keeps your business going and allows you to expand. When you get both right then you have a winning team and business. And that is what I genuinely believed I had become involved with a number of years ago – boy, was I wrong.

There was one restaurant I frequented that really impressed me. The food, service, ambiance was just spot on and I knew that it was a theme that could easily be duplicated to build up to a chain. It transpired that the husband and wife team had already built up to a small chain of 6 restaurants and were interested in expanding. I had met the owner, John, several times and knew him to be a very affable, eccentric character.

During a discussion one evening I shared with him my interest in helping the small chain expand through an AIM listing (Alternative Investments Markets is the most successful growth market in the world. Since its launch in 1995, AIM has aided over 3,000 smaller and growing companies to raise the capital they need for expansion).

I met John with his wife, Jane and they shared how, starting with a small café unit 10 years earlier they had built up to 6 highly popular and profitable Belgian Style eateries. John’s intuitive marketing seemed spot on in the niche market they had identified and they had already built up a database of clientele that exceeded 30,000 customers.

Though Jane had arrived late – as she was based at one of the restaurants 80 miles away and seemed flustered she did deliver accounts that revealed a turnover of £2M with healthy profits. I was very impressed with them as a team, and the accounts and agreed to make the right introductions. I arranged to visit the other 5 restaurants and found them to be the same as the first. The one that Jane was based at, the most recently opened and one of the biggest, happened to be in Brighton, the same city that I had other business interests and was therefore doubly convenient.

Within a few weeks of meeting with the brokers’ lawyers and Nomads (Nominated Advisors required to guide a company through the admission process and its subsequent life as a public company) it was agreed that the man and wife partnership was ripe to go for a listing, that would in turn generate the finance for the further expansion of 5 units. I prepared a business plan and Jane arranged with the accountants to prepare the required accounts.

Now when you get past 50 you like to feel that no one can pull the wool over your eyes; at the very least not take you for an idiot. But wow, did I have an eye-opener, literally. I am sitting in the Grand Hotel at Brighton having breakfast when I pick up the local paper. There was a picture of Jane outside a new ‘Mexican’ restaurant she had just opened in the town. Standing next to her was a man, whom the caption states is her husband, only the man was not John.

I called Jane, who lightly informed me that the caption was wrong and she had merely helped a friend to open a restaurant and because she already owned a restaurant in the town, they assumed she was opening another. She said not to believe everything in the papers. True. Except I recognized the man as the chef from her Brighton restaurant. I called John, who admitted that Jane had left him, had bought another apartment in Brighton to live with this man, but he knew nothing about the new restaurant.

To cut a very long and very unusual story short, the accounts were all fabricated. No PAYE had been paid for 2 years. Jane had used the business as a her own piggy-bank, taking as much as she required, whenever required and had further hoped that the finance raised from the AIM listing would be hers also – all £2M of it.
In due course the inevitable happened. The restaurants closed one-by-one as creditors could not be paid. John, who had worked front of house for years with highly creative marketing was destroyed by his wife/business partner’s action and lost everything.

The fact that HM Revenue were as confused as I had been over the accounts does not excuse me for not having undertaken extreme due diligence. I had arranged for an AIM specialist accountant to go in for due diligence, but apparently all the appointments had been cancelled by the ‘book-keeper’ who would only report to Jane and departed as soon as the proverbial shit hit the fan.

Hindsight is a wonderful tool in business and we must always look for Turning Points that it can deliver. First, if I am brutally honest, I did have an intuition that all was not right when I first met Jane. Sometimes there are myriad of signals around you going on that are trying to shout a message but you do not pay heed to it. Sometimes there is something you just cannot put your finger on and you still ignore it. The reason is that we want to ignore it. We choose to not heed what is really going on, because it gets in the way of what we want to happen.

Because John had got it just right I knew that the small chain was perfect to building up to 20, 30 or more and then selling the group to a larger chain. I wanted to be part of that and knew I could make it happen. Because of that I ignored certain signals. Above all I did not expect a complete fabrication of accounts effectively hiding the huge amount of money being taken out of the business.

Due diligence will uncover discrepancies, but very often we take the evidence we are presented with at face-value. LloydsTSB did the same when taking over HBOS, because they similarly wanted the deal to happen.

I do make a point of following my intuition but the Turning Point for me following this situation was to make certain that I am even more diligent whenever I do get that ‘intuitive feeling.’

If I feel I am ‘missing’ something, then I will continue with due searching until I find it, before committing myself to putting my own money. On this occasion my losses were fixed at £25K.

Jane still considers that she has done nothing wrong: It was her business and she could take what she wanted from it and say whatever was required to get more of what she wanted. And that is one of the fundamental problems business owners can suffer from.

Whether it is Conrad Black, of the Telegraph Group, Robert Maxwell of the Daily Mail Group, Kenneth Lay at Enron, Bernie Ebbers at WorldCom or the local restaurant group, you do not have the legal or moral right to view the business they have built from scratch as theirs to do with as they please.

A business is a separate entity. It is not there to be a cash cow for your own use. A business owner has a duty to do everything to make a business profitable – within the legal boundaries defined by law and moral obligations. When you cannot differentiate, then the destruction of the business you have built up is inevitable.

In business make certain that your accounts can withstand the rigour of a tough due diligence. Then you are building a business to be proud of and one that will be able to be sold.

When buying a business always employ external accountants that understand the type of business you are acquiring to carry out due diligence on your behalf. Then you will enjoy owning a business that you can continue to expand.

Most businesses are an expression of the management team. If you buy a business on its own without the founders retained or where the management team all leaves, ensure that you do in fact have a business. Take as long as is required to get to know the management team or the key individuals that have been responsible for building the business.

Then you will know whether you can emulate or duplicate as appropriate.

 

Involvement in business is like a marriage;

Marry in Haste; Repent at Leisure.

Listen to your intuition and have professionals investigate whether the dowry promised does actually exist.

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