The Importance of Back-Up Power Supplies and the Net Zero Promise

The importance of having an alternative power supply came home to us last week when contractors laying a new electricity supply down our street cut through our gas supply pipe. But we were prepared for that kind of event as gas boilers frequently go wrong so we have a couple of electric fan heaters.

If they had cut through our electric supply or our internet/telephone connection we were prepared for that also. But this does demonstrate the folly of the Government wanting us to install electric heat pumps to replace gas boilers. With no electricity there would be no light nor heating. I would advise anyone who installs an electric heat pump boiler to ensure they have a traditional fireplace on which they can throw some logs in an emergency.

One of the big problems at present is that the Government has not taken reasonable steps to ensure that the country has alternative power supply sources whether it be coal, gas, nuclear, wind power, hydroelectric or from other sources. Clearly we have become over-reliant on natural gas from sources that have recently become very expensive. The potential for producing our own natural gas from fracking has also been missed due to political unwillingness to face up to the objectors.

The Government now seems committed to pushing ahead with a big new nuclear power station at Sizewell C and possibly other smaller nuclear reactors at other sites. See the recently published Government paper on its Net Zero Strategy (see reference 1 below).

That document is full of fine words but is the objective to totally decarbonise our economy really practical? Building nuclear power stations to generate electricity might enable the replacement of natural gas for heating and for the replacement of internal combustion engines in cars and vans, but will it actually be carbon free? It occurred to me that building a nuclear power station takes enormous amounts of concrete and steel, both of which currently require carbon-based energy sources to produce them.

A quick search of the internet produced a very good paper on this subject by the Ecologist (see reference 2 below). The author’s conclusion was that nuclear power is not low carbon if you take into account the “whole of life” emissions including those in the mining of uranium fuel and end of life remediation and storage.

In fact no alternative power sources are carbon free. Hydropower is one of the best but still generates 10 gCO2/kWh while solar PV and wind power might be considerably higher. There is no major power source that is carbon free so any objective to be “net zero” by 2050 is nonsense.

The projections also assume that future technology yet to be proven or even developed can produce steel and concrete with zero emissions and planes and HGVs can be powered by alternative sources.

Carbon emissions can be reduced to some extent no doubt by the use of selected generation systems with a focus on electrification and the planting of a lot more trees but nobody should be fooled that net zero is achievable by 2050. There is little discussion of the cost of rebuilding the economy in the way suggested and a lot of it will fall on the general public.

They have only just come to realise that the Government’s plans to stop the sale of gas boilers in new homes by 2025 and altogether by 2035 will mean massive costs to install electric pump boilers.

Of course 2050, or even 2035, are long in the future so promises and commitments can be made that are truly castles in the sky. But reality will sink in sooner or later.

As I have said before, the best and only truly effective way to cut carbon emissions is to reduce the number of people on this planet. At present the growth in world population and the industrialisation of lesser developed countries easily offsets the savings that might be made in carbon emissions by the UK or other western economies.

Reference 1: Government’s Net Zero Paper: https://www.gov.uk/government/publications/net-zero-strategy

Reference 2: Ecologist paper on Nuclear Power: https://theecologist.org/2015/feb/05/false-solution-nuclear-power-not-low-carbon

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Good Articles in Investors’ Chronicle

There were several good articles in this week’s Investors’ Chronicle. I cover them briefly below.

The Editor, Rosie Carr, reported on feedback on readers’ views on taxation. Should the wealthy readers of the IC pay more was one question previously posed and the consensus answer seemed to be Yes. For pensioners it was suggested that they should pay National Insurance on their income and that there should be harmonisation of income and capital gains tax rates. It was also suggested that property taxes should be raised and Inheritance Tax raised.

I would support most of those suggestions but not the last. Inheritance Tax is typically a tax on created wealth which has already been taxed in one way or another. Double taxation on the same assets should be avoided in my view although perhaps some loopholes should be closed.

There was a good article by Chris Dillow on the problems created by the “decades-long attempts to cut inventories”. He points out that the adoption of “just-in-time” production methods had a positive impact as inventory is expensive. That is particularly so when debt is expensive and interest rates high. This of course is the result of MBAs like me being taught at business schools that cutting inventory was always a good thing. Now we find that the smallest hiccup in the supply chain such as transport delays proves to be very expensive.

There is a good analysis of the audit issues at Patisserie Valerie by Steve Clapham. He concludes that the sanctions imposed by the FRC “are woefully inadequate” which I also suggested in a previous blog post. I said Grant Thornton was “fined a trivial amount”.

The article does however suggest that there were some warning signs such as very high margins in comparison with other sector players, and high inventories in relation to the revenue. But there were reasonable explanations for the differences. One would have had to do a lot of research to figure out if there was really a problem or not. Clearly the auditors did not do that and most investors do not have the time nor resources to do such research. That’s why we rely on the audited accounts!

It is unfortunately the case that outright frauds can often be easily concealed but the audit in this case was clearly very defective and the published accounts of the company were grossly misleading.

But I do admit to failing to take my own prescription for avoiding problem companies – namely investing in a company with an Executive Chairman with too many jobs!

There is also a good article on “The flattery industry”, i.e. how management improve their reported profits by using “alternative” or “adjusted” measures. The FRC has published a report on this issue.

It is very clear that companies are addicted to alternative performance measures and that applies just as much to large companies as small ones. One company and its “adjustments” mentioned negatively in the article is GlaxoSmithKline (GSK). I sold a holding in GSK back in 2014 for that very reason – way too many adjustments in the accounts. The price of the shares then was about 1480p. It’s now 1407p. Clearly a good decision. Stockopedia currently says it qualifies for the Altman Z-Score Screen (Short Selling). Enough said I think.

But this is surely yet another example of where the FRC is falling down on its job. There should be regulation of what can be published as adjusted figures and there should be rules about how they are published. There should be consistency and not excessive emphasis on adjusted figures. At present we have a quagmire of data with no easy way to compare different companies.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Online Abuse Back in the News

I covered the subject of online abuse at some length in 2017 – see https://roliscon.blog/2017/08/22/hate-crime-fake-news-and-market-abuse/ .

Nothing much has changed since but the subject has again come to public attention by the death of an M.P. and the comments by other M.P.s that they regularly get death threats and other forms of abuse that is making their lives intolerable.

The Home Secretary, Priti Patel, has suggested that a ban on anonymity on the internet might be considered. I would certainly be in favour of that.

Anonymity makes policing of the internet impossible, and encourages people to post outrageous comments because they know that they will never be held responsible for them. It is not just abusive comments aimed at politicians, particularly female ones apparently, but at anyone the culprits do not like or do not agree with.

The standard of public debate of all kinds on Twitter, Facebook and other social media is a disgrace and removing anonymity would be a simple way to tackle most of the problems. If the perpetrators knew that they could be easily traced and hence subject to laws on harassment and libel, they would be a lot more careful about what they say. Indeed I would suggest that libel be made a criminal offence not just a civil one.

Stopping anonymity would not be that difficult in practice. The identity of most people can now be checked in a few seconds by such companies as GB Group. It would simply need to be made a legal requirement that people must use their own name when registering for on-line services.

It is surely time to consider such legislation.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Mello Event and Crimson Tide  Presentation  

 

I attended the Mello event yesterday where I reviewed Terry Smith’s book entitled “Investing for Growth” and Andrew Latto reviewed my book entitled “Business Perspective Investing”. He gave it a very positive review and made some suggestions for a second edition such as adding some case studies. I will ponder whether to work on another edition.

Another interesting session was a presentation by Crimson Tide (TIDE). This is a very small company even though it’s been around for a number of years – market cap only £19 million. It sells a software product called MPRO5 which claims to be a “leading mobile workforce management platform and service” on their web site. I own a very few shares in the company.

The presentation was by Luke Jeffrey, CEO, and he clearly has a technical background. He somewhat disappointed me by saying the product is a “toolkit”. It’s obviously a technology platform not an application solution. It has to be configured to meet application needs of which there seem to be a wide variety, i.e. there is no very strong focus on any business sector.

My experience of the software industry has taught me that people are looking for solutions not toolkits. Not surprisingly, he mentioned when asked about competitors that they often come up against “point solutions”.

They also seem to be extending their technology to cover IOT applications and also developing a “micro business” version. I find the idea of marketing software products to businesses such as plumbers to be a quite horrific business proposition. Selling low-cost software solutions to small businesses is rarely economic because it takes as much time and effort to sell to a small business as it does a large one while the price you can charge never reflects that. Sales, marketing and distribution in that sector is a major problem.

In summary I am not convinced that they can turn their interesting technology into a big business unless substantial changes are made. The presentation actually discouraged me from buying more shares in the company which is no doubt the opposite of what the speaker was aiming for.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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Mello Event

I am doing a review of Terry Smith’s book this afternoon at the Mello event and Andrew Latto is reviewing my book – should be an interesting free session: https://melloevents.com/melloresultsroundup/ . It starts at 1.00 pm and is a full afternoon of sessions of interest to investors. That includes a number of interesting companies presenting results.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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A Book to Cheer You Up

We are in one of those depressing moments of the manic-depressive cycles of the stock market. Invest-ability just told us that the FTSE 250 has now lost over 7 per cent this month and I can quite believe it with my portfolio certainly heading downhill. With the gloom of winter fast arriving, I can only recommend the book “Where are the customer’s yachts?” by Fred Schwed.

This book was first published in 1940 and the author had experienced Wall Street at its most extremes. He was a trader but lost a lot of his money in the crash of 1929. It’s a cynical look at the practices and people on Wall Street of which the author clearly had a fine understanding. One might conclude that the financial world has not changed much since.

It’s both witty and educational. As the introduction to the 2006 edition by Jason Sweig spells out: “The names and faces and machinery of Wall Street have changed completely from Schwed’s day, but the game remains the same. The Individual Investor is still situated at the very bottom of the food chain, a speck of plankton in a sea of predators”.

The title of the book refers to the apocryphal story of some out-of-town visitors to New York. On arriving at the Battery their guides indicated some handsome ships riding at anchor and said “Look those are the bankers’ and broker’s yachts”. “Where are the customer’s yachts?” asked the naïve visitor.

Here’s one educational paragraph from the book after he comments that “pitifully few financial experts have ever known for two years (much less fifteen) what was going to happen to any class of securities – and that the majority are usually spectacularly wrong in a much shorter time than that”:

“Still he is not a lair; nor is our other friend. I can explain it, because I have not only had lunch with economists, I have sometimes had dinner with psychiatrists. It seems that the immature mind has a regrettable tendency to believe, as actually true, that which it only hopes to be true. In this case the notion that the financial future is not predictable is just too unpleasant to be given any room at all in the Wall Streeter’s consciousness. But we expect a child to grow up in time and learn what is reality, as opposed to what are only his hopes. This however is asking too much of the romantic Wall Streeter – and they are all romantics, whether they be villains or philanthropists. Else they would never have chosen this business which is the business of dreams”.

On the subject of trusts he says “There has been a good deal of thoughtful, searching legislation enacted against trust abuses in recent years, and all of it favors the investor. The sad thing is that there can be no legislation against stupidity”. The recent events at Woodford come to mind.

The writer also comments on the detachment of the investor or speculator from the real businesses represented by pieces of paper – and “with these pieces of paper thrilling games can be played……this inability to grasp ultimate realities is the outstanding mental deficiency of the speculator, small as well as great”.

He points out that one of the agendas of the S.E.C. is to work towards the ideal of a completely informed investing public. A laudable effort he says but then points out that then “everybody would know whether to buy or sell, and whichever it was, everybody would try to do the same thing at once”. Orderly markets exist on differences of opinion. This view is worth pondering now that we have such instant dissemination of financial news and analysis on large cap stocks.

There is a much wisdom in this book which is both relatively short and readable. Highly recommended for those new to investment for the education and to experienced investors for the levity.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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City of London Investment Trust Annual Report

I have been reading the City of London Investment Trust (CTY) annual report in advance of their AGM on the 28thof October. This is one of my oldest shareholdings – first purchased in 2011 with an annual total return since of 11.5% p.a. according to Sharescope. Historically it has been a good performer, if somewhat boring. That’s OK but last year was a disappointing one. Has Job Curtis, the long-time manager, lost his touch?

Last year the trust supplied a share price total return of 20.0% but that was less than the FTSE All-Share and the 26.4% reported by the AIC UK Equity Income Sector.

CTY is a UK “Growth and Income” trust and has a focus on higher-yielding “value” shares as it says in their annual report. For the second year running they had to draw on revenue reserves to enable them to maintain their record of increasing dividends.

But one only has to look at the top ten holdings to see why performance is not brilliant as it’s stuffed full of FTSE-100 shares such as British American Tobacco, Diageo, Rio Tinto, Unilever, M&G, RELX, Shell, Phoenix, BAE Systems and HSBC. The Fund Manager’s report notes that stock selection generated -3.80% of the performance. They did well from holdings in big miners such as Rio Tinto, BHP and Anglo American, didn’t we all, but not holding Glencore was a big detractor. They had a number of other holdings that detracted.

It may be unreasonable to take one year’s performance as indicative of likely long-term performance but are tobacco and oil companies really good investments at this point in time, however generous their dividend yields? More emphasis on growth and less on income might be appropriate I suggest.

The trust also has a large number of holdings – the top 40 only represent 76% of the portfolio. It looks over-diversified although given the size of the fund there may be good reasons for this.

The Fund Management company is Janus Henderson and it’s interesting to note in the history of the company, which they expand at length on in the annual report, that it used to be called TR City of London when Touche Remnant was the manager. After they were acquired by Henderson, the company was simply renamed “The City of London Investment Trust”. A wise move to disassociate the company name from that of the fund managers which was likely to change over time. The new name might not have been ideal though as there is another listed company named City of London Group and it hardly a good or registrable trade mark. The directors of Standard Life UK Smaller Companies Trust (SLS) who are about to make a mistake over a new name should bear that in mind.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson  )

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ShareSoc Woodford Legal Claim Seminar

There are several legal firms who are mounting cases to try and gain some redress for the investors but ShareSoc is backing Leigh Day who presented at the seminar. They are focussed on a claim against Link Fund Solutions, the Authorised Corporate Director (ACD) for the fund and which is part of a large financial group (Link).  Leigh Day’s investigations lead it to believe that Link allowed WEIF to hold excessive levels of illiquid or difficult-to-sell investments, and that this caused investors significant loss. In doing so, they consider Link breached the rules of the FCA Handbook and failed to properly carry out the management function of the Woodford Equity Income Fund. They have already issued a letter before action and received a rebuttal response from Link so have now filed a case in the High Court, i.e. the case is progressing – see https://woodfordpayback.co.uk/ for more details and how to join the claim.

A representative of Leigh Day presented the facts and the basis for their claim against Link, but as usual when lawyers present cases, this might not have been exactly clear for the average person. Lawyers seem to want to display their intelligence and knowledge in such presentations which might impress corporate clients but is inappropriate for the general public. Those who invested in the Woodford fund might not have been the most financially sophisticated individuals with many of them relying on recommendations from brokers such as Hargreaves Lansdown (HL).

It seems that Leigh Day cannot identify a good case against Neil Woodford himself, against his management company or against HL. This is unfortunate. Link and the FCA might have fallen down on the job of regulating WEIF and monitoring what Neil Woodford was doing but in essence it was his actions that eventually brought about the collapse. Not only did he invest in companies that were inappropriate for an “equity income” fund but many of them were high risk. Liquidity evaporated when fund performance was poor and negative publicity hit the fund at which point everyone wanted out.

The Leigh Day claim is certainly worth supporting in my view but they have only managed to sign up about 11,000 claimants so far. Why is that? No doubt the first problem is that they do not have access to a register of investors. Both Link and HL have rebutted such requests which is morally indefensible. The FCA should surely step in to ensure that happens if the required information cannot be obtained using the normal disclosure responsibility in legal cases.

Indeed the FCA could take much tougher action by enforcing compensation if they had a mind to do so, but as usual they are proving toothless.

One point I was not aware of before that came out in the meeting was that Grant Thornton were the auditors of the WEIF fund and should surely have queried the low liquidity. Another black mark against that firm.

Apart from the problem for Leigh Day getting through to investors there are a number of other difficulties in obtaining supporters for such legal actions. These are: 1) Investors are often elderly and suffer from sloth – repeated reminders are necessary to get them on board; 2) Investors are keen to forget their own mistakes in investing in the fund; 3) The time to likely obtain a judgement which is several years puts people off; 4) The legal case appears complex and the contracts between investors and the lawyers can be complicated – investors might also doubt that they are not facing risks of costs. The way the case is communicated to investors needs to be handled very carefully to ensure investors understand what is being done and why they do not face risks from the legal action.

Another issue is that ShareSoc and Leigh Day have pointed out that another approach might be to complain to the Financial Ombudsman. From my experience of that organisation, it would be a long and tedious process with little certainty of satisfaction. I would personally prefer to rely on an aggressive law firm to obtain some redress.

Leigh Day certainly seem to have acted competently so far in pursuing their legal action and have moved relatively quickly. I would also encourage you to write to your Member of Parliament to request that the Government ensures that the FCA (Financial Conduct Authority) takes much stronger action over these events.  

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Roger Lawson

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Utility Prices and the Cost of Net Zero

I commented previously on gas prices, price caps and reckless pricing. I thought it best to check how much my utility bills (gas plus electric prices) have gone up since I last changed supplier to Telecom Plus 8 years ago. My bill totals have gone up by 63% over that period whereas the Retail Price Index has only gone up by 23%. Extra roof insulation and cavity wall insulation was done before the start of that period and the number of residents has not changed. So that’s a substantial increase over RPI in total charges.

How much is that increase down to subsidies that we all pay to encourage low carbon electricity production (such as wind farms) and how much to the worldwide change in gas prices?

According to Lee Drummee, an analyst at Cornwall Insight, in 2020 over 30% of the typical electricity bill was accounted for by renewable subsidies and policies. In other words, much of the excess increase in utility bills over RPI has been caused by Government low carbon policies.

The price of natural gas on worldwide markets has gone up by 48% in the same period, but the market price for gas is extremely volatile. It was almost as high as it is now in February 2014 (see  https://tradingeconomics.com/commodity/natural-gas). On a longer term view, the market price of natural gas does not explain the increase in my utility bill over the last eight years.

Lord Matt Ridley has recently published a very good article on the energy crisis. It includes this comment: “It is almost tragi-comic that this crisis is happening while Boris Johnson is in New York, futilely trying to persuade an incredulous world to join us in committing eco self-harm by adopting a rigid policy of net zero by 2050 – a target that is almost certainly not achievable without deeply hurting the British economy and the lives of ordinary people, and which will only make the slightest difference to the climate anyway, given that the UK produces a meagre 1 per cent of global emissions”.

He also suggests the UK could have been self-sufficient in gas if we had not banned fracking with this comment: “We, meanwhile, decided to kowtow to organisations like Friends of the Earth, which despite being told by the Advertising Standards Authority to withdraw misleading claims about the extraction of shale gas, embarked on a campaign of misinformation, demanding ever more regulatory hurdles from an all-too-willing civil service”. I saw no reason to ban fracking so long as it was well regulated.

See Ridley’s blog here:  https://www.rationaloptimist.com/blog/the-root-of-the-energy-crisis/

Meanwhile the Global Warming Policy Foundation has explained how Parliament was misled over the cost of the net zero carbon emission target we are aiming for by 2050. It’s worth reading here:  https://www.thegwpf.com/climate-change-committee-misled-parliament-about-the-cost-of-net-zero/

It certainly appears to me that Government policies on these matters have been seriously misinformed. They have been driven by eco-fanaticism from those who think they can save the world from extinction by adopting extreme policies.

Meanwhile, and as I have said before, controlling the growth in population is the only sure way to reduce emissions and improve the environment. Our Government has done nothing about that issue at all, and few other Governments had done anything about it either.

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Grant Thornton Fined Trivial Amount over Patisserie Valerie Audits

The interesting news today, at least for a former shareholder in Patisserie Holdings (CAKE) as I am, was the announcement by the Financial Reporting Council (FRC) of fines on Grant Thornton and their Audit Partner over the defective audits of the company in financial years 2015, 2016 and 2017. The company subsequently collapsed in 2018 when it became apparent that the accounts were a work of fiction.

This is what the FRC had to say: “This Decision Notice sets out numerous breaches of Relevant Requirements across three separate audit years, evidencing a serious lack of competence in conducting the audit work. The audit of Patisserie Holdings Plc’s revenue and cash in particular involved missed red flags, a failure to obtain sufficient audit evidence and a failure to stand back and question information provided by management. As a result of this investigation, GT has taken remedial actions to improve its processes and to prevent a recurrence of these types of breaches. The package of financial and non-financial sanctions should also help to improve the quality of future audits.”

The sanctions imposed include fines of £2.3 million on Grant Thornton and £87,500 on audit partner David Newstead, after taking into account mitigating circumstances and the financial resources of GT.

But the detail of the case makes for interesting reading, which can be obtained in the link from here: https://www.frc.org.uk/news/september-2021/sanctions-against-grant-thornton-uk-llp-and-david where the Final Decision Notice can be read.

It shows that not only did the audit fall down in many ways but that accounting practices at Patisserie were amateurish in the extreme with apparently no proper oversight by the directors. It includes such problems as:

  • Large amounts of revenue recorded from voucher sales near the year end without being queried.
  • Cash growth that was significantly larger than growth in revenue or profit, with repeated inconsistencies in bank statements and dormant bank accounts being reactivated but the auditors not informed.
  • Reconciling items and journal entries being misused or without proper explanation. For example journal entries being used to record sales transactions, employee costs, etc. As a result there were many thousands of journal entries each year.
  • Additions to fixed assets being miscategorised and wrongly capitalised. For example, motor car purchases being treated as “plant, equipment, fixtures and fittings”.
  • Documents used as supporting evidence containing obvious errors or oddities such as lack of corporate logos, or invoices for vehicles with no vehicle identifications, remittance advices that looked like invoices, and alleged bank statements that appeared to be Excel spreadsheets.

The auditors failed to obtain sufficient evidence to support queried items or to challenge management’s explanations. Professional scepticism in the auditors was clearly lacking.

The liquidators of the company are pursuing a legal claim against Grant Thornton but according to a note in the FT they will continue to defend against that claim on the basis that it “ignores the board’s and management’s own failings in detecting the sustained and collusive fraud that took place”. GT claim that “our work did not cause the failure of the business”. At the end of the day that might have been so but if the defective accounts had been identified in 2015 or 2016 before the fraud became totally out of hand, perhaps the company could have been saved. It would certainly have saved me and many other investors from investing in the company’s shares after 2015.

The financial penalties for such incompetence are of course still trivial. Grant Thornton’s trading profit last year was £57 million.   

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