How did fraud come about in the Patisserie Valerie case?

Last week Patisserie Valerie went into administration, yet the mystery around how its accounts were misstated so severely is far from solved.

Accountancy Age caught up with Simon Bonney, partner and insolvency expert at Quantuma, to find out the possibilities of what could have happened to make the cake chain go downhill so quickly.

Bonney called the case “unusual” for a number of reasons, explaining that although a fraud of this kind is not necessarily uncommon, it is very difficult to explain how such severe fraud was bit picked up or at least why it wasn’t confirmed earlier on.

“It is difficult, given the extent of the fraud, that this isn’t something that could have been spotted earlier.”

Since it all started to pour out, the questions we have been asking are how did this fraud happen and what are the next steps to deal with it?

For Bonney there are two options when it comes to Patisserie Valerie.

He said: “Was it a fraud of a successful business where money was removed from the accounts of the company or was it a fraud which caused an unsuccessful business to appear successful. I don’t think that question has yet been answered.

“The second layer to that issue is, following the discovery of the original fraud, money was loaned to the company and then the investors were reportedly told, with a gun to their head, that if they didn’t put in further money to the company, it was going to fail. That was in November, two months before it went bust.

“After this happened it is clear that management didn’t have an understanding of the scope and scale of the flaws or what the underlying business looked like.”

How did no one know what was going on?

Bonney explained that the fraud was likely to have been very sophisticated.

“The case is unusual because less than two months before administration, investors were asked to put in money on the basis it would be sufficient money to protect the business, which turned out not to be the case.”

He added: “It is only very recently they have realised the wider extent of the fraud. From an outsider’s perspective it is unusual because it doesn’t seem to be clear whether the business was previously successful because of the fraud or whether it was a successful business but it was defrauded to such an extent that it couldn’t continue to trade.

“So it’s unusual in the sense that, if you’re a purchaser going in now to try and understand what you are buying, are you buying a good business which has been defrauded or are you buying a bad business that was made to look good by a fraud?”

We don’t yet know how long the fraud could have been going on for. At this point it is only speculation.

Given the likely complexity of the fraud Bonney believes it is probable that it went on for a period of time.

“I would assume more than twelve months, purely because the amount of misstatement of the accounts and given it was a big but not massive company, so that is a lot of money. To say they could have materially moved those numbers in a short period of time is highly unlikely. It may well have been going on for a year to two years.

“It is very difficult to believe that within the timeframe this fraud may have been going on, professionals did not review the accounts of the business and the fraud went undetected.”

What will happen now?

Bonney explained: “The role of the administrators in the short term is to try and secure the future of some part of this business, save jobs, and realise funds for the credit of the company.

“Luke Johnson may well be a potential purchaser of the rest of the business that continues to trade so the focus now is absolutely on dealing with the sale of the business.

“The only impact of the fraud in the short term is trying to understand what a true position the trading business is for the purpose of selling it. Once the business is sold, then the attention falls on the administrators or subsequently appointed liquidators, who will turn to how this has happened and whether any party is culpable. If they are culpable the question is whether any action should be taken to recover funds to creditors of the company.”

The auditors are less likely to suffer from Patisserie Valerie demise because, as Bonney explained, it is not actually the job of an auditor to seek out fraud.

However, he said: “If it turned out that auditors had been negligent and as a result losses were caused to investors, then it would be within the administrators’ or liquidators’ gift to sue the auditors for negligence with the aim of making them pay funds which would go back into the company and be available to distribute between creditors and shareholders.

“If directors are found negligent there may well be action around whether they can act as directors in the future. Also with directors, if there is any conduct which means they’ve breached their fiduciary duty there is a remedy which enables administrators to sue them for a contribution to the company, because they have caused the company loss.”

As part of the enquiry into this case, Bonney said there has to be a further investigation into how investors were encouraged to put more money in just two months before Patisserie Valerie went bust, as ultimately they have now lost that money.

For a future buyer, the business is a difficult one because it does not have traditional stock that can be piled into a lorry and sold on.

Bonney pointed out that “you can’t sell eight million cakes!”

For the immediate future of the business, Bonney said “It’s fundamentally important that the administrators assess as quickly as possible the potential buyers and whether potential offers are realistic as well as what is the short term cost of continuing to trade.

“Because if they’re making a loss in the short term then any offer has to be in excess of these losses. Unless they were able to whittle the business down into what is actually profitable, they won’t have appetite to trade this for a long time, and in this instance a long time is more than a period of weeks. So the priority is working out how quickly this business can be disposed of as a going concern.”