Источник
17 февраля, 02:25

Syntel - a plea for help

  • 0

I don't often use the blog to find people who can just "tell me the story" but I am becoming increasingly puzzled by Syntel (SYNT:NASDAQ), an Indian outsourcing company and a competitor of Infosys and similar companies.This is a company I have had continuously analytically wrong - but made (very small) profits. I would rather be lucky than smart (and in this case I have been lucky) but with you dear readers I hope to be lucky and smart.I found Syntel on a systematic search for companies that were so incomprehensibly profitable that fraud was a reasonable suspicion.Syntel was one of about thirty that came up. (Incidentally that same search generated some longs when we worked out why the businesses were so profitable...)Anyway Syntel was full of red flags which made us investigate further for fraud. (We found no evidence of fraud in the end - but we did look.)Here are our red flags.Syntel has a fatter margin than most Indian outsourcing companies. On a quick search of Thomson Reuters the margin is about 5 percentage points fatter than most of the competitors. We could find no convincing explanation.The fat margin meant the company was extraordinarily profitable. Which is well and good - except that they never paid a dividend and never bought back any shares.The past profits - almost in their entirety - sat in cash and short term securities - undistributed in India. When this happens in China it is a very strong red-flag.The company was run by a husband and wife team. The board seemed very incestuous - controlled by the said team.A search of LinkedIn showed an enormous number of key staff who had left to competitors - sometimes for seeming demotions.The Indian outsourcing industry has had accounting frauds before (see the major fraud at Satyam) and so I had marked Syntel as something to research and maybe do a big research piece on.I was not the only person who thought the cash balances (which got to over a billion dollars) were weird. Here is an extract from a Seeking Alpha article referencing a conference call:"Great, thanks. I wanted to come back to cash, unfortunately it's really the only question I have. We've heard for years, cash has been a board discussion and it's evaluated every quarter. Can you share what reluctance has been from a board level to put the cash to work from an M&A perspective? And then given, there's been sluggish growth for a couple of years, has the board's attitude towards M&A change at all or is it still just as cautious as it has been in the past?" Result? Complete shutdown from management - not surprising. Further, there is no chance of activist involvement here given founder Bharat Desai's stranglehold on ownership (owning two thirds of the common shares outstanding). This was of course something I knew going in, but it is something for investors to consider that are weighing their position in the company.When management have a billion dollars sitting around that they do not use and will not explain the use of then we wonder whether something really fishy is going on. This company just seemed too profitable. And when something is seems too good to be true it often is too good to be true.Failed researchAt Bronte we are a fairly paranoid about companies that seem too profitable. We see 2+2=4 and think we ought to investigate for major fraud.We spent about a week on it and got nowhere. We simply could not find anything beyond these red-flags. However I could not convince myself of the excessive profitability either - so I kept a small - and I mean tiny - position short - just to force me to monitor results in the hope I would finally really work it out.Alas this disappeared into the (fairly extensive) list of things that I wanted to spend a couple of months researching - maybe to put out an extensive (and negative) research report.And then it was forgotten.---Comprehensively wrongThere are those moments when you realise you are comprehensively wrong. Syntel gave us one of those moments. They paid a dividend.Not an ordinary dividend - a billion dollars - $15 per share in dividend which is a lot given the current stock price is $20. All of those stored up cash and securities were liquidated and sent as cash to the shareholders.Whatever: we thought the company might be faking its margins - but it is was not. And we know for sure it wasn't because they sent a billion dollars of cash out to shareholders. It is easy to fake accounts (they are numbers filed electronically with the SEC). It is to our knowledge impossible to fake the distribution of cash to shareholders. And so we were comprehensively wrong. We turned around and bought back our short (remarkably at a small profit).What to do when you are comprehensively wrong...I have learned from experience that when I am comprehensively wrong about a short it is often very profitable to turn around and go long the same stock. Usually I short funky companies and they are funky for a reason - they are designed to bamboozle onlookers.But sometimes funky companies are funky because they have worked out something truly new - some better mousetrap - and they just seem weird. Those companies make good speculative longs. So we bought a tiny position in Syntel and decided (so far with little luck) to investigate it as a long. One of the things we decided was that because the cash was real (see the dividend) then the underlying business really was as it seemed. And we read the past dozen or so conference calls and decided the management were mostly matter-of-fact. They would tell you when the business was turning better or worse. And they were probably right. Given management statements and past results the stock was - we guessed - trading at about 9 times earnings of $2.40 or so for 2017. Given shareholder friendly management (see that dividend) and what seems a superior business (see that margin) that did not seem unreasonable.--Today's resultsSyntel today announced results that were not (very) inconsistent with guidance but they simultaneously guided down pretty sharply and the stock was off 17 percent. The small (dumb luck) profits we made on the short we have mostly given back. That said the results are not objectively bad. Cash is building up on the balance sheet again (and we know that is real). Margins are still superior for the business. All-in-all it still looks on the accounts like a better-than-decent business.And I am still none-the-wiser about what makes this business tick, why its margin is so much superior to the competition and why the management have this odd capital allocation strategy where they do nothing for years whilst cash builds up and then pay massive dividends.I am looking for readers - preferably customers of or competitors to Syntel - to explain what is really going on.Because - to be frank - I just don't understand.John

10 января, 06:56

A puzzle for the risk manager

  • 0

The last two posts were essentially about picking a value-stock portfolio and managing the risk. And they were lessons that I thought I could implement. This is stuff I find harder. So I am looking for your input.--This is the portfolio of a fairly well known value investor in March 2008. I have taken the name off simply because it doesn't help but there was roughly $4 billion invested this way.To put it mildly this portfolio was very difficult over the next twelve months. Sector allocation Positions Banks - Europe 24% Fortis, ING, Lloyds, RBS Banks - Japan 14% Millea, MUFJ, Mizuho, Nomura Banks - USA 8% Bank of America, JP Morgan Technology - PC & Software 18% Linear Technology, Maxim Integrated products, Oracle Semiconductor equipment 14% Applied Materials, KLA Tenecor, Novellus Systems Beer 20% Asahi, Budweiser, Group Mondelo, Heinekin, InBev Media 15% Comcast, News Corp, Nippon Television Other 14% eBay, Home Depot, Lifetime Fitness, William Hill Net effective exposure 127% Shorts -16% Net exposure 111% Cash -11% The PE ratios mostly looked reasonable and all of these positions could be found in quantity in the portfolios of other good investors. Its just the combination turned out more difficult than average.Your job however is to risk-assess the portfolio.Even with the considerable benefit of hindsight how would you analyse this portfolio?What would you say as risk manager that made the portfolio manager aware of what risks he was taking?What would you say if you were a third party analyst trying to assess this manager?What is the tell?Remember the portfolio manager here has a really good record and the "aura" around them. They are smarter than you.And yet with the restrospectascope up there is stuff that is truly bad.They had four European banks making up a quarter of the value of the portfolio. Most European banks went through the crisis hurt but not permanently crippled. Permanently crippled came later with the Euro crisis.The four European banks here (Lloyds, RBS, Fortis, ING) however received capital injections so large that they were effectively nationalised. If you had thrown darts at European banks it might have taken hundreds of rounds to pick four that bad... They could not have been picked this bad by chance - they had to have systematic errors here.There is something really wonky about this portfolio - and it is not by chance - so there was something faulty about the way the portfolio was constructed.JohnPS. It is fair to say some of the portfolio (News Corp for example) was awful in the crisis and came back stronger than ever. And some that I would have thought ex-ante high risk (such as the semi-conductor capital equipment makers) turned out okay - having "ordinary" draw downs in the crisis and recovering them since.PPS. I kept the document this came from because at the time I thought the portfolio was absurd and would end in tears. But some of my thoughts then were wrong too - especially re the semiconductor capital equipment stocks.

04 января, 15:04

When do you average down?

  • 0

The last post explained why I think a full valuation is not a necessary part of the investment process. A decent stock note is 15 pages on the business, one page on the management, one paragraph or even one sentence on valuation.Valuation might normally be a set of questions along the lines of "what do I need to believe" to get/not get my money back.But I would prefer a simple modification to this process. This is a modification we have not done well at Bronte (at least formally) and we should do better. And that is the question of averaging down.--Warren Buffett is famously fond of "averaging down". If you liked it at $10 you should love it at $6. If it goes down "just buy more". And in the value investing canon you will not find that much objection to that view.But averaging down has been the destroyer of many a value investor. Indeed averaging down is the iconic way in which value investors destroy themselves (and their clients).After all if you loved something at $40 and you were wrong, you might love it more at $25 and you almost as likely to be wrong, and like it more still at $12 and could equally be wrong.And before you know it you have doubled down three times, turning a 7 percent position into a 18 percent loss.Do that on a few stocks and you can be down 50 percent. And in a bad market that 50 percent can be 80 percent.And if you do not believe me this has a name: Bill Miller. Bill Miller assembled a startling record beating the S&P ever year for fifteen straight years and then blew it up.Miller had a (false) reputation as one of the greatest value investors of all time: In reality he is one of the biggest stock market losers of all time and a model of how not to behave in markets.How not to behave is be a false value investor, buying stocks on which you are wrong, and recklessly and repeatedly average down.--At the other end traders who (correctly) think that people who average down die. The most famous exposition of this is a photo of Paul Tudor Jones - with a piece of paper glued to his wall stating that "losers average losers".And yet Warren Buffett and a few of his acolytes have averaged down many times and successfully. And frankly sometimes I have averaged down to great success.At least sometimes - the Bill Miller slogan is correct: "lowest average cost wins". Paul Tudor Jones may be a great trader - but he is not a patch on Warren Buffett.--I would love it if I had an encyclopaedic knowledge of every mid-cap in Europe and could buy the odd startlingly good business when tiny and cheap. But the task is too large. The world is complicated and I can't cover everything.But when I look at tasks that can be achieved by a four-analyst shop I have one very high on my list of things we can do and should do: We should get the average down decision right more often.So I have thought about this a lot. (The implementation leaves a little to be desired.)--At a very big picture: averaging down when you are right is very sweet, averaging down when you are wrong is a disaster.At the first pick the question then is "when are you wrong?", but this is a silly question. If you knew you were wrong you would never have bought the position in the first place.So the question becomes is not "are you wrong". That is not going to add anything analytically.Instead the question is "under what circumstances are you wrong" and "how would you tell"?--When you put it that way it becomes obvious that you must not average down (much) on highly levered business models. And looking at Buffett he is very good at that. He bought half a billion dollars worth of Irish Banks as they collapsed. They went approximately to zero. But he did not double down. He liked them down 90 percent, he did not like them more down 95 percent.By contrast these are the stocks that Bill Miller blew up on: American International Group, Wachovia, Washington Mutual, Freddie Mac, Countrywide Financial and Citigroup. They were all levered business models.By contrast you can probably safely average down on Coca Cola: indeed Buffett did. It is really hard to work out a realistic circumstance in which Coca Cola is a zero. And if it is still growing there is going to be a price at which you are right - so averaging down is going to go some way to obtaining an average cost near or below that price. Of course even Coca Cola is not entirely safe. You could imagine a world where the underlying problem was litigation - where some secret ingredient is found to be a carcinogen and where the company faces an uncertain future of lawsuits. It is not likely - and if it happens you are going to get at least some warning that this is a circumstance on which you could be wrong. Whatever, outside that circumstance on which you might be warned, Coca Cola is not a leveraged business model subject to bankruptcy and is almost entirely unlikely to halve four times in a row. You can average that one down.Operationally levered business modelsNot every business model is as as safe as Coca Cola. Indeed almost every business model is more dangerous than Coca Cola. A not financially levered mining stock can halve five or six times. If you have a mining company that mines coal at $40 per tonne, has no debt and the price is $60 a tonne it is going to be really profitable. But prices below $40 (highly possible) will take profits negative. Add in some environmental clean up and some closing costs and it is entirely possible that a stock loses 95 percent of its value. Averaging down when down 40%, some more when it halves, and then halves again and it will still lose two thirds of its value. The difference between averaging stuff like that down and doing what Bill Miller did is only one of degree.It is still a disaster. And you will have proven Paul Tudor Jones adage: losers average losers.ObsolescenceThere is another iconic way that value investors lose money - and that is technical obsolescence. Kodak was made obsolescent and was a value stock all the way down to bankruptcy. The circumstances on which you might be wrong (digital photography going to 95 percent of the market) could have been stated pretty clearly in 1999.You might thing it was worth owning Kodak as a "cigar butt stock" - plenty of cash flow and deal with the future later. There was a reasonable buy case for Kodak the whole way down. But technical obsolescence is always a way you should be wrong. When the threat is obsolescence you are not allowed to average down.Bill Miller averaged Kodak down. Ugh.---If I could improve our formal stock notes in any way I would like an ex-ante description of what circumstances we are allowed to average down a particular stock, and how much.We have a default at Bronte - and the default at Bronte is that we have a maximum percentage for a stock (typically say 9 percent but often as low as 3 percent depending on how we assess the risk of the stock) and as the fund manager I am allowed to spend that whenever I want but I am not allowed to overspend it. If we have a 6 percent position with a 9 percent loss limit and it halves I am allowed to add three percentage points more to the exposure. But that is it. Simon, being the risk manager, isn't particularly fussed if add the extra when the stock is down 30 percent of 50 percent, but I can't add it twice. If it is a position on which we agree we are allowed to risk 9 percent then I am allowed to risk 9 percent.We will not fall for the value investor trap of losing 18 percent on a 7 percent position.We have made a modification of this over time. And that is ever six to nine months I get another percentage point to add. That is at Simon's discretion - but the idea is that the easiest way to find out whether you are wrong is to wait. After a year or two the underlying problem will usually become public. If time has not revealed new information then we are allowed to risk more.But we can and should do better with ex-ante descriptions under the circumstances in which we are prepared to add and circumstances where we are not. The problem is that you can wind up in a mindset where you always where you want to add, where you think the world is against you and you are right and you will just be proven to be right.Clear ex-ante descriptions of the issue (which require competent business analysis) might help with that problem.--The bad case of averaging downThe iconic bad situation to average down is a levered business model involving fraud. It is surprisingly common because people who run highly levered business models have very strong incentives to lie or to cover it up when things turn to custard. I can think of two recent examples: Valeant and Sun Edison.Much to my shame I added to my (small) position in Sun Edison as it fell. Ugh. But also this was a highly levered business model and thus by definition the sort of place where losers average losers. I should not have done it - and I won't in future.But the highly levered business models apply fairly generally. When Bill Ackman rang Michael Pearson and asked if there was any fraud at Valeant he already had the wrong mindset. Then he added to a large holding in a company with over 30 billion dollars in junk-rated debt. Losers average losers.Incidentally our six month rule (before you were allowed to add) would have saved Mr Ackman a lot of extra losses. Time has revealed plenty about Valeant. And it would have saved me at Sun Edison too.--Whilst I think that someone asking me (as per the last blog post) for a valuation on every stock is absurd, I think it is entirely reasonable for them to ask "under what circumstances would you average down". If you can't answer that you probably should not own the stock. I should insist on it with every long investment.John

03 января, 03:44

Valuation and investment analysis

  • 0

I just had a chat with someone who wondered why I did not have a valuation for everything in my portfolio - a buy and a sell price.My reaction: such (false) precision was silly and ultimately counter-productive.To demonstrate I will give you a set of accounts for a consumer staples company.Annual Standardised in Millions of U.S. Dollars201520142013Revenue7,6586,9777,212Net Sales7,6586,9777,212Total Revenue7,6586,9777,212Cost of Revenue, Total3,6333,4543,860Cost of Revenue3,6333,4543,860Gross Profit4,0253,5233,352Selling/General/Admin. Expenses, Total2,6652,4462,368Selling/General/Administrative Expense2,6652,4462,368Labor & Related Expense------Advertising Expense------Interest/Investment Income - Operating------Investment Income - Operating------Interest Exp.(Inc.),Net-Operating, Total------Unusual Expense (Income)36(195)0Restructuring Charge361800Impairment-Assets Held for Use------Loss(Gain) on Sale of Assets - Operating0(375)0Other Unusual Expense (Income)------Other Operating Expenses, Total------Other Operating Expense------Other, Net------Total Operating Expense6,3345,7056,228Operating Income1,3241,272984Interest Expense, Net Non-Operating(297)(208)(168)Interest Expense - Non-Operating(297)(208)(168)Interest Capitalized - Non-Operating------Interest/Invest Income - Non-Operating336306151Interest Income - Non-Operating232154151Investment Income - Non-Operating1041520Interest Inc.(Exp.),Net-Non-Op., Total3998(17)Gain (Loss) on Sale of Assets------Other, Net13597Other Non-Operating Income (Expense)13597Net Income Before Taxes1,3641,4051,064Provision for Income Taxes496471386Net Income After Taxes868934678As you can see - it has net income after taxes of just under $900 million.I am not even going to bother inserting a balance sheet. The company has some debt (as seen by the interest expense) but there is little doubt the debt can be paid - and you can give me a valuation before debt if you want.There are some substantial (foreign) cash balances as well as well as some investments. The debt and the cash balances and investments are roughly a wash - so you can safely ignore them.The company has a long record of slow but steady growth - but it has grown a bit faster than that for the past few years. The CEO has been a vast improvement on other CEOs and has done some optimisation.There is no doubt about the validity of the business. I guarantee you that you have consumed the product.Also it is a highly stable product and hence should be very amenable to valuation. Volume growth is unlikely to exceed 5% in any year. A volume decline of 5% would be an unlikely disaster. However the last year did have volume growth above 5%.Before you read any further I want you to write down a range of valuations. Just a lower bound (where on this information you would be falling over yourself to buy it) and an upper bound (where you would be falling over yourself to sell it).Go on - write it down.The trick is 40 lines further down - so write down your numbers before you scroll further...Yes further down.Further down still.A little further down.Okay - I have changed the dates. The real dates for this are 1987, 1986, and 1985 respectively.And the company in question is Coca Cola.These are the accounts Warren Buffett bought his stake on.The market cap is now $178 billion.I do not think any of you would have come up with a number anywhere near that high. Even if you had bought the stock at the high range for plausible values (say 30 times earnings) the return from then to now was (highly) acceptable. The stock was trading at about 12 times earnings then.Net income is now over $7 billion and the multiple has expanded a lot.--I do not need to say it - but a valuation was not important in the buy case and would have detracted from the buy case a great deal.The valuation as such was pretty trivial. Was it realistic to assume that the company over a reasonable time frame could return $12-15 billion to shareholders. The answer to that was a resounding yes.Was there a margin of safety around that?Again a resounding yes.So the stock was easily able to be owned.--The questions that mattered (and still matter) is "can the product be taken to the world", and will the next generation think of it in the positive light the last generation thought of it.The answers are less obvious now than they were then. Young people it seems drink Red Bull rather than Coke in surprising numbers. They are your future.--This is a general quality of investment analysis. Proper valuations are far more art than science. DCF valuations - especially of something growing near or above the discount rate are famously sensitive to assumptions. The right comparison is to the Hubble Telescope: move direction a fraction of a degree and you wind up in another galaxy.--By contrast there are some things for which a proper valuation should be done and can be done.If you own a regulated utility what you really own is a regulated series of cash flows with regulatory risk around them.An accurate valuation is part-and-parcel of the analysis - because it delineates what you own.--The battle here is to work out what the salient details are. Sometimes they are whether young people will continue drinking Red Bull. Sometimes they are working out a technological change.In rare cases they are working out valuation.Mostly valuation is simply about bounding a margin of safety. And most of that involves understanding the business anyway.JohnPS. If you work for a shop that requires a valuation for everything quit now. The pretence will either kill you or your performance.PPS. I do not think there is a margin of safety around Coca Cola any more. Not enough to make me interested anyway.

28 декабря 2016, 00:54

Did Mike Tyson ring a bell?

  • 0

They say nobody rings a bell at the top. But this is pretty good...It's Mike Tyson promoting online trading platform Trade12.What can you say? I wouldn't like to step anywhere near a ring with Iron Mike - but I would love him as a counter-party.--Trade12 is a bit of a black box. It is - and I am not exaggerating, owned and operated by an Estonian subsidiary of a Marshall Island company and regulated by a private company in Vanuatu.And according to its literature it does not solicit and accept clients from USA and France.--Which brings me back to Iron Mike Tyson.He is - I gather - a US citizen.Either he trades with Trade12 (which would be illegal) or Trade12 is not "the strong choice of a champion".I suspect the latter - in which case my fantasy of trading against Mike Tyson is - well - just a fantasy.John

16 декабря 2016, 12:21

UCB: Lower standards in Belgium

  • 0

The last two posts on this blog detail how - for all practical purposes - UCB (the large Belgian pharmaceutical company) has lost the patent to one of its main drugs (Vimpat) and not told the market. See here and here. EBIT is likely to fall 30-40 percent eventually. The company might dain one day to fill shareholders in on the details. The numbers are really not pretty but without proper company disclosure it is impossible to make an accurate estimate. For almost two weeks I have expected the UCB to make a statement. But they have kept silent failing to disclose key information to the market.The patent's death certificate was only sent by the United States Patent and Trademark office last Monday and there are different time-zones and languages to deal with. So I drafted the blog-posts gently, expecting a confirming press release along with accurate statement of prognosis from the company.The patents death certificate is however almost certainly final. This is a clear statement of fact by the Patent Office against the patent. Appeals against patents are almost always on matters of law - and courts are reluctant to overturn fact-finders. All previous actions against this patent have been on law. A finding of fact against UCB is devastating. This is not ordinary course of business patent litigation. In the ordinary course of business UCB has wound up in patent disputes with other companies (eg Mylan, Argentum). And those disputes have been where the assumption is that UCB has a valid patent.This time it is in dispute with the US Government. And the US Government is stating there is no valid patent. Ask other European companies how disputes with the US Government pan out.Moreover the burden of proof has changed. UCB now has to get its patent approved under de-novo standards when the Patent Office has already rejected the patent. Of course none of this seems to warrant any statement from UCB.Lower standardsI am going to be blunt. Withholding a piece of information this significant from the market in the US would result in a fairly nasty SEC inquiry complete with subpoenas to determine who knew what and when. I have made relatively few investments in Belgium so I can't tell whether the Belgian regulatory standards are lower or the standards are just lower at UCB.But standards are very low here.In the US if a single insider has sold whilst in possession of this information (which was unreleased to the market) they could expect close investigation by Preet Bharara. I don't know what standards apply in Belgium.As stated in previous postsI found the IR officers we met of very high integrity. But this has to extend higher than this. I think it has to rise to the level of Jean-Christophe Tellier - the well regarded CEO.The Jean-Christophe Tellier was described in the press release announcing his appointment as playing "a key role in driving the growth of UCB’s three core medicines, Cimzia®, Vimpat® and Neupro®."Presumably he knows that his strategy surrounding those drugs is dead. Presumably he is part of withholding that information from the market.In the US his days as CEO would be numbered.I can only presume that standards are lower in Belgium. But if UCB claims to have high standards Mr Tellier should be fired.John

12 декабря 2016, 10:17

UCB's lack of candour

  • 0

This is a follow up to last Friday's post about UCB - the large Belgian pharmaceuticals company. It probably helps if you read that post first.In Friday's post I outlined the state of play regarding UCB's important Vimpat patent. Disputes about that patent have been background for the stock for some time. When I went to visit UCB in Belgium (1 December 2015) the IR officers were straightforward about this. Third party patent challenges were the bear story on the stock. But UCB has since then touted victories in their patent disputes and regularly touted extensions of the Vimpat franchise.On 14 August 2016 UCB released a press release titled U.S. District Court confirms validity of patent for UCB's Vimpat®. That press release detailed a key victory against one of two third-party challengers of the patent. The stock went up sharply. UCB has made many press releases detailing just how important the Vimpat franchise is to them. When the CEO (Jean-Christophe Tellier) was appointed the press release stated: "Jean-Christophe Tellier joined the company in 2011 and was instrumental in establishing the company’s current strategy; he has played a key role in driving the growth of UCB’s three core medicines, Cimzia®, Vimpat® and Neupro®."UCB has been active in touting Vimpat both in the EU and the US as a monotherapy for epilepsy. (See here and here.)UCB has been extremely active extending labels for Vimpat in Japan. (See here for an example.)Indeed extensions of the Vimpat franchise have been important in UCB's growth strategy.So it was deeply surprising to us when UCB neglected to tell the market that US Patent Office had reviewed the patent (an ex-parte review) and had decided to withdraw the patent entirely. [You can find the letter that the Patent Office sent here.]This is an unusual move. Since the ex parte examination system was introduced (35 years ago) about 13,500 ex parte requests for examination has been made just over a thousand of them have had all claims rejected. You can find statistics here. Rejected here is a term of art. A claim is "objected" for all sorts of formal reasons like the claims not being properly grouped. A "rejection" is a determination that the claim is not patentable - and is appellable to the Patent Trial and Appeal Board (a court) and then to the court system. This is altogether a different type of threat to UCB. Past patent disputes have been with other companies wanting to release a generic - and thus far UCB has either had the case thrown out or got a significant delay. These are standard commercial disputes with commercial parties. And in every one of these disputes the court has worked on the assumption that UCB has a valid patent and the question is whether the other party is infringing on this patent. This dispute is with the US Government. The US Government has reviewed past decisions and decided that Vimpat is simply non-patentable. That is the US Government has determined that UCB does not own a valid patent. Sure UCB has two months to try and convince a (well informed) patent examiner otherwise - but their chances of this are low. The patent examiner will be experienced in this area and it is not as if the bureaucrat was uninformed that this was a controversial and important case.After the two months has elapsed UCB could appeal to the Patent Trial and Appeal Board. However the standard here is the de-novo patent standard. The situation is as if Vimpat had its original patent comprehensively rejected and it has to appeal to a court against the scientist/reviewers at the Patent Office. The courts are usually pretty deferential to the examiners at the Patent Office on the basis that they have the disinterested expertise to assess patents. In this case Johnny Railey was the examiner and he is amongst the most experienced biotech patent examiners in the US. You can find his linked in CV here. You can find a very extensive list of patents in which he was the examiner here. Appeals of this kind almost always fail. As Johnny Railey is amongst the most experienced patent examiners the chance of an appeal succeeding is even lower.For practical purposes the Vimpat patent is almost certainly dead - and UCB's much ballyhooed growth strategy will die with it.I am surprised at the lack of a management press release.Disputes with the US GovernmentUCB has press released interim victories in District Court against commercial claimants on the Vimpat patent.Their IR officers have been willing to give up-to-date reports of the (mostly) favourable commercial disputes they have.But there is not a word here that their (new) dispute is with the US Government and the default position from here (statistically likely to be upheld) is that they will lose their patent in its entirety.Not disclosing a business-critical dispute with the US Government is strange.Whatever: shareholders should ask themselves how other European companies have prevailed in dispute with the US Government.John

Выбор редакции
09 декабря 2016, 15:40

UCB's Vimpat patent

  • 0

UCB is a Belgium-based biopharmaceutical and specialty chemical company that specialises in two therapeutic areas: diseases of the central nervous system and immunology. The main central nervous system speciality is epilepsy and the main drug in this area is Vimpat. (UCB revenue mostly comes from four drugs of which Vimpat is one.)We went to visit UCB once, a cold and wet wintery day where we got modestly lost in Belgium.The investor relations people were straightforward. We were new to the story and our notes state clearly that generic challenges to the Vimpat patent were the main bear story for the stock. Our notes also talk about Keppra - another epilepsy drug. When it went off patent revenues dropped substantially. Keppra was an famous "patent cliff" drug.The risk to Vimpat has been reflected in the press too. Fierce Pharma - an industry rag - reports that August 15 this year was the best day for UCB in years as a Delaware District Court had rejected challenges to the Vimpat patent. Notwithstanding this, Fierce Pharma noted that the patent still faced challenges. To quote:UCB isn’t totally out of the woods, though. In late May, New York-based generics maker Argentum Pharmaceuticals won an inter partes review of Vimpat’s patent protection by the U.S. Patent & Trademark Office (PTO)’s Patent Trial & Appeal Board (PTAB). And that decision may not be handed down until next May. Still, court’s decision is a “long-awaited sentiment boost” for UCB, whose shares had fallen by about 17% so far this year, Citigroup analysts wrote in a Monday note seen by Bloomberg. Despite the lingering risk of patent invalidation, they wrote, “we expect market confidence to improve.”As noted Argentum Pharmaceuticals won an inter-parties review of Vimpat's patent. Argentum's press release however noted an even more aggressive request. To quote:Argentum also filed an ex parte reexamination request against this same patent that raises additional grounds of unpatentability than those in the IPR.  A decision by the PTO on Argentum's reexamination request is due no later than July 29, 2016.This is mentioned as afterthought in the press release because it is a really aggressive claim. Argentum asked the Patent Office itself to review the patent it previously granted and presumably throw out the original patent.Given the afterthought nature of that request I suspect even Argentum will be surprised that the ex-parte review rejected all thirteen claims of the Vimpat patent.In other words the Patent Office has thrown out the patent.This is all in a letter dated 5 December 2016 (that is just a few days ago). You can find that letter here. And according to that letter UCB has only two months to dispute the total rejection of the patent by the patent office.This rejection will of course be followed by Argentum and Mylan (and probably other companies) commencing distribution of a generic for Vimpat. Mylan were behind the above-mentioned court challenge.--It is - given the significance of this to the business - perhaps a little unusual that UCB has made no press release.--Is this the beginning of a new, more aggressive patent office?The political pressure in the US to do something to reduce drug prices is large. In the past election this was one area of near universal agreement.I am wondering whether we are going to see this sort of action by the Patent Office more widely.If the trend is more widespread it could be bad news for pharma investors generally.John

08 декабря 2016, 15:25

In praise of Donald Trump's conflicts of interest

  • 0

There is an obsession in the liberal press about Donald Trump's opaque personal finances and the repeated appearance that he has a conflict of interest.I am obsessed too. But I want him to have more conflicts.I want a Trump Tower paying royalties to the Donald in every country that matters, indeed in most cities. I want them in countries that do not matter. Frankly I would love them all over China, India and Pakistan.If the Donald leaves office safely with 100 billion dollar net worth it would be just fine with me.--You see if the Donald has economic interests in some country he will not wind up on any ill-advised military adventures there. Indeed he would tend to prefer open economic relations, as much as anything so he can get his cash out.Trump corruption is wonderful then because it preserves the open and (relatively) peaceful world I like.So please Donald - more conflicts of interest - big international conflicts of interest. I want them yuuuge.Make me happy.John

07 декабря 2016, 22:35

Flotek: some new research

  • 0

Flotek should be familiar to readers of this blog.In plain english Flotek makes a chemical mix which makes sand-water mixes slippery so you can get more sand into fractures when you fracture an oil and gas reservoir. Their chemical mix is a surfactant.There are many suppliers of surfactants. The product is a commodity.However Flotek sell their product as somehow special. The claim: their surfactant is a "complex nano-fluid", but it is really a mix of d-limonene (the oil from orange peel) and isopropyl alcohol.--This blog once showed that data Flotek provided for pitching their complex nano-fluid was either (a) made up or (b) did not support the idea that their fluid was particularly effective.We were right. Flotek put out a press release effectively admitting all of our allegations.In other words their key claims were BS.At the time Flotek claimed they had a software sales tool (that ran on an iPad) called FracMax which was critical to demonstrating their fluid effective - but we could not find a working copy of FracMax and could not find anyone who had ever seen one.This was problematic. Flotek told the market that FracMax was their main selling tool.Whatever FracMax has disappeared from Flotek's literature.So their main selling tool was also BS.--All this should have been the death-knell for the stock. But it wasn't. Sure the stock is lower but not much (given the decline in oil and gas volumes) and somehow people still believe the "complex nano-fluid" story. I have never met a serious Flotek owner - so the stock price remains a mystery to me.--Today FourWorld Capital Management (an outfit I had never heard of) put out an updated and more thorough analysis of Flotek.Its darn good - so go read it.Why this stock trades above pennies I do not understand.It will trade at pennies one day. I remain short.John Hempton

Выбор редакции
30 ноября 2016, 02:13

Valeant, Salix, sales force and asset sales

  • 0

Valeant put out a press release today about expansion of sales force for their Salix business:Valeant Announces The Initiation Of A Primary Care Sales Force For Xifaxan® And Relistor®LAVAL, Quebec, Nov. 29, 2016 /PRNewswire/ -- Valeant Pharmaceuticals International, Inc. (NYSE: VRX and TSX: VRX) ("Valeant") today announced that it has initiated a significant sales force expansion to focus on potential primary care physician (PCP) prescribers of Xifaxan for irritable bowel syndrome with diarrhea (IBS-D) and Relistor for opioid induced constipation (OIC.)  With the launch of the expanded sales force effort over the coming weeks, the company expects to reach a significant majority of likely Xifaxan and Oral Relistor primary care prescribers.  The costs of this program were considered in previously announced guidance for the full year 2016."Our goal in building a primary care sales force is to maximize opportunities for Xifaxan and Relistor to help our products reach full potential. Xifaxan and Relistor are integral to our gastrointestinal franchise which remains a core asset for future growth potential in the hands of Valeant," said Joseph C. Papa, chairman and chief executive officer. "With approximately 70% of IBS-D patients initially presenting with symptoms to a primary care physician, our dedicated PCP sales force will be better able to reach the patients in need of IBS-D treatment and in doing so will further advance our mission to improve people's lives with our healthcare products."There are several implications.First the stories that say Valeant is selling Salix are almost certainly false. These stories are responsible for the stock rising 30 percent recently.Secondly it puts the acid to the idea that Mike Pearson (Valeant's former CEO) was good at cutting costs. As this story makes clear Salix had a Primary Care Sales Force when Valeant acquired it. However they were debating whether to keep it. (Obviously they gutted it and are now being forced to reinstate it.)This happened all over Valeant. Lots of businesses are melting ice cubes where the sales force has been neutered or where drugs have had prices pushed up to levels that create umbrellas under which competitors will flourish.Finally they can't sell Salix for anything like what they paid for it (and that was the single most obvious sale candidate). Other sale candidates will have bigger separation problems.Debt outstanding is roughly cumulative acquisition cost. This won't wind down nicely.Indeed bankruptcy looms. Late next year probably.Long shareholders, by now you ought to be feeling sick. But let me offer a solution: opiates. Just drug yourself out so you don't feel the pain.And if you get opiate-induced constipation Salix/Valeant can help you out. That is what Relistor is for.And now a Primary Care Salesman will visit your doctor and explain the benefits. Mr Papa (Valeant's CEO) is making sure that happens.Sure Valeant will charge your insurance company plenty for the drug. But it is for a good cause.John

29 ноября 2016, 02:54

On the freight train - how do you value Adidas?

  • 0

I own a position in Adidas - the German athletic shoe and fashion company.Given how well it has performed the position is nowhere near big enough.I wish all my longs had performed this well.But it poses a fairly typical investment problem for which I have no real answers. --BackgroundI will give you a very stylised history of how we got here.Herzogenaurach in Germany is a funny (and small) town quite close to Nuremberg - and a couple of hours drive north of Munich.Once upon a time two brothers started a sports shoe company (and it was successful). The brothers split up and one brother started another sports shoe company.Those companies are Adidas and Puma. And for a long time they considered each other the enemy.Then along came Nike and especially the Michael Jordan partnership and basketball shoes - and exposed Herzo for what it was - an out-of-touch German backwater.Bluntly the fashion path in shoes was from (mostly African American) street wear, to middle-class white street wear to China (where the affluent to a surprising extent mimicked American fashion). And basketball shoes were the path to cool.Sure there were some people I knew who went to Wharton who thought Puma was some kind of American cool - but frankly the Germans just missed out.I went to Herzo to visit these companies because they were super-cheap (and for no other reason).How did I measure cheap?These stocks were just cheap against revenue really. Nike - by far the leader - has a market cap of $85 billion down from well over $100 billion.It has a bit of net cash (reflecting how insanely profitable it is) and about 33 billion of revenue. The price is about 2.5 times sales - but when I went to visit Herzo Nike was trading over three times sales.By contrast Puma (which is essentially in the same business) has a market cap of €3.5 billion and sales of about the same. It is roughly 1 times sales. When I went to visit Puma was trading at about 0.6 times sales.Relative to sales Nike had something more than five times the valuation of Puma. This gap has now closed a lot.But then again Nike was (and remains) insanely profitable and Puma just wasn't.Adidas was somewhere in the middle of these valuations.If Adidas or Puma could sell shoes at something like Nike's effective margin then the German companies would go up. A lot. An insane lot. Like 5 baggers were on offer.But then Adidas and Puma had just missed the boat. And whilst they had decent positions in European fashion (driven by strong positions in what Australians and Americans call "soccer") they had meaningless positions in America and weak positions in China.Now fashion is not an area I have any expertise. This is obvious if you see how I dress.So I was not likely a buyer. Just kicking the tyres.The Puma shop in BeijingBut I still wanted to kick the tyres. After all cheap is fun - and I am a value investor. So I did make a point of walking around Puma and Adidas shops in various locations, and even counting customers vs. say local Nike shops.Most the shops however are like shops on "Fifth Avenue". They are meant as much as anything to be brand advertising rather than to make a profit in their own right. So this is still only marginally useful research.That said I went to the Puma flagship shop in Beijing - and - with a translator - interviewed the staff. I wrote out the impressions in an email to Michael Lämmermann, Puma's CFO - but mostly because I had his email somewhere in the system. Here is that email:I have just come back from a work trip to China. I wanted to leave you impressions of the Puma Shops in Beijing and Shenzhen which I spent some time looking at. Beijing is a disaster area - very badly run by surly staff. This is a fitness company and the staff were fat. Not obese - just pudgy - but they did not look like they used the products and they did not present an image that would sell the product. We asked them (in Chinese) how they were employed - and it was from a local staff pool. They were Beijing locals (more expensive) but that was the end of it. This is a country where it is legal to ask women to send in photos with their job applications and to just choose the prettiest one.  Whatever - fat staff in a sporting good shop is a really bad image - and you need to fix it.Fat and rude staff is just unforgiveable. -- Shenzhen (Dongman district) was better. The kid behind the counter (only one of them - shop was small) looked the part - and was wearing your shoes and looked young and fit. He was also helpful to our (very fluent) Chinese speakers in the group.However he was wearing non-Puma track clothes. Just saying. -- For the record - I have not been convinced enough to buy your shares - but they look cheap. This was just observation.I did not get a reply.And I have never touched Puma stock.--Enter Kasper Rorsted at AdidasAdidas got an activist shareholder - one with a longer-than-average time horizon. This was Groupe Bruxelles Lambert - the holding company of Albert Frere and the late Paul Desmarais. I have watched GBL for some time.GBL are soft-cooperative activists in the Northern European sense. They tend to get what they want cooperatively and slowly - often very slowly.GBL agitated for and got a new CEO at Adidas - a Dane named Kasper Rorsted.We knew him. And I have thought him pretty darn good for a long time. He was the longtime CEO of Henkel (a Munich based industrial glue and consumer goods conglomerate). Henkel was the second biggest stock at the foundation of Bronte Capital - and we have held it continuously. [Regrettably I sold too much on the way up.]Kasper might not walk on water. But he is still in the top league of CEOs. So we bought Adidas stock purely on the speculation. After all Kasper had experience in American consumer goods, was a generally good guy and the stock was cheap enough on a price to sales basis that the upside was large.And the stock has gone up.In all honesty I do not begin to understand what Kasper has done that has made this company better - but it sure shows in the numbers.Here is an extract from the last quarterly presentation - you can find the link here:This is a little hard to see - so I encourage you to download the original. But note really nice sales growth in all jurisdictions and sales growth above 20 percent in both the USA and China. There is clearly a fashion element here. Adidas has a deal with Kanye re shoes. I am so out of popular culture I needed to educate myself as to who Kanye was. (No I am not joking.) But it can't just be Kanye (as the new Michael Jordan no less) because Reebok shoes (also owned by Adidas) are having similar sales volume growth. Whatever - Adidas is now growing explosively. Take your 20 percent volume growth and stick into a valuation spreadsheet and see what you come up with. This sort of net present value worksheet is like Hubble telescope. Tweak the directions of various variables even a tiny bit and you wind up in a different galaxy. So we can't value it. We have no idea.But we own the stock. The position is still not enormous (the original holding was a suck-it-and-see speculation on the new CEO) but the position is getting bigger and bigger because the stock is doing well.I don't want to get off the train. At least until I see something negative. So I am looking for negative. Comments wanted.Sports rights - the new and increased negativeA re-energized Adidas is the best thing ever if you are high profile sports player looking for a shoe-deal. There are now two rich companies wanting to put shoes on your feet and logos on your body. And that means bidding wars.The insane war for the four big brands of Spanish football (Barcelona, Real Madrid, Ronaldo, Messi) is getting just bizarrely expensive. This is great for people with innate ball skills (which is most certainly not me). It is bad for both Adidas and Nike shareholders. I watch in horror.But apart from that I can't (yet) see the negatives. But then I have no fashion sense (at all) so I might be the last person to see.John