oec2000

Thanks for the balanced analysis for those of us who were not there. I expect to get flak with my comments so I'll preface by saying that I am against the "bad" shorts and I hope FFH wins their lawsuit bigtime. But, as Ben pointed out, there were enough "questions and negatives" then to attract "genuine" shorts (i.e. those who were simply trying to profit but not drive FFH out of business. FFH attracted the attention of shorts because of missteps it made but to use a really bad analogy, let's just say the "benign" shorts were hitting on the girl but the "malicious" shorts tried to rape her. No rape can be justified under any circumstances but if you dress provocatively to a party, you should expect people to hit on you. The point I want to make, however, is that current and future FFH shareholders will benefit from that near death experience. Who amongst us does not think that FFH mgmt are much better stewards today because of what happened? In a very perverse way, the shorts have actually paved the way for a much brighter future for FFH. Some may ask, "What if FFH had not survived the attacks?" FFH survived because of the quality and credibility of Prem and his team; it survived because it was not Lehman. I'd like to think this is how capitalism works - it's messy but it works, for the most part. Of course, I was not in the foxholes when the attacks happened so my views might be naively idealistic.

I have started looking into a couple of stocks in this sector which has taken beating recently and wanted to start a discussion going to see whether I can learn something from some of you have expertise in this area. From what I can gather, geothermal is, after hydro, perhaps the most economic in the clean renewable energy space, yet it does not get as much love as wind and solar despite it being a steady and more reliable source of power. While there is exploration risk, returns are high (high teens unlevered). With signed PPAs, cashflows are very stable once the projects are up and running and they can be levered up significantly to produce very interesting ROEs. Exploration risk, high capex and long project gestation periods are the only negatives I can see but the stocks seem to be pricing in a lot of negatives and then some. Getting into these stocks now provides two advantages - we can buy in at significant discounts to the actual development costs incurred; and, we short circuit the long gestation periods as some projects are already coming into fruition. The stocks are PRG and AXY on Toronto. I will move them to the Ideas category after I have done more work and have some feedback here and still think they make sense.

http://www.ctv.ca/generic/generated/static/business/article2056676.html Comment from Nomura Securities analyst who has no dog in the fight. Perhaps the first unbiased comment since the story broke? "In early March, Anissa Lee, a credit analyst with venerable Japanese investment bank Nomura Securities, put out a report that put Sino-Forest's valuation in the spotlight. Ms. Lee wondered why Sino-Forest was able to sell its timber for so much money and she was concerned that the company's top five customers, which accounted for 60 to 70 per cent of its revenues for the past three years, have never been disclosed. She pointed out that co-founders Allen Chan and Kai Kit Poon, have a fairly low stake in the company at 2.68 per cent and 0.07 per cent respectively, “which is not very common among Asian high-growth companies.” She also raised questions about the company's cash flows. “I actually used to like this company a lot,” Ms. Lee said in an interview from Hong Kong. When she started covering Sino-Forest's bonds, “it was one of the very first companies in the high-yield space which one can play the China growth story.” For that reason, she decided not to attack the company and instead asked to sit down with management. They agreed. But she still found she could not get comfortable with their story." “It's very difficult to verify information,” Ms. Lee said. She ultimately put out a negative report, but it didn't have nearly the same effect as Mr. Block's, which she attributed to his use of more bombastic language.

Agree. The moment you read his comment that every short he has met exudes smugness, etc, you know his analysis is likely to be biased and flawed. Saying that he could probably make more money if he were a short seller displays his ignorance - most dedicated short sellers do not make money, Chanos being the notable exception and even his returns are nothing close to what regular longs achieve. Our friends at HWIC have notably held short positions from time to time, including their huge CDS positions and no one would call them smug, arrogant, etc. Although Buffett does not do shorts now, I believe there was a time that he tried it. The boring reality is that the community of short sellers is like most other groups of people - it's a diverse and heterogenous group. You have shorts who do their work quietly out of the limelight, those who are decent and honest value investors; you also have the unsavoury shorts who use media publicity to push their agenda. Of course, we see and hear much more of those who do their work publicly. I would venture to say that most shorts, including some here who do it, do it to hedge and reduce volatility in their portfolios; not because they are out to kill companies and bankrupt shareholders. Maybe one day people will treat shorts with as much tolerance and understanding as they now treat witches and people with different sexual orientations. :)

Do you remember what the interest rate environment was like and what the Fed did before the Volcker squeeze? Also, were stocks already cheap in the late 1970s or did they become cheap only in reaction to double digit interest rates? I am wondering whether we will get another opportunity to see single digit market PEs. Thanks.

I think it was Ronald Reagan who said, "Trust, but verify." He was referring to the Russians. Guess the same should apply the Chinese. :)

Let us know what you come up with.

I have not looked into the corporate governance issues yet but the numbers do not appear so bad to me (maybe not good enough to buy but not bad enough to short, especially considering the yield). Btw, they did buy back >4m shares in 2009 - smart move. Result is their share count has stayed flat while their revenue/share have risen >50% over 4 years. Their reported leverage ($400m debt, $400m assets, and negative equity) is scary but misleading because their porperties are held at cost less depreciation. If you take their rental income of $53m and apply a conservative 8% cap rate, you arrive at a fair value of $660m, implying a LTV ratio of 60% - not excessive for this type of business. I agree that they would hurt from a rise in interest rates but most REIT type businesses would. However, this would be alleviated by their very high proportion of fixed rate CMHC insured debt. Also, if your assumption of higher interest rates is predicated on a rise in inflation, they may have an offsetting rise in rental income (which is inflation index controlled, I believe). Anyway, their current debt service of $20m is covered by about $30m in net rental revenue. I have to say my initial impressions are that it is quite well run. Besides, the segment of the market they operate in is quite different from the million dollar housing and condo markets in Vancouver that have seen the most speculative and frothy activity. They are dealing in $100K per unit properties which rent out for perhaps half the absolute rent of the high 6 figure condos which probably yield less than 3% gross. (Using book, MEQ's portfolio's gross rental yield is about 15%!).

But I thought we agreed that they can do the buybacks without having to repatriate the cash? I agree with your point about mgmt wasting cash on bad M&A deals; but I wonder whether this is a function of the "institutional imperative" rather than the because of the offshore cash.

Not sure whether you are looking at this from a nationalistic viewpoint (i.e. corporations should pay their fair share) or as a shareholder. As a purely capitalistic shareholder, I see no reason why a corporation should pay any more taxes than they have to. Buffett believes in the rich paying their share but he games the tax system pretty well. The problem is with the tax laws, not the corporations that use every loophole they can get to their advantage.

My point is that we should only trust ourselves and make the decision based on our own analysis. Relying on blind faith is not my preferred route.

You haven't gone over to the dark side, have you? ;D JK. The property bubble has not extended to multifamily rental apartment properties which, afaik, remain well supported by yields. Also, most of them still transact below replacement cost as a result of which supply remains constrained. I believe their leverage looks ok if their properties are valued at market rather than book and much of their debt is fixed rate and CMHC insured (still not quite sure whether this means it is non-recourse). It may not be an obvious short imo.

Thanks! Care to share your views on relative merits of investing in multifamily properties vs single family? Better yields, better financing terms, tenant diversification, economies of scale in mgmt?

What terms of recourse does the lender have in Vancouver compared to Florida which also has recourse financing? And Nevada which does too? What about Caif and Ariz? Recourse? Was talking to someone yesterday about buying investment property in the US and I was told that it is impossible to get mortgages on investment properties (for individuals) these days. Ok for vacation properties but not properties bought for rental. Does this sound right to you?

What terms of recourse does the lender have in Vancouver compared to Florida which also has recourse financing? And Nevada which does too? Full recourse, afaik. The lender comes after you for any shortfall and can put you into bankruptcy. Some high LTV mortgages have to be insured by CMHC (the govt-owned Canadian Mortgage Housing Corp). This insurance protects lenders. I am not sure what happens when a homeowner defaults and CMHC pays out - can they come still come after the homeowner for the loss?

Can they borrow against the cash as collateral to carry out buybacks? I'm just wondering whether the two are incompatible as you have put it - keeping cash offshore and buybacks.

Sanjeev, even if you believed (2) ("all their resources"), which is a stretch with the possible exception of Chanos, this "guilt by association" argument is a dangerous and unfair one. We have absolutely no evidence that Block is colluding with any of these characters. Being interviewed by one of them and mentioning another does not add up to collusion. How different is this from someone saying that Prem and FFH are dishonest simply because they have associations with the "miscreants" at Megabrands who are accused of insider dealing? None of us would jump to this conclusion. I think drawing conclusions this way is even worse than what the evil shorts do - at least they try to back up their accusations with "facts," however loose they may be. For the record, I share your disgust for shorts who knowingly spread falsehoods and there seems to be enough evidence to link the people FFH is suing to such activities. But we are in no position to determine whether Greenberg and McLean were "evil" or simply misguided and manipulated. Until we are, we should not tar everyone, regardless of the degree of association, with the same brush. We should not make the same mistake that we are accusing these people of.

And the world would be a better place if everyone trusted all the sell side analysts?! Try asking the Enron shareholders who lost everything. I guess they trusted Arthur Andersen and the big name Wall Street firms. What about the Madoff fiasco? Who would you have trusted - the SEC who gave him a pass or the Markopoulos (?) guy? And, I guess you would buy anything that Goldman is selling without doing your own analysis. After all, Goldman is the king of Wall Street and therfore must be trustworthy, right? As I have tried to point out in other posts, we owe it ourselves to do our own brainwork, not subcontract it out to "trusted experts" who are not infallible. Arguing by reference to an "authority" is intellectually lazy, if not suicidal. Case in point: I bought some Canwest back in 2008 relying purely on FFH's purchases. After looking into more closely at the facts, I realised I had made a mistake and sold out for a large percentage loss (thankfully not as large as FFH's. :) Do I blame FFH? No. I blame my laziness and stupidity.) Btw, you will note that none of the TRE naysayers here are saying to trust Muddy Waters or short TRE. We are merely pointing out that we should exercise caution and review the facts/info more closely before jumping in. On the other hand, the only thing the TRE supporters and/or MW bashers have consistently used are "guilt by association" or "virtue by association" arguments. You tell me which is the more rational approach? Taking the road of ignoring the message simply because you "can't trust the messenger" is exactly how the SEC dropped the Madoff ball.

EP at $3, ATSG at 20 cents, FBK at 20 cents, FFH at $80, WFC at $8, BAC at 2 bucks. Buying those back then has real risk of going zero too. Not many times we can have "baggers" with little risk. I am all for looking for multibaggers and have posted on things like bank pfds, SCP and SII which have turned out to be multibaggers. I am not averse to taking calculated risks. Neither SCP or SII were at risk of bankruptcy when I bought and with the bank pfds, I recommended them only after the govt stress tests had been done and the banks had raised additional capital to shore up their stress tested balance sheets (and even then I took a basket approach to ensure that I would lose everything only if the entire banking system had gone under). The point is that you can find baggers without taking "blind" risk (which is what one would be taking with TRE unless the questions I raised about their numbers can be explained to some degree). Bringing up hindsight examples of fortunes being made by risk takers does not prove anything. These are not random samples that validate your viewpoints; they are merely selective facts that suit your argument. Don't you think that if you took random samples of high risk investors and investments the proportion of failures would be much higher than successes? Maybe you feel that the cautionary folk here are attacking you and sometimes enthusiastic posts can appear that way. However, I think most of them are simply offering alternative views for you to consider. The problem is that we don't see you offering much by way of analysis of TRE's business or financials to explain why you think it is a good calculated risk. (I'm not suggesting that you need to explain your decisions; just that it would be more beneficial to everyone if the discussions centred on TRE's fundamentals rather than on the evilness of short sellers or the benefits of risk-taking.) You may feel that this is a 50:50 bet because it is one side's words against the other. However, you should consider the incentives that each side has. TRE mgmt has an incentive to lie because they can benefit from the lie. MW has much less incentive to lie - would you deliberately choose to short and attack a company that you sincerely believe to be sound and highly profitable? They have hundreds of companies to choose from - why choose a strong one that they have to manufacture lies on? Reminds me of the argument that Bush knowingly lied about WMD in Iraq. If he really knew that there were no WMD, would he have lied knowing that they would eventually fail to find the evidence? If the lie had been deliberate, wouldn't he have taken the logical next step to plant some WMD and then "find" it later on?

These are the questions I would ask: 1) Do I understand TRE's business model and how it derives its competitive advantage, if any? 2) Are its profits reflective of its competitive position? 3) Is TRE's past performance reasonable for a company in its space and with its competitive position? 4) Are the balance sheet numbers easily verifiable by auditors? These are the answers I came up with: 1) TRE does not appear to have any competitive advantage (no unique product and no reason why they should be the lowest cost producer). 2) If they do not have an obvious moat, why are their margins and growth rates so high? If I can't explain this, it either means I don't understand the business or the numbers are suspect. 3) I haven't come across any other forestry company with such a smooth and outstanding track record of growth. Again, this could mean either I haven't looked at enough companies or the numbers are manipulated a la Enron. 4) Forests, especially those in the middle of nowhere, are notoriously difficult for auditors to verify. Land titles can be verified (not sure how easy this is in China) but it may not be so easy to verify what is on those lands. Unless I am able to answer these basic questions to some degree of satisfaction, I would feel like the patsy.

I also think we all know very many more people who went broke who at one time or other made some very high risk investments. Watsa and Buffett may very well have made some very high risk investments - however, it is very likely that they will also tell you that they did not get rich from those high risk investments.

I agree that investing is a form of gambling. What makes it different is that true investors invest only when the odds (i.e. the expectation) are in their favour. People buy the lottery because they see only the high reward to loss ratio; if they focused on the expectation (which is negative), they would rationally not buy the lottery. So far, the TRE discussion sounds more like that of a lottery (reward vs loss) rather than an investment (no computation of expectation) - which is why I ask whether we have moved to Mad Jim's corner. Would a truly good investor take the odd gamble (in the lottery sense) now and again? It has been my experience whenever I have taken such gambles, that I promptly get reminded (in the wallet) that I am not such a good investor. Meanwhile, can someone please give a plausible explanation for how TRE can consistently make 100+% unleveraged ROI (not annualised) purely by trading in a commodity without adding value? If there is an idiot selling them timber at 50+% discounts, I would like to do business with him too.

Have we moved suddenly from the corner of BRK and FFH to the corner of Cramer & Cramer? What happened to Buffett's Rules Nos. 1 and 2? The only justification buyers seem to be giving here is that the upside is many multiples of the downside. This is fine if the bet is a 50:50 bet. But, is it? I haven't done much work on TRE or read the actual MW report but these are some of the things I gleaned from this TRE presentation: http://www.sinoforest.com/pdf/presentations/SFC-IR-ppt-Q410.pdf. 1) Poyry Consulting (independent valuer of TRE's forest assets) has, after a recent "internal risk assessment" decided that their valuation reports to TRE may no longer be made avaliable in the public domain. Red flag? 2) Anyone wonder how a commodity company like TRE has a 15-year track record that looks better than MCD, FFH and BRK? Phenomenal growth rates with hardly a stumble? CAGRs of 23% diluted EPS, 36% revenue, 43% net income! Redder flag? 3) This company generates 50+% gross margins simply from buying and selling standing timber. What's interesting is that these margins are higher than the 30-40% margins they get from felling and selling logs. We're wasting time arguing about whether to invest in TRE or not. We should get into the timber trading business. Even redder flag? 4) They report gross margins of 35% overall, yet their EBITDA margins are almost 60%. Net margins are around 20%. My flag just turned brigtht crimson. There may be prefectly good explanations for these things and I do not know the forestry business at all so I may just be revealing my ignorance but it seems to me this is not a 50:50 bet.

Perhaps the Europeans here can provide a better answer but I thought that the EU was primarily about expanding the political power of Germany and, to an extent, France. The Germans were prepared to sacrifice financially so that they can eventually control a larger political entity, the United Sates of Europe, that would be comparable in size to the USA. Isn't this the reason why they continue to support the basket countries financially?

While I agree that there are some reckless people who will never heed warnings, there are also those who do change their behaviour when made to understand the risks. Consider smoking - wouldn't you agree that less people smoke now because they are more aware of the risks? Some segment of the population will benefit from credit warnings imo. In fact, we should make mutual fund companies and financial advisers give warnings to the effect that studies show that most active managers underperform their benchmarks and that unless they (the mutual fund companies, etc) can provide proof of long term outperformance, clients should assume that they too, will underperform.