The CEO Who Said Too Much

March 12, 2010 6:29 PM


By now, you know that I like get to know management. When investing in smaller companies, you are really just investing in people. When you are risking your own money, you can never know enough. There’s nothing like alcohol to ferret out the truth.

I was at an industry conference to learn more about a company that I owned a small position in. The CEO agreed to meet me late one night at the hotel’s bar. We had spoken on the phone before, but I had never met him in person. The shares were up 3-fold and I had already begun to sell some.

After the normal pleasantries, we got down to business. Simply put, his business had an inferior competitive position to others in the industry. It had been cobbled together through a half dozen mergers and the pieces just refused to congeal. We talked about what management was doing to fix this, and I was beginning to realize that he had quite a challenge ahead of him. It was worse than I had feared. I had a nice gain on the shares I owned, and was thankful that I had already begun to sell. As I finished my second beer, I made up my mind to sell the rest of the position.

I knew some of his competitors and figured I’d use the bar tab to probe him on who was doing well. As the beers piled up, we got friendlier. I started griping about how excess compliance was an unnecessary expense that my investors bore—yet received no benefit from. He shared the same feelings about his own audits. Then he dropped the bombshell—regulators were hounding his company and wasting his time. It turns out that his last company had collapsed with some ‘accounting irregularities.’ He seemed like a nice guy—not a felon—he was just in over his head. He confessed that the accounting for acquisitions was ‘difficult’ and probably a bit beyond his capabilities. At his last company, the numbers were probably off, but not materially. In the end, bad accounting had nothing to do with the bankruptcy—a bad business plan was responsible for that.

I was a bit uneasy—here was some new information. If this had been a larger position, I would have probably known more about his last company. That’s the danger with smaller positions in the first place—you don’t know everything that you think you should. We had another beer and then I asked the obvious next question, “So, how is the accounting at your current company?” His face said it all.

The company is still around. I don’t think it is a fraud—they just have serious issues with internal processes and controls. When you can’t get your accounting right, you cannot manage your company. It is usually symptomatic of a weak executive team. It is a company you should not invest in. I no longer own any shares. The shares are up from where I sold my last batch—I have no regrets.

Categories: Past Investments
Positions Mentioned: none
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