A few months ago I traveled to Houston and wrote about the increasingly upbeat mood I encountered at the energy companies I visited there. I came away from that trip thinking that well-managed service and exploration firms might be attractive investments. Many had declined 40-60 percent in response to oil’s decline from $104 last summer to the low-$40s by late fall. As oil prices rose past $60 this spring, I suspected these stocks could eventually rally.
Another week has brought yet another much-publicized call for the Federal Reserve to delay raising interest rates. Yesterday, the International Monetary Fund opined that the Fed should hold off on a rate hike until 2016.
Earlier this week, I watched the documentary Page One about the inner workings of the New York Times and the dire financial difficulties daily newspapers face to survive. It’s a great movie. It’s also a very depressing movie. Journalism is one of my passions. Every year, I lecture at the journalism schools of UC Berkeley and Northwestern, and I believe an informed citizenry is vital for our country’s economic and cultural wellbeing. That’s why it’s so disturbing to see newspapers dying all over the country while glib, superficial, and often politically slanted outlets like Gawker and the Huffington Post thrive.
The movie also touches on another depressing trend in American business–the “strip and flip” mentality of too many private equity firms, and the warped way our tax system aids and abets these destructive behaviors.
[Note: this post originally appeared on the CFA Institute’s Enterprising Investor blog.]
Recently, Barron’s ran a short item on New York City’s plan to convert more than 6,000 remaining pay phones in the city into “digital kiosks” that emit Wi-Fi signals and contain charging stations for mobile devices. I’m sure most readers had a similar reaction to mine: “Wow, there are still 6,000 pay phones left in New York City?!” But that’s not what made the article interesting — and potentially valuable to novice and professional investors alike.
The two ways to go bankrupt, as Ernest Hemmingway famously wrote, are gradually and then suddenly. The “gradually” phase of the process can take a good long while, sometimes years, but once a business starts to exhibit the two biggest symptoms of impending disaster–falling revenues and mounting debt–the “suddenly” part is all but inevitable. It came for the troubled biotech company Dendreon (ticker: DNDN) on Monday when it filed for Chapter 11 bankruptcy.
The move should have surprised exactly no one, and not just because I predicted it well over a year ago now on Seeking Alpha. Back in September, the company’s own management warned that it was probably going to wipe out its shareholders. But that didn’t stop credulous investors from buying Dendreon’s stock–incredibly, it didn’t dip below a dollar until earlier this month–or dubious stock boosters from feeding their hopes for a miraculous turnaround. Take a look at the headline on a Zack’s.com posting: “Why Earnings Season Could be Great for Dendreon.” The article, which gives DNDN a buy rating, is dated November 10, 2014–the exact same day the company announced that it had filed for bankruptcy.
Astronomers constantly scan the night sky for supernovas so that they can observe and study how stars die. It’s a fascinating process. Right now, a very large corporate supernova has begun and it is just as fascinating–and educational. Unfortunately, I was forced to cover my short position in the dying company because my prime broker now charges me an exorbitant “negative rebate” to short stocks. But I’m still watching from a distance.
Yesterday the Commerce Department reported that the US economy shrank one percent in 2014’s first quarter, surprisingly worse than its initial estimate in late April of .1 percent growth. Most people blame the brutal “polar vortex” winter weather for this decline. All morning, the talking heads on CNBC have been excitedly predicting that, with the weather improving, second quarter growth will rebound to two or even possibly three to four percent. The recovery, they say, is accelerating. To which I would reply: you call this a recovery?
When I’m scouting dead-companies-walking, I look for a number of factors. Businesses fail for all sorts of reasons, after all. But there are almost always two main symptoms of a company in terminal condition: falling revenues and mounting debt. These twin problems feed one another and create a kind of corporate death spiral. As revenues drop, debts rise. Making matters worse, creditors begin to demand higher and higher interest rates to service that debt, which means that repaying it eats up more and more of a company’s shrinking revenues. Pretty soon, that company can’t meet its obligations and its only option is to declare bankruptcy.
I usually find comparisons between government and business strained. But with a government shutdown looming by midnight tonight and the very real possibility that the U.S. Treasury will renege on its credit obligations becoming more likely every day, Washington D.C. is starting to look like the dysfunctional boardroom of a business fast on its way to insolvency.
Last week, I posted an article on Seeking Alpha on the troubled biotech firm Dendreon (DNDN). Eighteen months ago, I shorted over 200,000 shares of the company. As I said in the article, even though the stock has lost its half its value, I haven’t covered a single share, and I doubt I ever will. Why? Because it’s a classic example of what I call a dead-company-walking. In the near future, probably less than two years, I believe it is destined for one fatal outcome: bankruptcy.
This prediction, and the fact that I have sold the stock short, generated a fair amount of negative reactions to the piece. One commenter declared that all short sellers should be “iviscerated” (sic). Yikes! Others respondents were less colorful, but no less angry. They blamed short sellers like me for bringing down what they believe is a good company with a beneficial cancer drug. But blaming shorts like me for Dendreon’s demise shows a fundamental misunderstanding of corporate capital structures and how bankruptcy works.