What's going on at iSoft

When Gavin James, FD of healthcare software provider iSoft, concluded an
awkward investor briefing in June he must have felt that his year could not get
any worse. He was wrong.

James, who only joined iSoft in April 2005, had just told City analysts how
an accounting policy revamp would destroy £15m of iSoft’s 2006 revenues and wipe
the same off profits. Just six weeks earlier, the City had been told to expect
revenues of £210m-215m and pre-tax profits of £17m-22m for the year to end-April
2006. The results were due as Financial Director was going to
press.

As James stumbled through embarrassing explanations, iSoft’s chief executive,
Tim Whiston, sat still without saying a word. Whiston, a former iSoft FD
himself, was one of three KPMG alumni who created iSoft after undertaking an MBO
of the business from the Big Four firm. A year ago, Whiston had trumpeted that
he was “delighted” with iSoft’s performance and said, “There is still more
growth out there”.

The accounting overhaul at iSoft followed a string of
profit
warnings. Analysts had found that iSoft, one of the major providers of
software for the NHS’s £6.2bn National Programme for IT, was recognising profits
from contracts even though actual payments for projects were only due in over
two years’ time. It was also running a £70m off-balance sheet credit facility,
arranged by providing letters of credit for customer pre-payments.

Negative impact

Five days after the briefing, Whiston stood down as chief exec, saying that
his presence had become “a source of negative speculation”. Whiston was replaced
by chairman John Weston, who would fill both roles until a replacement was
found.

Working with a make-shift chief executive, however, has turned out to be the
least of James’s concerns.

The accounting policy change has placed iSoft’s banking covenants under heavy
strain and James is still involved in frantic negotiations with iSoft’s banks.
The deadlock forced iSoft to delay the release of its 2006 final results twice.

The company had until the end of August to close the talks. If it had failed
to hit this deadline, its shares, which have already plummeted by almost 90%
since the start of the year, would have been suspended from the London Stock
Exchange.

On top of the banking discussions, James is also in the midst of an internal
investigation into accounting irregularities. After the accounting policy
change, iSoft’s auditors Deloitte, which replaced RSM Robson Rhodes in 2005,
went back through previous financial statements to align earlier numbers with
the new accounting policy. The firm has raised concerns over potential
accounting irregularities stretching back to 2004. The issues raised by Deloitte
have led to a formal investigation into the matter and brought about the
suspension of another iSoft founding member, commercial director Steve Graham.

Under investigation

Regulators have also been circling iSoft. The FSA may well look into the
matter as a number of iSoft executives sold shares worth millions of pounds
during the period of alleged irregularities. The Financial Reporting Review
Panel will also almost certainly be monitoring what has happened at iSoft, while
the Public Accounts Committee has taken an interest in the matter because of
iSoft’s involvement in the NHS IT programme.

Analysts believe that it may take years for iSoft to recover from the damage
caused by its accounting policies.

The father of iSoft was former KPMG accountant Patrick Cryne, an art
collector and Barnsley FC fanatic (he is a major shareholder in the club). In
1998, Cryne teamed up with colleagues Whiston and Graham to buy out a health
consultancy from KPMG and form iSoft.

The MBO was worth just £12m, but within six years the Manchester-based IT
group had won a £300m contract and pushed itself to the brink of the FTSE-100
with a market cap of £950m. It’s now £100m.

Cryne, Whiston and Graham became the poster boys of business in the North.
Fawning interviews featured in the local press, while iSoft was named North-West
business of the year and Cryne was named Ernst & Young’s technology and
communications entrepreneur of the year.

Amid the glory and accolades, though, there was always uneasiness over
iSoft’s accounting policies, despite the accounting background of the company’s
founders. iSoft brushed off these fears as scaremongering, but when finance
director John Whelan resigned in 2004, markets became increasingly nervous.

How well-founded those fears proved to be. Whelan was replaced by James who,
since his appointment, has witnessed the departure of Cryne and Whiston, as well
as the suspension of Graham.

With the banks banging on his door and the auditors uncovering one problem
after another, entering the FTSE-100 and winning awards must seem like a distant
dream for the iSoft FD.