On Tuesday this week, Patisserie Valerie, a 200-strong chain of fancy cake shops, called in the administrators. The banks had pulled the plug and the company said it could, therefore, not meet its liabilities. About 70 shops will close immediately with the loss of hundreds of jobs. Shareholders will almost certainly be left with nothing.
It is a sorry story and one that has left many struggling to understand how an apparently successful, fast-growing business could have fallen from grace so quickly.
Look at the share price chart of Patisserie Holdings, which floated in 2014 on AIM, and you can see why investors are in shock. The shares had more than doubled in the past four years before they were suspended in October after the discovery of a £40m black hole which management blamed on ‘potentially fraudulent’ accounting.
Last week the company, chaired by well-known venture capitalist Luke Johnson, said things were even worse than it feared. It said it had found ‘thousands of false entries’ in the company’s books.
Among the most aggrieved shareholders are those who put more money into the business in November to support a rescue fund-raising on the back of the company’s forecast that it would make a £12m profit. It admitted later that that figure was too high.
It is too early to know what actually happened at Patisserie Valerie, but not too soon to pick out some key lessons. Here are my top four:
- First, be cautious when investing in companies that are growing very fast. Businesses that expand as rapidly as Patisserie Valerie did in recent years very often outgrow the ability of their management. Running a small business requires different skills from those needed at the top of a big one. Understanding the accounts of fast-growing businesses is also tricky; a company that is opening lots of outlets or acquiring other businesses is also much more vulnerable to dishonest accounting.
- Second, don’t be lulled into a false sense of security by big name investors or advisers. Luke Johnson has many successes under his belt, including Pizza Express. And no-one can criticise him for not putting his money where his mouth is - he put up millions of pounds in a bid to stabilise the company when the bad news emerged. He certainly had skin in the game, with a stake worth £190m at one point. But neither he nor blue-chip accountant Grant Thornton saw what was really going on, it seems.
- Third, accept that as an outside investor you will always know less than those on the inside. The only way to manage this risk is through diversification. Remember, if you own 50 shares in equal proportions, the catastrophic failure of one of them will reduce the value of your portfolio by only 2%.
- Fourth, be honest with yourself about your appetite for risk. If the thought of losing everything in one investment makes you very anxious then perhaps individual shares are not for you. Investing via a fund provides even more built in diversification than a well-spread portfolio of shares. Owning multiple funds, each holding dozens of shares, means the hit to your portfolio of one failure will be negligible.
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At Fidelity Personal Investing, we believe in offering investors choice. That is why we have broadened our investment offering in recent years to include funds, ETFs, investment trusts and individual shares. Many investors will have a mixture of all of these. Only you know where on the risk spectrum you sit, however. The good news is that outright fraud and the complete loss of an investment are extremely rare. Investors are generally rewarded for the risk that they take and that is why shares over time have significantly outperformed more predictable homes for our money such as cash.
The value of investments and the income from them can go down as well as up, so you may get back less than you invest. Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.