I would like to tell you a cautionary tale, in which I may definitely not identify the parties involved and all I will say is it took place some years ago, somewhere in Eastern Europe.
A certain foreign investor, prior to coming to me for advice, had already down-paid a million on non-refundable deposit (so-called “vadium”) to the seller in order to be allowed to proceed with Due Diligence on an SPV containing a building he considered (although I disagreed with that too) to be worth a lot more. Let’s say five million. I’m hiding the actual transaction details in order not to embarass anyone, so five million is in fact correct, but the currency I’m using is fictional.
Well, needless to say, as ever I discovered plenty of question marks in the SPV, in fact SPV was not the correct word for this company at all. “SPV” means “Special Purpose Vehicle” and in real estate that basically means it’s there to own a building so as to allow some flexibility on the way of sale of a building and the choice with depend on the seller and buyer’s tax positions whether the building is sold out of this then empty company as an asset or whether it is sold in it’s corporate coating. There isn’t supposed to be anything else going on in an SPV. Well, there was in this one. Some proper monkey business, as we say in the trade. Although, in fairness, zoological supplies was about the only thing they hadn’t done. Among other things this company was holding shares in other entities which had been written off to a nominal value of one Euro in the balance sheet, but which under local law entailed liability for the owner and therefore had negative worth (of about five million Euro in total therefore nullifying the value of the Entity even if the building had been worth what the seller claimed and the buyer believed) It’s not easy by the way to spot such things using traditional audit methods. There’s a tendency to see no figure in the investments line on the balance sheet and then not even ask the question – but you have to ask it.
These things – making up a list of about 40 serious issues – ought normally to have been a dealbreaker. However, because my client had paid this non-refundable deposit to get that much knowledge and just couldn’t handle walking away, he preceded to try to negotiate away his risks by the sale-out of these negative value investments by the seller from the Company, and to take reps and warranties. All the time I was urging him not to throw good money after bad. Let me tell you that the bank that was financing the deal, a good name, simply didn’t care at that time about the fine print of the deal, and were happy to lend even on a duff project because the collateral was there. I was the lone voice saying “walk away”, and I was treated by everyone involved as an unnecessarily negative person who had better get with the programme if I ever wanted to work with them again, which in fact by that time I didn’t.
Needless to say when I gave the courtesy call several months later to see if they were happy with their purchase, they seemed extremely unhappy. It seems as though they wished they had listened. The value I said that building had – based on a quick DCF, was three and not five million fictional currency units, despite the valuation methods of the internationally renowned Estate Agent, who was believed instead of me. And time – especially given the recession which more prudent people were expecting any time back then also, but which finally did come – proved my valuation to be the right one. So in order to save one wasted million, this investor wasted a second million, and gave himself a set of monumental headaches because he had to take ownership of all the matters I found on Due Diligence, plus a few more there wasn’t even time to find at the pace they were pushing me.
Once you put yourself in a situation where you would lose money by walking away, it clouds your judgement. Much better to simply reject such attempts to deal with you that way from the outset. There is no fair reason why you should be having to make non-refundable payments before being allowed any due diligence.
If you want help to know whether a Seller is making fair or bona fide demands or not, let me know. I’ve been down the route over in over 60 business sale transactions in over 10 countries. Most people in business sell or buy a company only once in every few years or rarer, not a few times a year, so there’s no disgrace in asking for help when it comes to that point, in fact, it’s one area in life where people usually need more help than they think they do!
Quoracy.com staff writer