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The fund manager who saw Autonomy's problems before HP

Artemis fund manager Tim Steer expresses his shock that Hewlett Packard did not see the problems at Autonomy before splashing £12 billion on acquiring the UK software provider.   

The fund manager who saw Autonomy's problems before HP

Tim Steer, manager of the Artemis UK Growth fund  who short sold Autonomy before its acquisition by Hewlett Packard last year, has spoken of his astonishment that the accounting problems at the UK tech stock were not discovered earlier.

Yesterday shares in Hewlett Packard, a US technology hardware giant, plunged after it wrote off $8.8 billion (£5.5 billion) from the valuation of Autonomy, the Cambridge-based software provider it acquired for $12 billion.

In a statement HP revealed that a senior member of Autonomy's management had turned whistle blower following the departure of its founder Mike Lynch (pictured below) in May, raising questions over the accounting and business practices.

A subsequent internal investigation, which included a 'forensic review' by auditors PricewaterhouseCoopers, revealed that Autonomy had been massively overvalued at the time of the acquisition, it said. 'This appears to have been a wilful effort on behalf of certain Autonomy employees to inflation the underlying financial metrics of the company in order to mislead investors and potential buyers,' HP said in its statement.

It said it had referred its findings to the US Securities and Exchange Commission and the UK's Serious Fraud Office.

Steer, whose attempt to make a profit from a fall in Autonomy's shares was scuppered by HP bidding up the price, said signs pointing to Autonomy’s problems were ‘written all over the accounts’ and that HP should have done more due diligence.

Steer said: ‘There were one or two fund managers and investment analysts who were bold enough to stand up and take a view, especially when they had a look at the sets of accounts that Autonomy were producing.'

Today's Financial Times supports this view, saying there were people asking 'sticky questions' about Autonomy's accounts. Its Lex column says: 'Analysts from both Cannacord Genuity and Berenberg, for example, have suggested that Autonomy's revenue growth was not consistent with changes in the deferred revenue line on its balance sheet; and that, for a software company, its cash generation was oddly low relative to reported profits'.

Steer added: ‘It is surprising that HP never opened up the reports and accounts ahead of offering $12 billion for Autonomy.’

Steer conceded his view on Autonomy at the time – to short the stock – hit the fund, although ultimately it was proved to be the correct view.

‘It was obvious to quite a few of us that this company had issues. I was short of it…other managers got lucky.’

At the time of the bid, Steer said he was ‘gobsmacked’ by the premium that HP had agreed to pay in the $12 billion deal to buy Autonomy, which provides software that helps companies make sense of unstructured information.

Among the accounting failures cited by HP were: 'the mischaracterisation of revenue from negative-margin, low end hardware sales with little or no associated software content' as license revenue, making up to 15$ of group turnover.; and, 'the use of licensing transactions with value-added resellers to inappropriately accelerate revenue recognition, or worse, create revenue where no end-user customer existed at the time of sale.'

Lynch, who made $800 million from the sale of Autonomy, told the Wall Street Journal the allegations were 'utterly wrong and we reject them completely.' He insisted that HP had undertaken 'meticulous due diligence' on Autonomy and that to wipe off nearly $9 billion off the purchase price was 'mad'. He suggested that the allegations were an attempt to cover up other problems at the company, which has been wracked by senior management conflict over the strategic direction of the group.

33 comments so far. Why not have your say?


Nov 21, 2012 at 09:30

Not the point of the article, I'm sure, but there's a lesson here against shorting. If Mr. Steer didn't like what he saw, the answer was to avoid the stock, or sell it if he held it. Shorting is simply a gamble that the market will come round to your way of thinking. Losing money by being "right" is of no use to anyone.

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Chief Mukuni

Nov 21, 2012 at 09:45

Interesting to see the HP Execs all earning millions of pounds had no basic business common sense and who allowed this deal to happen - shocking! Many of these Execs need to spend some time on a "Market Stall" before they are given the keys to the business. I just feel very sorry for the common HP employees who have lost their jobs as a result....

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Nov 21, 2012 at 11:52

HP Board should resign because of their incompetence.

In addition, isn't it usual practice for a company about to takeover another company to get its merchant bank/banking advisers to conduct forensic due diligence.

Where are HP's bankers in this story ?

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Nov 21, 2012 at 11:53

This sort of stuff started soon after Packard died - and has continued uninterrupted ever since. The only good news is that with the share price now plunging, some sort of correction has to occur. Doesn't it?

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Ian Stephens

Nov 21, 2012 at 12:46

Adoboli got seven years for causing a £1.4bn loss to UBS. It would appear that Lynch's little wheeze has cost HP nearly four times that. So, call it thirty years (add a bit on for his smugness)?

In the meantime fire all those involved in due dilligence at HP and ensure their pension pots are redistributed.

A tad harsh some might say, but how else can the message be understood that this cannot continue.

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joe stalin

Nov 21, 2012 at 12:57

Mr Steer was not the only one shorting Autonomy on the basis that the company was doing more than a little with goodwill on its acquisitions. The City has lon been divided in its opinion of Mr Lynch. anotber shorter Mr Jim Chanos was also well short and presumably on the wrong side when HP bid. But then he went short of HP when it acquired Autonomy. clearly you could argue that HP did not do its due dilligence but then who did it for HP and who brokered the deal who took the fees etc etc. This may well end up in court given the sum of money involved and the litigeous nature of our American cousins particulary when a Brit company is involved. Just ask BP. Either way it is not going to be great for Mr Lynch's reputation in the near term I would imagine.

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Nov 21, 2012 at 12:58

Autonomy's independent auditors gave a clean "true and fair view" sign-off to the 2011 accounts, so the accounting policies must be right, mustn't they? I am finding it hard to access the 2011 accounts, even through Companies House, but it would be interesting to know how much Deloittes charged for their audit fee.

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Nov 21, 2012 at 13:03

Well let's see if it is fraud first, rather than bluster from an embarrassed purchaser who was deemed to have paid too much even at the time. I imagine Autonomy's auditors will be scouring their records. Creative accounting is one thing, but it begs the question if fraud is involved.

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joe stalin

Nov 21, 2012 at 13:14

As you can imagine given the nature of the deal the word fraud is already being used by the US financial media in the context of the deal. As I said the alleged value overstatement is massive so there will be shortage of legal "volonteers" willing to come to HP's "rescue". A whistleblower inside Autonomy does not look good imo.

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Cape Town

Nov 21, 2012 at 13:29

This will not endear the city to US authorities, already baying for blood over other frauds

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joe stalin

Nov 21, 2012 at 13:49

Due to the fact that we have been saddled with an incompetent FSA who is more concerned with destroying our banks through baseless regulation and abetting fraudulent PPI claims we could have been persuing anumbet of US investment banks and rating agencies over their blatently fraudulent activity wrt MBS products.I woud imagine all leave has been cancelled at Deloittes and shredders are probably close to overheating in a number of locations

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Nov 21, 2012 at 14:16

Jeffian, thoroughly agree with your first comment, thanks !

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Tony D7190

Nov 21, 2012 at 15:04

I think one of the previous posts sums up the situation: HP should have carried out all the "due diligence" necessary. If they chose inept professionals to carry out these fundamental tests on Autonomy's accounts the buck should rest with their advisers. The Americans seem to have one rule for themselves and another for the rest of the world, as is demonstrated by their no holds barred attack on BP. The Autonomy deal was signed ...Caveat emptor.

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Nov 21, 2012 at 15:40

Tony D and Jeffian.

You are absolutely right.Of course, interestingly, takeover bids are different from sales of private companies in that there is no contract containing reps and warranties, undertakings or indemnities. The sale is direct from the public shareholders to the bidder and the only contract is one of transfer of shares contained in the FAT (form of acceptance and transfer). For that reason there is no-one to sue in contract and the bidder has to cast around for people to sue in tort. For that to succeed there has to be proximity between the person who has provided the info and the bidder sufficient to establish a duty of care, the bidder must show that he relied on that info and that the loss flowed directly from the info being false and that the person in question was negligent (or worse). Accountants have for years sought to show that they do not fall into this category with published accounts, a position bought by the English courts - see the House of Lords case Caparo Industries v Dickman (1990). This is in my view correctly decided, but a gap that should be plugged by legislation. HP would have a mountain to climb suing Deloittes in the English courts.

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Graham Willows

Nov 21, 2012 at 17:13

Should Steer - lynch Lynch - or should Lynch lynch Steer ?

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Roger Lawson

Nov 21, 2012 at 17:16

Very good comments Drake. But discovering what might have been going on (if it was at all of course) in an audit or in due diligence on the acquisition is asking too much for reasons that I explained in brief in blog post here just now: . So I doubt any accountants are going to be liable (even though I agree the Caparo judgement needs rewriting as it undermines all auditors responsibility to shareholders).

Roger Lawson, ShareSoc (and old software industry hand who has seen this kind of problem so many times before)

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The Colonel

Nov 21, 2012 at 17:28

Quite nice to get one back on the Yanks after the way they treated BP

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Danny Lovey

Nov 21, 2012 at 17:52

Caveat Emptor ! - If HP had done their due dilligence properly and the accounts had been done in a certain way over the course of time and not specifically for the purpose of fooling HP, then HP should be big enough to admit they got it wrong instead of whinging!

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wayne roberts

Nov 21, 2012 at 18:00

This is how companies do accounting nowadays and proves that bothering with fundamentals is just a complete waste of time, and the public get stung yet again..

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Anonymous 1 needed this 'off the record'

Nov 21, 2012 at 18:07

I used to work for a large IT company and remember visiting Autonomy with my senior management back in the 90's and listening to some presentations. I came out saying "I might be being a bit thick here but I don't understand what they actually do". The lesson here is the Anthony Boulton one that if you can't explain it to an 8 year old then don't bother investing in it.

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Nov 21, 2012 at 20:51

Joe, " our American cousins", do we want to claim them as part of the family with their conduct over the last few years against anything British?

Sloppy work on their, perhaps their advisors, part? Danny beat me to the comment, 'caveat emptor'. They were allowed access to the books underlying the accounts and should have been spotted what others (not having access to the underlying books) had already worked out from the accounts . Perhaps they glossed over the 'shortcomings' because they thought they were getting a good deal, nevertheless.

On the the Bolton programme on Sky News Lynch has said that he has not been contacted by HP or told told what the problems they claim were there. He has had to piece together what the complaint may be. I suggest he waits, rather than jumping at the apparent 'ghost'. Fears are usually far greater than the 'facts' warrant (something I always told clients). Wait for the facts. Why would HP wait for over a year to complain, they have had more than enough time in the interim to discover 'cover up' problems. I suspect they got caught short by the falling/difficult market, instead of rising, as they hoped.

Have HP taken the cowardly bully's way out by 'reporting' the matter to their anti Anglo American authority (a la BP) in the hope that they will cure HP's failure and get Lynch fined, because the authority's power is infinitely superior to theirs, as HP, if it took proceedings, would have an Everest to climb to prove that they should be excused from their lack of due diligence and be awarded damages? No doubt HP are hoping that the authority will pull their chestnuts out of the fire to save them the cost ($10s of millions??) of potentially futile proceedings, when so far it appears that they/theirs failed to spot what they now claim was obvious from their failure to spot what was out in the open, according to Steer and others. The burden of proof lies with them, and HP are going to have to disclose what due diligence they did, and if not enough (a la the Lloyds/Halifax takeover) the HP shareholders may well go after the HP execs for their shortcomings.

And what have they done in the meantime which will may/have damaged the Autonomy business?

If there is no action, Lynch will no doubt profit from the slur adding to his profits from the sale.

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Nov 21, 2012 at 21:31

Well at least the taxpayer does not have to pick up the tab. unlike at RBS in the UK with ABN-Amro..

HP is not too big to fail and they had a duty of due diligence...

Stop the whinging

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Nov 22, 2012 at 06:54

You suspect accounting anomalies so you short the stock. Not sure whether that's hypocrisy or just unethical. Then to brag about it - that's plainly just ignorant of common values

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Nov 22, 2012 at 07:07

Why was he astonished ? He shorted the stock so why was he astonished ?

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joe stalin

Nov 22, 2012 at 08:36

Snoekie I use the term American cousins very loosely rest assured. Like Anon I have never been convinced about Autonomy myself when "in the City"but always rememer the analysts coming back "glazed over" following one of mr Lynch's presentations on one of his growth acquisistions. Jury is out on this deal me thinks no matter what we think of the hapless HP.

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Nov 22, 2012 at 10:19

In my 35 years as a partner in one of the major City law firms I witnessed a lot of grandstanding from US bidders. Their professional advisers tend to be very good, but the fly in the ointment is the bidder's investment bank advisers. The combination of a US bidder who wants to do the deal at all costs (and thinks he knows far more than these Limies) and an investment bank whose fees (which in the case of Autonomy will have been around $150-200 million) only get paid if the bid succeeds, is absolutely lethal. I have seen it time and time again. The investment bank will have advised the bidder to go ahead at this price, having taken into account the advice from the lawyers and accountants (who I can assure you will not have missed any irregularities).

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Dennis .

Nov 22, 2012 at 10:38

Good comment Drake, just like Facebook.

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joe stalin

Nov 22, 2012 at 11:14

i guess Tim Steer and Jim Chanos well understand the risks they run by shorting a specific stock more to the point if shorting gains momentum then the outcome may well be the last thing the shorters are looking for namely an over the top bid for it as would appear to have been the case here. the old addage the market can remain irrational loner than you can stay solvent springs to mind. In the case of autonomy what I find surprising is that Mr steer nor Mr Chanos appear to have seen the bid from HP coming which i would say is somewhat naive given mr Lynch propensity for deal making.

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Nov 22, 2012 at 13:29

Chief Mukuni cracked it with his comment at the very beginning. How, in this day and age, are we still stuck with large public companies by and large run by "professional managers" who have never done a real job in their life, have lived in ivory towers since the day they were born and have no basic common sense...?? Oh that's right, because it's still an old boys (and girls) club at the top where palm greasing and back scratching are 90% of what decides whether you get and keep your senior exec role.

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Roger Lawson

Nov 22, 2012 at 13:40

It seems Mike Lynch has conceded that Autonomy gave away hardware with software bundles and then charged the cost of the hardware as a “marketing expense” rather than a “cost of sale”. This I consider somewhat unusual. If you give away chocolates to car buyer, it might be justifiable to account for the cost that way, but when I used to throw in expensive printers in with software sales I reckoned it was a cost of sale so it looks like a somewhat aggressive treatment to me. The end result would of course be apparently higher gross margins on software sales.

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Nov 22, 2012 at 14:56

Chops - I don't think so. Mike Lynch founded Autonomy and HP are American.

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Nov 22, 2012 at 15:09

Drake - when I said large public companies I was referring to HP. And when I said old boys and girls club I was talking about the world over..

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Roger Lawson

Nov 22, 2012 at 15:45

There is definitely a momentum behind acquisitions, particularly when public companies are involved where there are deadlines to be met. Buyers hate to admit they are backing out even when due diligence turns up some bad stuff as they often have an emotional commitment to the deal - and in a large organisation there are usually a few things to pick out. But the other problem is that the purchaser typically gets overwhelmed by due diligence information so that few key decision makers read it all. Suspect H/P may find that Lynch's defense might be "oh that issue was pointed out in section 115 on page 2020 so you were aware of it". Of course this is all supposition, but that's my experience. And this problem is the same whether it's US companies buying UK ones or vice-versa.

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