Sino Forest Assessment

Uccmal · June 8, 2011

I have started this thread partly to get myself clear as to what exactly one can determine about Sino Forest. I held this stock in and around 2005/06/07 and was out of it early in 2007. At the time I was up to date on the financials. I have a moderate understanding of logging, forestry, and the P&P industry. I exited it because it had risen well beyond its stated book value and was no longer cheap on a PE basis.

I never held a huge position in it. There were other investments available that were better at the time. Maybe 10% at the absolute maximum looking back. So, if it is/was a fraud I was blissfully not paying attention back then, and consequently did very well with it.

I have thought alot about what I have written. I have not read the financials recently.

What can I prove is true about Sino Forest:

1) They have audited, published financial results.

2) They have an audited forestry asset assessment by an Asian company: Poyry

3) On a reported financial basis they have performed very well.

4) They have a website with numerous documents.

5) They have a BOD made up of Canadian, and Asian Directors.

6) They have a Canadian Chief Financial Officer.

7) They have raised enormous amounts of money in debt and IPOs.

What am I unable to prove about Sino Forest?

1) I have no way of knowing what they are doing with their cash.

2) I have no way of knowing if they own the forests they say they own.

3) I have no way of knowing if the forests they say they own actually have marketable trees.

4) I have no idea where the money is.

5) I have no idea if they are selling the forest/trees/products they say they are selling.

6) I have no idea where their end product goes, what it looks like, who buys it, or what happens to it.

7) The forest auditors, and Ernst & Young have no idea either. They only have a sampling of data/forest provided by the company.

8) Their Canadian BOD and CFO really have no idea if there is a real company of said size behind the faces they see, or the trees they see. We saw this very clearly with Hollinger International.

9) No one outside of the inner circle of the company could tell me if the financials were accurate and they have no way to prove it.

If I go to China and check into their operations:

1) The company rep could show me anything and tell me anything and I would have no way to verifying it.

2) They could take me anywhere and I wouldn't know where I was.

3) They could show me piles of cut wood, pulp, wood chips, and tell me it was theirs and I wouldn't have clue one way or the other.

4) They could take me to their offices and show me people, and I would have no way of knowing who the people were, who they worked for, or what they did.

When all is said and done the only thing they could show me is cold hard cash in the form of dividends they were paying over a long period of time that were being raised a couple of times a year. They would also need to keep the cash in trust with an American or Canadian financial institution and show me exactly where the money was going when it was spent.

This all differs from Canfor, based in British Columbia. With Canfor I could start by going to Home Depot here at home or anywhere in NA and looking at the stacks of lumber and reading the Canfor labels. I could ask Home Depot, Lowes, etc. who they buy the Canfor labelled lumber from. I could ask them how much they sell, roughly, and if this was similar for most HD outlets.

I could then fly out to British Columbia and ask to tour one/or some of Canfor's plantations and licensed holdings to assess the amount of timber they hold. I could cross reference this with Provincial records of holdings. I could do all this without having to bribe or pay anyone. I could rent my own 4x4 and drive myself with a GPS so that I knew where the holdings were and cross reference with the companies records and the government records.

I could then go to a Canfor lumber mill, and the CFX P&P mills, and look at their operations. I could call someone from the BOD or management and ask them all about the company and if I could meet them at their offices for a brief tour. I could talk to their auditors and know that the auditors were not being significantly fleeced because I had independently verified that things existed and indeed belonged to Canfor.

The same applies to any of my other holdings such as MFC, RUS, WFC, BAC. Any of these companies may have divisions that might be a little sketchy form time to time but odds are against companies that we see and interact with in our daily lives being complete frauds.

I simply cannot do even the most basic of assessments of Sino. I am 100% at the mercy of their own publications and say so. This is what makes Sino such an easy short attack target, and makes it impossible (so far) to refute claims that it is a fraud.

So, From a G&D, Watsa, Buffett perspective: Does Sino Forest have a margin of safety? At any price? I would have to say no.

I cannot attach a value to it by any known measureable standard at this point in time. Finally, we will all have lots of time to invest in this. I would not expect it to turn very quickly if it proves to be the real deal.

Please do me a favour and dont turn this thread into another discussion on MW or I will ask Sanjeev to delete it. We already have that thread going elsewhere.

SharperDingaan · June 8, 2011

You might want to consider

• Somebody had to lend them maybe 10-15% of the total shares o/s for an extended period of time. But the shorter still didn’t think that it was enough - or they would not have also shopped the idea. How many people own at least 15% of TRE?

• To make it work the shorter needs to be a net seller all the way down, & in increasing volume. Somebody had to be on the buy side - & you cannot assume that they were not amongst those who lent the shares. Average cost/share just come down, & the position has gone overweight.

• To mitigate the risk the shorter needs to be THE net buyer, & in quantity, when the market is attempting to decide the case. Should there be a competing buyer who just buys & holds, they will effectively draw down the artificially high float - & ensure that the shorter cannot cover their term share loan when it comes due. The cost of the loan goes to 20%+ & the option market in TRE suddenly starts to see lots of ‘liquidity’.

• No shorter would do this unless they could cap their maximum loss. How many people could quietly give them an OTC call on sufficient quantity ? And why would a competing buyer at the bottom of the panic not be the same person who wrote the OTC call ?

As the ‘Dune’ mantra goes; “Fear is the mind killer”

SD

alertmeipp · June 8, 2011

I have started this thread partly to get myself clear as to what exactly one can determine about Sino Forest. I held this stock in and around 2005/06/07 and was out of it early in 2007. At the time I was up to date on the financials. I have a moderate understanding of logging, forestry, and the P&P industry. I exited it because it had risen well beyond its stated book value and was no longer cheap on a PE basis.
I never held a huge position in it. There were other investments available that were better at the time. Maybe 10% at the absolute maximum looking back. So, if it is/was a fraud I was blissfully not paying attention back then, and consequently did very well with it.

I have thought alot about what I have written. I have not read the financials recently.

What can I prove is true about Sino Forest:
1) They have audited, published financial results.
2) They have an audited forestry asset assessment by an Asian company: Poyry
3) On a reported financial basis they have performed very well.
4) They have a website with numerous documents.
5) They have a BOD made up of Canadian, and Asian Directors.
6) They have a Canadian Chief Financial Officer.
7) They have raised enormous amounts of money in debt and IPOs.

What am I unable to prove about Sino Forest?
1) I have no way of knowing what they are doing with their cash.
2) I have no way of knowing if they own the forests they say they own.
3) I have no way of knowing if the forests they say they own actually have marketable trees.
4) I have no idea where the money is.
5) I have no idea if they are selling the forest/trees/products they say they are selling.
6) I have no idea where their end product goes, what it looks like, who buys it, or what happens to it.
7) The forest auditors, and Ernst & Young have no idea either. They only have a sampling of data/forest provided by the company.
8) Their Canadian BOD and CFO really have no idea if there is a real company of said size behind the faces they see, or the trees they see. We saw this very clearly with Hollinger International.
9) No one outside of the inner circle of the company could tell me if the financials were accurate and they have no way to prove it.

If I go to China and check into their operations:
1) The company rep could show me anything and tell me anything and I would have no way to verifying it.
2) They could take me anywhere and I wouldn't know where I was.
3) They could show me piles of cut wood, pulp, wood chips, and tell me it was theirs and I wouldn't have clue one way or the other.
4) They could take me to their offices and show me people, and I would have no way of knowing who the people were, who they worked for, or what they did.

When all is said and done the only thing they could show me is cold hard cash in the form of dividends they were paying over a long period of time that were being raised a couple of times a year. They would also need to keep the cash in trust with an American or Canadian financial institution and show me exactly where the money was going when it was spent.

This all differs from Canfor, based in British Columbia. With Canfor I could start by going to Home Depot here at home or anywhere in NA and looking at the stacks of lumber and reading the Canfor labels. I could ask Home Depot, Lowes, etc. who they buy the Canfor labelled lumber from. I could ask them how much they sell, roughly, and if this was similar for most HD outlets.

I could then fly out to British Columbia and ask to tour one/or some of Canfor's plantations and licensed holdings to assess the amount of timber they hold. I could cross reference this with Provincial records of holdings. I could do all this without having to bribe or pay anyone. I could rent my own 4x4 and drive myself with a GPS so that I knew where the holdings were and cross reference with the companies records and the government records.

I could then go to a Canfor lumber mill, and the CFX P&P mills, and look at their operations. I could call someone from the BOD or management and ask them all about the company and if I could meet them at their offices for a brief tour. I could talk to their auditors and know that the auditors were not being significantly fleeced because I had independently verified that things existed and indeed belonged to Canfor.

The same applies to any of my other holdings such as MFC, RUS, WFC, BAC. Any of these companies may have divisions that might be a little sketchy form time to time but odds are against companies that we see and interact with in our daily lives being complete frauds.

I simply cannot do even the most basic of assessments of Sino. I am 100% at the mercy of their own publications and say so. This is what makes Sino such an easy short attack target, and makes it impossible (so far) to refute claims that it is a fraud.

So, From a G&D, Watsa, Buffett perspective: Does Sino Forest have a margin of safety? At any price? I would have to say no.

I cannot attach a value to it by any known measureable standard at this point in time. Finally, we will all have lots of time to invest in this. I would not expect it to turn very quickly if it proves to be the real deal.

Please do me a favour and dont turn this thread into another discussion on MW or I will ask Sanjeev to delete it. We already have that thread going elsewhere.

With the way you are thinking, most oversea companies will not be invest-able?

oec2000 · June 8, 2011

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.

Nnejad · June 8, 2011

You know, I haven't looked at Sino again for years, but I think MW might just be confusing scandal with a crummy economic business (from a return on capital perspective). As I remember the model, it was: buy trees and land for X, sell trees for X, and maybe in the far future get a small value Y from replanting. Doesn't mean the timber is fake, just that the 4 billion invested is only worth 4 billion.

Uccmal · June 8, 2011

With the way you are thinking, most oversea companies will not be invest-able?

Alert, If by overseas you mean companies where I cant possible investigate anything than yes. The same would apply to Junior Mining companies anywhere which I avoid like the plague. I dont think that rules out companies like Barclay's, Carrefour, Tata, Sony, or Tepco for that matter.

Nick, That is an interesting perspective. Increase ROE by increasing debt. I haven't looked at the numbers close enough. Glad to see your still around.

alertmeipp · June 8, 2011

Even WFC, you are see all the branches, but so what? WFC is not selling above book because of its branches. It's because its ability to do cross selling (higher margin), right? How do you validate that the cross-selling edge? I don't think you can. Investing needs trust or faith in a sense.

alertmeipp · June 8, 2011

You might want to consider

• Somebody had to lend them maybe 10-15% of the total shares o/s for an extended period of time. But the shorter still didn’t think that it was enough - or they would not have also shopped the idea. How many people own at least 15% of TRE?

• To make it work the shorter needs to be a net seller all the way down, & in increasing volume. Somebody had to be on the buy side - & you cannot assume that they were not amongst those who lent the shares. Average cost/share just come down, & the position has gone overweight.

• To mitigate the risk the shorter needs to be THE net buyer, & in quantity, when the market is attempting to decide the case. Should there be a competing buyer who just buys & holds, they will effectively draw down the artificially high float - & ensure that the shorter cannot cover their term share loan when it comes due. The cost of the loan goes to 20%+ & the option market in TRE suddenly starts to see lots of ‘liquidity’.

• No shorter would do this unless they could cap their maximum loss. How many people could quietly give them an OTC call on sufficient quantity ? And why would a competing buyer at the bottom of the panic not be the same person who wrote the OTC call ?

As the ‘Dune’ mantra goes; “Fear is the mind killer”

SD

What are you trying to say? The option market for Sino wasn't liquid at all.

benhacker · June 8, 2011

Even WFC, you are see all the branches, but so what? WFC is not selling above book because of its branches. It's because its ability to do cross selling (higher margin), right? How do you validate that the cross-selling edge? I don't think you can. Investing needs trust or faith in a sense.

You talk to their customers...

Some businesses you can't meet workers, and you can't meet customers, and you can't verify physical locations (without expense)... in those situations you have to acknowledge you are at a distinct informational disadvantage, and make you peace and either not invest, or invest in a measured way and not allow yourself to double down when basic facts are challenged.

Defending Sino Forest by saying you can't do scuttlebutt on a company as basic as Wells Fargo seems like a pretty big stretch.

It's not that we don't take leaps of faith or coattail on implied research in investing, we do.

For some Scuttlebutt on WFC, I only have to look to my clients who probably 20-25% have WFC bank accounts, and many have brokerage, mortgage, auto loans, etc with them. Their cross sell metrics pass the sniff test for me. Take that as a tiny data point, but there are many others that are not hard to find.

Ben - no position in Sino... read the report, thinks everyone would be better off just waiting and not wasting their time trying to determine the odds at a table that doesn't follow the rules you are used to. and I hope Sino is legit.

alertmeipp · June 8, 2011

My point remains: Investing needs trust or faith in a sense.

rijk · June 8, 2011

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.

think this sums it up very nicely, a commodity business like forestry just doesn't have a profitability profile like TRE has, if you want to believe in miracles, please feel free but don't be surprised when your account value (or what's left of it) has miraculously evaporated one day......

regards

rijk

biaggio · June 8, 2011

Good thread + comments by all.

Lessons in thread is a good reminder for me.

My point remains: Investing needs trust or faith in a sense.

-it is true that there is always a need for some trust or faith. I feel reassured (and have more faith + trust) when I know the product/service etc (ie you can walk in Home Depot + see it), but also I have more trust and faith when CEO, BOD, managers etc have a good stake in the company i.e they have a sizable amount of their own net worth in the company and they are buying more shares.

SharperDingaan · June 10, 2011

"What are you trying to say? The option market for Sino wasn't liquid at all"

Somebody lent the shorter 10-15% of all the o/s shares on a term loan basis. If the borrower cant repay the term loan in full on its due-date - the lender will ultimately let them roll-over the shortfall at an extortionist interest rate. No different to a conventional loan default.

To get the shares to repay the rollover & raise the $ to pay the interest, the shorter will be a heavy buyer of out-of-money calls - & seller of at-the-market puts. Buying in the shares will raise the share price, cause the calls to excercize, & deliver huge quantities of shares to the shorter which he can use to close his short position & escape further losses.

The option market should show a rising open interest & more frequent trades as we get further from the short 'event'. It will seem more liquid when in fact it isn't. And if the lender bought a significant portion of the shares the borrower sold he will trap the short & essentially earn an arbitrage profit.

.... almost identical to the mechanisms that were acting on FFH a few years back.

SD

oec2000 · June 11, 2011

My point remains: Investing needs trust or faith in a sense.

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

oec2000 · June 11, 2011

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.

rijk · June 12, 2011

FYI

regards

rijk

http://brontecapital.blogspot.com/2011/06/sino-forests-some-thoughts.html

Ballinvarosig Investors · June 14, 2011

Tanzanian Royalty Exploration (NYSE TRE) are changing their ticker symbol because they believe that some investors are shorting the wrong stock! You couldn't make it up.

http://www.benzinga.com/news/events/11/06/1157072/tanzanian-royalty-exploration-changing-ticker-to-avoid-confusion

ubuy2wron · June 14, 2011

Tanzanian Royalty Exploration (NYSE TRE) are changing their ticker symbol because they believe that some investors are shorting the wrong stock! You couldn't make it up.

http://www.benzinga.com/news/events/11/06/1157072/tanzanian-royalty-exploration-changing-ticker-to-avoid-confusion

Actually this stock has been under attack as well. There have been some hatchet jobs on Tanzanian on seeking alpha recently.

given2invest · June 14, 2011

TRE (NYSE) is a total joke of a company, actually

given2invest · June 14, 2011

Off topic, but this could be the funniest line in a CEO letter I've ever read:

http://www.tanzanianroyaltyexploration.com/s/ChairmansCorner.asp?ReportID=454152&_Type=Chairmans-Corner&_Title=Loaning-Shares-to-Opposition-Will-Only-Hurt-Yourself

April 29, 2011

Loaning Shares to Opposition Will Only Hurt Yourself

Dear Friends:

Many of you have received solicitations to borrow your debt-free TNX/TRE shares. This request has come from brokers for a fund that had sold (shorted) over 6,000,000 shares - without the immediately ability to make delivery. At the same time another fund has purchased over 9,000,000 shares.

As your company's trading volume grows, some hedge funds play a short junior/long major OTC derivative without discrimination (other than volume) with respect to the situation they short.

You can review the accomplishments of TRE/TNX by checking out the web presentation of our Annual General Meeting, followed by the Question & Answer period, on our corporate website at: www.tanzanianroyalty.com.

There are FOUR specific things I would like to emphasize in this particular missive:

1. First of all, I want to encourage you not to lend your shares to the opposition who is frankly being pressed to borrow. You will only hurt yourself by doing so.

2. Next, I strongly recommend that you go to our corporate website to obtain an update on what your company has become.

3. Everyone should be grateful to the Geier Fund for their confidence in our future prospects and their investment in us which is formidable to say the least!

4. Although technical analysis can be read differently between analysts, I would like to call your attention to a 5 year Cup & Handle that has been building in our stock.

Respectfully,

Jim Sinclair

nodnub · June 14, 2011

that is pretty funny.

but then I thought of how much time mankind has collectively wasted in plotting out charts of past price performance and labeling various patterns and support levels. And that made me kind of sad.

given2invest · June 14, 2011

It's a CEO letter to shareholders!!!

Uccmal · June 14, 2011

That's priceless.

Makes one question their mining tactics as well.

"We hired 100 bushmen to do the mining dance at 15 locations this quarter. At 3 locations messages in the form of shooting stars were received indicating the presence of gold nearby. Voices from beyond told us exactly where to drill"

June 14, 2011

"We hired 100 bushmen to do the mining dance at 15 locations this quarter. At 3 locations messages in the form of shooting stars were received indicating the presence of gold nearby. Voices from beyond told us exactly where to drill"

:o Wow, now I've seen everything.

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