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Part I of III February 1, 2012
Disclaimer
THESE MATERIALS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY ANY INTERESTS IN LONGSHORTTRADER OR ANY OF ITS AFFILIATES. SUCH AN OFFER TO SELL OR SOLICITATION OF AN OFFER TO BUY INTERESTS MAY ONLY BE MADE PURSUANT TO A DEFINITIVE SUBSCRIPTION AGREEMENT BETWEEN LONGSHORTTRADER AND AN INVESTOR. The information contained herein reflects the view of longshorttrader (LST) as of the date of publication. This presentation was not prepared by Greenlight Capital. These views are subject to change without notice at any time subsequent to the date of issue. LST has no economic interest in the price movement of the securities discussed in this presentation, but LSTs economic interest is subject to change without notice. All information provided in this presentation is for informational purposes only and should not be deemed as investment advice or a recommendation to purchase or sell any specific security. While the information presented herein is believed to be reliable, no representation or warranty is made concerning the accuracy of any data presented. In addition, there can be no guarantee that any projection, forecast or opinion in this presentation will be realized. All trade names, trade marks, service marks, and logos herein are the property of their respective owners who retain all proprietary rights over their use. This presentation is confidential and may not be reproduced without prior written permission from LST.
Table of Contents
Introduction Summary The CFO Should Resign Threats to the Razor/Blade Myth Parallels to Sino-Forest Price Target
Introduction
Introduction
Green Mountain Coffee Roasters (GMCR) stock was and remains one of the best performing stocks trading on the NASDAQ.
GMCR Daily Stock Price- 2006-Present
$120.00 $115.00 $110.00 $105.00 $100.00 $95.00 $90.00 $85.00 $80.00 $75.00 $70.00 $65.00 $60.00 $55.00 $50.00 $45.00 $40.00 $35.00 $30.00 $25.00 $20.00 $15.00 $10.00 $5.00 $0.00 1/3/2006 1/3/2007 1/3/2008 1/3/2009 1/3/2010 1/3/2011 1/3/2012
Introduction
Compare GAAP earnings (i.e. paper profits) vs economic earnings vs the stock; you see conflicting stories. This got the critics attention.
$300,000 $250,000 $200,000 $150,000 $100,000 $50,000 $0 -$50,000 -$100,000 -$150,000 -$200,000 -$250,000 -$300,000 -$350,000 -$400,000 -$450,000 -$500,000 -$550,000 -$600,000 -$650,000 -$700,000 -$750,000 -$800,000 -$850,000 -$900,000 -$950,000 -$1,000,000 -$1,050,000 -$1,100,000 -$1,150,000 -$1,200,000 -$1,250,000 -$1,300,000
2006
2007
2008
2009
2010
2011
Free Cash Flow - All Inclusive Free Cash flow ex Acquisitions GAAP Earnings Free Cash Flow - Proxy for Economic Earnings
Introduction
GMCR critics include an all-star lineup of accounting/fraud experts (with many more):
David Einhorn Allied Capital, Lehman Brothers, Office Depot Howard Schilit/CFRA Author of Financial Shenanigans Sam Antar Crazy Eddie, Overstock.com, Edward Ketch/Anthony Catanach Accounting experts, Professors. The Warrior One of the greatest financial/accounting fraud experts. Uncovered various frauds during the dot-com and subprime bubbles
Introduction
These experts (crime fighters) many concerns sound as if they come straight out of a Harvard Business School Case Study:
Accounting/Fraud Issues: Overstating Revenue, Understating Expenses, Capitalizing Expenses, Channel Stuffing, etc. all to meet Wall Street Estimates Improper Conduct/Violation of Laws: Violations of Regulation FD, Insider Trading, Securities Fraud, Peculiar relationship with quasi-captive distributor, etc. Fundamental Problems: Zero cash flow since Keurig Acquisition, 100% dependent on external capital, Abysmal earnings quality, reliance on acquisitions to meet/beat expectations, Reduced/changing transparency of operating metrics, Patent expiration, etc.
Sources: GAAP-ucino by Greenlight Capital, Sam Antar's blog, Grumpy Old Accountant's blog, & sources citing Howard Schilit
Summary
Yet there is even more to the story
GMCR Executives have repeatedly lied and mislead; In particular, CFO Frances Rathke has misrepresented her CPA Credentials for at least 8 years. This appears to be a violation of Vermont law. Rathke even tried to cover this up recently. The CFO needs to go. A A A A A A A
Source: http://license.reg.state.ma.us/ 9
Summary
The Razor/Razor blade Myth Is Under Threat
The rising popularity of Reusable K-Cups (such as Ekobrew & Solofill), replaces the need for k-cups. Ekobrew and Solofill offer customers a win-win they can drink higher quality coffee, for a fraction of the price. One Ekobrew/Solofill can save a user between $137 - $343 per year, and on average, $250 per year. This can easily cost GMCR $100s of millions in revenue, and render the business even more unprofitable. At best (for GMCR), the Ekobrew and Solofill complicate the razor / razor blade model and growth trajectory. A A A A a
Sources: LST estimates 10
Summary
Initial Price Target is $15.00/sharethen single digits
GMCR stock may look reasonably priced, if you trust the numbers AND believe its high growth continues indefinitely. However, GAAP Net income does not reflect economic income. I estimate GMCRs true net income is closer to ~$60-$120 million. Once earnings decline, stock has no support until single digits. Note that Research In Motion (RIMM) stock peaked years before revenue and earnings did. The economic, accounting, and behavioral similarities between Sino-Forest and GMCR are disturbing. The two biggest reasons the market has yet to punish GMCR as severely as it did Sino-Forest, are GMCR is an American business, and its products are visible. Unfortunately, these reasons provide a false wall of security. Investors/traders equate the popularity of the product with there is no fraud.
Sources: LST estimates, GMCR 10Ks & 10Qs, Muddy Waters Research 11
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Contrary to the above statements, there is in fact, wrong-doing. Chief Financial Officer (CFO) Frances Rathke has been FALSELY claiming to be a Certified Public Accountant (CPA) since first joining the company in 2003; Shes been lying for at least 8 years. It would appear this violates Vermont law. Rathke should resign immediately, especially given the many more serious allegations.
Sources: GMCR Q4 2011 Earnings Call 13
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Sources: http://www.twitter.com/samantar
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Sources: http://www.twitter.com/samantar
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CFO Fran Rathke has been using the title certified public accountant and CPA for at least the last 8-9 years.
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CFO Fran Rathke and the Company has chronically violated the above:
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Sources: Amazon.com
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/week
20% 25% % of coffee 30% served using 35% reuseable filters 40% 45% 50%
$ $ $ $ $ $ $
$ $ $ $ $ $ $
$ $ $ $ $ $ $
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Parallels to Sino-Forest
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Parallels to Sino-Forest
Both GMCR and Sino-Forest have made claims denying wrong-doing:
I would like to say that there are no inaccuracies in our corporate reports, filings or audited financial statements. Allen Chan, Former CEO, Chairman, and Founder of Sino-Forest June 14, 2011 Earnings Call. We can categorically say Sino-Forest is not the near total fraud and Ponzi scheme as alleged by Muddy Waters. I am pleased that the independent committee has been able to refute the substance of the allegations made in the Muddy Waters report," said Judson Martin, vice-chair & CEO, November 15, 2011. Embattled Sino-Forest Corp. is warning that its historic financial statements and audit reports should not be relied upon. January 12, 2012, The Globe and Mail. We are confident there is no misconduct, there is no wrongdoing. Larry Blanford, CEO of GMCR Q4 Earnings "The audit committee, with the assistance of counsel and a forensic accounting firm, completed its investigation of accounting practices at the company in December 2010, Suzanne Dulong GMCR spokeswoman told Reuters on December 20, 2011even as there are new allegations of misconduct in 2011, NOT 2010.
Sources: Sino-Forest earnings, press releases, The Global & Mail, GMCR earnings, & reuters
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Parallels to Sino-Forest
CATEGORY M Block & Sons Shady Intermediaries Rapid, smooth growth Smooth revenue + earnings growth No Free cash flow Free Cash Flow Glaring FCF vs. Earnings Discrepancy Sweeping denials Dependence on External Capital aa fulfillment partner, administrator Questionable Capex Spending
Prominent Short Seller Exposed Fraud Numerous minor errors in filings Growth via Aggressive Acquisitions GMCR Sino-Forest Artificial YES Intermediaries YES YES YES Rapid, smooth growth No No No Free cash Flow YES YES Sweeping denials YES YES Last paragraph YES of YES mitch the snitch YES YES YES YES YES YES
Sources: LST estimates, Muddy Waters Research, Greenlight Capital, Sam Antar, The Grumpy Old Accountants Blog, Sino-Forest filings, GMCR filings
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Sources: LST estimates, Muddy Waters Research, Greenlight Capital, Sam Antar, The Grumpy Old Accountants Blog, Sino-Forest filings, GMCR filings
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Price Target
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Price Target
GMCRs CFO Cannot Be Trusted, its numbers cannot be trusted
GMCR CFO has lied about her credentials before, during, and after serious allegations of financial/accounting shenanigans were made and left unresolved; the CFO, who acts as the chief steward of financial reporting, cannot be trusted. If the CFO cannot be trusted, especially given the nature of allegations, GMCRs numbers cannot be trusted. If GMCRs numbers revenue, earnings, etc. cannot be trusted, valuation metrics derived off them, such as PE, PEG, etc. ratios, are meaningless. Lets assume that GMCRs financial shenanigans is limited to overstating revenue, understating expenses, and/or capitalizing expenses. That is, lets assume there is no cash balance related fraud.
Working off Statement of Cash Flows, assuming cash balances are valid
I speculate that a decent proxy for true earnings, looking past the shenanigans, is going to be cash from operating activities less depreciation (where depreciation is a proxy for maintenance/recurring capex) 2009s CFFO less depreciation is roughly $15 million. In 2010 and 2011 this calculation leads to negative numbers. For the sake of being generous, I will ignore this and speculate that true earnings in 2011 was roughly 4x that of 2009 (revenue increased 3.4x, so Im granting some operating leverage). I arrive at $60 million as an estimate for true earnings for fiscal year 2011.
Sources: GMCR 10Ks & 10Qs, and LST estimates 37
Price Target
$15.00 per share, as initial target price
If $60 million is a better estimate for 2011 earnings (albeit with downside risk to the estimate), and grant that earnings may double for full year 2012 to $120 million, I arrive at a $15.00 per share target based on 20x full year forward earnings. $15.00 may seem so far away even wrong unless you factor in the many downside catalysts, two of which I focused on in this report. The fact remains: the fundamental support is not there. The problem with GMCR is that if the company could not generate cash flow during these boom years, it is doubtful they can do so when growth slows or even starts going negative.
For companies in such straits, the only real price support seems to be tangible book value (see retailers, value tech, and financials). GMCRs book value/share less goodwill is $7.38; tangible book value / share is $4.05
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To Be Continued in Part II
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