Jim Chanos on JPM, C, MSFT, DELL, HPQ, natural gas, etc

[Guest hellsten]

Interesting interview with Jim Chanos:

http://www.bloomberg.com/video/jim-chanos-on-short-selling-hedge-funds-election-odG8NdFlQ5qvL9djCtMEug.html

 

Jim Chanos talks about:

- why he's long JPM and C, and not BAC and WFC. Global footprint…

- why he's short Chinese and European banks.

- why he's long MSFT. The one company in the PC space that is beginning to get it by transforming itself into a hardware and solutions company.

- why he's not long Apple.

- why he's short HPQ and DELL. Making increasingly risky purchases. Acquisitions = capex and R&D.

- sellers of natural gas assets are finding that it's a buyer's market. (CHK and SD?)

- why it's dangerous to coat-tail hedge funds. He is not required to report his short positions…

- the digitalization of analog businesses. Music retailing, big-box retailing. The internet is living up to the hype of the 90s, just 10 years late.

[txlaw]

I wonder what he meant by some of those banks have their own accounting issues.  Was he referring to BAC or just banks other than JPM/C?

[txlaw]

Ugh, his characterization of the "bull" case on DELL is so lame. 

 

Yeah, it's all based on FCF, and nobody takes into account the acquisitions that these guys are making.  ::)

 

This makes about as much sense as his thesis that XOM is a liquidating trust.

[Palantir]

I wonder how a rising Yuan will change his thesis on Chinese banks...

[Parsad]

Ugh, his characterization of the "bull" case on DELL is so lame. 

 

Yeah, it's all based on FCF, and nobody takes into account the acquisitions that these guys are making.  ::)

 

This makes about as much sense as his thesis that XOM is a liquidating trust.

 

Remember his thesis on Fairfax?  This guy gets too much press and far too much praise.  Cheers!

[T-bone1]

Chanos seems to be very succesful at the business he runs.  I'm not sure what I would call that business exactly.

 

He has said on numerous occasions that valuation has nothing to do with his short ideas, but that he basically finds a company with short-term problems and publicizes them.  I would like to see his 13-F to look for long ideas (if he had to publish his shorts).  It doesn't take a genius to realize that Dell, HPQ and the natural gas companies are facing short term headwinds . . . Isn't this what we are looking for as value investors?

 

He doesn't seem to say that any of these companies aren't going to make it, he just says they have problems right now.  Sounds like fertile ground to search for long ideas.

 

And if I remember correctly, his FFH thesis was that it was an insolvent fraud.

[txlaw]

Ugh, his characterization of the "bull" case on DELL is so lame. 

 

Yeah, it's all based on FCF, and nobody takes into account the acquisitions that these guys are making.  ::)

 

This makes about as much sense as his thesis that XOM is a liquidating trust.

 

Remember his thesis on Fairfax?  This guy gets too much press and far too much praise.  Cheers!

 

But he called out Enron, man!  Enron . . .

 

;D

[claphands22]

Cable financial news allows for too much armchair analysis.

 

In shorting, diversification and low position sizing has advantages because margin calls and fraudulent management can burn short sellers who concentrate too much. So Chanos has to have a wide body of knowledge across many industries even if the understanding of each company isn't very deep. I'm guessing his funds work in basis points and is under the institutional imperative of being fully invested. Let's say he caps each individual investment at 100 basis points that's 100 positions, at 75 basis points that's 133 positions at 50 basis points that's 200 positions!  How are you supposed to know each individual case that well and only having your twenty second sound bite for your position?

 

I am not saying this to belittle Chanos, I actually have a deep respect for him because he is one of the more rational voices who gets airtime on the major cable networks.  He also has a past history of uncovering fraudulent behavior in management that has most likely saved would- be investors from losing further money in those companies.  The reason why I am bringing up his many positions is to illustrate the kind of ecosystem he works in: one that demands having a mental model about why you are shorting a position because you can't spew textbook like data for each idea with only twenty seconds to explain (e.g. For Chanos, the bull case for Dell is, it's a cash flow rich company but if you include their acquisitions as R&D capex, it's burning money. His mental model of why it's a good short sounds correct, but given in opportunity to argue with a long investor who has done his analysis, Chanos would have to flesh out his argument even more. Unfortunately, that's not the ecosystem we live in).

 

Chanos is a professional skeptic and if I took the opposite side of his trades I would triple check my analysis. This message board has Fairfax printed in the title and lots of people here made an admirable amount of money of taking the opposite side of Chanos.  Yet, I would be weary of down playing Chanos because of Fairfax. If most value investors are ok with only two thirds of their ideas working out and the rest of the one third not doing well -- couldn't we apply the same idea for short sellers? Maybe only two thirds of their ideas work and and the rest of them don't? I mean, we don't bring up Dexter shoes every time Buffett has a video or Delta Financial Corporation whenever Pabrai has a video. We understand that investors will make mistakes and it's more about the batting average.

[Parsad]

Cable financial news allows for too much armchair analysis.

 

In shorting, diversification and low position sizing has advantages because margin calls and fraudulent management can burn short sellers who concentrate too much. So Chanos has to have a wide body of knowledge across many industries even if the understanding of each company isn't very deep. I'm guessing his funds work in basis points and is under the institutional imperative of being fully invested. Let's say he caps each individual investment at 100 basis points that's 100 positions, at 75 basis points that's 133 positions at 50 basis points that's 200 positions!  How are you supposed to know each individual case that well and only having your twenty second sound bite for your position?

 

I am not saying this to belittle Chanos, I actually have a deep respect for him because he is one of the more rational voices who gets airtime on the major cable networks.  He also has a past history of uncovering fraudulent behavior in management that has most likely saved would- be investors from losing further money in those companies.  The reason why I am bringing up his many positions is to illustrate the kind of ecosystem he works in: one that demands having a mental model about why you are shorting a position because you can't spew textbook like data for each idea with only twenty seconds to explain (e.g. For Chanos, the bull case for Dell is, it's a cash flow rich company but if you include their acquisitions as R&D capex, it's burning money. His mental model of why it's a good short sounds correct, but given in opportunity to argue with a long investor who has done his analysis, Chanos would have to flesh out his argument even more. Unfortunately, that's not the ecosystem we live in).

 

Chanos is a professional skeptic and if I took the opposite side of his trades I would triple check my analysis. This message board has Fairfax printed in the title and lots of people here made an admirable amount of money of taking the opposite side of Chanos.  Yet, I would be weary of down playing Chanos because of Fairfax. If most value investors are ok with only two thirds of their ideas working out and the rest of the one third not doing well -- couldn't we apply the same idea for short sellers? Maybe only two thirds of their ideas work and and the rest of them don't? I mean, we don't bring up Dexter shoes every time Buffett has a video or Delta Financial Corporation whenever Pabrai has a video. We understand that investors will make mistakes and it's more about the batting average.

 

When we checked Chanos' average back in 2004, I don't think he was right on 2/3rds of his ideas.  In fact, the numbers looked like he was wrong on most of them.  But hey, "negative correlation to the indices" was how his purpose in life was explained to me by those that liked the guy.  His clients were willing to pay very large fees for that service.  I would have thought low-cost Bear ETF's would have put him out of business by now.  Cheers!

[ERICOPOLY]

(e.g. For Chanos, the bull case for Dell is, it's a cash flow rich company but if you include their acquisitions as R&D capex, it's burning money. His mental model of why it's a good short sounds correct, but given in opportunity to argue with a long investor who has done his analysis, Chanos would have to flesh out his argument even more. Unfortunately, that's not the ecosystem we live in

 

I don't understand -- when Berkshire employs a strategy of acquisitions Chanos doesn't call it "R&D" or "capex". 

 

How is it different when DELL buys a business vs when Berkshire does it?

 

[mvalue]

(e.g. For Chanos, the bull case for Dell is, it's a cash flow rich company but if you include their acquisitions as R&D capex, it's burning money. His mental model of why it's a good short sounds correct, but given in opportunity to argue with a long investor who has done his analysis, Chanos would have to flesh out his argument even more. Unfortunately, that's not the ecosystem we live in

 

I don't understand -- when Berkshire employs a strategy of acquisitions Chanos doesn't call it "R&D" or "capex". 

 

How is it different when DELL buys a business vs when Berkshire does it?

 

Chanos is saying that Dell has plowed billions into acquisitions to end up with the same level of earnings where it was before (which looking back is basically true) - which implies that from an earnings standpoint its high M&A spend is almost equivalent to huge hidden maintenance capex rather than growth capex as its legacy business gets less and less profitable. If it needed the same level of M&A to maintain the same results forever he might have a point. I am inclined to take the other side of that view, but it's worth thinking about.

[JEast]

1) I have a bias against Chanos for his part in the Fairfax story, but that has softened over the years as he at least backed away from the Fairfax issue.  Also (though anecdotal) was that he was outsourcing his research on Fairfax and was not involved that much.

2) The Spring 2012 issue of Graham & Doddsville had an excellent interview with Chanos that softened my bias a little more.

3) As such, he does have a point about serial acquisitioners in the technology space (e.g. Cisco and HP come to mind).  At the end of the day, the acquisitions need to add some value.  It is rare that a company can really change, but DELL is attempting this.

4) For the most part, the non-manipulated market (ref: FFH, OSTK) is usually smart in these matters and may be the reason for the continued weakness in DELL.

 

 

Cheers

JEast

[txlaw]

(e.g. For Chanos, the bull case for Dell is, it's a cash flow rich company but if you include their acquisitions as R&D capex, it's burning money. His mental model of why it's a good short sounds correct, but given in opportunity to argue with a long investor who has done his analysis, Chanos would have to flesh out his argument even more. Unfortunately, that's not the ecosystem we live in

 

I don't understand -- when Berkshire employs a strategy of acquisitions Chanos doesn't call it "R&D" or "capex". 

 

How is it different when DELL buys a business vs when Berkshire does it?

 

Chanos is saying that Dell has plowed billions into acquisitions to end up with the same level of earnings where it was before (which looking back is basically true) - which implies that from an earnings standpoint its high M&A spend is almost equivalent to huge hidden maintenance capex rather than growth capex as its legacy business gets less and less profitable. If it needed the same level of M&A to maintain the same results forever he might have a point. I am inclined to take the other side of that view, but it's worth thinking about.

 

The problem is that Chanos' thesis is contradicted by the very actions of the companies he criticizes.

 

He says that HPQ and DELL have missed the shift in the PC space.  On the contrary, these companies' strategies have been to become less dependent on being resellers of Windows in a box because they understand the shift and realize that their role in the supply chain is becoming less relevant.  Thus, they are trying to transform their companies into new IBMs.  Chanos completely ignores this either because he doesn't understand the companies or because he just wants to present a narrative that will work for the short term price action.

 

Chanos goes on to say that people are missing that DELL and HPQ are acquiring companies.  First of all, that's not true, as pointed out above, and it's a pretty lame statement.  Second of all, you cannot equate an acquisition with R&D spending.  You're not just getting all of the R&D with the acquired company, you're also getting a revenue stream (which a DELL will scale up), as well as many other assets and liabilities.  And then he goes on to say that these acquisitions are increasingly risky, but it seems like he's just throwing that out there to see if it will stick.

 

Chanos' rationale is a lot like the Einhorn reason for getting out -- he basically implies that the cash being spent on M&A is being burned.  In fact, I'm convinced that Einhorn got out of DELL because he saw Chanos was shorting it and, therefore, determined it would be dead money for a while. 

 

Incidentally, Chanos' terrible analysis calls into question whether the shorts actually provide a useful social function because part of the thesis for allowing shorting is that shorts are "financial detectives" who really explain why something is overvalued.  It seems to me that Chanos free rides off of others analysis (Hendry, Muddy Waters, etc.) and then profits by presenting an overly simplified thesis.  He's the equivalent of Tilson on the short side.

 

If the whole point of shorting is to provide good info to the market and only the most prominent (rather than smart) shorts are getting airtime, then what's the point?  I think shorts are most useful when they ferret out real financial fraud, rather than presenting compelling narratives like politicians.

[racemize]

Ok, this actually made me laugh out loud (not in a derogative way):

 

He's the equivalent of Tilson on the short side.

 

thanks txlaw!

[Guest hellsten]

Ugh, his characterization of the "bull" case on DELL is so lame. 

 

Yeah, it's all based on FCF, and nobody takes into account the acquisitions that these guys are making.  ::)

 

This makes about as much sense as his thesis that XOM is a liquidating trust.

 

Remember his thesis on Fairfax?  This guy gets too much press and far too much praise.  Cheers!

 

The lesson for me is that I shouldn't try to coat-tail Jim Chanos. I found his ideas interesting, because they are mostly contrary to mine and the people I coat-tail. He's also a short-seller and doesn't have to disclose his shorts. He seems to have a high portfolio turnover and a short holding period. I agree with him on MSFT and AAPL though…

 

I'm thankful that he's trying to push down DELL's stock price...

[Parsad]

1) I have a bias against Chanos for his part in the Fairfax story, but that has softened over the years as he at least backed away from the Fairfax issue.  Also (though anecdotal) was that he was outsourcing his research on Fairfax and was not involved that much.

2) The Spring 2012 issue of Graham & Doddsville had an excellent interview with Chanos that softened my bias a little more.

3) As such, he does have a point about serial acquisitioners in the technology space (e.g. Cisco and HP come to mind).  At the end of the day, the acquisitions need to add some value.  It is rare that a company can really change, but DELL is attempting this.

4) For the most part, the non-manipulated market (ref: FFH, OSTK) is usually smart in these matters and may be the reason for the continued weakness in DELL.

 

 

Cheers

JEast

 

James, I would agree with you here, except:

 

He called Prem a "fraud" in front of hundreds of hedge fund managers and in the media.  That wasn't just outsourcing the research, but libel and slander.  He's not some small shop lackey, but had billions under management and a very high profile...thus not only was it unprofessional in every manner, he was completely culpable alongside those that were manipulating the stock and information in the media.  Cheers!

 

 

[FrankArabia]

why did he call Prem a fraud? what was his basis?

[JEast]

Though anecdotal and from one lone source, I suspect that in the heat of the moment Kynikos was using information from their colleagues.  Yes, the 'fraud' comment was out of bounds and surely did not help the situation at the time.  I still have my negative bias but I try to put that aside as I want to be bullish on DELL but I just have not gotten there yet.  May $8 will get me there a little quicker :)

 

Cheers

JEast

[Parsad]

why did he call Prem a fraud? what was his basis?

 

There was no basis...he flat out said that "Fairfax is a fraud and he thinks it is a zero."  I was there at the first Value Investing Congress in New York when he said it, and have not/will not ever attend another one because they allow jackasses like him or Herb Greenberg to speak!  And no, having other speakers like Mohnish or Guy that I respect does not make it any better.  Who you associate with says alot, and people like Chanos or Greenberg are like the stuff I usually wipe off my shoe on the grass after stepping in it!  Yes, I hold a grudge better than Buffett!  ;D 

 

Chanos assumed Fairfax's offshore subsidiaries were involved in hiding gigantic reinsurance losses, which wasn't true.  There were insurance losses, but they were in the open and not hidden in any offshore subsidiary.  He was getting information from these "contracted researchers"...I'm guessing that one was working as an analyst for a research firm, releasing reports ahead of publication to hedge funds, and is now dead...and the other worked as an analyst for a large Australian hedge fund, used to call up large shareholders and tell them to sell their FFH shares, and now runs a blog.  These cretins were also the ones behind the articles by Peter Eavis, Herb Greenberg, Fabrice Taylor, et al.  I can't believe these morons are still employed...says alot for business journalism!  Cheers!

[FrankArabia]

You seemed quite upset at the whole ordeal.....

[MVP444300]

You seemed quite upset at the whole ordeal.....

 

Hi Frank,  anyone would be upset when someone calls your friend a crook which is what Chanos did with Prem when he said Fairfax was a fraud.

 

 

[ERICOPOLY]

(e.g. For Chanos, the bull case for Dell is, it's a cash flow rich company but if you include their acquisitions as R&D capex, it's burning money. His mental model of why it's a good short sounds correct, but given in opportunity to argue with a long investor who has done his analysis, Chanos would have to flesh out his argument even more. Unfortunately, that's not the ecosystem we live in

 

I don't understand -- when Berkshire employs a strategy of acquisitions Chanos doesn't call it "R&D" or "capex". 

 

How is it different when DELL buys a business vs when Berkshire does it?

 

Chanos is saying that Dell has plowed billions into acquisitions to end up with the same level of earnings where it was before (which looking back is basically true) - which implies that from an earnings standpoint its high M&A spend is almost equivalent to huge hidden maintenance capex rather than growth capex as its legacy business gets less and less profitable. If it needed the same level of M&A to maintain the same results forever he might have a point. I am inclined to take the other side of that view, but it's worth thinking about.

 

Chanos has a complicated method of expressing that the PC business' contribution to earnings is declining.

 

[Rabbitisrich]

(e.g. For Chanos, the bull case for Dell is, it's a cash flow rich company but if you include their acquisitions as R&D capex, it's burning money. His mental model of why it's a good short sounds correct, but given in opportunity to argue with a long investor who has done his analysis, Chanos would have to flesh out his argument even more. Unfortunately, that's not the ecosystem we live in

 

I don't understand -- when Berkshire employs a strategy of acquisitions Chanos doesn't call it "R&D" or "capex". 

 

How is it different when DELL buys a business vs when Berkshire does it?

 

Chanos is saying that Dell has plowed billions into acquisitions to end up with the same level of earnings where it was before (which looking back is basically true) - which implies that from an earnings standpoint its high M&A spend is almost equivalent to huge hidden maintenance capex rather than growth capex as its legacy business gets less and less profitable. If it needed the same level of M&A to maintain the same results forever he might have a point. I am inclined to take the other side of that view, but it's worth thinking about.

 

Chanos has a complicated method of expressing that the PC business' contribution to earnings is declining.

 

It also speaks to the problem of trying to normalize FCF for an innovation business. Maintenance/investment capex is difficult to delineate, but that sword swings both ways...

[stylized_fact]

(e.g. For Chanos, the bull case for Dell is, it's a cash flow rich company but if you include their acquisitions as R&D capex, it's burning money. His mental model of why it's a good short sounds correct, but given in opportunity to argue with a long investor who has done his analysis, Chanos would have to flesh out his argument even more. Unfortunately, that's not the ecosystem we live in

 

I don't understand -- when Berkshire employs a strategy of acquisitions Chanos doesn't call it "R&D" or "capex". 

 

How is it different when DELL buys a business vs when Berkshire does it?

 

Chanos is saying that Dell has plowed billions into acquisitions to end up with the same level of earnings where it was before (which looking back is basically true) - which implies that from an earnings standpoint its high M&A spend is almost equivalent to huge hidden maintenance capex rather than growth capex as its legacy business gets less and less profitable. If it needed the same level of M&A to maintain the same results forever he might have a point. I am inclined to take the other side of that view, but it's worth thinking about.

 

Chanos has a complicated method of expressing that the PC business' contribution to earnings is declining.

 

It also speaks to the problem of trying to normalize FCF for an innovation business. Maintenance/investment capex is difficult to delineate, but that sword swings both ways...

 

The cynic in me (sorry for sounding cliché) says that the company has been a complete basket case when it comes to overpaying for acquisitions, and that this is probably best thought of as an operating expense associated with keeping the executive team busy.  This sector and Dell in particular seems to have a real problem with institutional imperative.  IBM offers a great counterexample where financial distress lead to managerial reform.  Companies like Dell and Microsoft appear hopeless in this regard because of the ownership stake of founders (and their complicit boards).

 

... and I did buy some Dell today.

[valuecfa]

My fear with Dell is that it is RIMM three years ago. Large governmental and large biz customers with an image that is not what it used to be. That, plus the fact that it has been a terrible acquirer of businesses in the past.

 

But damn, it seems cheap. And the market it is in is stickier than the tablet/phone market (that RIMM is in)...at least for the time being. Ecosystem not quite as important for the laptop desktop market.

 

While not quite as cheap from a TTM perspective, i think HPQ has a much better brand quality in consumer's minds than Dell. Both, DELL & HPQ are on my watch list.