How close have some Pub Co’s been to a Ponzi Scheme???
I have just returned from a trip to the USA, part business and part pleasure.
The Wall Street Journal was supplied free everywhere that I stayed, for those that have never read it, I consider it to be one of the best papers in the USA, it covers all aspects of life and business around the world.
It amazed me as to how many people were being arrested and charged for what appear to be major Ponzi schemes, the American Courts don’t mess about, when sentenced they are there for life, as with the infamous Bernie Madoff.
The interesting thing about the majority of cases was that the serious offenders were apparently pillars of the community and had been in business for many years, they all represented manipulation of money generated by property, share dealing etc.
In a recession these cases come to light, in a buoyant expanding market you never hear of them.
In the late sixties, in this country, we had Dover Plan which guaranteed a substantial return to all with terrific growth, various wealthy friends of mine invested until the hint of a recession and they all lost their money.
We had the Lloyds scandal where brokers were selling names on the insurance market, previously being a name at Lloyds was an income for life for doing absolutely nothing and unlimited liability, by doing exactly the same as the US sub prime scandal, selling off high risk sectors of insurance to brokers with ill informed names they removed their own risk and the names lost billions with no reprieve.
The term “Ponzi scheme” is a widely known description of any scam that pays early investors returns from the investments of later investors, most investors are streetwise enough now to not get involved in anything as blatant as that without some existing business credibility these days.
We have had pyramid selling pushed at us for years in various different forms, where the profit from the end consumer is of secondary importance, the key is finding more and more people to sell to another distributor in a long line, which will of course run out of people and everyone involved is trying to sell to an ever reducing market.
Whether the people that get these schemes going are incredibly naïve business men or totally corrupt, I am not sure, looking at their track records, they all seem to start with a bona fide business that becomes successful, they are all very sincere and issues guarantees that are very credible in buoyant times.
Their growth can be phenomenal as they pull more and more investors in, the very early investors do well, later one’s do well for possibly a year or so and the ones still in there at the end are left with nothing.
If that sounds familiar it is purely coincidental.
Recessions are cyclical and vary dramatically in their effect on certain sectors of an economy, consequently they may not be recognised as a Ponzi scheme, but purely as a business failure due to the recession.
The present recession happened so quickly that even the most astute businessmen were left standing, I had dinner with one of Bear Stearns retired senior beings and he was aghast at the speed of their demise and that was not a Ponzi scheme.
The interesting point is when does a legitimate business become a Ponzi or near Ponzi scheme, we have a licensed industry where failure levels are at an unacceptable level.
I was given a copy of one company’s enforced closures before the recession, showing approximately 5,800 closures in two and a half years, which equates to possibly 11,000 people being made bankrupt or near penniless, which as a statistic to my mind is totally unacceptable, I passed the details on to the Select Committee Inquiry.
I am not accusing any company of running a Ponzi scheme, what I want people to do is look at what has been going on and why the industry is in such a mess.
We have companies raising rents to an unsustainable level, which in turn enhances the freehold value without any consideration of viability, the fact that the viability is not there virtually ensures failure except by a very few, very smart operators, who invariably get out at the first opportunity to buy a freehouse.
Rents have been forced up to raise estate values to fund further borrowing, almost every pub owning company has been affected by this to a greater or lesser degree, in reality the Fair Maintainable Trade (FMT) demanded and used if calculated back using the existing business levels will probably show the need for a capacity of at least double the existing wet supply in a number of companies.
This very basic calculation of practicality is ignored by surveyors or BDM’s since they only consider their restricted view of each individual pub and not the whole estate or by cherry picking comparables, which is now in question as a reliable source of rental information.
Growth by a number of companies would not appear to by viable growth, but by manipulation of credit which was the reason that I first bought freehouses, my initial development was funded by credit and was then replaced by viability, which consolidated the business.
Consequently a number of companies are and have been substantially dependent on a constant source of replacement tenants and the need to push inexperienced or limited experience people into their pubs, provided that they have the funding.
How close is this to the modern version of a Ponzi scheme, only the people running the companies can answer that or public opinion, viability in every respect is the key and if this is ignored it does raise serious questions which need answers.
If a company acts as landlord and lets a property for business use at the current market rent, this is acceptable.
If a company acts as a landlord and controls the supply of saleable goods and ignores viability for valuation purposes and insists on rent levels far beyond the realistic norm to fund over valuation for expansion, they know that the levels are way beyond viability in the majority of cases, because of the failure rate.
Whilst the market was buoyant there was an almost indecent scramble to get rid of any struggling tenant to be replaced by one’s with fresh funds.
A few years ago the rate of change for one company was on average nine months, leases were saleable, they are no longer so saleable and the average is eighteen months, which is still unacceptable.
My personal view is that when viability is ignored and expansion is developed on over valuing it runs very close to a modern Ponzi scheme and even more so when the training provided to the tenants is very basic and does not equip them for the long term requirements of the job.
You cannot be a Competent Operator after a one day to two week course, the old brewers insisted on at least a year in a training pub and on going instruction before they took a promotion pub.
Their failure rate was minimal, the tie was acceptable because rents were viable, the majority of rents are in serious question and hopefully this will be corrected in the near future.
Rates are based on rental levels and if rents come down, rateable values should do so as well.
Excellent article. Just a question though should your rent be the same as the rateable value or is there some other way of working out that it is correct?
The IRS Valuers have always argued that rent is directly related to rents, on my commercial property it is but it ignores how much profit you make.
The Pub Co’s have totally screwed it up for the industry by taking part of the tenants profit in the rent and raising rates above the commercial standards, in my opinion.
However I hope to have some interesting information n the misuse of Comparables and the legality of this system shortly.
Cheers for that, however my rates are half that of my rent!! So am I being over rented or under rated?
Maybe the Wall Street Journal would like to do an article on the major pubcos and what would happen to them if they tried to conduct business in the same manner over the pond?
There are many US investors in these companies who would not believe that these practices are allowed over here purely because their government does not allow it.
Once the facts come out there will be a lot of cash being pulled out of the pubcos by savy investors.
Good point, well made.
If a pubco can only keep going if it turfs out one operator to replace them with another then that’s a Ponzi scheme.
The new operator comes in, spends money doing up the pub, and then goes to the wall. The pubco then gets yet another operator to come in, spend money doing up the pub, going to the wall and ever the circle continues.
So the pubco needs the new funds of each new operator to keep their business going. That’s a Ponzi scheme.
One carefully selected test case, taken to the courts, would expose the whole charade and send the pubco’s share value in to a tailspin, and (you never know) perhaps the pubco directors behind bars.