Public Audit Committee, 25 Feb 2009

Meeting date: Wednesday, February 25, 2009

Official Report 189KB pdf

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Section 22 Report

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“The 2007/08 audit of VisitScotland”

We move on to agenda item 3. I invite the Auditor General to brief us on his report "The 2007/08 audit of VisitScotland".

At its meeting on 4 February, the committee asked for further background information on VisitScotland's involvement with eTourism Ltd. I asked Audit Scotland to do a bit more work with the external auditor to provide a further briefing, so I am pleased that we are joined today by Mr David Watt of KPMG LLP, which is the appointed auditor for VisitScotland. As the briefing paper is very much based on the work that David Watt and his team undertook, he will be in a position to help members with any matters of fact that are of concern to them. I understand that the briefing has also been shared with VisitScotland, which has confirmed that it is factually accurate. The briefing has not been through the normal extensive clearance process, but it has been through a process of open sharing with VisitScotland.

As members can see from the briefing paper, we thought that the committee identified about seven key areas of interest. Unfortunately, some of those questions either run outside the scope of the work that we have been able to undertake to date, or are constrained by timing issues because they relate to on-going or future matters. Therefore, the briefing paper concentrates on the first two areas: the business case for developing eTourism Ltd, and VisitScotland's monitoring arrangements and associated actions. I am sure that members have taken the opportunity to read the paper, but I will provide a brief summary of its contents as it contains quite a lot of detail. Of course, committee members are welcome to follow up on any matters of detail that they wish to pursue.

The first point is that VisitScotland prepared an outline business case and a full business case. Both business cases considered all the relevant issues. They identified options and included criteria that were to be used in appraising the options, they contained financial and economic appraisals and the proposed procurement strategy, and they identified and assessed risks and proposed the mitigating actions that would be put in place. The business cases were subject to formal approval, which was obtained.

On monitoring arrangements and associated actions, evidence shows that VisitScotland and TourCo Ltd—the company that was established to represent the interests of VisitScotland and the area tourist boards in eTourism Ltd—regularly considered eTourism's performance.

The auditor's review identified that concerns about eTourism's business plan were expressed early, but those initial concerns were about the level of detail in and the timing of the plans. More significant concerns began to emerge in 2005. They related mainly to eTourism's financial performance and focused on the company's overall financial position, on the conversion rate of website visitors to bookings and on continuing concerns about eTourism's business planning.

The main route by which VisitScotland and TourCo could raise concerns was through their representation on the board of eTourism. As I said in my section 22 report and at the committee's previous meeting, eTourism is not an organisation that I audit and the auditor had no access to the board's minutes. As I also mentioned at the previous meeting, I have asked VisitScotland's external auditors to continue to monitor developments.

I am happy to attempt to answer any questions from members, with support from the team.

Thank you for the detailed briefing paper, which helps to clarify the process that developed. Your paper says that, in September 2005,

"visitscotland.com had risen to 20th most visited travel, destination and accommodation site—achieving more visits to the site than both visitengland.com and the equivalent Irish site. However, there remained a 45% drop-off rate from people visiting the site to people booking accommodation."

We heard about that in our previous discussion. Do we know what the equivalent conversion rates for England and Ireland were? Although their sites had fewer visitors, were they more successful at converting those visits into bookings? Do we know what the problem was or is with the VisitScotland site?

We do not have that information—I am sorry that I cannot help you with that. As you will appreciate, we concentrated on preparing a briefing that related to VisitScotland. I am sure that such questions could be adequately answered by VisitScotland's management, who will know their business.

You talked about VisitScotland's monitoring of the situation and the action that was taken, to which paragraph 30 of the briefing paper refers. You said that, in 2005, VisitScotland and TourCo started to express concerns about financial performance and the conversion rate, yet matters were not drawn to a close until the end of 2008. To an outsider, that is an extraordinary length of time to allow problems to remain unresolved. Can you comment on that? Was the approach of VisitScotland and TourCo dilatory?

Appended to the committee's briefing paper is a table that helpfully itemises major interactions with eTourism and assessments that VisitScotland and TourCo undertook of eTourism's performance. As you can see, there is a narrative that shows an increasing level of concern. There is a fairly critical point round about 2005 when it seems that VisitScotland was becoming increasingly concerned about overoptimistic business targets. However, at the same time, according to VisitScotland's assessment, eTourism Ltd was developing a reputation for working well with the industry. It was containing the costs well and, as the convener just mentioned, performing well in terms of visits to its site. The picture was mixed. Concern about the failure to convert the visits into bookings and, therefore, to generate the additional income that was necessary to deliver on the business plan arose progressively only over the subsequent years.

Thank you for that. I note from the calendar of events that, in July 2007,

"TourCo Limited's directors considered a six month financial report … and concluded that there had been no material change in eTourism Limited's trading position."

That was subsequent to a range of other concerns having been raised, and agreements that there would be careful monitoring. However, it took more than a year from July 2007—until August 2008—before an attempt was made to bring matters to an end. I am concerned that there seems to have been a lack of attention on the part of VisitScotland and TourCo and that matters should have been progressed more quickly.

I understand that concern. All that we, with support from David Watt, can do in the report is present the facts as we understand them. What underlies the timeline and the pattern of events is a question best asked of VisitScotland.

We can pursue that with VisitScotland.

Internet site visits are one thing, but eTourism Ltd's business was delivery. Surely the problem was previewed. You said that outline and full business cases were prepared, but how realistic were they? For example, how realistic was the £10 million payment that was expected from eTourism Ltd "regardless of … performance"? The risk assessment warnings appeared quite early, but the go-ahead was given on the outline business case. It strikes me as a shaky foundation for a £10 million revenue assumption. Were there flaws in the original assessments?

I hope that the section 22 report and the additional briefing paper give members independent assurance that the procedures that VisitScotland used to put the project together were appropriate and fit for purpose. In particular, it had an outline business case and a full business case. All the key elements that one would expect to be in a business case were in those.

We are not in a position to comment on whether the assumptions and analysis in the business case were appropriate—you would have to explore that with VisitScotland. However, as I think I mentioned at the previous meeting, the project has been in development for 10 years, in effect—since the first idea came through—and the market and use of the internet have changed enormously since then. It is important to understand the context within which the project has operated over the years. It appears that some of the risks have materialised in the ways that we have outlined in the report.

Is it reasonable to expect that those points would have been picked up? Should the performance problems have been picked up earlier rather than in hindsight? There were concerns about the adequacy of the business plan for eTourism Ltd over four years and about its financial performance in converting site visitors into bookings. That sounds a bit like drift rather than sound business practice, especially because warnings were made early in the process and there were continuing doubts about performance. Is it not reasonable to expect that something would have been done about that earlier?

It is important to recognise that the VisitScotland people are the best people to answer those questions. I remind members that the company was performing quite well in many respects. It was attracting many visitors to its site, which in itself represents a significant benefit to the Scottish tourism industry. According to the papers that the auditors have seen, it was doing reasonably well to contain its costs.

The issue that was of major concern was the conversion rate into bookings. Given that serious concerns were being expressed from 2005, roughly speaking, we must also recognise that there would be a turn-around period. There would not be an instant solution. That is not to take away from the concerns that Mr Welsh has expressed, but it is important to understand the context. However, if members wish to pursue the matter further, it might be more appropriate to do so with the management of VisitScotland.

I would like to talk about VisitScotland's acquisition of shares in eTourism Ltd in December 2008. Can you give us a little bit more detail about how the share price was negotiated and agreed and whether any independent valuation was carried out to support the acquisition?

Perhaps Mark MacPherson can help with that.

We did not consider that matter in detail, because the section 22 report relates to the 2007-08 accounting period, which was well over by the time the acquisition was made. The auditing work on VisitScotland and the background to the matter did not include a detailed review of the process by which the figure in question was negotiated. However, I think that the price would be based on a book value and negotiations with the other partners to establish a reasonable price.

It was essentially a matter of negotiation between VisitScotland and TourCo Ltd and the other parties to the shareholdings—Tiscover and Partnerships UK—with a view to securing VisitScotland's full control. VisitScotland subsequently engaged financial advisers to assist it in the valuation of the company and to support the restructuring that is taking place.

So VisitScotland subsequently engaged financial advisers, but did not engage advisers at the time. Is that right?

Perhaps it would be better to use the expression "in parallel".

I am interested in the final page—page 13—of the Auditor General's further briefing. Paragraph 10 on that page reminds us that VisitScotland decided to write off an

"original loan of £1.85 million and unpaid interest due on that loan of £900,000 in its 2007/08 accounts."

Was no thought given to shifting that loan into capital?

Again, I look to David Watt to help us with that question. Part of the issue is that there was unfinished business at the time of the report, because the values of debts and so on are not terribly clear until there is a business plan for the future. VisitScotland now has complete control of the company in question and is, as we speak, working on alternative options for the future that will then settle into its business plan. The size of the outstanding debt will become clearer as a result of that work. Therefore, I am not sure whether we can fully answer your question at the moment.

I hope that you understand what I am driving at. If a company is lent £1.85 million and then another £900,000 and all that money is lost, nothing will be received in return and there will be no transfer of loan to equity. There will then be a technically insolvent company. Am I correct?

Yes.

So, a company was lent about £2.6 million or £2.7 million, then all that money was written off, and there was a technically insolvent company. How much more was paid to acquire shares in the company in December 2008?

The shares were £64,000, at a nominal value of £1 per share. There was a subsequent capital injection to allow an element of the loans from the other parties to be repaid.

How much was that?

It was £1.25 million.

So £64,000 was paid for the shares and a further £1.25 million went, in effect, to repay the debt of the previous shareholders. That does not look like a good deal for the public sector. The partners who received the £64,000 for their share capital for an insolvent company and those who received the £1.25 million in loans back, would have walked away with happy smiles on their faces. Compare that to the public sector, which so far has paid more than £2.6 million to write off loans and has injected a further £1.25 million simply to repay the previous partners, as well as paying £64,000 for shares in a company that was technically insolvent. In the current environment, quite a few shareholders would be pleased to get £64,000 for shares in a company that was bust. The issue needs close scrutiny. I am astonished that professional advice was not given to VisitScotland during the negotiations. I seem to be hearing that professional advice was not given. Is that correct?

We acknowledge Mr Stephen's comments. The principal reason why I made the report to the committee was because of the concerns about the matter and the exposure for the public sector. However, those questions and concerns are best answered by the management of VisitScotland.

You have said that five times.

I want to clarify an issue with Mr Watt. He said that, subsequent to the purchase of the company for a nominal value of £64,000, loans were repaid to other parties. How much was repaid to the other parties?

It was £1.25 million, which was not the full value of the loans.

I understand that. To return to Nicol Stephen's point, £64,000 was used to purchase, at a nominal value, the full worth of a company that was technically insolvent. Others were then given £1.25 million from the public purse for loans that they had made. In the retail trade recently, a company with which Sir Tom Hunter was associated went into liquidation but, subsequently, another part of his business empire purchased some shops that it wanted to retain. That meant that, in effect, all those who were owed money by the initial company received nothing. That seems to be a fairly common business practice in the private sector just now. I make no comment on whether that is right or wrong, but I struggle to understand why the public sector would recompense others for loans that were given to a company that is technically insolvent. Can anyone answer that, or should we take that up with VisitScotland as well?

To echo what the Auditor General said, that is a matter for the management of VisitScotland. The view was that, although the company was insolvent, putting it into administration was not in the best interests of VisitScotland and its work to promote tourism in Scotland.

You have expertise in the financial and legal aspects of business. If the company had been put into administration, would it have been technically possible for VisitScotland and/or another body to repurchase an interest in the company—almost like a management buy-out or whatever we want to call it—in the way that seems to happen in the private sector?

That would have been technically possible, yes.

It would have been technically possible but, for whatever reason—it is not your responsibility—those who were involved decided that that was not in VisitScotland's or someone else's best interests and chose to handle the situation in a way that ended up with the public purse repaying £1.25 million of debt to others.

I am interested in the £1.25 million that you are talking about, Mr Watt. On page 2 of our briefing paper there is a helpful flow chart that shows the make-up of the shareholding. The principal shareholder in eTourism Ltd was SchlumbergerSema, which was in the private sector. However, the other 40 per cent of the company was owned by the public sector—by TourCo Ltd, which was itself a joint venture between VisitScotland and the area tourist boards, and by Partnerships UK, which is also a public sector vehicle. Do you know how the £1.25 million loan repayments that you have talked about were split between the various partners?

Yes. The flow chart under paragraph 4 of the Auditor General's paper shows the structure as it was originally established and not the final shareholding. The committee may recall that, in 2006, there was a reorganisation of shareholdings and interests in eTourism Ltd. At that time, SchlumbergerSema ceded most of its shareholding and another partner, Tiscover UK, was introduced. The loan repayments were £250,000 to Tiscover UK, £800,000 to Atos Origin IT Services—which is now the parent company of the company that was SchlumbergerSema—and £200,000 to Partnerships UK.

So, there was £1.1 million in payments to the private sector partners. Is that correct?

Yes.

Is Partnerships UK not now a privatised entity? Has it not been spun out?

We can look at that later.

My concern is that lessons should be learned. What we have heard so far has not exactly been about getting value for money, and the concern is that it might be a continuing saga. VisitScotland is currently considering alternative business models to secure the future sustainability of eTourism Ltd and its website operations. Has anything changed? How viable are eTourism Ltd's operations?

I am sorry, but we cannot answer that question. It is a matter that VisitScotland is considering at the moment.

Do you know the value of bookings in December 2008? If, at that time, the £1.25 million was not put in and the £64,000 not paid for the shares—if VisitScotland had gone bust and stopped trading—how much would have been lost to the public purse?

I am sorry, but we do not have that information.

I would like David Watt to clarify the role that he has been playing in all this. I assume that your role is as auditor of the company—is that correct?

I am appointed by the Auditor General as the auditor of VisitScotland.

Did your company play any role in providing an advisory service to VisitScotland in relation to any of the issues that we are discussing separately from the audit?

Not that I am aware of, no.

Are you aware of any other corporate finance or advisory services that were provided to the company in relation to this saga?

What period are you talking about? As the earlier paper from the Auditor General indicates, there have been advisers at different stages of the project.

I am focusing most on the final stage, when the shares were acquired by VisitScotland, the debts were paid off by VisitScotland and the option of administration—where the company could have continued trading, with administrators in position—seems to have been set aside.

VisitScotland appointed legal advisers and engaged financial advisers in connection with the project. My understanding is that the financial advisers' role was essentially in relation to certain aspects of the accounting and restructuring of eTourism Ltd in the context of VisitScotland.

So, is it your understanding that there were legal and financial advisers on the evaluation of options in relation to share values, the amount of debt to be repaid and other options, including administration? Alternatively, was the legal advice, corporate financial and other financial advice on different matters?

I think that the advice was on what Mr Stephen is calling "different matters".

So, it may be that VisitScotland conducted all these negotiations without appropriate professional advice?

We are not in a position to answer that, convener.

Okay. We can ascertain that separately. We will reflect on what we have heard so far later in the meeting. I thank the Auditor General and Mr Watt for their contribution to the discussion.