Why settle for just one bubble?

Step 1. Be a marijuana thing.

Step 2. Be a bitcoin thing.

Step 3. ...

Step 4. Profit!

An initial coin offering for augmented reality smart glasses: you only live once...

This advert - offering another cyrptocoin - specifically for *really smart* augmented reality smart glasses marks the new crypto-high.

Apple pulls a Dell

The keyboard on my new (current model) MacBook Pro is sticking. So I take it to the Genius Bar.

It was two hours for an appointment - and that was fine - so they texted me and I came back in two hours. So I came back in five minutes.

The staff member cleaned most the keys but broke one off. Ugh.

So they want me to check the machine in so they can replace the top-plate to which the keyboard is irrevocably stuck. Fair, unpleasant.

But now they want it for three to five days AFTER the top plate has come into the shop. They won't accept me dropping it in the morning they are fixing it. Instead it needs to wait in queue whilst they let the time elapse. (I can and do use the machine with a remote keyboard.)

I never thought I would say this - but this was the sort of behaviour exhibited by Dell before Dell blew up. Intransigent, arrogant, and actually not caring about the needs of customers.

I am genuinely surprised. I thought this company charged premium prices and gave premium products and premium service.

At least on the service I was wrong.





John

PS. Apple Bondi Junction. Customer service officer Morin.

PPS. Many have pointed out consistent problems with this keyboard. Try this... https://theoutline.com/post/2402/the-new-macbook-keyboard-is-ruining-my-life

I am getting close to just asking for a refund of the machine (faulty design) and going back to a Dell.

Some thoughts on the firing of James Damore from Google

As the world knows by now James Damore was fired from Google for writing a memo that questioned Google's diversity policies.

As a holder of Google stock I have a few thoughts on this.

Software engineering is a job where you cannot replace one brilliant software engineer with six adequate ones. It really is a job where the best people can lever their work over millions of computers and the whole world.

If you are Sundar Pichai (the CEO of Google) your job is to attract, hold, motivate and direct the very best software engineers - and to make sure their work does scale over the whole world.

In doing this he literally should not care whether men are better software engineers or mathematicians on average than women. Google should not interested in average. Google should be interested in the best.

I will hold Emmy Noether up as better than pretty well all men in all current mathematics and physics faculties. There may be a dozen in the world who can match her.  Probably less. If she pops along you should hire her. Even if women are less good on average at maths than men that should not matter. Emmy Noether is clearly better than anyone else you are going to hire this year.

The truth or falsity of James Damore's assertions in the memo literally do not interest me and should not interest Sundar Pichai. His memo made his job of hiring the the best harder. If the best happened to be a woman or another minority they might prefer work somewhere more welcoming.

If I were the Google CEO I would not have just fired James Damore. I would have been proud to fire him.

There is a lot of talk about Mr Damore receiving compensation from Google for his firing. For what? He broke the Google code of conduct and was fired for cause.

Yes, his feelings and the feelings of many delicate petals on the right are hurt.

But they are no more entitled to compensation for hurt feelings than anyone else.

If Sundar Pichai wastes shareholder funds compensating him I will be disappointed.

And don't think for a moment that this is a liberal line. Google is and should be a proudly elitist place for a software engineer to work. And Mr Damore was fired because he offered a phoney elitism (based on gender rather than competence).

Phoney elitists like him don't deserve to work in such a place.

Mr Damore was right on one thing. Diversity shouldn't be valued for its own sake in such a place either. But I haven't noticed a lack of elitism in Google staff I have met. They positively drip elitism.

Diversity is valued though and it seems is valued for the right reason. It gets you a better chance of recruiting the best.




John

E&P decoding - Pioneer Natural Resources edition

I think I know what this means but as per usual the internet is full of people who know far more than me. You dear readers are my 20 thousand person expert network. 

This is from the Pioneer Natural Resources conference call. I would really love people to explain it - preferably word-by-word in the comments. In particular I want to understand the drivers of the pressure changes (which matters for proppants for instance) and how the four-string casing deals with the problem.

Thanks in advance:

We've mentioned this in all the slides and such, but we did fall behind operationally on our completions in the Spraberry/Wolfcamp, in large part due to unforeseen drilling delays. What happened is the delays were really the result of unexpected changes in pressure regimes in the field.  

So what we've seen is increasing pressures in some of the shallow formations that means we have to mud up substantially to deal with that problem and then we immediately then are drilling into lower pressure depleted zones. And we were at the knife's edge of this really through all 2016. But these pressures have changed in a subtle manner such that we now find we had a higher percentage of what we refer to as train-wreck wells, where we have all kinds of problems with lost circulation and other issues because of this pressure change. 

The easiest way to remediate this is with a drilling plan takes us from a three-string casing design to a four-string casing design. So that's exactly what we've done. We solved this issue. We have addressed it and we've done so by changing the casing design, which has proven to be very successful. 

One thing it does is it does increase the well cost substantially, about $300,000 to $400,000 per well, and it does increase our time of drilling five days or so. But we're also nickel-and-diming away other costs in these wells to try to get that money back, including changing out surfactants and other things to try to reduce costs and reduce days. So we're not going to stand pat with this increase. We're going to chip away at it and reduce it. 

Cumulatively, though, what happens is because we've impacted the schedule, we've also then reduced the number of POPs we're going to be completing this year by about 30. Those essentially will move into 2018. That's 100% due to these drilling delays I mentioned, which I believe we now have mitigated. But you have to also factor in the delays not only result in the deferral of wells you put on production, but also loses production days for all the wells that get delayed that are going to be POP'd in the future, particularly later in the next year. But the point is we're now dealing with that. I think we have that squared away. I have a later slide we'll talk about more detail on that.

The cyclicality of share buy-backs: Costco edition

Currently looking through Costco - one of the finest companies I know. (We do not own a stake...)

Anyway this is hardly a Costco specific comment - but here is a run of their buy-backs (after issuance/option exercise etc). Negative numbers are net repurchases.

Year Ended	Cash from stock issuance ($million)
2,016	-412
2,015	-395
2,014	-212
2,013	77
2,012	-459
2,011	-355
2,010	-348
2,009	2
2,008	-548
2,007	-1644
2,006	-1039
2,005	-135

The company - as you can see - has bought back a lot of stock. The lack of a buyback in 2013 followed a purchase of a non-controlling stake in Costco Mexico.

But whatever - the company stopped repurchasing stock at the bottom of the market in 2009 - only to start again in earnest as the market and their stock price went up.

This happens in almost only cases - and in this case I do not think the board is mendacious in manipulating their stock. It just happens.

And it even happened with Charlie Munger (who is more than passingly rational) on the board.

Just saying.





J

E*Trade advert...

In the old days an advert like this would have marked the top.

Completely floored to see adverts this extreme again.

Source: Twitter...

Hat tips: Charlie Grant, Inner_Scorecard.

Canadian non-standard mortgages: a state of play

Regular readers of this blog will be aware that Home Capital Group - a Canadian non-standard mortgage lender - is in financial trouble.

The gossip is that the regulators in Canada are also putting some pressure on lenders to improve underwriting standards. There is similar gossip in Australia, however Australia has not had the collapse or near collapse of any lenders.

Canada Mortgage & Finance Group (CFMG) is a broker in the Greater Toronto Area (GTA). The CEO of CFMG (Ameera Ameerullah) writes a blog on LinkedIn which I have been reading for some time.

She has recently posted about the state of play for even slightly non-standard mortgages in the Greater Toronto Area.

Below (and without further comment but with her permission) I reprint her latest post.


-----------


CLIENTS ARE STUCK AND BROKERS SCRAMBLING - WHAT IS THE GOVERNMENT DOING?

Private lending rates increased and lending fees increased with LTV being decreased! Clients are stuck and brokers are scrambling to find options for their clients. Clients are placed in a very bad situation as they are in position of being sued since they cannot come up with the extra capital to close on alternative mortgages.

THE GOVERNMENT has caused tremendous issue for clients and the brokers community. We need Home trust back in the market. Presently no one is qualifying with the banks due to increased CMHC premium, lending restrictions and lenders requirement...it's killing clients not helping them!

Clients been saving for their down payment and closing cost but now they cannot close on their purchase due to down payment requirement and lending restrictions. Qualifying rate and amortization cut back on insured deals is causing greater concern. Most B lenders are affected with what's happening with Home Capital. Both the residential and commercial market is affected.

Private first residential mortgage in the GTA is now at 8.99 to 9.99% RATE - 65% LTV to 75% LTV. You'll obtain 80% if you're lucky and be prepared to pay higher rate and fees. Fees are 3 to 4% on a first now on private - This is INSANE. In fact many private lenders are out of capital. Options are minimum! These changes only affects clients and everyone having a tough time to close. Brokers are scrambling now to find alternative option for their clients since Home Trust is not funding and many other lenders who depended on Home trust money are stuck as well. How can a broker get by when they have to place their clients in an expensive private mortgage? There's no room for us to charge a fee so pretty much we are all affected. Only the big banks are benefiting from the Government change and yet they themselves are loosing business as no one can fit their qualifying requirements. Banks are pressuring their BDM to originate business - how can they when the Government ridiculous change affects the entire mortgage industry? Originating business is easy but closing deals have become horrid and clients pocket is feeling it.

The Government really need to make some immediate change as they have in the past year because with this trend home buyers are being placed in more debt as cost of borrowing on private capital is expensive. These changes are hurting clients and will hurt the economy. AWFUL STATE THE INDUSTRY IS IN. If one doesn't have about $1600 - they cannot live in a decent one bedroom apartment even by renting. Clients that purchased from builders and are set to close are having a difficult time to close in allocating extra funds.

Brokers should start to voice their opinion as this is our industry and if you don't speak up then we are all doomed with our clients!

Bob Carr and the possible Chinese spies

Last week Four Corners - the premier news program of the Australian Broadcasting Commission ran a story about the influence of the Chinese Communist Party in Australia.

Some of the story was obvious - for instance how Chinese students are coopted to drown out rallies by Falun Gong or other opponents of the CCP. A typical story involves a CCP figure visiting Australia, a bunch of human rights rallies and hundreds of Chinese students bussed to the rally with the intention of overwhelming regime opponents.

A Chinese student involved in organising these rallies was interviewed. She made it clear that the embassy helped. Moreover it was clear there was social pressure (or worse) on students to conform - and that non-conformity had a negative effect on the family back home.

--

But the more interesting part of the story was how these sudden billionaire Chinese businessman (including businessmen who hung out with spies) were giving large donations to Australian institutions and thus getting close to politicians. (Universities were recipients as well as political parties...)

And that some of these businessmen - liked hanging out with politicians (and sometimes paid their legal expenses). And then after having received a benefit the said politician expressed views on the South China Sea contrary to the Australian Government).

This largess crossed party lines. Both sides of politicians had ex-politicians on what were some very generous consulting gigs.

One of these businessmen gave money to the Australian Chinese Relations Institute - an organisation headed by Bob Carr - a former Premier of my home State (New South Wales) and a former Foreign Minister of Australia.

The implication was that Bob Carr (and his institute) was in some sense compromised.

====

I have always liked Bob Carr. He was the New South Wales Environment Minister when I was in my twenties - and I thought he was great. I still do.

So when invited to attend a talk sponsored by ACRI I jumped at the chance. Ignoring the usual advice that it is not a good idea to meet your heroes (especially if they are politicians) I rocked up full of excitement.

Here is the flyer...

When I got there I got a fabulously naïve talk about how various Chinese businessmen making huge waves in Australia were independent businessmen and not in any way arms of the Chinese government. (This includes people who were trying to buy ports near military bases in Northern Australia.)

The naiveté was amazing. Some of these newly minted billionaires career went roughly as follows:

a). Follow dad into the Peoples' Liberation Army (where he is a senior general)

b). Retire in your twenties

c). Start an import/export business. Make a quick 15 million.

d). Invest that in a huge land business. Turn that into a quick billion.

e). At the age of 35 turn up in another country and throw half that money round buying strategically important assets.

But these businessmen were in no way affiliated with the CCP.

Whatever: I left thinking I was born on a Monday - but not last Monday.

(But I was well satisfied with the drinks and canapés...)

--

Anyway Bob Carr is in The Australian (Murdoch's national newspaper in Australia) dissing the whole Four Corners story. You can read his defence. It didn't go very near how his own organisation might or might not be compromised.

Go on. Read it.

I think he would be better leaving things alone.

But as he hasn't I thought I might just put the document circulated that night up for all to read. Maybe the China experts here can tell me whether this is merely naïve (which would be my normal guess) or directly paid for by the CCP.

Here is the link.

As Bob Carr has chosen Murdoch's network to defend his benefactors maybe I should just end with the most famous News Corp slogan: I report, you decide.




John

Post script:

I should note that I am in no way opposed to Chinese billionaires (even if they are CCP linked) investing their loot in Australia. In fact I would encourage it - and can probably suggest some fine ways of investing it.

I just think a ninety minute seminar suggesting a string of Chinese billionaires don't have powerful ties to the CCP is - well quaint at best...

Taking the bull case for Valeant seriously

Last night I had dinner with a friend who had a friend who was buying Valeant. Whatever - it led to a discussion of Valeant fundamentals - and that in turn led to this blog post.

The stock has been on a tear lately - rising from $10 to $13.59 in the last week - poking above $14. To some degree this is just standard volatility for a bombed out stock. But it was prompted by Valeant producing results with a sharp rise in "adjusted EBITDA" and guiding for higher adjusted EBITDA. As the FT put it Valeant "bumped guidance".

The Valeant adjusted cash flow caper

I want to explore this "adjusted EBITDA" number. Then I want to lay out the valuation directly.

Valeant has a history of producing little or no GAAP earnings but very large adjusted cash flow. The adjustments are after a collection of exceptions chosen by management and not subject to audit. This blog has demonstrated in the past that some of these exclusions from cash flow are recurring expenses. That said here is the history going back to the final quarter of 2012.

Quarter	Measures presented	$million
2012-04	Adjusted Operating Cash Flow	423
2013-01	Adjusted Operating Cash Flow	345
2013-02	Adjusted Operating Cash Flow	423
2013-03	Adjusted Operating Cash Flow	408
2013-04	Adjusted Operating Cash Flow	607
2014-01	Adjusted Operating Cash Flow	636
2014-02	Adjusted Operating Cash Flow	500
2014-03	Adjusted Operating Cash Flow	771
2014-04	Adjusted Operating Cash Flow	624
2015-01	Adjusted Operating Cash Flow	708
2015-02	Adjusted Operating Cash Flow	773
2015-03	Adjusted Operating Cash Flow	865
2015-04	Adjusted Earnings*	541
2016-01	Adjusted Earnings, Adjusted EBITDA**	442, 1076
2016-02	Adjusted net income, Adjusted EBITDA***	487, 1087
2016-03	Adjusted net income, Adjusted EBITDA#	543, 1163
2016-04	Adjusted net income, Adjusted EBITDA##	441, 1045
2017-01	Adjusted net income, Adjusted EBITDA###	273, 861

NOTES

Alas this table of changing measures requires some notes.

*In the fourth quarter of 2015 the company presented a late annual report. It announced preliminary earnings that contained a new measure: "adjusted EPS". The "adjusted EPS": was not reconciled in any way to previously announced "adjusted cash flow". The "adjusted earnings" in the above table are is the total adjusted earnings that was used to calculate the "adjusted EPS".

**In the first quarter of 2016 the company reported an adjusted EPS number and and adjusted EBITDA number  started guiding for an adjusted EBITDA number. You would think this number to be broadly consistent with previously used "adjusted operating cash flow" numbers. It wasn't. Remarkably there was an unexplained mismatch between the 2015 first quarter adjusted EBITDA number and the originally reported "adjusted operating cash flow". The old number was 708 million as in the above table. The new number was 1127 million. Somehow as Valeant was collapsing they surreptitiously changed their adjustment to even further increase their stated adjusted cash flows.

***In the second quarter of 2016 the company reported an "adjusted net income" which was inconsistent with previously reported numbers. The previously reported number was "adjusted operating cash flow" of $773 million in the second quarter of 2015. Now they reported "adjusted net income" of $751 million for the same quarter. I cannot reconcile the old $773 million number to the new $751 million number.

#In the third quarter of 2016 the company produced an "adjusted earnings" and adjusted EPS number. There is a number for adjusted earnings in the previous corresponding period (that is the third quarter of 2015). That number is $845 million. Again I cannot reconcile this number to the previously stated number.

##In the fourth quarter of 2016 the same issue arises but this time with respect to adjusted EBITDA which is now reported as $1374 million in the fourth quarter of 2015.


###In the first quarter of 2017 the adjusted EBITDA presented for the first quarter of 2016 was $1008 million. Again it cannot be reconciled to the previously reported $1076 million.



Huge cash flows - company is on its knees

Its pretty obvious here that the "adjusted" numbers need to be taken with some salt. Firstly the adjustments simply do not reconcile quarter on quarter. Secondly despite all these adjustments GAAP earnings look limp and the company is on its knees.

In the last quarter the GAAP earnings look fine until you realise that more than 100 percent of them come from writing down previously accrued deferred tax liabilities. The earnings are good because the company won't be paying as much tax in the future (possibly because losses are large and unrecoverable).

The headline: guiding up non GAAP adjusted EBITDA

That said the headline for the Valeant numbers were that they bumped up guidance for their own non-GAAP measures. (They do not and never have guided GAAP numbers.) Here is the key text:


Valeant has raised guidance for 2017, as follows:

• 2017 Full Year Adjusted EBITDA (non-GAAP) in the range of $3.60 - $3.75 billion from $3.55 - $3.70 billion

This guidance reflects the impact of the sale of the CeraVe, AcneFree and AMBI skincare brands. This guidance does not reflect the impact of the sale of the Dendreon business, which is expected to close mid-year.

What this does not state is that they missed previously announced revenue guidance - and missed it quite badly.

This was the previously announced guidance (announced with the fourth quarter 2016 results):


Valeant has provided guidance for 2017 as follows:

• GAAP Total Revenues in the range $8.90 billion - $9.10 billion,
• Adjusted EBITDA (non-GAAP) in the range of $3.55 billion - $3.70 billion

But in the first quarter revenue came in at $2.109 billion. That is a really big drop. You would have to think that Valeant is going to miss its annual earnings guidance by $500 million or so. The FT article notes an 11 percent decline in revenue.

The common sense test

I am an old fashioned sort of guy. There are really only two ways you can raise real EBITDA (and hence I would think that there are only two ways you can raise adjusted EBITDA).

• The first way is you increase revenues.
• The second way is you decrease costs.

I think that is the end of the story.

So Valeant revenues are on track to miss guidance by about half a billion dollars. But they are going to beat their adjusted EBITDA number.

This can only be done if they have decreased their costs by an unanticipated half a billion dollars.

Possible: but I would like to know what costs they are cutting that they had not previously anticipated.

Remember this is a company that was notorious for cutting costs (possibly to excess) whenever they purchased an asset.

This was the company who fired almost all non-revenue producing people.

Scientists doing research: fire them.

Compliance officers: fire them.

So I am left with a choice. Either

1. The entire myth of Valeant - that it was a ruthlessly low cost operation is bullshit and there are still plenty of unanticipated costs to cut allowing the company to miss on revenue and beat on adjusted EBITDA, or 
2. They are cutting hard into revenue producing staff, but this is going to raise adjusted EBITDA or 
3. The adjusted EBITDA number and guidance is BS.

As you can guess common sense leads me to the third choice. The adjusted EBITDA number and guidance remain BS.

Alternative valuation measures

You can't value this company against the "adjusted EBITDA" because - as this post demonstrates that number is almost certainly BS.

You can't value this company against earnings because (other than writing off future tax liabilities) this company has no earnings. 

So you are left trying to value it against revenue. 

So lets play this game. 

Let's presume that Valeant revenue is as good as Gilead revenue. Gilead is of course the super-champion drug company with $90,000 drugs that cure nasty diseases like Hepatitis C. It is one of the finest drug companies in the world - and is strongly profitable.

Assuming that Valeant's rag-tag of declining generic drugs with increasing competition is - per dollar of revenue - as good as Gilead - is of course generous.

But lets assume that...

Gilead Revenue is running at $29 billion per annum. The revenue is declining though because the drug works - and people are being cured of Hepatitis C. The market cap is 86.3 billion and cash and equivalents are 11.9 billion. The enterprise value is just under 75 billion - so this is worth just over 2.5 times sales.

If you project pretty gnarly falls on Gilead Revenue (simply because their drug works) it is hard to get below 3 times sales for Gilead.

Valeant sales are about $8.4 billion. Put that on three times sales and you can't even cover the debt. The equity will wind up being worth a brass razoo. 

--

Now I am being harsh. Growing pharmaceutical companies with franchises and new drugs in the pipeline regularly trade at 4.5 times sales. If you put Valeant on 4.5 times sales you something in the mid 30 billion range - but only if Valeant sales rapidly stop their catastrophic decline. 

Valeant debt is about 28.5 billion. That gives you potentially - and this is if everything goes right and you put it all on a pretty decent multiple of revenue - about $7 billion in residual equity value. The market cap is about 4.7 billion now.

So if all goes really well you can make some money. But you need to make some pretty heroic assumptions. 

Firstly you need to assume that the various litigation that is inevitable doesn't impair that too much. (I think it will...)

Then you need to assume that the revenue doesn't continue to fall. (I think it will. The company will not be allowed to charge over $200 thousand per year for drugs like Syprine indefinitely. There is probably half a billion to a billion in revenue that will go away simply as competition hits the massively overpriced generics. Actually half a billion is generous.

On top of this you have to ignore the inevitable competition that will come to their biggest drug (Xifaxan). That drug will have a generic supplied by Allergan.

All up I forsee well over a billion dollars of likely revenue declines.

Finally you have to ignore the lack of integrity that allows you to guide up "adjusted EBITDA" when the revenue misses by a lot and where you have not obviously cut costs.

Still - if this is the gamble you want - good luck to you. There are easier ways to make money.

John