Follow up to the Pershing Square insider trading post

There was one major error in the Pershing Square post - which is I suggested that an analyst at PS was charged. No such event happened.

The analyst was not charged. It was the room mate as tipper and a friend as tipee.

Whatever. Bill Ackman's presentation was as far as I know sourced entirely from public information. It is in my opinion wrong - but that is beside the point.

All the room mate knew is that Bill Ackman was going to publicize public information and his analysis of it.

It is a stretch of insider trading rules to deem as insider trading the future publication of already public information.

It is a stretch that I would rather have seen challenged in court. My view remains: SEC over-reach.




John

In defense of the Pershing Square analysts

I can't quite believe I am doing this - because I loathe Bill Ackman with a passion. Mr Ackman in the presence of one of my clients told the world that Bronte would blow up. I had the temerity to disagree with him on two stocks (Herbalife, Valeant). However my positions were much smaller than his in both stocks - so it was rich for him to suggest that I was risky.

Whatever: I think today's charging of one of his former analysts and his room mate for insider trading in Herbalife is a bad case of SEC over-reach.

US insider trading rules first require that someone breach a position of trust regarding the company that is being traded. In the Mark Cuban case - which the SEC ultimately lost on appeal - Mark Cuban was told by the CEO of Mamma.com that the company was going to need to do a secondary offer. Mark Cuban sold his stock and was charged with insider trading.

The whole case swung on whether Mark Cuban had agreed to be bound by the CEO into not trading the information he was given. The SEC could not prove that he had so agreed and so Mark Cuban had not breached any position of trust he had been put in by the company and hence was not guilty of insider trading. I blogged extensively about the Mark Cuban case here and again when the SEC lost the case here.

In the recent Herbalife an analyst at Pershing Square knew in advance that Pershing was going to do its "hit piece" on Herbalife. The analyst had a duty to Pershing Square but did not have any duty to Herbalife and was not an insider in Herbalife.

The analyst tipped his room mate who traded the stock. The room mate made about fifty grand.

Both were charged with insider trading - but neither was in a position of trust with respect to Herbalife and neither had inside company information.

As stated the analyst clearly had a duty to Pershing Square - and I think it is incumbent on Bill Ackman to sue his analyst if the analyst acted contrary to his obligations to Pershing. But it is not a case which should involve the SEC. It is not insider trading.

My guess is that the SEC put Bill Ackman through hell on this one.

For once - and I suspect it is only once - I am on his side.





John

Post script: I did not read the source material accurately. The analyst was not charged. It was the roommate as tipper and a friend as tippee. However either way I find it extremely hard to work out what duty was breached.

The only person here with a written duty was probably the analyst at Pershing.

Roddy Boyd has more patience than me in chasing down stock hucksters

Roddy Boyd has a story about the wondrous life of yet another stock huckster with a couple of fake PhDs.

http://sirf-online.org/2014/09/16/the-manufacturing-of-professor-dr-anthony-nobles/

I maintain it is better to be a stock-promoter than a short-seller. Stock promoters tend to live very well. Right up there with the biggest hedge fund managers.




John

Nouvelle Vague live in Cologne

Very sick in bed, so looking for (very light) YouTube entertainment to see me through the fever...

The cover of Blondie's Rapture is worth the price of admission. It starts at 7 minutes 11 seconds.

In 2014 the New York Times has gone off line becoming a print-only newsletter for the elite and the elderly

A decade ago Robin Sloan and Matt Thomson made a cheap flash movie on a simple premise. The movie was a production of the Museum of Media History, was made in 2014 and had dropped to the year 2004 through a wormhole in time.

I guess you could think of it as predictive (though Robin Sloan specifically disavowed that).

Some of it is surprisingly good. Some less so. They seem to think that Friendster and not Facebook was what would matter. Enjoy.

http://idorosen.com/mirrors/robinsloan.com/epic/ols-master.html




John

The Gobi Desert people like their Nu Skin, so do Wild Yaks, Donkeys and Bears

Not all of Western China is thinly populated. Chongquing is big modern city (though I have not been there since 1981 when it felt medieval).

However some of China is very thinly populated indeed. Parts of the Tibetan Plateau are almost as thinly populated as Antarctica. I was flattering when I described them as being for nomadic herdsmen (though Nu Skin is also opening stores for them too).

Here again is the map of Nu Skin's store openings - but this time I have marked a few stores.

Note the several stores planned for the Gobi Desert. This area is thinly populated - but they are planning multiple stores.

The map shows an existing store in Hohhot (a reasonable sized city). That store is marked in red. The proposed stores do not correspond to any reasonable looking population centres. However as China hands observe - the area has a surprising population density given how infertile it is.

The store that stands out though is the one marked in Hoh Xil. Hoh Xil is an elevated part of the Tibetan Plateau and the whole area is above the altitude at which sustained human existence is possible. According to Wikipedia Hoh Xil is the least populated part of China and the third least populated part of the world. The population density is comparable to the Greenland Ice Cap.

But it warrants a Nu Skin store and a couple more on the periphery of the wilderness.

There are no people in Hoh Xil, so I guess the Wild Yaks, Donkeys and Bears like their multi-level marketing schemes.

Speculations

There is little chance they will ever open a store in Hoh Xil. A store on Baffin Island is more likely. Indeed many of these marked stores are implausible.

The question arises how did this slide get into a Nu Skin presentation?

There are lots of possibilities. Perhaps it is a mistake as per Richard M. Nixon signing the debt covenant.

Perhaps the Chinese management are having the Provo Utah head-office on. After all if they "build" this store the management could just steal the money. It would be a long time before the Provo Utah team get to visit all these Chinese facilities. This is a company that bought back shares only to breach its debt covenants. That does not speak to good financial controls. This map speaks to further poor financial controls.

At this point I am just speculating. The company issued an 8-K to correct the Richard M. Nixon signature. Perhaps they could also give more accurate store opening plans for China.





John

Nu Skin's remarkable store opening plans in China

Several people did not get the significance of my last post. This post showed a remarkable lack of correlation between the location of the Chinese population and the sales of Nu Skin in China.

Western China - even if you include the populous provinces of Sichuan and Yunnan is still only a small percentage of the Chinese population - and it is a smaller percentage of Chinese disposable income.

But Western China looms large in Nu Skin's China sales. China hands I talk to know no other consumer company that has sales so weighted to the West.

For most companies (and over the whole industry) almost all Chinese retail sales come from populous and relatively rich Eastern Provinces. China Business Review published a reasonable summary. To quote:

Because of the wide disparities among China’s regions and the country’s rural-urban income gap, purchasing power and retail demand vary greatly. According to the PRC National Bureau of Statistics, 42 percent of China’s total retail sales in 2008 came from (by rank) Guangdong, Shandong, Jiangsu, Zhejiang, and Henan—most of which are prosperous eastern provinces. In comparison, Tibet, Qinghai, Ningxia, Hainan, and Gansu had the lowest retail sales that year.

The old-hands think Nu Skin's sales distribution is very unlikely. But according to Nu Skin's auditor it is profitable in China.

Nu Skin is - at least according to their presentations - actively opening stores in the most unlikely places in Western China. Here - from November last year is a store-opening plan:

There are no stores planned in Tibet, but plenty in other poor and thinly populated provinces. Indeed there are several in Chinese high-altitude desert where there are no permanent settlements, only pastoral nomads.

Nu Skin's sales distribution figures in China seem implausible but the aggregate sales are audited - so they should be believed.

Moreover the company's plans are indicative of their past-success in Western China. They are (proudly) setting up shops where nobody lives.

Not only are they good at selling to Uyghur women, but they also appear to have big plans to introduce network marketing to pastoral nomads.





John

Uyghur women like their Nu Skin

In the 2012 investor day Nu Skin published a map of their Chinese sales by region.

(Source - slide 81.)

Here is a map from Britannica of the population density of China.

On these numbers the women (and maybe men) of Western China are giant consumers of the product relative to population - indeed probably relative to anywhere in the world.

Nu Skin it seems has a knack of selling to Uyghur women.

Perhaps they could explain it one day.





John

Richard M. Hixson pardoned Nu Skin

Yesterday I put up a popular post noting that Nu Skin, a multi-level marketing company - had breached its debt covenants and was pardoned by its bank.

The banker who signed on behalf of JPMorgan Chase was none other than Richard M. Nixon - the (presumably) deceased former President.

Prior to posting I confirmed that there was no easy-to-trace Richard M. Nixon working at JPM.

But hey - Nixon used to hang around with Elvis, and Elvis is still alive - so why not the President?

--

Anyway Nu Skin lodged an SEC filing stating that they had been pardoned by Richard M. Hixson (declaring a typographical error).

I have confirmed through back-channels there is a Richard M. Hixson working for JPM and in an appropriate role at the bank.

I accept the Nu Skin explanation.

--

Nu Skin has neither confirmed nor denied they needed a pardon on their debt covenant - and they neither confirmed nor denied that they will breach their covenants again at the end of this quarter.

Those calculations are on the original post.

The buried punch-line of the original post was this:

In July 2014, the Company's subsidiary in Japan borrowed 3 billion Japanese yen (approximately $30.0 million), which is due on September 30, 2014.  In July 2014, the Company's subsidiary in South Korea borrowed $20.0 million, which is due in December 2014, with a right to extend the term for an additional six months.

The company borrowed $30 million for two months without an obvious reason. It's like hey, I got $234 million in the bank, can you spot me $30 million for two months?

--

Whatever - they breached their debt covenants. And they needed a pardon. Richard M. Hixson did the job. And they are borrowing money offshore despite saying in their last conference call they have no trouble repatriating their (considerable) offshore balances.

--

At this point though I feel a little like Kermit the GORF.





John

Nixon pardons Nu Skin

Richard M. Nixon did many amazing things in his life.

He hung out with Elvis:

He hung out with Mao Zedong:

But by far the most amazing thing he has done is rise from the dead and get a job at JPMorgan Chase Bank.

You might think I am kidding, but Richard Milhouse Nixon as Saint Lazarus of Bethany is a thought/nightmare interrupting my sleep.

====

Attached to the last Nu Skin 10-Q were several contracts for Nu Skin's debt facilities.

This is a link to the fifth amendment to the JPMorgan Chase debt facility dated 5 May 2014.

And here is the signature block for JPMorgan Chase's signature.

JPMORGAN CHASE BANK, N.A., as

Administrative Agents and as a Lender

By:                        Richard M. Nixon

Title:                    Senior Underwriter

The facility is signed by Richard M. Nixon on behalf of JPMorgan - the same name including middle initial as the (presumably) deceased President of the United States.

I was surprised.

I did a full text search of the SEC database for any other persons named "Richard M. Nixon" and I only found references to the former President.

I searched LinkedIn - and whilst there are many people with the same name as the former President none I could find works for JPMorgan.

I rang JPMorgan Chase and asked whether they had a staff member called Richard Nixon and was informed they did not. I asked for that in writing.

I received an email saying that they did have someone who worked at JPMorgan called Richard Nixon (but they had no reference to the middle initial). However they noted he would not have signed the document as he did not have the authority.

I asked JPMorgan to put this in writing but they would not, however I rang other people in the bank and received the same answer.

When you ring the switch it turns out there is a Richard Nixon in their internal phone book with no phone number and no initial. He is not an employee of the bank, but rather a consultant paid by an external party. They would not tell me which external party. They said categorically that he was not entitled to sign for the bank.

They did tell me he was based in Texas - which makes him an unlikely person to sign for a Utah Company under New York law. Moreover Richard Nixon does not have an internal email at JPMorgan. Quote them: he is a ghost.

There may - despite my concerted and failed efforts to find them - be a person called Richard M. Nixon who is authorized to sign for and did sign for JPMorgan - but much effort has got me nowhere.

One alternative however is unthinkable. It is that Nu Skin has been hawking fake documents which modify their debt covenants - possibly so they can make undisclosed borrowings contrary to their debt covenants.

Either "Richard M. Nixon" is a real person who has signed a single SEC document for Nu Skin or Nu Skin's CFO (the other signature on the document) has some explaining to do.

The strange signature block

It is so comically unlikely that Tricky Dick has been resurrected as a bank underwriter, that I would naturally lean towards the existence of some Richard M. Nixon working somewhere in the giant institution that is JPMorgan.

There is one minor detail which leans you towards nastier interpretations. In the signature block JPMORGAN CHASE BANK is acting as "Administrative Agents and as a Lender". The word "Agents" has an "s".

The phrase "Administrative Agent and as a Lender" where Agent is in the singular [no "s"] is a common phrase in the SEC database. Other than this filing the phrase "Administrative Agents and as a Lender" does not appear anywhere in the SEC database or for that matter anywhere in the Google database. It is like there is a one-off typo in this document to go with the rather unusual name. Everywhere else in the same document the spurious "s" is absent.

I would like a confirm/denial from JPMorgan in writing as to whether Richard Nixon actually signed this document on behalf of the bank. I promise I will post it as soon as received.

The covenants matter

That Richard Nixon signed the covenant modification for Nu Skin is very convenient for Nu Skin because Nu Skin has been in breach of their loan covenants (at least pre-modifications) since the end of the first quarter of this year. They have however managed to get modifications.

They breached their covenants and received what looks to be an (ex) Presidential Pardon.

Linked is a public google sheet of Nuskin's cash flow statement, quarterly since time immemorial. The data is courtesy the indispensable CapitalIQ.

I have given you this spreadsheet because it is required to work out the debt covenants. There are many covenants (eg restrictions on related party transactions, restrictions on types of finance lease, limitations on amounts that may be borrowed by foreign subsidiaries).

The key covenant is dependent on cash flow from operations less capital expenditures. And they have breached that covenant.

To quote the 10-Q (which again mentions the JPMorgan Chase loan):

As of June 30, 2014, the Company was in violation of its restricted payments covenant under its amended and restated note purchase and private shelf agreement (multi-currency), dated as of May 25, 2012, among the Company, Prudential Investment Management, Inc. and certain other purchasers, as amended (the "Prudential Agreement") and the amended and restated credit agreement, dated as of May 25, 2012, among the Company, various financial institutions, and JPMorgan Chase Bank, N.A. as administrative agent (the "JPMC Agreement"), which restricts the Company from making dividend payments or stock repurchases to the extent the aggregate amount of such payments exceed $100 million plus the cumulative cash flow from operations less capital investments since June 30, 2012. Effective August 8, 2014, the Company entered into an amendment of the Prudential Agreement that allows the aggregate amount of restricted payments to exceed the allowed threshold by no more than $110 million for the quarter ending June 30, 2014 and $50 million for the quarter ending September 30, 2014, to avoid default or acceleration provisions of the Prudential Agreement. The JPMC Agreement expired pursuant to its terms on August 8, 2014, prior to which all amounts outstanding thereunder were repaid in full. 

On the spreadsheet I have done the calculation of whether they breached the debt covenant two ways. One way is looking at buy-backs of shares net of shares issued (which seems reasonable but is contrary to the words of the coveant). The other is the covenant as written.

It doesn't matter which way you look at it. They breached the covenant in the first quarter. This is disclosed in the first-quarter 10-Q.

As of March 31, 2014, the Company was in violation of its restricted payments covenant under its amended and restated credit agreement, dated as of May 25, 2012, among the Company, various financial institutions, and JPMorgan Chase Bank, N.A. as administrative agent, as amended (the "JPMC Agreement") and its amended and restated note purchase and private shelf agreement (multi-currency), dated as of May 25, 2012, among the Company, Prudential Investment Management, Inc. and certain other purchasers, as amended (the "Prudential Agreement"), which restricts the Company from making dividend payments or stock repurchases to the extent the aggregate amount of such payments exceed $100 million plus the cumulative cash flow from operations less capital investments since June 30, 2012. Effective May 6, 2014, the Company entered into amendments of the JPMC Agreement and the Prudential Agreement that allow the aggregate amount of restricted payments to exceed the allowed threshold by no more than $50 million for the quarter ending March 31, 2014, $100 million for the quarter ending June 30, 2014 and $50 million for the quarter ending September 30, 2014, to avoid default or acceleration provisions of these agreements. The amendment of the JPMC Agreement also fixed the applicable interest rate at LIBOR plus 0.75%, increased the commitment fee to 0.25% and extended the term of the agreement from May 9, 2014 to August 8, 2014, with $15 million reductions in the commitment amount on June 30, 2014 and July 31, 2014.

They amended this breach after quarter end (which it seems required the signature of Richard M. Nixon).

You will note however the wording of the amended covenant changed between the first quarter filing and the second quarter filing. This is pursuant to more modifications of covenants dated 8 August as described above (and repeated here):

Effective August 8, 2014, the Company entered into an amendment of the Prudential Agreement that allows the aggregate amount of restricted payments to exceed the allowed threshold by no more than $110 million for the quarter ending June 30, 2014 and $50 million for the quarter ending September 30, 2014

Strangely they breached that covenant too (as demonstrated in the attached Google sheet).

This restricted them from paying dividends (and presumably also led to default debt acceleration).

Dividend delays

The second page of the spreadsheet contains the dividend announcement, ex and payment date since 2001. That data is courtesy Nasdaq's website.

These are quarterly dividends. They went "ex" a dividend in August of every year since 2005 except this year.

This year they are going "ex" the dividend in September. The announcement was similarly delayed.

The reason they delayed the dividend was that they were in breach of their loan covenants. The day after the dividend was announced they announced yet another loan amendment. This one was on the Bank of America agreement and unfortunately we cannot see who signed on behalf of BofA.

The agreement extends the term from September to December.

Cash scramble

Nu Skin's balance sheet shows $234 million of cash, equivalents and current investments. Most of that cash is offshore (see the 10-Q).

The CFO states in the conference call that there is no difficulty repatriating this foreign money. To quote:

Yes, generally our cash is fully available, with the exception of Venezuela. There are some timing issues throughout some of our markets in Asia where you declare a dividend and then you can remit the dividend back to corporate headquarters. But even in -- especially our larger markets like China, we can get money out through back-to-back loans. So yes, it really is not a cash issue,having the cash tied up overseas.

Okay - so we should not have any difficulty getting cash back to head office. It's really not an issue.

However the company has been borrowing fairly aggressively offshore. This disclosure from the Q is interesting (and involves borrowing up to the limits of covenants).

In July 2014, the Company's subsidiary in Japan borrowed 3 billion Japanese yen (approximately $30.0 million), which is due on September 30, 2014.  In July 2014, the Company's subsidiary in South Korea borrowed $20.0 million, which is due in December 2014, with a right to extend the term for an additional six months.

The borrowing of $30 million in Japan for two months is outright strange. It's like hey, I got $234 million in the bank, can you spot me $30 million for two months?

Meeting covenants in the third quarter

The covenants require that they get the "aggregate amount of restricted payments" to exceed the defined cash flow amount by less than $50 million by the end of the third quarter.

This requires something like $150 million of net cash generation in this quarter. This would be inconsistent with the guidance but is within the range that they generated in the last two quarters of 2013.

It seems unlikely to me that the company is going to exceed its guidance by such a massive amount in this quarter.

But miracles happen. After all - even with all his bad karma Richard M. Nixon seems to have been reincarnated as an accommodating but hard to reach banker at JPMorgan Chase.







John

PS. Ford pardoned Nixon on Sep 8, 1974, almost exactly 40 years ago. It is good to take this occasion to remember.

======================

Post script:

I am barely awake (early morning in Sydney) but the company has put out a brief SEC filing in response to this blog post. To quote:

In response to questions regarding the Fifth Amendment (the "Amendment") to the Amended and Restated Credit Agreement (the "JPMC Agreement"), among Nu Skin Enterprises, Inc. (the "Company"), various financial institutions, and JPMorgan Chase Bank, N.A. as administrative agent, filed as Exhibit 10.3 to the Company's quarterly report on Form 10-Q on August 12, 2014, the Company notes that the Amendment, as filed, contained an inadvertent typographical error on the signature page. The Amendment was signed by Richard M. Hixson, Senior Underwriter, JPMorgan Chase Bank, N.A., not Richard M. Nixon. As previously disclosed, the JPMC Agreement expired pursuant to its terms on August 8, 2014, prior to which all amounts outstanding thereunder were repaid.

This it appears clears up the resurrection of a dead President. It does not clear up the (substantial) breach of loan covenants - a breach I think is inevitable next quarter.

I am intrigued as to how the typo arose. I have not had time to confirm or deny that the document was signed by Richard Hixson but I would be surprised if it were not. There is press focus on the issue now.

I have found a Richard Hixson of appropriate rank at JPMorgan - however he works in IT so is not really a candidate. But JPM is a big place. There is also a George Bush there...

There is no reference (other than this filing) in the SEC database to "Richard M. Hixson" and no reference at all to "Richard Hixson". I have not yet tried all the other spellings.