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Wednesday, April 18, 2012
Monday, April 16, 2012
Daddy you are more evil than I thought
It is the holiday part of the trip and I was strolling through the back-lot footpaths of Venice with my twelve year old son. We were doing out best to get lost (surprisingly easy) and I had given up worrying that my wife had (dangerously) gone shopping.
It was four hours chatting to the boy about business and history and life without the interruptions of computers, phones or video games.
We talked about the trading history of Venice, the closure of the Venetian constitutional system (La Serrata of 1286 to 1297) and the subsequent relative decline. We talked about the expenses of the nearly endless series of wars against the Ottoman empire.
We even mentioned the rise of double-entry accounting. We got as far as the collapse of the Venetian State at the hands of Napoleon.
We also talked at length for the first time about our business. We run a hedge fund. Our job is simple: make rich people richer through investing, trading in financial markets.
Half of that is relatively easy to explain: we buy shares in good companies. My son wanted to know why I was not interested in buying Facebook (he thought the shares are going up). I told him that it had 4 billion in revenue, 1 billion in profits and a market cap that was likely to edge 100 billion. The numbers are from memory (I am on holidays). That seemed expensive. However it was only about $200 per regular user which does not seem so expensive. I did not think I could analyse it well. This was the beginning of a discussion about price.
But then the area our fund is best known for came up. I am a short seller.
I went through the mechanics of short-selling. I borrow a share from a broker. I sell it in the market. If the stock goes down I get to buy it back for less than I sold it. I repay the loan by returning the share and I keep the profit. I explained it does not work so well when the stock goes up.
Then I got to the nub of the issue: I am a short-seller of frauds and stock promotes. I look for people in the stock market who have fake accounts and who are stealing from gullible shareholders (also known as marks, dupes, fools, day traders or mutual fund managers). There is a torrent of money being ripped off (many billions of dollars for instance in the case of the Chinese frauds a surprising amount of which came from Fidelity). Through short-selling I stick up my sail on my little boat in the hurricane of theft and some of that loot drops into the cabin.
He asked me how I find all these fake accounts and fake companies and I told him a few of our methods (we have many).
He asked if I ever dobbed the scammers in to regulators and I said I did sometimes but it was mostly not a satisfactory experience. To be a good short-seller I only need to be right about 90 percent of the time. If most the companies I short-sell have fake accounts I will do fine. However if I dob them into regulators I need to be absolutely right in that it does not bode well to dob an honest person into the authorities. So mostly I keep my gob shut and express my opinion (and it is an opinion) in a bet in the financial market.
Moreover talking about which stocks you think are frauds is a dangerous thing. Regulators sometimes (even foolishly) have been known to investigate short-sellers for telling the truth. (Being short Lehman Brothers and vocal about it was a good way of getting an SEC investigation for talking truth to power.) Also crooks sue short-sellers giving you nasty and expensive legal bills.
Silence is altogether a better strategy.
But then he came to the nub of the issue. The easiest scammer to find is a repeat offender. We actively seek out people who promote dodgy stocks and who who are repeatedly involved in dodgy companies. The slogan is “once a scumbag, always a scumbag”. That slogan is probably not strictly accurate - but we only need to be right 90 percent of the time to be fantastic at this business – and the recidivism amongst scammers is surprisingly high.
In that sense long sentences for people like Bernie Ebbers are not in my interest. I would prefer slime-bags to be back-in-business rather than in prison. More opportunities for me.
So, perceptively my son asked whether it was in my interest to dob scammers into regulators – he asked whether the reason we did not do it much was because of the reasons stated above or because we liked the scammers to be free and profitable. Alas – and I had to confess it – at least part of it was that being a successful short-seller required that regulators were inadequate to the task of policing fraud.
I did not talk about this with him – but it is becoming harder under Mary Schapiro. The SEC is getting better at their job – and that is not good for me. It would be better if regulators stayed hopeless. Alas they are getting better.
So, says my son asks you like nasty people to steal from poor investors, mutual funds (and he did not say pension funds for school teachers) so that you can join them in taking the loot by being a short-seller – and you don't want the regulators to do anything about it because there are more opportunities for you?
Sheepishly I confess yes.
And he says with a mixture of admiration and horror: “daddy you are more evil than I thought”.
John
PS. A long time ago I promised Felix Salmon an economic defence of short-selling. I did not deliver – but it is sort of written in my head. I think I owe it to my son too.
It was four hours chatting to the boy about business and history and life without the interruptions of computers, phones or video games.
We talked about the trading history of Venice, the closure of the Venetian constitutional system (La Serrata of 1286 to 1297) and the subsequent relative decline. We talked about the expenses of the nearly endless series of wars against the Ottoman empire.
We even mentioned the rise of double-entry accounting. We got as far as the collapse of the Venetian State at the hands of Napoleon.
We also talked at length for the first time about our business. We run a hedge fund. Our job is simple: make rich people richer through investing, trading in financial markets.
Half of that is relatively easy to explain: we buy shares in good companies. My son wanted to know why I was not interested in buying Facebook (he thought the shares are going up). I told him that it had 4 billion in revenue, 1 billion in profits and a market cap that was likely to edge 100 billion. The numbers are from memory (I am on holidays). That seemed expensive. However it was only about $200 per regular user which does not seem so expensive. I did not think I could analyse it well. This was the beginning of a discussion about price.
But then the area our fund is best known for came up. I am a short seller.
I went through the mechanics of short-selling. I borrow a share from a broker. I sell it in the market. If the stock goes down I get to buy it back for less than I sold it. I repay the loan by returning the share and I keep the profit. I explained it does not work so well when the stock goes up.
Then I got to the nub of the issue: I am a short-seller of frauds and stock promotes. I look for people in the stock market who have fake accounts and who are stealing from gullible shareholders (also known as marks, dupes, fools, day traders or mutual fund managers). There is a torrent of money being ripped off (many billions of dollars for instance in the case of the Chinese frauds a surprising amount of which came from Fidelity). Through short-selling I stick up my sail on my little boat in the hurricane of theft and some of that loot drops into the cabin.
He asked me how I find all these fake accounts and fake companies and I told him a few of our methods (we have many).
He asked if I ever dobbed the scammers in to regulators and I said I did sometimes but it was mostly not a satisfactory experience. To be a good short-seller I only need to be right about 90 percent of the time. If most the companies I short-sell have fake accounts I will do fine. However if I dob them into regulators I need to be absolutely right in that it does not bode well to dob an honest person into the authorities. So mostly I keep my gob shut and express my opinion (and it is an opinion) in a bet in the financial market.
Moreover talking about which stocks you think are frauds is a dangerous thing. Regulators sometimes (even foolishly) have been known to investigate short-sellers for telling the truth. (Being short Lehman Brothers and vocal about it was a good way of getting an SEC investigation for talking truth to power.) Also crooks sue short-sellers giving you nasty and expensive legal bills.
Silence is altogether a better strategy.
But then he came to the nub of the issue. The easiest scammer to find is a repeat offender. We actively seek out people who promote dodgy stocks and who who are repeatedly involved in dodgy companies. The slogan is “once a scumbag, always a scumbag”. That slogan is probably not strictly accurate - but we only need to be right 90 percent of the time to be fantastic at this business – and the recidivism amongst scammers is surprisingly high.
In that sense long sentences for people like Bernie Ebbers are not in my interest. I would prefer slime-bags to be back-in-business rather than in prison. More opportunities for me.
So, perceptively my son asked whether it was in my interest to dob scammers into regulators – he asked whether the reason we did not do it much was because of the reasons stated above or because we liked the scammers to be free and profitable. Alas – and I had to confess it – at least part of it was that being a successful short-seller required that regulators were inadequate to the task of policing fraud.
I did not talk about this with him – but it is becoming harder under Mary Schapiro. The SEC is getting better at their job – and that is not good for me. It would be better if regulators stayed hopeless. Alas they are getting better.
So, says my son asks you like nasty people to steal from poor investors, mutual funds (and he did not say pension funds for school teachers) so that you can join them in taking the loot by being a short-seller – and you don't want the regulators to do anything about it because there are more opportunities for you?
Sheepishly I confess yes.
And he says with a mixture of admiration and horror: “daddy you are more evil than I thought”.
John
PS. A long time ago I promised Felix Salmon an economic defence of short-selling. I did not deliver – but it is sort of written in my head. I think I owe it to my son too.
Friday, April 13, 2012
Lessons in my laundry: Italian edition
On my travels I found myself in a fine hotel in Central Milan. I came in about Midnight the previous night from London (courtesy the atrocious service of Easy-Jet*).
At 6.15AM I was up for my morning meeting - via a fast-train to Bologna. My shirt was clean courtesy the expensive London laundry. I just wanted an ironing board to press out the wrinkles.
There was not one in the room - so I rang reception. I asked them to bring one up. They said "impossible" which I found peculiar. An ironing board is a pretty standard service in a 4 star business hotel.
Then they explained that they could not get one before 7.30 (which was just before my train left). I said this was a bad fail for a business hotel.
Then they said something that was so stereotypical Italian it left me breathless. They told me it would be against the law to bring an ironing board to my room before 7.30 am.
I told this to my Bologna business contact and he scoffed. Of course somewhere in the 10 million lines of Italian code there is - of course - something that talks about ironing boards. Dysfunctional government (at least by the standards of OECD countries) is an iconic feature of Italy - but this was not government as a problem - it was government as an excuse.
At least Easy-Jet don't blame the government for their bad - even rude - service.
John
*If anyone knows why European discount carriers are so horrible but Southwest (surely a similar model) is so pleasant (at least in a relative sense) let me know. In the USA I will fly Southwest in preference to any other airline. In Europe I am learning to avoid the discount airlines.
-------------
A post script is warranted: Part of my dislike of Easy-Jet had to do with a ridiculous overcharge of GBP12. Trivial really. However when I complained at the counter the discussion had the tone of "I can see you are right but our computer won't let me refund the money so sorry". Silly stuff that indicated process over service. And I had 90 minutes at an airport and was frazzled. Not a good combination. I did not raise my voice - just walked away frustrated.
In frustration I wrote a (nasty) letter to them. I do not think they linked me to this blog - but they refunded the 12 pounds. I think that marks them as several steps better than Ryan Air. I have not quite forgiven but I think I am prepared to give them another go.
At 6.15AM I was up for my morning meeting - via a fast-train to Bologna. My shirt was clean courtesy the expensive London laundry. I just wanted an ironing board to press out the wrinkles.
There was not one in the room - so I rang reception. I asked them to bring one up. They said "impossible" which I found peculiar. An ironing board is a pretty standard service in a 4 star business hotel.
Then they explained that they could not get one before 7.30 (which was just before my train left). I said this was a bad fail for a business hotel.
Then they said something that was so stereotypical Italian it left me breathless. They told me it would be against the law to bring an ironing board to my room before 7.30 am.
I told this to my Bologna business contact and he scoffed. Of course somewhere in the 10 million lines of Italian code there is - of course - something that talks about ironing boards. Dysfunctional government (at least by the standards of OECD countries) is an iconic feature of Italy - but this was not government as a problem - it was government as an excuse.
At least Easy-Jet don't blame the government for their bad - even rude - service.
John
*If anyone knows why European discount carriers are so horrible but Southwest (surely a similar model) is so pleasant (at least in a relative sense) let me know. In the USA I will fly Southwest in preference to any other airline. In Europe I am learning to avoid the discount airlines.
-------------
A post script is warranted: Part of my dislike of Easy-Jet had to do with a ridiculous overcharge of GBP12. Trivial really. However when I complained at the counter the discussion had the tone of "I can see you are right but our computer won't let me refund the money so sorry". Silly stuff that indicated process over service. And I had 90 minutes at an airport and was frazzled. Not a good combination. I did not raise my voice - just walked away frustrated.
In frustration I wrote a (nasty) letter to them. I do not think they linked me to this blog - but they refunded the 12 pounds. I think that marks them as several steps better than Ryan Air. I have not quite forgiven but I think I am prepared to give them another go.
Thursday, April 12, 2012
Lessons in my laundry: Hong Kong edition
I do irregular (but extended) business travel. (It comes from living in Australia – when you travel it is usually more than a week.)
And so I find myself needing to wash and iron business shirts and press a suit. Nothing complicated – but strangely the price and procedure changes by country. In New York I usually stay in Brooklyn and my walk to the subway takes me past a Chinese laundry which is breathtakingly cheap – my bag usually costs under $12. That is about a quarter what I would pay in Sydney (which is an expensive city for almost everything) and a third London. Brooklyn seems cheaper than other US cities.
This low-cost laundry (clearly a benefit to me) is made possible by a near-sweatshop centralised Chinese laundry where (immigrant) workers work hard for what may or may not be minimum wage.
When I wrote a post about that I was criticised for daring to state the obvious about income inequality in the United States. It is a taboo topic. In my defence several readers noted that investment bankers regularly press their own shirts in London. I certainly do in Sydney.
When I stayed in a friend's house in Chicago I discovered much to my surprise they did not have an ironing board. I thought it worth a blog post. And whilst the underlying tone was that income inequality was not the finest attribute of a society I have to say it is not entirely a bad thing. The couple I stay with in Chicago are a monstrously successful husband and wife team with children. Very few married women with children pull that off in Sydney – and the reason was obvious. The wife's work life (high profile but only moderately remunerative) relied more than a little on the two nannies and the implied low-wage workers (such as the staff at the local laundry) who relieved her of the mundane house-work that fills many (mostly female) lives in Australia.
This was feminist achievement made possible by income inequality. But it was achievement at a very high level and the USA is better for it.
This trip I stayed at a friend's apartment in Hong Kong. Nice place – not huge – but half-way up the Mountain on Hong Kong Island with an expansive view of skyline (when you can see through the pollution).
I asked to borrow an ironing board. My friend said he could do better. He knocked at a small door past the closet next to the kitchen and out popped a Filipino house-keeper maybe 20 years his senior. She cheerfully laundered my clothes and left them neatly pressed. She also made me breakfast, cleaned up my dishes and made my bed when I went to work.
I made a point of trying to work out her story. She had been a migrant worker throughout her life – mostly in Hong Kong but also in Dubai (which she found harder). She was thinly educated but thought her children (who she had spent years away from) were better prepared than her. The reason for migrant work was to educate her children (though I know nothing about their prospects – the Philippines are not a highly functional place). Unlike Harry Potter she did not show any unhappiness in living in the “cupboard under the stairs”. Instead it was a step-up for her and (especially) for her family. And it was better than Dubai.
But it made me deeply uncomfortable. Migrant workers are a profoundly anti-democratic institution – they provide a class of very-low income people who don't vote. The ethos of democracy is something burnt into my consciousness. In this ethos we are “created” equal (and thus have an equal vote) and dint of luck and hard work (or coming from the right womb) produce inequalities (some deserved, some otherwise). But the vote (hopefully a secret ballot) is one of the great equalisers – and acts to create a more harmonious society (albeit one that will interfere with income distribution to some extent). The woman who cheerfully lived in the cupboard under the stairs challenged what I thought was right in the world.
But then I was in Hong Kong (that is China) and another low-wage worker who does not vote in China seems – well – somewhat irrelevant. And my world view was out of place. Moreover the woman's children were clearly better off for her migrant work. And the Philippines would be a true basket case without remittances.
And low-income workers are a gift to those who get to employ them. They make the Feminist achievements of my above-mentioned Chicago friends possible. They can free productive people to work on things that were productive.
And that was clearly the case for my friend – consciously trying to pick up additional commercial languages (think India), improve his computer processing skills (python) and read a book per week. His ambition to build himself into as fine a thinker (and with as many diversified mental models) as Charlie Munger. Human capital development made possible by the profoundly undemocratic institution of migrant work.
But that was not the only thing people do with their wealth in Hong Kong. Hong Kong Island has become a pastiche of office towers for financial businesses and shopping malls selling the global standard set of luxury goods. Interspersed amongst that are stylish but ultimately vacuous bars where you can get wasted in the time you would have otherwise spent ironing your clothes and doing the dishes. It is not far (just a subway) from Kowloon where you can experience the smells and sounds of Asia – but they joke on Hong Kong Island that you need your passport to go there.
This is a world very different to mine – with some amazingly productive people – their productivity made possible by the institutions of China. Interspersed amongst that the most dilettante hedonistic lifestyle of an elite who can think of nothing better to spend their loot on than Swiss watches and French Brandy.
Whatever: I am going to make a confession. I liked having someone launder my clothes and the stylish bars are very cool. Freeing up all that time to read an extra book per week – that would be very cool too.
John
Tuesday, March 20, 2012
Phil Falcone tries to rip off taxpayers
This is from the guy who took a $113 million loan from a fund he managed for his clients.
His vehicle - Lightsquared - owned a bunch of satellite spectrum. It was zoned for satellite - allowed to be used for low powered devices that did not interfere with users of adjacent spectrum.
He got its use changed - so that he could use it for high powered devices - that is a terrestrial LTE network. There was a condition. That his devices did not interfere with adjacent devices - namely GPS receivers.
This condition was clear right from the start.
Tests were conducted to see whether Phil's network would interfere with the GPS system.
And it did. And how. The devices could jam GPS at many miles range.
OK - so Phil was not allowed to build his LTE network.
He still owns satellite spectrum. What he started with. The FCC took nothing from him.
But he wants the FCC to give him spectrum he is allowed to use - spectrum more valuable than the stuff he previously owned.
Yes they can. And they should. Of course I could lobby the FCC to get them to give me 10-20 billion dollars worth of spectrum I am not entitled to.
I could. But I am not that brazen.
If the government wants to give away that much spectrum they should auction it and the money should be used for the benefit of all taxpayers (say by paying off debt).
Make no mistake about it. If you are an American taxpayer Phil Falcone is trying to loot assets that rightly belong to you.
You should not let him. And you should despair if he gets away with it.
John
His vehicle - Lightsquared - owned a bunch of satellite spectrum. It was zoned for satellite - allowed to be used for low powered devices that did not interfere with users of adjacent spectrum.
He got its use changed - so that he could use it for high powered devices - that is a terrestrial LTE network. There was a condition. That his devices did not interfere with adjacent devices - namely GPS receivers.
This condition was clear right from the start.
Tests were conducted to see whether Phil's network would interfere with the GPS system.
And it did. And how. The devices could jam GPS at many miles range.
OK - so Phil was not allowed to build his LTE network.
He still owns satellite spectrum. What he started with. The FCC took nothing from him.
But he wants the FCC to give him spectrum he is allowed to use - spectrum more valuable than the stuff he previously owned.
“They can’t just leave us without some alternative to build a network,” said Jeff Carlisle, Lightsquared's EVP for regulatory affairs and public policy, at a briefing with media on Friday.
Yes they can. And they should. Of course I could lobby the FCC to get them to give me 10-20 billion dollars worth of spectrum I am not entitled to.
I could. But I am not that brazen.
If the government wants to give away that much spectrum they should auction it and the money should be used for the benefit of all taxpayers (say by paying off debt).
Make no mistake about it. If you are an American taxpayer Phil Falcone is trying to loot assets that rightly belong to you.
You should not let him. And you should despair if he gets away with it.
John
Tuesday, March 13, 2012
What mega-fund managers care about
I just received a survey request from the Economist Intelligence Unit on behalf of State Street Corporation. The target group was clearly mega-fund managers – a group of which I am not a member.
However the questions (and choices offered) were an insight into the concerns of mega-fund managers – concerns that are generally not shared by the clients.
The opening question set the tone:
1. What are your organisation’s total global assets under management in US dollars?
Under $50 billion
$50 billion to $99 billion
$100 billion to $499 billion
$500 billion to $999 billion
$1 trillion or more
Pretty close to the entire hedge fund community has to take the first choice here. David Einhorn – first choice. Any of the Tiger Cubs. First choice. Even big-name mutual funds are in the first bucket. This was not a survey that was going to be of any relevance to me.
Question 6 revealed the bulk of the rest of the study:
6. In your opinion, which of the following is the most important factor driving decisions among institutional investors in today’s environment? Select one.
Yields
Diversification away from mainstream asset classes
Regulatory complexity / uncertainty
Risk aversion
Other, please specify
Kind of amazing. Performance is not listed as even a possible important factor driving decisions among institutional investors. Let me be blunt: the only things Bronte (or any decent small fund manager) sells are “risk management” and “performance” in that order. Not risk aversion. Fund managers are paid to take sensible risks – and to manage money. If risk aversion is your thing I can produce you a fund with a Sharpe Ratio over 5. I will just invest the money in 28 day Treasury paper. I put risk management first because it doesn't matter how good your performance is if you take stupid risks one day you will get lanced.
The growth aspirations of large fund managers clearly follow their performance:
8. What are your organisation’s expectations for increasing assets under management over the next 24 months?
0%
1% - 3%
4% - 7%
More than 8%
Don’t know
Where are the 50-100 percent growth option that a small successful hedge fund manager might have. These guys live in a world where 8 percent growth over two years is a lot to hope for. A small fund manager hopes to get a multiple of that growth in assets under management just from performance. It is not guaranteed by any stretch. However large asset managers are living in a world of very low expectations.
Half a dozen of the next questions were about regulatory environments and the effects they will have on the business. These were interposed with questions about computer systems (clearly necessary to meet the regulatory issues). However this question gave the game away:
15. What are the greatest data management challenges to the asset management industry today? Select all that apply.
Achieving sufficient scale with in-house systems
Providing a high level of detailed and quality data to clients
Safeguarding investor data
Providing accurate data to regulators and auditors in a timely fashion
Don’t know
Collecting and managing the data on the range of investment choices was not even a concern. Nor was any data necessary to assess risks. Bizarre.
At least on the next question you got to write in the issue that really matters:
16. Which of the following will contribute to your organisation’s ability to expand globally over the next 12 to 24 months? Select the top two.
The strength of our infrastructure
Relationships with key market participants
Brand recognition
Competitive advantage in niche markets
Other, please specify
We currently have no plans to expand globally
What will enable Bronte to expand globally over the next 12-24 months? What about any small asset manager? One word answer: performance. Fund managers - especially small ones - live or die by it. Our most sophisticated customers when they ask us questions ask us almost exclusively about risk management - so if we want to grow amongst those people we need to have a demonstrated culture of risk control and good performance. But still the thing that makes an asset manager grow is performance - if only because 20 percent returns increase your funds under management by 20 percent even if you have no net flows.
Sometimes, looking at some stock in some company I think is fraudulent or insolvent I wonder what goes through the minds of the large institutional shareholders.
But maybe I am just attributing to them motives that they don't have. Maybe I just assume they want to actually manage money (rather than manage regulators and sell product).
Just maybe. Alternatively State Street (who commissioned this survey and whose business is back-office and custody) have no idea of the concerns of their clients.
John
Monday, March 12, 2012
Some hope in American politics
I wrote a post yesterday which impinges on American politics. I simply observed that the alleged New York Madam who is being locked in solitary for failure to find $2 million in bail money was being denied her constitutional rights.
(I also criticized the recent executive grab for power by Eric Holder.)
I said I thought that the State abrogating Constitutional Rights was an unfortunate trend.
What pleases me is that (with the exception of a second amendment fundamentalist who objected to my off-hand assertion that the provision was antique) I have had almost universal agreement with this observation from both the left and the right.
I have gun-toting law-and-order right wing readers. They agree.
I have liberal readers. They agree.
I have libertarian readers. They agree.
I haven't seen this much agreement in any US political matter for a long time.
That is hopeful.
John
PS. As far as I know I don't have many Christian-fundamentalists who want a Christian State type readers. As I was standing up for the constitutional rights of a woman who is alleged to have provided women for prostitution I suspect there is a fracture line there. I did not see that in comments or emails received.
(I also criticized the recent executive grab for power by Eric Holder.)
I said I thought that the State abrogating Constitutional Rights was an unfortunate trend.
What pleases me is that (with the exception of a second amendment fundamentalist who objected to my off-hand assertion that the provision was antique) I have had almost universal agreement with this observation from both the left and the right.
I have gun-toting law-and-order right wing readers. They agree.
I have liberal readers. They agree.
I have libertarian readers. They agree.
I haven't seen this much agreement in any US political matter for a long time.
That is hopeful.
John
PS. As far as I know I don't have many Christian-fundamentalists who want a Christian State type readers. As I was standing up for the constitutional rights of a woman who is alleged to have provided women for prostitution I suspect there is a fracture line there. I did not see that in comments or emails received.
Sunday, March 11, 2012
When did the US constitution cease to matter? (Oh, and a comment on the alleged New York Madam.)
I am a resident of a country without a bill-of-rights in our constitution. Whilst I think some of the rights are antique (second amendment, implied right to privacy in the fourth amendment which looks very difficult in the era of "digital papers") it is - I think - an improvement on our system.
That said, it is only an improvement on our situation if the constitution is not ignored.
This week we have seen an amazing power grab by the US Attorney General. To quote Eric Holder:
Incidentally I have quite a deal of sympathy for extra-judicial execution of a dangerous criminal. "Wanted, dead or alive" posters have been part of the American mythology for a reason. But I gather there was a valid arrest warrant for the person and if the person surrendered there was a legal process. These are I presume "processes of law" rather than (say) a process of the executive. The executive claiming that their process is sufficient to execute someone is - politely - novel.
But it is not the big cases that worry me about America. Its the little cases because through the little cases you can see the erosion of the liberties that made America great affecting ordinary citizens.
Linked is the New York Post article about Anna Gristina - the alleged New York madam with a roster of high class clients. Sure I was reading it for salacious details of who the clients might be. However I found myself getting more annoyed at the process.
You see she is innocent until proven guilty - and she is being locked up in solitary confinement on Rikers Island. Seems rough. But it was the statement that she was being held in lieu of $2 million bond that got me. She is a mother of four with deep connections to the United States. It is going to be hard to argue she is a major flight risk.
But somehow a $2 million bond (way more than most people could post) has been asked. This leads me to the eighth amendment:
Somehow we have come to the conclusion that $2 million is not excessive bail. That I am puzzled by. When did America come to the conclusion that unless you were very rich you should be locked up pending trial for victimless crimes? What is it about the new American culture that does not think that $2 million bail is excessive?
Does anybody care or is Anna Gristina just another person arrested by police and hence guilty until proven innocent?
John
PS. If I had to guess the bail for a similar case in Australia - it would be bailed on her own surety (that is zero dollars). Australia's lack of a bill of rights looks pretty good here.
That said, it is only an improvement on our situation if the constitution is not ignored.
This week we have seen an amazing power grab by the US Attorney General. To quote Eric Holder:
“Due process and judicial process are not one and the same, particularly when it comes to national security. The Constitution guarantees due process, not judicial process.”Here is what the constitution says (Fifth Amendment):
No person shall be held to answer for a capital, or otherwise infamous crime, unless on a presentment or indictment of a Grand Jury, except in cases arising in the land or naval forces, or in the Militia, when in actual service in time of War or public danger; nor shall any person be subject for the same offense to be twice put in jeopardy of life or limb; nor shall be compelled in any criminal case to be a witness against himself, nor be deprived of life, liberty, or property, without due process of law; nor shall private property be taken for public use, without just compensation.I have - for the benefit of the Attorney General - highlighted the relevant section.
Incidentally I have quite a deal of sympathy for extra-judicial execution of a dangerous criminal. "Wanted, dead or alive" posters have been part of the American mythology for a reason. But I gather there was a valid arrest warrant for the person and if the person surrendered there was a legal process. These are I presume "processes of law" rather than (say) a process of the executive. The executive claiming that their process is sufficient to execute someone is - politely - novel.
But it is not the big cases that worry me about America. Its the little cases because through the little cases you can see the erosion of the liberties that made America great affecting ordinary citizens.
Linked is the New York Post article about Anna Gristina - the alleged New York madam with a roster of high class clients. Sure I was reading it for salacious details of who the clients might be. However I found myself getting more annoyed at the process.
You see she is innocent until proven guilty - and she is being locked up in solitary confinement on Rikers Island. Seems rough. But it was the statement that she was being held in lieu of $2 million bond that got me. She is a mother of four with deep connections to the United States. It is going to be hard to argue she is a major flight risk.
But somehow a $2 million bond (way more than most people could post) has been asked. This leads me to the eighth amendment:
Excessive bail shall not be required, nor excessive fines imposed, nor cruel and unusual punishments inflicted.
Somehow we have come to the conclusion that $2 million is not excessive bail. That I am puzzled by. When did America come to the conclusion that unless you were very rich you should be locked up pending trial for victimless crimes? What is it about the new American culture that does not think that $2 million bail is excessive?
Does anybody care or is Anna Gristina just another person arrested by police and hence guilty until proven innocent?
John
PS. If I had to guess the bail for a similar case in Australia - it would be bailed on her own surety (that is zero dollars). Australia's lack of a bill of rights looks pretty good here.
Thursday, March 8, 2012
If you don't have enough cash you can't fix problems with your tool and you might lose all your properties
Houston American is an oil-and-gas explorer which had enough cash for one speculative well in Columbia. Just one speculative well.
It had to work.
Alas recently their (down-hole) tool failed and their stock dropped 35 percent. The stock has since drooped a little more. But it was - as the CEO pointed out - a promising well. They had approximately 200 feet of "net resistive sands" which my readers helpfully point out means sandstone with low electrical conductivity and hence possibly saturated with hydrocarbons.
But they did not get to test those sands (yet) and tool failure meant they could not test the well at its target depth (and they had to plug the lower part of the well).
The question arises though - why didn't they fix the well? Why didn't they do what "big oil" does when it has problems (that is throw money at them). The answer is that they do not have much cash.
The 10K just came out. The first thing I looked at was cash balances. Unescrowed cash was 9.9 million compared to 26.6 million a year ago. At the end of September cash was 15.1 million. Most of the well expense has probably been incurred after year end and the cash balance is almost certainly low single digit million.
Which is not what you want when your tool breaks and it is going to cost a lot of money to fix it. Or even a fair whack of money to test the "net resistive sands".
Still the company is straight about it. The auditor did not give them a "going concern statement" which surprised me. But the company disclosed the problems anyway. Here is the disclosure from the 10K.
It had to work.
Alas recently their (down-hole) tool failed and their stock dropped 35 percent. The stock has since drooped a little more. But it was - as the CEO pointed out - a promising well. They had approximately 200 feet of "net resistive sands" which my readers helpfully point out means sandstone with low electrical conductivity and hence possibly saturated with hydrocarbons.
But they did not get to test those sands (yet) and tool failure meant they could not test the well at its target depth (and they had to plug the lower part of the well).
The question arises though - why didn't they fix the well? Why didn't they do what "big oil" does when it has problems (that is throw money at them). The answer is that they do not have much cash.
The 10K just came out. The first thing I looked at was cash balances. Unescrowed cash was 9.9 million compared to 26.6 million a year ago. At the end of September cash was 15.1 million. Most of the well expense has probably been incurred after year end and the cash balance is almost certainly low single digit million.
Which is not what you want when your tool breaks and it is going to cost a lot of money to fix it. Or even a fair whack of money to test the "net resistive sands".
Still the company is straight about it. The auditor did not give them a "going concern statement" which surprised me. But the company disclosed the problems anyway. Here is the disclosure from the 10K.
While our development costs were funded during 2011 with funds on hand and cash flow from our other producing properties, our funds on hand at December 31, 2011 and anticipated cash flow from operations in 2012 are not sufficient to fund our 2012 drilling budget. Accordingly, unless we are able to secure additional financing or substantially increase our operating cash flow, we may be required to curtail our drilling plans. We do not presently have any commitments to provide additional financing to support our 2012 drilling budget. If we are unable to secure additional financing, we may be unable to meet certain contractual commitments regarding the development of our properties and, as a result, may incur penalties or risk losing some or all of our interest in properties for which we fail to satisfy our funding commitments.
Bluntly if this company does not raise money it will not be able to meet its drilling commitments and may lose all of their interest in all their main properties.
Funny how they did not mention that when they talked about their "net resistive sands".
Lesson: if your tool fails, your stock droops and you have no cash you can lose all your properties. Even if you show some resistance.
John
Wednesday, March 7, 2012
Follow up to the small cap post - and some notes on SuperValu
My blog post suggesting that small-cap stocks were mostly to be avoided roused the animosity of many readers. The problem was that many of my readers see themselves as value investors. A surprising number run small funds and my post was an attack on their world view.
Their logic is that it is impossible for a small fund manager to add value by analysing Hewlett Packard*, Vodafone*, Google* or Total* but by being small and diligent and nimble they can add value by picking small caps. They tell themselves (and possibly their clients) this story every day - it brings meaning to their life. They can add value. By saying just avoid small caps I was asserting that their rationalizations were bullsh-t. No wonder they bristled.
My restrictions were somewhat limited - I was only wanting to avoid buying small caps where the possibility of a go-private transaction was underpinning the price. In other words small caps in safe jurisdictions with good balance sheets and open registers were mostly to be avoided. Private equity mostly can not or will not buy financial institutions (with rare exceptions such as JCFlowers) - and there is some value in smaller financials. Likewise some companies that are already so levered that a debt-financed private equity bid is impossible are potentially interesting. Some German two-class-of-shares mid-caps are also interesting. But even these are at best partial exceptions to my rule of small caps being relatively expensive.
Still the rationalizations of the small cap value managers reminded of Woody Allen's zinger about rationalizations being more important than sex. "When was the last time you went 24 hours without a rationalization?"
Most of the comments posted wound up revolving around SuperValu - the grocer that owns Albertsons and others and which has been distressed and whose stock price reflects that distress.
One of my readers points out just how cheap it looks relative to potential. He figures the pain (and there has been considerable pain) is more or less over and the stock should race. Without a lot of work I can't even express an opinion on that.
But I will note that the first question when analysing a business is "what will they look like in three, five, ten years". Warren Buffett tells us that when he buys businesses he likes to look out decades. I am a little more flighty than that (and I can always dump the stock) so I tend to look 3-5 years out. Call it the "Wayne Gretzky school of value investing" - look at where the puck is going to be and ask if it is cheap against that.
And when you look out three to five years the biggest determinant of how they will look is what the competition will do to them.
Whatever: on this metric SuperValu is difficult. The grocery market is not growing much in aggregate in the US except through food inflation. And the competition at the bottom end is fierce. I would rather wrestle grizzly bears than compete head-to-head with Walmart. And at the top end the competition is also evil. (The Wholefoods store in Chicago where I irregularly shop is very nice. Certainly nicer than the average Albertsons.)
Sales are going backwards. That does not look like it is going to change - although plausibly the rate of decline may drop. This unquestionably a difficult story where a strained company is fighting with superior competitors. When small caps are cheap (and they do get there fairly regularly) there is no need to take on difficult stories. When to find value you need to go headlong into difficult stories then you are probably deluding yourself about there being value there in any general sense (although there may be value in specific instances).
The focus on SuperValu (a truly difficult story) was confirmatory of my view that on-average small caps are particularly difficult at the moment. [I should note however that SuperValu is something that would not appeal to most debt-funded private equity shops. The company is shockingly levered - and my general restriction against small-caps does not apply here.]
Metrics
I have a few metrics I think about with grocers. The main one is EV (meaning market cap plus debt) to sales. My rough rule of thumb is that an EV to sales of under 0.25 is outright cheap (and only seen either when the whole market is distressed or an individual company is distressed). You have to have a very high quality company to want to pay more than 0.5 times sales. These numbers have to be adjusted for retailers that own much of their property (Walmart, Tesco).
The logic is as follows: grocery retailing is a 5 percent margin business give or take a bit. $100 of sales at an EV to sales of 0.5 is $50 of EV. That $50 of EV would have $5 of operating profit associated with it (5 percent margin on $100 of sales). Now imagine the company had no debt and thus no interest bill. Take out tax at 30 percent and you have $3.50 in after tax earnings. That is for $50 of EV (which in this case is $50 in market cap). The price earnings ratio would be just over 16.6.
To pay more than 0.5 times sales you have to argue that unlevered this company is worth more than 17 times earnings. That is possible if there is a lot of growth potential or the margins are sustainably fat. But 0.5 times sales is a price above which I need to be finding rationalizations to maintain my interest.
When non-distressed grocers with solid market positions trade at 0.25 percent of sales (which is very rarely) they are half that price which is cheap by most measures.
Here is the last quarterly balance sheet for SVU:
The last SuperValu balance sheet had $396 million of short term maturities and $6.2 billion in long term debt. There is a couple of hundred million in cash - which is such a minimal number I am going to ignore it. (There is 200 thousand dollars cash per store - a number that looks small relative to obvious cash needs including just balances in the till.)
$6.5 billion in debt give or take a little. The market cap is 1.35 billion according to Yahoo! EV is thus 7.8 billion. Last year sales were something like 37 billion (and on a very steep decline of about 10 percent per annum). This year they will be something like 35 billion. EV to sales is just over 0.2 - and will be probably close 0.25 when (and if) they can stabilize sales. This is the bottom end of my EV to sales range but is not an outright distress type figure. Given most this EV is debt I would not be much interested in the debt at par (even though it yields 8 percent). That seems like not much upside and in distress this retailer is going to be worth less than 0.25 times sales.
If perchance the debt were to trade at 70c - implying an EV to sales in the mid-teens - then I might get interested in the debt.
The equity is another issue - one I address below.
My second metric for retailers is how much of a lean they are taking on suppliers. Grocers sell stuff fast - many sell their stuff faster than they pay the suppliers meaning they get free funding from them. If they get into trouble (or they want the cheap finance) they let their supplier obligations blow out. I wrote a post once about an Australian wholesaler (Davids Holdings) which let its supplier obligations blow out and nearly went bust. Not nice.
A rough rule of thumb is as follows. Most suppliers give you 30 day terms. If your payables are more than 30 days of sales you are taking a lean on your suppliers. If you take too big a lean they start getting stroppy and ask for cash-on-delivery or letters of credit or the like. Too much of a lean is pretty tightly defined: most grocers have payables of about 35 days of sales.
In the above table payables are 2.7 billion. That is less than a month of sales - SuperValu is clean on this measure. However note that the accounts payable have gone up as sales have gone down. Whilst the level is not a sign of distress the direction is not good (the reduction of debt is not as impressive as it looks).
Finally - and this is the measure that most bugs me - inventory turn is falling. Inventory is up year on year. Sales are down. For a grocer this is unremittingly bad news. Not only are they using capital less efficiently (getting less aggregate margin per square foot for instance) but slowly and surely the store is turning into one of those places you shop only if you like your groceries pre-packaged and just a touch stale.
Whatever - on the numbers as given this is not that cheap relative to EV and the metrics are going the wrong direction.
You could add - and one of my readers did - that the company is underspending on stores. Tired old stores with slow inventory turns and stale product - that is not the way to take on Whole Foods. And unless you are going to shave margins to nothing it is hardly a way to take on Walmart.
If I had to make a bet on this my guess is that it will have to restructure in some form. This might be a sale (for debt reduction) of a large part of the business or it may be Chapter 11. Whatever - this is not easy and not an obvious value stock.
Would I short the stock?
There is a big short interest in the stock. I think the company is probably going to continue to have a rough time. I am a short seller. The obvious question is "would I short the stock?"
Here the answer is surprisingly no. The company in aggregate is not cheap (EV to sales is going to wind up somewhere near 25 percent) but the equity is cheap. Why? Well if things go right (and things always can go right) and the company gets say 100bps more margin - then the stock looks staggeringly cheap.
There are 35 billion in sales. 1 percent margin increase is 350 million per annum. That is very meaningful relative to a market cap of $1.3 billion. Add in a big short interest and the stock could be very strong.
The leverage that makes this whole thing problematic works both ways. If the management can right this ship the stock could be a big winner.
Have the management done a good job
My bullish commentator thinks the management have done a good job. As far as I can tell he is right. They have shrunk the business (a lot), paid off a lot of debt, and it appears been pretty straight-up-and-down about it. I am a little irked by the falling turnover (it will make the product stale) but that might just be the hand they were dealt.
I have not done a lot of work. I have not walked around these stores. I have not done any apple-freshness tests. But on the numbers I see no reason to believe management have not been pretty good.
That is a blessing and a curse. Good management will be necessary to salvage this situation. But if these stores have been well managed then getting a new broom in can't save the situation. You have to play the cards that are dealt.
Summary
If SuperValu is proof that there is value easily detectable in companies under $5 billion in market cap then - frankly - I think I will take my large caps.
I would not be long this without tangible on-the-ground evidence (from surveying up to 30 stores in different locations) that this really has turned around. Because at the moment this does not pass the Wayne Gretsky test of value. In five years it looks really really bad.
And I would not be short it either with that leverage without a decent understanding of their day-to-day liquidity and just how short-dated the situation is.
This one belongs in the too-hard basket. And half a day is wasted looking at another stock that ultimately I don't care about.
John
*For disclosure purposes we were once short Hewlett Packard but have covered, we are long Vodafone and Google - two of our biggest positions, and we were once long Total but have sold.
Their logic is that it is impossible for a small fund manager to add value by analysing Hewlett Packard*, Vodafone*, Google* or Total* but by being small and diligent and nimble they can add value by picking small caps. They tell themselves (and possibly their clients) this story every day - it brings meaning to their life. They can add value. By saying just avoid small caps I was asserting that their rationalizations were bullsh-t. No wonder they bristled.
My restrictions were somewhat limited - I was only wanting to avoid buying small caps where the possibility of a go-private transaction was underpinning the price. In other words small caps in safe jurisdictions with good balance sheets and open registers were mostly to be avoided. Private equity mostly can not or will not buy financial institutions (with rare exceptions such as JCFlowers) - and there is some value in smaller financials. Likewise some companies that are already so levered that a debt-financed private equity bid is impossible are potentially interesting. Some German two-class-of-shares mid-caps are also interesting. But even these are at best partial exceptions to my rule of small caps being relatively expensive.
Still the rationalizations of the small cap value managers reminded of Woody Allen's zinger about rationalizations being more important than sex. "When was the last time you went 24 hours without a rationalization?"
Most of the comments posted wound up revolving around SuperValu - the grocer that owns Albertsons and others and which has been distressed and whose stock price reflects that distress.
One of my readers points out just how cheap it looks relative to potential. He figures the pain (and there has been considerable pain) is more or less over and the stock should race. Without a lot of work I can't even express an opinion on that.
But I will note that the first question when analysing a business is "what will they look like in three, five, ten years". Warren Buffett tells us that when he buys businesses he likes to look out decades. I am a little more flighty than that (and I can always dump the stock) so I tend to look 3-5 years out. Call it the "Wayne Gretzky school of value investing" - look at where the puck is going to be and ask if it is cheap against that.
And when you look out three to five years the biggest determinant of how they will look is what the competition will do to them.
Whatever: on this metric SuperValu is difficult. The grocery market is not growing much in aggregate in the US except through food inflation. And the competition at the bottom end is fierce. I would rather wrestle grizzly bears than compete head-to-head with Walmart. And at the top end the competition is also evil. (The Wholefoods store in Chicago where I irregularly shop is very nice. Certainly nicer than the average Albertsons.)
Sales are going backwards. That does not look like it is going to change - although plausibly the rate of decline may drop. This unquestionably a difficult story where a strained company is fighting with superior competitors. When small caps are cheap (and they do get there fairly regularly) there is no need to take on difficult stories. When to find value you need to go headlong into difficult stories then you are probably deluding yourself about there being value there in any general sense (although there may be value in specific instances).
The focus on SuperValu (a truly difficult story) was confirmatory of my view that on-average small caps are particularly difficult at the moment. [I should note however that SuperValu is something that would not appeal to most debt-funded private equity shops. The company is shockingly levered - and my general restriction against small-caps does not apply here.]
Metrics
I have a few metrics I think about with grocers. The main one is EV (meaning market cap plus debt) to sales. My rough rule of thumb is that an EV to sales of under 0.25 is outright cheap (and only seen either when the whole market is distressed or an individual company is distressed). You have to have a very high quality company to want to pay more than 0.5 times sales. These numbers have to be adjusted for retailers that own much of their property (Walmart, Tesco).
The logic is as follows: grocery retailing is a 5 percent margin business give or take a bit. $100 of sales at an EV to sales of 0.5 is $50 of EV. That $50 of EV would have $5 of operating profit associated with it (5 percent margin on $100 of sales). Now imagine the company had no debt and thus no interest bill. Take out tax at 30 percent and you have $3.50 in after tax earnings. That is for $50 of EV (which in this case is $50 in market cap). The price earnings ratio would be just over 16.6.
To pay more than 0.5 times sales you have to argue that unlevered this company is worth more than 17 times earnings. That is possible if there is a lot of growth potential or the margins are sustainably fat. But 0.5 times sales is a price above which I need to be finding rationalizations to maintain my interest.
When non-distressed grocers with solid market positions trade at 0.25 percent of sales (which is very rarely) they are half that price which is cheap by most measures.
Here is the last quarterly balance sheet for SVU:
| December 3, 2011 | February 26, 2011 | |||||||
| (Unaudited) | ||||||||
ASSETS | ||||||||
Current assets | ||||||||
Cash and cash equivalents | $ | 196 | $ | 172 | ||||
Receivables, net | 747 | 743 | ||||||
Inventories | 2,616 | 2,270 | ||||||
Other current assets | 226 | 235 | ||||||
Total current assets | 3,785 | 3,420 | ||||||
Property, plant and equipment, net | 6,226 | 6,604 | ||||||
Goodwill | 1,306 | 1,984 | ||||||
Intangible assets, net | 887 | 1,170 | ||||||
Other assets | 581 | 580 | ||||||
Total assets | $ | 12,785 | $ | 13,758 | ||||
LIABILITIES AND STOCKHOLDERS’ EQUITY | ||||||||
Current liabilities | ||||||||
Accounts payable and accrued liabilities | $ | 2,720 | $ | 2,661 | ||||
Current maturities of long-term debt and capital lease obligations | 396 | 403 | ||||||
Other current liabilities | 643 | 722 | ||||||
Total current liabilities | 3,759 | 3,786 | ||||||
Long-term debt and capital lease obligations | 6,203 | 6,348 | ||||||
Other liabilities | 2,078 | 2,284 | ||||||
Commitments and contingencies | ||||||||
Stockholders’ equity | ||||||||
Common stock, $1.00 par value: 400 shares authorized; 230 shares issued | 230 | 230 | ||||||
Capital in excess of par value | 2,860 | 2,855 | ||||||
Accumulated other comprehensive loss | (379 | ) | (446 | ) | ||||
Retained deficit | (1,450 | ) | (778 | ) | ||||
Treasury stock, at cost, 18 and 18 shares, respectively | (516 | ) | (521 | ) | ||||
Total stockholders’ equity | 745 | 1,340 | ||||||
Total liabilities and stockholders’ equity | $ | 12,785 | $ | 13,758 | ||||
The last SuperValu balance sheet had $396 million of short term maturities and $6.2 billion in long term debt. There is a couple of hundred million in cash - which is such a minimal number I am going to ignore it. (There is 200 thousand dollars cash per store - a number that looks small relative to obvious cash needs including just balances in the till.)
$6.5 billion in debt give or take a little. The market cap is 1.35 billion according to Yahoo! EV is thus 7.8 billion. Last year sales were something like 37 billion (and on a very steep decline of about 10 percent per annum). This year they will be something like 35 billion. EV to sales is just over 0.2 - and will be probably close 0.25 when (and if) they can stabilize sales. This is the bottom end of my EV to sales range but is not an outright distress type figure. Given most this EV is debt I would not be much interested in the debt at par (even though it yields 8 percent). That seems like not much upside and in distress this retailer is going to be worth less than 0.25 times sales.
If perchance the debt were to trade at 70c - implying an EV to sales in the mid-teens - then I might get interested in the debt.
The equity is another issue - one I address below.
My second metric for retailers is how much of a lean they are taking on suppliers. Grocers sell stuff fast - many sell their stuff faster than they pay the suppliers meaning they get free funding from them. If they get into trouble (or they want the cheap finance) they let their supplier obligations blow out. I wrote a post once about an Australian wholesaler (Davids Holdings) which let its supplier obligations blow out and nearly went bust. Not nice.
A rough rule of thumb is as follows. Most suppliers give you 30 day terms. If your payables are more than 30 days of sales you are taking a lean on your suppliers. If you take too big a lean they start getting stroppy and ask for cash-on-delivery or letters of credit or the like. Too much of a lean is pretty tightly defined: most grocers have payables of about 35 days of sales.
In the above table payables are 2.7 billion. That is less than a month of sales - SuperValu is clean on this measure. However note that the accounts payable have gone up as sales have gone down. Whilst the level is not a sign of distress the direction is not good (the reduction of debt is not as impressive as it looks).
Finally - and this is the measure that most bugs me - inventory turn is falling. Inventory is up year on year. Sales are down. For a grocer this is unremittingly bad news. Not only are they using capital less efficiently (getting less aggregate margin per square foot for instance) but slowly and surely the store is turning into one of those places you shop only if you like your groceries pre-packaged and just a touch stale.
Whatever - on the numbers as given this is not that cheap relative to EV and the metrics are going the wrong direction.
You could add - and one of my readers did - that the company is underspending on stores. Tired old stores with slow inventory turns and stale product - that is not the way to take on Whole Foods. And unless you are going to shave margins to nothing it is hardly a way to take on Walmart.
If I had to make a bet on this my guess is that it will have to restructure in some form. This might be a sale (for debt reduction) of a large part of the business or it may be Chapter 11. Whatever - this is not easy and not an obvious value stock.
Would I short the stock?
There is a big short interest in the stock. I think the company is probably going to continue to have a rough time. I am a short seller. The obvious question is "would I short the stock?"
Here the answer is surprisingly no. The company in aggregate is not cheap (EV to sales is going to wind up somewhere near 25 percent) but the equity is cheap. Why? Well if things go right (and things always can go right) and the company gets say 100bps more margin - then the stock looks staggeringly cheap.
There are 35 billion in sales. 1 percent margin increase is 350 million per annum. That is very meaningful relative to a market cap of $1.3 billion. Add in a big short interest and the stock could be very strong.
The leverage that makes this whole thing problematic works both ways. If the management can right this ship the stock could be a big winner.
Have the management done a good job
My bullish commentator thinks the management have done a good job. As far as I can tell he is right. They have shrunk the business (a lot), paid off a lot of debt, and it appears been pretty straight-up-and-down about it. I am a little irked by the falling turnover (it will make the product stale) but that might just be the hand they were dealt.
I have not done a lot of work. I have not walked around these stores. I have not done any apple-freshness tests. But on the numbers I see no reason to believe management have not been pretty good.
That is a blessing and a curse. Good management will be necessary to salvage this situation. But if these stores have been well managed then getting a new broom in can't save the situation. You have to play the cards that are dealt.
Summary
If SuperValu is proof that there is value easily detectable in companies under $5 billion in market cap then - frankly - I think I will take my large caps.
I would not be long this without tangible on-the-ground evidence (from surveying up to 30 stores in different locations) that this really has turned around. Because at the moment this does not pass the Wayne Gretsky test of value. In five years it looks really really bad.
And I would not be short it either with that leverage without a decent understanding of their day-to-day liquidity and just how short-dated the situation is.
This one belongs in the too-hard basket. And half a day is wasted looking at another stock that ultimately I don't care about.
John
*For disclosure purposes we were once short Hewlett Packard but have covered, we are long Vodafone and Google - two of our biggest positions, and we were once long Total but have sold.
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