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

[ExpectedValue]

Does a business have a great moat if they have to constantly rely on acquisitions to maintain (not just grow) their cash flows?

 

M&A is pretty tough and most people say that companies usually overpay for their acquisitions, it's something I've always wondered about in the context of Dell and HPQ.

[txlaw]

One of the funny things about DELL is that the same debates keep occurring over and over again.  Just conduct a search for DELL posts on the board and you can read through all of our jabber about the company.

 

It is certainly true that the DELL thesis is dependent on whether management is being rational with their M&A.  If you believe that DELL has done a poor job with M&A in the past, then you ought not to invest.  Because that means they're not executing properly, which will be vital to their successfully transforming the company. 

 

I believe the opposite, however.  I like the acquisitions they've made, and many of the acquisitions that appeared to be expensive based on backwards looking financial statement analysis were not expensive after DELL started selling product through the distribution franchise.  Moreover, DELL has been hard at work building their portfolio so that they can be the best technology productivity solutions provider, especially in light of all of the change that's occurring in IT.  Ultimately, DELL views itself as a productivity solutions company, not as a computing hardware or technology company, although it certainly sells computing hardware.  It's all about trying to become more like IBM.  (Read http://www.economist.com/node/18803123)

 

With regards to branding, it appears that Dell Hell has left a lasting impression on many folks.  But as has been pointed out before, that negative association is primarily a NA thing, and possibly Western European as well.  For example, Dell has a great reputation in places like India and Brazil, which are places where there will be a need for PCs, "post-PC" devices, thin clients, cloud infrastructure hardware, software systems implementations (e.g., see work for GOME in China building an e-commerce platform), etc.  Servicing businesses in India and Brazil and China will be great over the long run.

 

I would highly encourage people to visit the DELL corporate website.  There's an incredible amount of info for investors there.  Read through the conference transcripts, watch some of the videos, and subscribe to the Dell Shares blog.  You will really get a better sense of what exactly the company is all about.  For example, read the transcript for the recent Citi conference presentation.  You absolutely must focus on the qualitative aspects of the investment.  DELL's being "statistically cheap" (whatever that means) is not a good reason for being invested in it.

 

As for HP, I never believed in management or the board, and I won't invest there until I see some actual progress being made.  I think their M&A has truly been atrocious.  They are the anti-DELL, IMO.

[txlaw]

Dell can get into a tricky situation real quick if:

 

    - interest rates go up and cash flows go down

 

Some other challenges:

 

    - has earmarked emerging markets for growth but its original business model doesn't work in emerging markets

    - public work is likely to contract further with the push to reduce budget deficits in U.S and Europe

   

I see this as a trading bet - earnings will not go down dramatically and market will pay a higher price in the next two years.

 

See my latest post.

 

And read a bit more about the DELL transformation.  You keep referring to original business model and headwinds facing the "Core Dell" business.  If you actually buy into the notion that "New Dell" will work, then you'll see that this is not a trade. 

 

If you view DELL as a trade, you're playing with fire, especially with Einhorn and Chanos on the other side of the bet.

[Guest valueInv]

I believe the opposite, however.  I like the acquisitions they've made, and many of the acquisitions that appeared to be expensive based on backwards looking financial statement analysis were not expensive after DELL started selling product through the distribution franchise. 

 

If they are acquiring these companies in the non-pc area and are able to grow the acquired products through the distribution franchise, why is it that the % of their pc revenues almost constant? Shouldn't the non-pc revenues be growing quickly?

[claphands22]

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!

 

It would be interesting to see his past results. Do you remember if he was allowed to invest his cash in something other than treasuries? I do wonder what they do with their cash in a short only fund. Not shocked if his results were poor. I'm not sure what his average AUM were doing that period, but if you have to be fully invested and your position sizing is small, how are you going to have out-sized returns? If Chanos started Kynikos in 1985, he was working against a huge bull market until 2000, and the results you saw were only 4 years into the bear market, that would also affect his annualized returns. A low annualized YoY wouldn't be unreasonable.

 

I don't know why people invest in short only funds. Seems like a hard system to work within and have impressive YoY returns. He short sells stocks based on fundamentals. Only ETF I know of that does that in particular is HDGE and their results are pretty poor and their expense ratio is bit over 3%.  I think if you are shorting within a portfolio it needs to be opportunistic, not predetermined, but also far less concentrated than a long position with similar conviction because of inherent market risk. Einhorn seems to do well here.

 

[claphands22]

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!

 

I've never been able to figure out the whole FFH short thesis, but unlike Parsad, I have a good deal of respect for Greenberg, Hempton and Chanos; besides FFH, most of them have a nice history of pointing out frauds that eventually fold. If you read through Hempton's blog from start-to-finish, he has continuously warned people of fraudulent companies and hedge funds that end up being fauds. Obviously FFH is still around and well respected by most investors, so the short thesis never worked out. The shorts would say it was because of stronger underwriting, a capital raise and an auspicious bet on subprime credit default swaps that saved their hiney. 

 

Roddy Boyd, who wrote Fatal Risk, has written a couple of articles about the FFH saga. One recently on the Reuters blog (http://blogs.reuters.com/great-debate/2012/09/20/how-financial-lawsuits-muzzle-free-speech/) and the other on his blog (http://www.thefinancialinvestigator.com/?p=702).  He expands more on the short story there, but he was sued by FFH as being part of group of short sellers and journalists who tried to bring FFH down, so he isn't an independent party.

 

FFH still has great investment ideas and does phenomenal charity work. FFH has done great things for Parsad and Prem's donation with Pabrai's charities will help a great deal of people. Yet, like all things, it's important to take a step back and try to draw your own conclusions. This is the corner of Berkshire and Fairfax, you aren't going to find a lot of people here who will share the short case for either of these two companies. 

[txlaw]

I believe the opposite, however.  I like the acquisitions they've made, and many of the acquisitions that appeared to be expensive based on backwards looking financial statement analysis were not expensive after DELL started selling product through the distribution franchise. 

 

If they are acquiring these companies in the non-pc area and are able to grow the acquired products through the distribution franchise, why is it that the % of their pc revenues almost constant? Shouldn't the non-pc revenues be growing quickly?

 

I wouldn't expect any revenues to be growing quickly in this macro environment, save for cloud infrastructure sales, which are growing at a decent clip (you have to adjust storage revenue declines for wind down of the EMC lines), but certainly not as rapidly as I would want given the secular trends there.  Service revenues and backlog is growing decently, but again, not near as fast as I would want, and I think that's due to the macro environment.  But we'll see if the new HP guy can accelerate growth in services.

 

I think that IT spend is clearly being held back due to uncertainty in the global economy.  Over the long run, I expect "New DELL" revenue to grow faster than IT spend.

[Guest valueInv]

I believe the opposite, however.  I like the acquisitions they've made, and many of the acquisitions that appeared to be expensive based on backwards looking financial statement analysis were not expensive after DELL started selling product through the distribution franchise. 

 

If they are acquiring these companies in the non-pc area and are able to grow the acquired products through the distribution franchise, why is it that the % of their pc revenues almost constant? Shouldn't the non-pc revenues be growing quickly?

 

I wouldn't expect any revenues to be growing quickly in this macro environment, save for cloud infrastructure sales, which are growing at a decent clip (you have to adjust storage revenue declines for wind down of the EMC lines), but certainly not as rapidly as I would want given the secular trends there.  Service revenues and backlog is growing decently, but again, not near as fast as I would want, and I think that's due to the macro environment.  But we'll see if the new HP guy can accelerate growth in services.

 

I think that IT spend is clearly being held back due to uncertainty in the global economy.  Over the long run, I expect "New DELL" revenue to grow faster than IT spend.

 

While I agree about he macro environment, shouldn't that effect the PC/client business too? In other words, shouldn't the non-PC business contribute more on a relative basis?

[txlaw]

I believe the opposite, however.  I like the acquisitions they've made, and many of the acquisitions that appeared to be expensive based on backwards looking financial statement analysis were not expensive after DELL started selling product through the distribution franchise. 

 

If they are acquiring these companies in the non-pc area and are able to grow the acquired products through the distribution franchise, why is it that the % of their pc revenues almost constant? Shouldn't the non-pc revenues be growing quickly?

 

I wouldn't expect any revenues to be growing quickly in this macro environment, save for cloud infrastructure sales, which are growing at a decent clip (you have to adjust storage revenue declines for wind down of the EMC lines), but certainly not as rapidly as I would want given the secular trends there.  Service revenues and backlog is growing decently, but again, not near as fast as I would want, and I think that's due to the macro environment.  But we'll see if the new HP guy can accelerate growth in services.

 

I think that IT spend is clearly being held back due to uncertainty in the global economy.  Over the long run, I expect "New DELL" revenue to grow faster than IT spend.

 

While I agree about he macro environment, shouldn't that effect the PC/client business too? In other words, shouldn't the non-PC business contribute more on a relative basis?

 

The macro environment is affecting the end user computing business as well, although there is the additional headwind of the "iPad market" that DELL has to deal with.

 

Where are you getting that the client business is contributing the same percentage of revenue as in the past?  I don't think that's correct.

[txlaw]

>And read a bit more about the DELL transformation.

 

Dell management is doing the right thing to diversify the business to keep Dell viable.  e.g: static cash flows are better than declining cash flows.

 

However, the risk of owning DELL ( or RIMM for that matter ) reduces as the stock drops. So you may have a winner here for all I know.

 

I can't handicap Dell in five years as much as I can  AXP, WFC, BRK, IBM or KO.

 

That is fine if you don't feel you can handicap DELL.  That is a legitimate reason for throwing it into the too hard pile, and there are many ways to skin a cat.

 

Ultimately, it all depends on P/V and MOS.  I would never buy a KO, for example, at a high price despite its having purportedly static cash flows. 

 

I would note that KO itself is in constant transformation.  If you just view KO as a soda biz, as many used to in the past, it is/will be in decline in NA and the developing world.  But they have markets abroad and they've been buying platforms for growth such as juice makers and energy drink companies.  So much for KO and organic growth!  Ultimately, the misconception with KO is that it is a soda company.  But we all know that when we boil it down, KO is in the business of getting royalties on hydration, in whatever form. 

 

Similarly, DELL is viewed as a PC company, but that's the wrong view to have in light of what they're doing there.  Another example of a wrong view would be to say that GOOG is just a search company -- it's so much more than that.

[shalab]

Ultimately, it all depends on P/V and MOS

 

Do you mind sharing your intrinsic value estimate for DELL and RIMM now and five years from now?

[txlaw]

Ultimately, it all depends on P/V and MOS

 

Do you mind sharing your intrinsic value estimate for DELL and RIMM now and five years from now?

 

I don't think I've ever shared IV for any investments I've discussed, and I'm not going to do so now.  In any case, I have a range of IVs that I consider based on different potential outcomes, I tend to use the lowest number in the range for MOS purposes, and I recognize that IV is a moving target.  For example, with DELL, my current low IV is based off projections that owner earnings per share actually declines for the next five years, which is different from the analyst estimates.  I suspect that I will have the pleasure of ratcheting my IV estimate up for DELL after a year or two.

 

I will say that I'm viewing DELL as a going concern focused on selling productivity solutions, whereas with RIM, I'm going with break-up/run-off value.  That changes the way I calculate IV.

[Guest valueInv]

I believe the opposite, however.  I like the acquisitions they've made, and many of the acquisitions that appeared to be expensive based on backwards looking financial statement analysis were not expensive after DELL started selling product through the distribution franchise. 

 

If they are acquiring these companies in the non-pc area and are able to grow the acquired products through the distribution franchise, why is it that the % of their pc revenues almost constant? Shouldn't the non-pc revenues be growing quickly?

 

I wouldn't expect any revenues to be growing quickly in this macro environment, save for cloud infrastructure sales, which are growing at a decent clip (you have to adjust storage revenue declines for wind down of the EMC lines), but certainly not as rapidly as I would want given the secular trends there.  Service revenues and backlog is growing decently, but again, not near as fast as I would want, and I think that's due to the macro environment.  But we'll see if the new HP guy can accelerate growth in services.

 

I think that IT spend is clearly being held back due to uncertainty in the global economy.  Over the long run, I expect "New DELL" revenue to grow faster than IT spend.

 

While I agree about he macro environment, shouldn't that effect the PC/client business too? In other words, shouldn't the non-PC business contribute more on a relative basis?

 

The macro environment is affecting the end user computing business as well, although there is the additional headwind of the "iPad market" that DELL has to deal with.

 

Where are you getting that the client business is contributing the same percentage of revenue as in the past?  I don't think that's correct.

From their 10K - If you look at 2012, 2011 and 2010 mobility + PCs contributed 54%, 55% and 56% respectively

 

Given that Dell is acquiring non-pc companies, growing them while its PC business is facing pressure from Apple (tablets and Macs) and losing share to other PC vendors, you would expect the portion of non-pc revenues to grow quicker. Why are the numbers not showing it?

[Parsad]

They are selling more PC's through SME channels.  Consumer demand for PC's is waning, but their end-to-end users are buying more for their businesses...so as a percentage of revenues it remains flat or slightly elevated.  They discussed this in their Q1 2012 Conference Call. 

 

It may be possible to continue to sell significant amounts of PC's as they increase the commercial & SME client base.  So those saying that DELL's PC business is dying are correct...but only from the consumer demand side.  Businesses are still buying laptops and desktops...for now anyways.  Cheers!

[FrankArabia]

businesses will continue buying PCs and INTC and PC makers will see a lift in demand when businesses eventually do an IT refresh....imagine doing financial modelling on a tablet? that's like eating with your feet.

[txlaw]

I believe the opposite, however.  I like the acquisitions they've made, and many of the acquisitions that appeared to be expensive based on backwards looking financial statement analysis were not expensive after DELL started selling product through the distribution franchise. 

 

If they are acquiring these companies in the non-pc area and are able to grow the acquired products through the distribution franchise, why is it that the % of their pc revenues almost constant? Shouldn't the non-pc revenues be growing quickly?

 

I wouldn't expect any revenues to be growing quickly in this macro environment, save for cloud infrastructure sales, which are growing at a decent clip (you have to adjust storage revenue declines for wind down of the EMC lines), but certainly not as rapidly as I would want given the secular trends there.  Service revenues and backlog is growing decently, but again, not near as fast as I would want, and I think that's due to the macro environment.  But we'll see if the new HP guy can accelerate growth in services.

 

I think that IT spend is clearly being held back due to uncertainty in the global economy.  Over the long run, I expect "New DELL" revenue to grow faster than IT spend.

 

While I agree about he macro environment, shouldn't that effect the PC/client business too? In other words, shouldn't the non-PC business contribute more on a relative basis?

 

The macro environment is affecting the end user computing business as well, although there is the additional headwind of the "iPad market" that DELL has to deal with.

 

Where are you getting that the client business is contributing the same percentage of revenue as in the past?  I don't think that's correct.

From their 10K - If you look at 2012, 2011 and 2010 mobility + PCs contributed 54%, 55% and 56% respectively

 

Given that Dell is acquiring non-pc companies, growing them while its PC business is facing pressure from Apple (tablets and Macs) and losing share to other PC vendors, you would expect the portion of non-pc revenues to grow quicker. Why are the numbers not showing it?

 

You need to look at the difference in percentage of end user computing revenue starting from '08, after Michael Dell came back. 

 

In FY '08, end user computing revenue was $47.2 billion or approximately 77% of total revenue.  In FY'12, end user computing was $43.4 billion or approximately 70% of total revenue. 

 

Also, you have to keep in mind that there was a refresh cycle for the client segment when Windows 7 came out, which boosted the client revenue percentage.  It is best to look at the past and projected CAGR for enterprise solutions, software, and services revenue when determining what the revenue mix will look like going forward. 

 

[stylized_fact]

businesses will continue buying PCs and INTC and PC makers will see a lift in demand when businesses eventually do an IT refresh....imagine doing financial modelling on a tablet? that's like eating with your feet.

 

I think that part of the moat of Office/Windows 7 applies also to Dell, and the Win7 enterprise refresh is around 50% complete.  Microsoft's server products are also performing well.

 

I question their ability to pick their spots with services.  Even Cisco has managed to grow service revenue at a 20% rate.  Hopefully Quest will help them turn the corner, but this is a pretty tough neighborhood (VMWare, IBM, MSFT).