Fair Value: Lessons from Georgia Lee lawsuit

Aesthetics doctor Georgia Lee is being sued by TV and film producer Anita Hatta. Ms Hatta claims she had been misled into investing $2 million in Dr Lee's brand of skincare products in return for a 5% stake. Without commenting on the legality of the case itself, the golden question from a valuation point of view is:

Is $2 million a fair price for 5 per cent of the shares?

Now I don't whether the ladies talked about valuation before the transaction, but to talk about the price of 5% of the business, we must know what is the value of all three companies (which make up 100% of the shares). The lawyer for Ms Hatta, Wendell Wong, asked Dr Lee if $2 million was a fair price to pay "considering that her companies were bleeding at the time."

The term "fair price" is likely a layman's term for Fair Value, which is defined by International Valuation Standards Council (IVSC) as:

"The estimated price for the transfer of an asset or liability between identified knowledgeable and willing parties that reflects the respective interests of those parties."

$2 million for 5% of the shares meant that the companies were valued at $40 million. There are 3 approaches to business valuation: 1) cost; 2) market; 3) income. Given that the business is unlikely to have much valuable hard assets (or IP), you can't use the cost method to get to $40 million. It is also difficult to apply Discounted Cash Flow as the earnings would have been negative. However it is not true that companies which are "bleeding" cannot have a positive value, as investors could be buying into the future worth of the company. Lyft is still losing money yet at the time of writing still has a market cap of over USD 17 billion. So what matters is what metrics were used to get to the valuation at the point of time, and if it was reasonable to have made those assumptions.

What was the company last valued at?

It was reported that Dr Lee had earlier given a friend, Indonesian-Chinese businessman Frank Cintamani, a 50 per cent stake in DRGL Spa for free. Cintamani, through his Fide events company, was supposed to do the marketing for Dr Lee. If Fide was doing the marketing events for free, then technically the 50% stake was valued at the cost of marketing. I doubt marketing costs will be anywhere close to $20 million so Cintamani would appear to have profited substantially from selling the 5% from his stake at $40 million valuation, which meant the valuation of the company increased substantially between the time Cintamani bought the shares and when Hatta invested.

Is it the responsibility of the investor to ask?

There has to be a basis for Dr Lee to value her business, and Ms Hatta is alleging that Dr Lee had claimed "sales exceeded $5 million, that she (Dr Lee) herself invested $14 million, and that the business was worth $40 million." Just from a valuation perspective, was Ms Hatta a "knowledgeable" investor and was it her responsibility to conduct basic due diligence? Ms Hatta invested in 2012 and only engaged Ernst & Young to review the financial statements in 2015. One of the things uncovered in the review of the financial statements was that "total sales from 2009 to 2012 only amounted to $1.6 million."

Coming up with a valuation model for a company might be rather complicated (and requires professionals who are trained in valuation) but looking at the revenue of a company should not be very difficult. You don't even need to be trained in accounting. There should be a line at the top of the Income Statement that says "revenue" or "sales". Any company that cannot show you their income statement probably is not worth investing in. And any investor who doesn't even check on the sales figures... well there are people who are kind and trusting but I would strongly remind investors that it's buyer beware out there.

Aesthetics doctor Georgia Lee denies using celebrity status to convince investors [Straits Times]

Aesthetics doctor Georgia Lee sued by minority shareholder in skincare business [Straits Times]

$2m stake in doctor's firm recorded on paper as $3 [Straits Times]