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By Tom Winnifrith, The Sheriff of AIM | Tuesday 20 September 2016
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from ShareProphets). I have no business relationship with any company whose stock is mentioned in this article.
I apologise to you. In yesterday's bearcast I suggested that the downside case for Watchstone (WTG) as a result of the claims made by poltroons Slater & Gordon (SGH) was disastrous but not fatal - see HERE. I apologise my friends. It could be fatal. Thanks to reader D from the grim North for a hat tip here.
As at June 30th 2016 Watchstone had cash of c£93 million and £62 million of trade receivables of which £50 million was S&G cash held in escrow until November. Trade payables were £65 million. We assume that H2 cashburn will be at least £8 million. So ceteris paribus if the claim by S&G fails then Watchstone will incur costs of a few million that it wont recover since S&G will probably go bust. That leaves it with year end cash minus liabilities of c£80 million. At 190p the market cap is £88 million. As I explained in bearcast I would not but the stock on those metrics.
But what about the worst case scenario. I now refer to page 12 of the 2015 Watchstone annual report. I quote:
The remainder of the balance of cash in escrow of £50.0m is held in a joint escrow account as security against any potential warranty claims (“Warranty Escrow”). The period for warranty claims extends for 18 months from completion (i.e. to 29 November 2016) (7 years for tax claims) and warranty claims are subject to a de-minimus of £200,000 for each item (£100,000 in the case of tax claims) with an aggregate basket of £2.5m before any claim can be made under the warranties.
The limit of total liability in respect of warranty claims is £100.0m. Warranties are qualified by extensive disclosure given during the due diligence and negotiation process.
No warranties were given by the Group in respect of historic accounting policies. Subject to any claims, the Warranty Escrow will be released at the end of November 2016.
To date there have been no warranty claims made by S&G, either formally or putative. The Group remains confident it will receive a release of the £50.0m currently held in escrow and has recognised its value in full as a non-cash current asset.
Hmmmmm. So the actual potential liability is £100 million which would be enough to bankrupt Watchstone. Chuck in some legal fees, the £9.4 million claim by Yourlegalfriend on behalf of defrauded shareholders, the costs of defending that claim and any fine levied by the Serious Fraud Office and it is not hard to paint a scenario where the company is more than wiped out given that its non cash assets ( a few loss making and fraudulent businesses assembled by fraudster Robert Simon Terry) are worthless.
Now should that be the case, the decision of directors to hand out £500 million of dividends might put them in a difficult position, since S&G could go after them personally for any shortfall. Tough luck Lord Howard. I guess when Theresa May said that the Tories should look after and reach out to the poor and dispossessed she was not thinking that you would be among them. But what actually happens all depends on what warranties Quindell gave to get S&G to buy the crock of Turkish that it snapped up for £647 million. .
Is it unreasonable to ask Watchstone to publish those warranties in full? Given the potential downside here I would suggest that in a spirit of corporate glasnost it would be help to do that so that the owners of the company could look at the facts and see where they actually stand. Right now it is all guesswork. But on a risk reward basis Watchstone looks distinctly unattractive.
PS. Here's a third scenario. S&G makes a claim for £100 million and this matter takes years and years to resilve as Watchstone fights S&G ( or its administrator) all the way. Watchstone 2016 year end cash (assuming half year trade payables & receivables are all settled) would be c£30 million. A year later it could ceteris paribus be just over £10 million but if the SFO or YLF has waded in and retreived a decent sum Watchstone would be out of cash by very early 2018 and if the S&G cloaim has not settled by then how would it fight on.
Again this is credible. Lawyers do not work quickly. I am still wating for Schillings to sue me as they promised HERE for calling Quindell out as a fraud two years ago. All the more reason why those warranties must be published now.
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