Category: Laws & Regulations

Eddie Stobart Logistics and Reasons to be Fearful

No sooner had I published a book that says investors cannot trust the accounts of companies when making investment decisions (“Business Perspective Investing”) than we have yet another case of dubious financial reporting. The latest example is that of Eddie Stobart Logistics (ESL) which has announced that “the Board is applying a more prudent approach to revenue recognition, re-assessing the recoverability of certain receivables, as well as considering the appropriateness of certain provisions”. CEO Alex Laffey is leaving with immediate effect, profits seem to now be uncertain, the dividend is being reviewed and the shares have been suspended. In other words, it’s one of those shock announcements that undermines investor confidence in company accounts and in the stock market in general.

That follows on from the case of Burford Capital where revenue recognition has also come into question and I personally doubt the accounts are prudent. We seem to be getting about one case per week recently of accounts that are called into question or where significant restatements are required. I may need to revise my book sooner than expected because it contains a list of examples of dubious and fraudulent accounts in companies which is rapidly becoming out of date!

ESL is of course one of Neil Woodford’s largest investment holdings – he holds 22% of the company. Mr Woodford has also suffered from a write down in the value of his holding via Woodford Patient Capital Trust in Industrial Heat due to slow business progress. This is a company focused on “cold fusion” technology. Mr Woodford seems to be adept at picking risky investments of late which is not how he built his former reputation. Even the Sunday Times is now attacking Neil Woodford with an article today headlined “Neil Woodford’s worthless tech bets” which covers his investments in Precision Biopsy and SciFluor Life Sciences and which are now alleged to be almost worthless. I feel it’s going to be a very long time before his reputation recovers.

As regards more wider issues, there was a very good article by Merryn Somerset Webb in Saturday’s Financial Times under the headline “So many reasons to be fearful”. She points out that due to low interest rates making it seem irrelevant how long it might be before exciting companies actually produce returns, value stocks are trading lower relative to growth stocks than they have for 44 years. The pound is also at a 35-year low against the dollar and US stock prices at a 50-year high relative to US GDP.

Bond yields are so low that even in nominal terms they are negative in many parts of Europe. What should investors do? She comes up with some suggestions such as investing in commodities such as gold or silver, or even oil because there is a risk that with Governments running out of options to stimulate their economies, they may start printing money which will drive up inflation.

She also comments on a likely new “cold war” to be fought by the USA and China over trade which will may profoundly affect many of our investments. She argues that the next 30 years may be very different to the last 30.

Altogether an interesting article well worth reading if just to remind ourselves that the world is rapidly changing and that we live in very unusual times.

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

You can “follow” this blog by clicking on the bottom right.

© Copyright. Disclaimer: Read the About page before relying on any information in this post.

Burford, GE and Media Regulation

As most readers will be aware, Burford Capital (BUR) has been under attack by Muddy Waters over its accounts, corporate governance and other matters. Muddy Waters, led by Carson Black, has been shorting the stock. Now we have a similar attack on venerable US company General Electric (GE) who have been accused by Harry Markopolos of false accounting over liabilities on long-term care insurance policies. This caused the share price of GE to drop by 11% on one day last week. You can see Harry talking about his report on CNN here: https://www.youtube.com/watch?v=MGvsXPY26KI

As in the Burford case, the accusers have not bothered to contact the companies they are attacking before publishing their accusations. I have previously pointed out this is bad journalistic practice because it’s easy to make mistakes over simple facts particularly when relying on third party sources who can often be unreliable.

The Problem

These are just two of numerous such examples over the last few years including some in which I had an interest. Sometimes the allegations escalate to the point that a company is severely damaged and never recovers. Or the business is revealed to be a simple fraud – as in the case of Globo. But sometimes the allegations go nowhere and the companies recover. For example, Carson Black attacked a number of Chinese companies listed in the USA before 2012 including Orient Paper. The company hired third parties to investigate the claims and showed they were of little substance and the SEC took no action although the company did settle some civil claims against it over the matter.

A similar UK case was that of Blinkx – subsequently renamed RhythmOne (RTHM) and recently taken over by Taptica. The allegations here were that video advertising revenue was often fictitious in that and other similar companies and the whole sector came under suspicion although many of the allegations were false or based on innuendo. A lengthy period ensued of claim and counter-claim but no action arose by the regulatory authorities – the FCA or AIM regulators. The share price did recover but only after a long period and after significant changes at the company. Investors in the shares were unable to quickly separate fact from fiction about the allegations and hence many investors sold out – that is similar to events in the Burford case where it might be many months before any conclusions are reached by the relevant regulatory authorities and the share price remains depressed.

These attacks on companies are often publicised by the media – both the traditional paper press and by on-line news sites of which there are many in the financial world (this blog alone might be considered one such of course). As any journalist will tell you, “bad news” stories tend to gain more public attention than “good news” stories. Exaggeration and hyperbole are common because by doing so the web sites attract attention and hence more readers or subscribers – in effect these stories are often “clickbait” in current parlance.

Clearly the motive for many of these attacks, and why the attackers do not contact the companies concerned before promoting their stories, are financial. The attackers hope to make money from shorting the stock, or advising others to do so. In the case of Blinkx, the attack was based on evidence provided by a third party who had a direct financial interest in supplying the required information.

Needless to point out perhaps that the traditional national media such as newspapers have always paid for stories although paying criminals or police officers for stories is viewed with disdain. But newspapers do usually try to corroborate facts before they publish and usually invite comments from those attacked.

Which brings us on to how the more traditional media are regulated to avoid the abuses that one sees in the blogosphere.

OFCOM regulates television and radio, including “catch-up” services, i.e. “broadcast” media. It now covers the BBC although one sometimes might not realise it. OFCOM requires programme makers to show “due impartiality and due accuracy” without “undue prominence of views and opinions”. See https://tinyurl.com/mazam3q where there is extensive guidance.

OFCOM does not regulate on-line media so video programmes on YouTube are not regulated in any way by an independent third party. YouTube only has its own guidelines which it tries to enforce against harmful content, but it has opposed any suggestions of outside regulation. As OFCOM says in its own report on Addressing Harmful Online Content, “While regulation has evolved, most online content is subject to little or no specific regulation”. In reality such media of all kinds and covering so many subjects have grown at an enormous rate in recent years and have reached the point that regulating it as is done with broadcast media would be very difficult.

The traditional paper press are regulated by either IPSO or IMPRESS which were set up relatively recently (by 2016) after the Leveson Inquiry. IPSO has a Code of Practice for Editors for example that covers such matters as accuracy. It includes these requirements: “(i) The Press must take care not to publish inaccurate, misleading or distorted information or images, including headlines not supported by the text; (ii) A significant inaccuracy, misleading statement or distortion must be corrected, promptly and with due prominence, and — where appropriate — an apology published. In cases involving IPSO, due prominence should be as required by the regulator; (iii) A fair opportunity to reply to significant inaccuracies should be given, when reasonably called for; and (iv) The Press, while free to editorialise and campaign, must distinguish clearly between comment, conjecture and fact”. IMPRESS has a similar “Standards Code”.

IPOS and IMPRESS are effectively voluntary schemes unlike OFCOM which was created by an Act of Parliament. As a result they are often seen as relatively toothless and the printed press have more ability to promote comment and less necessity to be “fair” than the broadcasting organisations. So for example the Daily Telegraph ran the GE story under the headline “Did Jack Welch build his GE house on sand?” with a sub-title of “A financial investigator has accused America’s best known industrial giant of accounting jiggery-pokery” with extensive coverage of the allegations although they did cover some of the rebuttals from the company. But asking loaded questions that promote the allegations is simply a rhetorical way around the rules. Such questions are similar to that of the question, “when did you stop beating your wife” which is difficult to answer without acknowledging the allegation.

What other things might inhibit on-line media? Libel law is one although few companies will pursue that avenue because: 1) It is very expensive; 2) It takes many months, if not years, to conclude such legal actions and 3) the associated negative publicity can simply compound the problem. In addition UK companies would have great difficulty pursuing those based in the USA or in other foreign countries where libel laws are less strict about the burden of proof. As the internet is a global service and content can be published and hosted on servers in numerous countries, that compounds the difficulties faced by the accused.

Financial regulators have some capabilities to stop market abuse. The Financial Conduct Authority (FCA) has powers under the Market Abuse Regulations (MAR) to prevent Market Abuse. To quote from the FCA: “Market abuse is a concept that encompasses unlawful behaviour in the financial markets and, for the purposes of this Regulation, it should be understood to consist of insider dealing, unlawful disclosure of inside information and market manipulation”. That covers a wide spread of media and covers the use of bulletin boards to disseminate false information. In reality although the FCA’s Handbook would appear to give it powers over market manipulation where false or inaccurate information is being published with the purpose of affecting share prices, the FCA seems remarkably reluctant to use those powers. In addition, there is the question where the story is complex (as most financial ones are), whether the treatment is fair or not. That is often a matter of judgement and can be disputed for a long time before any conclusion is reached. Financial regulators are typically unwilling to get into such minefields. Investigating such matters can take large resources in any regulator when they often have more obvious and urgent frauds to deal with, and very limited resources to pursue them.

You can see from all of the above that there are very limited deterrents to those seeking to profit from alleged failings in companies, and even fewer deterrents to ensure that what they promote to the public is always accurate, fair and reasonable.

Discouragement in advance of publication of articles on the internet is not there and penalties afterwards are non-existent except in very rare circumstances. Internet publishers are simply not regulated in any meaningful sense and you or I could publish pretty well anything on the web so long as it was not criminal (e.g. “hate speech” or “extreme pornography”). Criminal libel was removed from UK law in 2010, when the Coroners and Justice Act 2009 came into effect and abolished the offences of sedition and seditious libel, defamatory libel and obscene libel. Libel can only now be pursued in the UK under civil law by the offended with only damages being awarded if the complaint is upheld. Such actions have to take place in the High Court which means they are very expensive even for trivial complaints. Newspapers appear to be willing to afford the risk of large damages they sometimes incur for the sake of a “good story”, and many on-line bloggers have few financial resources that would even cover the legal costs of a successful case.

Fixing the Problem

What could be done to improve the situation and bring more morality back into this area of the financial markets? I suggest the following should be considered:

  1. An offence of criminal libel be introduced where any person or organisation makes false allegations from which they or associates may financially benefit directly or indirectly (e.g. by boosting readership), or when they repeat such allegations made by third parties.
  2. The above offence would impose an obligation on publishers to check their facts with third parties including a company which is the subject of the story before publication while allowing the company reasonable time to respond.
  3. Where an organisation is the publisher of financial commentary, rather than an individual, then they would be required to be licensed by a body such as OFCOM and be required to adhere to a code of conduct laid down by that body. This would need to cover those who run financial information web sites, bulletin boards and chat-rooms. The code of conduct would need to be similar to that for broadcasting organisations and would require an obligation to quickly remove for review any article that was the subject of a complaint. It would need to be made clear that reference to “publishers” would need to encompass those who not just had editorial responsibility and control over content but also those who simply hosted comments or stories from others, i.e. Facebook and most bulletin boards and blogging sites would be treated as publishers and not be able to use the excuse that they were simply technically hosting a service and not providing content.
  4. There should be a specific obligation imposed on directors of companies, and on their auditors, to investigate allegations of fraud or misconduct when it is brought to their attention whether or not there is an intention to publish the information. The directors should also immediately request suspension of the shares when serious allegations are made until some clarity on the credibility of the allegations is reached (this is so as to avoid sales by directors before publication of the claims, or share trading by those making the claims).

Note that such laws and regulations would not necessarily totally prevent those based overseas from publishing false allegations but it would certainly inhibit the circulation of the allegations within the UK and hence reduce the impact on financial markets in this country.

Would it allow frauds to remain undiscovered, and shareholders to remain in the dark about misleading accounts? If the allegations were true then clearly not as truth would be a good defence, and investigations by company directors and their auditors would reveal truths that could not be concealed.

Could it inhibit individuals from posting their comments or opinions on the web? It would be unlikely to do so but any organisation that published the comments on a financial subject would need to take responsibility for the content, and have systems to ensure very quick review and removal of offending items – most financial web sites already have such systems in place. But they might take steps to ensure they know who is publishing the information whereas at present anonymous malicious posts are common. Anyone who repeatedly makes false allegations could then be blacklisted.

Is introducing the criminal law into libel a disproportionate remedy? When the amount of money that can be made by financial market abuse is so large, and the alternative remedies so ineffective, it is surely appropriate to toughen up the regime. The penalties for abuse need to be substantially increased. Would the police or regulatory authorities have the resources to pursue such matters? Probably not but the solution to that might be to permit private prosecutions.

It is interesting to note that the Daily Telegraph reported recently (on 17/8/2019) on a private prosecution by Steve Egan against brothers Jason and Justin Drummond over alleged fraud at a company called Media Corporation (MDC) where they were directors. That company’s shares were delisted from AIM in 2013 and the company ceased its internet and gaming operations soon after and transmogrified in an investment company. I covered the events at this company for ShareSoc in their newsletters and the last one called the company a “comic turn”. The events at the company certainly inspired no confidence in the directors from me and I considered the accounts of the company were questionable.

Common Abuse

What I have not discussed in the above is the publication of abuse without any factual allegations being involved. Such comments about individuals such as is a “sender of fascist lawyer’s letters” when a victim complains or simple derogatory comments such as “fatty” aimed at ladies can be both extremely annoying to the recipient and damage their reputation but can be difficult to pursue under libel law. Good manners have simply disappeared in the modern world. Readers of such comments might be amused by them but the victims are not.

Many politicians and media personalities now suffer from such abuse without any recourse and so do companies. I have been on the receiving end of such comments personally in the past as is well known. It is a fact of life that standards in public life have gone significantly downhill in the last few years. This is partly due to the ease of distribution of such comments at trivial cost using the internet, the lack of practical and effective remedies and the fact that it is easy for the abusers to hide behind anonymity.

Even such reports as that on Burford by Muddy Waters are riddled with abuse. They don’t just present facts from which the readers can draw their own conclusions. They mix comment with the facts in derogatory form so as to strengthen their arguments.

If OFCOM licensed and regulated financial news/commentary web sites, it would be easy for them to put a stop to such behaviour by suitable regulations and prevent the “monetisation of abuse” that currently happens. By stimulating debate and response, web sites can generate traffic and hence gain financial benefit. It’s the equivalent of “trolling” on social media where perpetrators gain notoriety and personal satisfaction from upsetting others and starting arguments.

It would not be my intention to outlaw the making of derogatory comments about companies in the financial world. Most companies would not be damaged by such comments and not suffer any financial losses even if the shareholders might, which incidentally is another problem with current UK libel law. But individuals might suffer for no good reason. Restoring good manners to modern society is an impossible task for the law, but stopping market abuse is not.

It is of benefit to maintain an orderly market in company shares that companies can still come under criticism from investors. This helps to prevent the various “manias” that can sweep the market for company shares in hot sectors such as internet companies in the dotcom era. But it is surely the case that the pendulum has swung too far in favour of laissez-faire regulation of such matters.

Company directors may be expected to be thick-skinned but we now have a situation where company investors can suffer very substantial financial losses from the activities of professional doomsayers. That includes not just individual investors but institutional investors including pension schemes.

It is market abuse however you look at it.

Conclusion

No doubt this article will stimulate some active debate from readers. It is important to state that I am not opposed to people shorting stock as such although I would like to see tougher regulation of stock-lending which often supports it. In particular the institutional holders who lend stock without the knowledge or consent of the beneficial holders and who gain little benefit need to be restrained I suggest. But shorting stock might contribute to better market liquidity and price stability. Any market only works if there are people with contrary opinions on whether a stock is a fair price – for every buyer there needs to be a seller. What is surely wrong is that shorters can magnify their gains by making public allegations that are poorly grounded in sound evidence and on which the target companies have had no opportunity to comment before publication.

This is surely an area of the financial markets where more regulation is required.

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

You can “follow” this blog by clicking on the bottom right.

Burford – Illegal Market Manipulation?

Burford Capital (BUR) have issued an announcement that makes a number of allegations about the events surrounding the recent shorting attack involving Muddy Waters. It includes:

  • Spoofing and layering to move the share price, e.g. putting in numerous share sales on the order book and cancelling them before they can be filled.
  • That includes numerous such transactions just before Muddy Waters issued a tweet giving Burford as the target, and as that tweet was delayed only Muddy Waters or its associates could have known of the timing.
  • Exiting their short position by buying Burford shares at the same time as continuing on the same day to make their allegations.
  • Falsely alleging the company was “insolvent” which would have been picked up by algorithmic traders.

They allege these activities are simply illegal and have informed the regulatory authorities on the matter, plus hired three large law firms (Quinn Emanuel Urquhart & Sullivan LLP, Freshfields Bruckhaus Deringer LLP and Morrison & Foerster LLP) plus a Professor at New York’s Columbia University who is an expert to look into the trading activity.

For those not familiar with market manipulation techniques, just read the Burford announcement for a good explanation: https://tinyurl.com/y6xrs38h.

Let us hope that the UK’s Financial Conduct Authority (FCA) promptly looks into these complaints, and that the Financial Report Council (FRC) also investigates the accounts and past audits of the firm. Despite Burford being a very large company, it is listed on AIM so the AIM regulators (i.e. the LSE) and its NOMAD should also be looking into the matter surely?

As I said in a previous blog post here: https://tinyurl.com/yy9pamh5, one of the problems in most shorting attacks is the mixture of possibly true and false allegations, which the shorter has not even checked with the target company, along with unverifiable claims and innuendo. The shorter can make a lot of money by such tactics while it can take months for the truth or otherwise of the allegations to be researched and revealed. By which time the shorter has long moved on to other targets.

Shorting is not wrong in essence, but combining it with questionable public announcements is surely market manipulation which is covered by the law on market abuse.

To remind you, I have never held any position in Burford Capital, short or long, and there are good reasons why not which I give below. But I have held shares in other companies which have been the victim of shorting attacks – in one case justifiable in another not, so I would like to see some reform of this area of the market.

As regards Burford, just reviewing this company against the check lists given in my new book, it would have failed as an investment proposition on several counts. These are:

  • Smaller transactions (Chapter 2). Burford’s profits are very dependent on a few large legal cases. Any problems in such cases could wipe out the profits whereas companies who have many smaller contracts rather than a few large ones are less vulnerable to surprises.
  • Repeat business (Chapter 2). Every legal case they pursue is a “one-off” transaction which means there is no certainty of future such business.
  • Short term contacts (Chapter 2). The legal case the company pursues can take years to finally resolve, i.e. they are long-term contracts rather than short-term ones. This means they are complex in accounting terms and risky.
  • No risk of Government regulation (Chapter 4). This area of legal practice is very much subject to Government regulation and has significantly changed in recent years.
  • Applicable listing rules (Chapter 7). The company is listed on AIM which is a much lighter touch regulatory regime than that for fully listed companies despite the fact that it is a very large business (market cap still £1.8 billion even after recent share price falls).
  • Adhere to corporate governance code (Chapter 7). Corporate governance at this company is odd to say the least with directors serving for more than ten years and no executive management on the board. In addition the CFO is married to the CEO.
  • AGMs at convenient time and place (Chapter 7). The company holds its AGMs in Guernsey where it is registered.
  • Accounts easy to understand and accounts prudent and consistent (Chapter 8). I would certainly question whether both the recognition of the value of on-going legal claims in the accounts is prudent. It is also very difficult for any outsider to judge the merits of the claims.
  • Do profits turn into cash (Chapter 10). From the 2018 accounts: Pre-tax profit was £307 million while Cash Outflow from Operating Activities was £233 million. Enough said.

The above are just a few easy points to pick out, but I could go on at some length on why I would not have invested in Burford and did not despite it being regularly tipped in the financial press.

See here for the book details that includes the checklists used in the above analysis: https://www.roliscon.com/business-perspective-investing.html

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

You can “follow” this blog by clicking on the bottom right.

© Copyright. Disclaimer: Read the About page before relying on any information in this post.

Burford Response and Shorting Regulation

Burford Capital (BUR) have issued a response to the allegations of false accounting from Muddy Waters. It goes into some detail and appears to at least contradict some of the allegations, if not all. It could take some weeks to analyse and verify who is correct but it leaves outstanding the basic issue of whether the accounting treatment of on-going law suits is prudent. My view is not simply because the outcome of any law suit is basically uncertain. Even if the case is won, there is no certainty that the litigants will get paid.

But there is one law suit that looks fairly certain to proceed. US lawyers Rosen Law Firm are already lining up folks to join a class action over the matter against Burford Capital Ltd. See https://www.rosenlegal.com/cases-register-1647.html . More background information is available here: https://tinyurl.com/yxvnc3yj .

Burford are also threatening legal action against Muddy Waters. So it looks like another lawyers’ beanfeast.

As one commentator said, those aiming to profit from shorting a stock tend to throw all kinds of mud at their target in the hope that some of it sticks. The target company is often unable to respond quickly and the issues are often so complex (as in the Burford case), that investors don’t know who to believe. So the damage is done, the share price collapses and the shorter makes an immediate handsome profit. Is this morally sound? I think not.

As I said in a previous blog post, “it is surely wrong for anyone to make such allegations and publicize them with the objective of making money from shorting the stock without first asking the company concerned to verify that what they are alleging is true – at least as far as the facts they report are concerned rather than just their opinions”. Muddy Waters did not apparently do that in this case and most shorters do not.

As someone who writes frequently on companies, it is good journalistic practice to verify with the company what you are about to publish. It is so easy to make simple factual errors or misinterpret the facts. There is nothing wrong per se in shorting as it can help to ensure that stock valuations are fair and reasonable and maintain liquidity. Most shorters do not publicise what they are doing.

Paul Scott of Stockopedia did a good analysis of the allegations and counter allegations at Burford. This is what he also said: “My feeling is that short sellers should be required to submit such a dossier to the target company, and give them say 7-days to respond privately. This would allow companies to point out the mistakes in the draft report. It does appear that the MW report might have misinterpreted some of the cases it comments on. Or at least, Burford seems to have provided reasonable explanations in most cases”. But Paul was also critical of their accounting policies and reliance on a few big cases.

I agree with him that such a regulation would be a good idea. It would stop a lot of wild and inaccurate allegations being published and at least give the target company the opportunity to issue a quick rebuttal if the allegations were still published.

The difficulty might be in framing such a regulation to cover those publishing a critique on a company at the same time as shorting the stock while excluding general market commentary and company analysis. But it would not seem impossible to do so.

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

You can “follow” this blog by clicking on the bottom right.

© Copyright. Disclaimer: Read the About page before relying on any information in this post.

Burford Capital, Goals Soccer Centres, Carillion, and Why Numbers Are Not Important

To follow on from my previous comments this morning on Burford Capital (BUR), this is a typical “shorting” attack where the shorter (Muddy Waters) and their supporters make a lot of allegations which investors are unable to verify in any useful time frame. I certainly questioned the accounting approach used by Burford and other litigation finance firms as I commented on it back in June, but disentangling the factual accusations in the Muddy Waters dossier from innuendo and comment is not easy.

It is surely wrong for anyone to make such allegations and publicize them with the objective of making money from shorting the stock without first asking the company concerned to verify that what they are alleging is true – at least as far as the facts they report are concerned rather than just their opinions.

The company may threaten legal action for libel where misleading or inaccurate information is published but in practice such law suits take so long to conclude, with major practical problems of pursuing those who are resident overseas while actually worsening the reputational damage rather than improve it that few companies take that route.

This is an area of financial regulation that does need reform. In the meantime the damage to Burford is probably likely to persist for many months if it ever recovers.

What is the real moral of this story so far as investors are concerned? Simply that trusting the financial accounts of companies when picking investments is a very poor approach. This was reinforced by more news about the accounting problems at Goals Soccer Centres (GOAL) which I also commented on previously. Apparently a report to the board by forensic accountants suggests that the former CEO corroborated with the former CFO to create fictitious documents including invoices (see FT report on 3/8/2019). Clearly the audits over some years failed to pick up the problems. In addition it looks like the demise of Carillion is going to be the subject of a legal action against their former auditors (KPMG) by the official receivers. Financial accounts, even of large companies such as Carillion, simply cannot be trusted it seems.

This is not just about poor audits though. The flexibility in IFRS as regards recognition of future revenues is one of the major issues that is the cause of concerns about the accounts of Burford, as it was with Quindell – another case where some investors lost a lot of money because they believed the profit statements.

This seems an opportune moment to mention a new book which is in the process of being published. It’s called “Business Perspective Investing” with a subtitle of “Why Financial Numbers Are Not Important When Picking Shares”. It’s written by me and it argues that financial ratios are not the most important aspects to look at when selecting shares for investment. Heresy you may say, but I hope to convince you otherwise. More information on the book is available here: https://www.roliscon.com/business-perspective-investing.html

There are some principles explained in that book that helped me to avoid investing in Burford, in Quindell, in Carillion, in Silverdell and many of the other businesses with dubious accounts or ones that were simple frauds. These are often companies that appear to be very profitable and hence generate high investor enthusiasm among the inexperienced or gullible. It may not be a totally foolproof system but it does mean you can avoid most of the dogs.

With so many public companies available for investment why take risks where the accounts may be suspect or the management untrustworthy? One criticism of Neil Woodford is that his second biggest investment in his Equity Income Fund was in Burford. If you look at his other investments in that and his Patient Capital Trust fund they look to be big bets on risky propositions. He might argue that investment returns are gained by taking on risk which is the conventional mantra of investment professionals. But that is way too simplistic. Risks of some kinds such as dubious accounts are to be avoided. It’s the management of risk that is important and size positioning. The news on Burford is going to make it very difficult for Woodford’s reputation as a fund manager to survive this latest news.

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

You can “follow” this blog by clicking on the bottom right.

© Copyright. Disclaimer: Read the About page before relying on any information in this post.

Removing Directors, Ventus VCTs, Rent Controls and HS2

Replacing the directors of companies by shareholders can be enormously difficult. Although I have been instrumental in the past in helping that process in several companies, it takes enormous effort and a lengthy timescale to achieve it. ShareSoc director Cliff Weight has published a very perceptive article on the problems of doing so at the Ventus VCTs.

Problems faced by shareholders who are unhappy with the directors of a company are a) communicating with all other shareholders now that many are in nominee accounts and the costly process of writing to shareholders on the register via post (and processing the register into usable format for mailing); b) the existing directors of a company using the resources of the company (i.e. shareholders funds) to campaign actively against any change including the use of expensive proxy advisors to contact shareholders via telephone; c) the role of IFAs who advise their clients or who manage their portfolios and who can influence the shareholder voting; and d) the inertia of institutional investors (or to quote someone from the FT today: about 60% of company investors are passive shareholders and ‘don’t care’).

In the case of the Ventus VCTs, some shareholders are unhappy with the management fees as no new investments are being made by the company and are unhappy with the actions of the directors. They have tabled requisitions for the Annual General Meetings at Ventus VCT and Ventus 2 VCT on the 8th August to remove all the directors and appoint new ones. Of particular concern is the current two-year termination notice on the management agreement which is now being proposed to extend further. It is never a good idea for investment trusts to have long termination periods in contracts with the manager.

You can read Cliff Weight’s blog article here: https://tinyurl.com/y2de9vaa . There is also an article covering this topic in this weeks Investor’s Chronicle under the title “Limits of Influence”. It’s well worth reading.

How to solve these problems? I suggest the following: a) a reform to put all shareholders (including beneficial owners) on the register of companies; b) put shareholders email addresses on the register so that communicating with them can be done at reasonable cost – it’s surely unreasonable in the modern age to only have postal addresses which adds to costs enormously; c) limit how much can be spent on proxy advisors to oppose shareholder requisitions; and d) exclude passive institutional investors who have no interest as owners from voting.

Rent Controls

The Mayor of London, Sadiq Khan, is intending to develop proposals for rent controls in London so as to “stabilise” or reduce property rents in London (or make them “more affordable” as he puts it). That’s despite the fact that he has no legal powers to do so and a Conservative government would likely block such proposals. But Jeremy Corbyn supports the idea. The Mayor clearly sees this as a vote winner for his re-election campaign next year as he claims 68% of Londoner’s support rent controls!

Some of my readers probably invest in buy-to-let properties so such proposals will worry them considerably. On the other hand, those who rent houses or flats in London are undoubtedly concerned about the cost of renting and the rapid rise in rents in London. Some are being forced out of London or have to move to smaller properties.

But rent controls never work and create all kinds of negative side-effects, or unintended consequences. When I moved to London in the 1960s, rent controls were in place and had been since 1945 in various forms (there is good coverage of the history of rent controls in London on Wikipedia). In the 1960s, unfurnished properties were almost impossible to find or were horribly expensive as landlords had withdrawn from the market. Rachmanism to force tenants out of rent controlled properties was also rife and what property there was available for rent on the market was often in very poor condition because landlords simply could not justify spending money on maintenance. We definitely do not want to return to the 1960s despite Jeremy Corbyn’s desire to put us there!

Rent controls are not the answer, as many studies of such schemes has shown. The Mayor needs to do more to tackle the housing problem in London by ensuring more home are built, encouraging movement of people out of London, and discouraging new immigration into the capital from elsewhere. But you can read the Mayor’s press release here if you wish to learn more about his plans: https://www.london.gov.uk/press-releases/mayoral/to-tackle-affordability-crisis

HS2 and Brexit

The latest report that HS2 may cost an extra £30bn, meaning it could cost as much as £85bn in total, surely makes it even less justifiable. Enabling a very few people to save a few minutes on the train journey time from London to Birmingham at that cost makes no sense, although there might be more justification for expanding capacity and speed on routes in the North of England. However, it would surely be much better to spend that kind of money on an improved road network where the benefits are much greater. The Alliance of British Drivers has just published an analysis of road expenditure versus taxation which includes a comparison of road versus rail expenditure. It’s well worth reading – see here: https://www.abd.org.uk/road-investment-and-road-user-taxation-the-truth/ .

Now the Office of Budget Responsibility (OBR) have recently suggested that a “no-deal” Brexit would blow a £30bn hole in the public finances. Even if you accept that is true, and many do not, there appears to be a simple solution therefore. Cancel HS2 just to be on the safe side.

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

You can “follow” this blog by clicking on the bottom right.

© Copyright. Disclaimer: Read the About page before relying on any information in this post.

 

LoopUp Profit Warning and Brexit Party Policy

Conference calling AIM company LoopUp (LOOP) issued a trading statement this morning which contained a profit warning. At the time of writing the share price is down 47% on the day but it has been falling sharply in recent days which suggests the bad news had already leaked out.

This is an example of what happens when lofty growth expectations are revised downwards. Revenue is now expected to be down 7% on the previous market consensus and EBITDA down 20%. The company blames the shortfall on “subdued revenue across its long-term customer base” driven by macro-economic factors and diversion of sales staff into training new ones.

LoopUp is presenting at the ShareSoc seminar event on the 10th July so it will be interesting to hear what they have to say about this – see https://www.sharesoc.org/events/sharesoc-growth-company-seminar-in-london-10-july-2019/ . This news comes only a month after LoopUp held a Capital Markets Day when there was no hint of these problems. I did a report on that here: https://roliscon.blog/2019/06/07/broker-charges-proven-vct-performance-fee-and-loopup-seminar/

I do hold a few shares in LoopUp but thankfully not many.

Brexit Party Policy

I mentioned in a recent blog post that the Brexit Party is looking for policy suggestions to enable them to develop a platform for any prospective General Election. Here’s what I sent them with respect to financial matters:

  1. The personal taxation system is way too complicated and needs drastically simplifying. At the lower end the tax credit system is wide open to fraud while those on low incomes are taxed when they should not be. The personal tax allowance, both the basic rates, and higher rates, need to be raised to take more people out of tax altogether.
  2. The taxation of capital gains is also now too complicated, while tax is paid on capital gains that simply arise from inflation, which are not real gains at all. They should revert to being indexed as they were some years ago. For almost anyone, calculating your own tax that is payable is now way too difficult and hence requiring the paid services of accountants using specialist software.
  3. Inheritance tax is another over-complex system that wealthy people avoid by taking expert advice while the middle class end up paying it. It certainly needs grossly simplifying, or scrapping altogether as a relatively small amount of tax is actually collected from it.
  4. The taxation of businesses is inequitable with the growth of the internet. Small businesses, particularly retailers, pay a disproportionate level of tax in business rates while their internet competitors often avoid VAT via imports. VAT is now wide open to fraud and other types of abuse such as under-declarations, partly because of the EU VAT arrangements. VAT is in principle a simple tax and the alternative of a sales tax would create anomalies but VAT does need to be reformed and simplified.
  5. All the above tax simplifications would enable HMRC to be reduced in size and the time wasted in form filling by individuals and businesses reduced. Everyone would be a winner, and wasted resources and expenditure reduced.
  6. The taxation of company dividends on shares is now an example of the same profits being taxed twice – once in Corporation Tax on the company, and then again when those profits are distributed to shareholders. This has been enormously damaging to those who receive dividends and the lack of tax credits has also undermined defined benefit pension funds. The taxation of dividends should revert to how it once was.
  7. The regulation of companies and financial institutions needs very substantial reform with much tougher laws against fraud on investors. Not only are the current laws weak but the enforcement of them by the FCA/FRC is too slow and ineffective. Although some reforms have recently been proposed, they do not go far enough. Individual directors and senior managers in companies are not held to account for gross errors or downright fraud, or when they are, they get off too lightly. We need a much more effective system like they have in the USA, and better laws.
  8. Shareholder rights as regards voting and the receipt of information have been undermined by the use of nominee accounts. This has made it difficult for individual shareholders to vote and that is one reason why investors have not been able to control the excesses in director pay recently. The system of shareholding and voting needs reform, with changes to the Companies Act to bring it into the modern electronic world.
  9. The pay of directors and senior managers in companies and other organisations has got wildly out of hand in recent years, thus generating a lot of criticism by the lower paid. This has created social divisions and led partly to the rise of extreme left socialist tendencies. This problem needs tackling.
  10. Governance of companies needs to be reformed to ensure that directors do not set their own pay, as happens at present, but that shareholders and other stakeholders do so. Likewise shareholders and other stakeholders should appoint the directors.
  11. Insolvency law needs reform to outlaw “pre-pack” administrations which have been very damaging to many small businesses. They are an abuse of insolvency law.
  12. All the EU Directives on financial regulation should be scrapped (i.e. there should be no “harmonization” with EU regulations after Brexit). The MIFID regulations have added enormous costs to financial institutions, which have passed on their costs to their customers, with no very obvious benefit to anyone. Likewise the Shareholder Rights Directive might have had good objectives but the implementation has been poor because of the lack of knowledge on how financial markets operate in the UK. Other examples are the UCITS regulations which have not stopped Neil Woodford from effectively bypassing them, or the PRIIPS regulations which have resulted in misleading information being provided to investors.

Let me know if you have other suggestions, and of course the above policies might be good for adoption by other political parties in addition.

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

You can “follow” this blog by clicking on the bottom right.

© Copyright. Disclaimer: Read the About page before relying on any information in this post.

Redcentric – Devasting Report on Audit Quality

I have commented on the accounting problems at Redcentric (RCN) before – see https://roliscon.blog/2019/06/13/pwc-fined-over-audit-at-redcentric/ . Mark Bentley of Sharesoc has written a good article on the audit issues at this company on their blog here: https://www.sharesoc.org/blog/regulations-and-law/redcentric-rcn-campaign-important-developments/

He covers the report from the Financial Reporting Council (FRC) on the audit which has only taken them two years to produce – that’s fast for the FRC. But if you read the report you will see that it is a devastating critique of the quality and professionalism of the audit by PwC.

An investigation by the Financial Conduct Authority (FCA) is still on-going apparently and ShareSoc is talking to lawyers about possibly legal action to recover losses suffered by investors from reliance on clearly inaccurate accounts.

But there are simply too many such cases and shutting the stable door several years after the horse has bolted is not good enough. The Government needs to look at how to prevent such problems by improving the standards of accounts, and improving the auditing of them. Some reforms have already been proposed in that regard but whether they will have an impact on the activities of smaller AIM companies, where a lot of the problems occur, has yet to be seen.

At the core of the problem is the failure to make the individuals (i.e. the directors and senior management) in such companies personally responsible. Pursuing the companies or their auditors is only a limited solution and shareholders often bear the costs when the individuals concerned need to be deterred by prison sentences I suggest. But that means changes to the law to make it easier to prosecute such cases.

And the FCA needs much more resources to enable them to pursue such cases quickly and forcefully. There is so much fraud taking place in the financial world that most goes undetected, unrecognised and unprosecuted.

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

You can “follow” this blog by clicking on the bottom right.

© Copyright. Disclaimer: Read the About page before relying on any information in this post.

Slack IPO, Web Privacy and Sell on Monday

The IPO of Slack in the USA has received a lot of media coverage. This is one of those technology stocks that is on what at first glance is a sky-high valuation. Slack provides workplace collaboration software and last year had revenues of $400 million, and lost $140 million. The market cap is now around $20 billion which means it is valued at about 50 times revenue. Those are the negative numbers. The positive aspect is that it roughly doubled revenue in each of the last two years. With such growth are profits or losses important? But it’s surely a case of investors piling into a hot story, i.e. following the herd.

There’s an interesting article by Megan Boxall in this week’s Investor’s Chronicle comparing the current mania for technology stocks with the dot.com bubble of the 1990s. She reports that 2018 saw the highest proportion of loss-making company IPOs since 2000 and the market is awash with private equity money being ploughed into early stage loss-making companies.

Well I lived through the dot.com era and managed to sell a software business and retire before the boom became a bust. The current mania for technology stocks certainly reminds me of that era. Growth certainly adds to value, but growth in profits not revenue is what matters. Many early stage companies can grow revenue given enough investment but often they never make a profit. And when the realisation comes, investors drop the company like a hot potato. The key question is to look at when a company will stop consuming cash and at least look like it will breakeven. Before that point, it’s simply a speculation. Investors in the dot.com boom realised later on that they were going to lose money on most of their punts and the whole sector became untouchable for some years.

The other question to ask about Slack is whether it has some unique technology that cannot be easily copied. I am not sure it does on a quick review.

ICO and Adtech

I mentioned in a blog post om April 10th my concerns about privacy after I was bombarded with advertising for SuperxxDry products after mentioning the company in my blog. The Information Commissioner’s Office (ICO) has now published a report which says the Adtech industry must mend its ways. Basically personal data is being shared without the users’ consent, possibly to hundreds of advertising firms.

The ICO has effectively warned the industry that they must reform themselves as the use of personal data has been unlawful. See https://tinyurl.com/yxk7d494 for more information and to read their report. This will clearly affect any company operating in this sector including such giants as Google. But it is surely a move that is to be welcomed by anyone concerned about privacy and those not wanting to be bombarded by irrelevant advertising.

Buy on Friday, Sell on Monday

I have noticed over the last few months that my portfolio tends to rise on Mondays and fall on Fridays. It certainly did this week again. It appears that investors pile in to small cap stocks and investment trusts on Monday morning, but lassitude sets in on Fridays.

Researching the internet seems to suggest that this is a known pattern. So clearly it is best to be contrarian and buy when prices are temporarily down on Friday and avoid buying on Monday. So that’s my tip for today.

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

You can “follow” this blog by clicking on the bottom right.

© Copyright. Disclaimer: Read the About page before relying on any information in this post.

FairFX AGM Report, Woodford Fund Issues and Zero Carbon

Firstly a brief report on the Annual General Meeting of FairFX (FFX) which I attended today in the City. Only I and one other shareholder asked any questions, and there may not have been many others there.

This is a payments company which had an initial focus on the provision of foreign exchange but they now do a lot more. They are planning to change the name in the near future and there was a resolution tabled to change the articles to enable them to do this without reverting to shareholders. I abstained on that because I prefer companies to put a change of name to investors. But talking to one of the directors after the meeting it sounds like they are taking a professional approach to the name change.

Revenue of the company was up 69% last year to £26 million with profits of £2.6 million. Adjusted EBITDA was up 687% if you wish to look on the bright side. There was a positive AGM announcement with phrases such as “a strong year to date” both in revenue and margins. Full year trading should be in line with market expectations.

The accounts of payment/credit card companies can be complex as I know from being a director of one of them in the past. So I asked a few questions on that area.

FairFX now exclude customer deposits from their accounts which is a definite improvement. But it does capitalise a lot of software development – £4.7 million last year, which I have no concerns about so long as it is in accordance with accounting standards. In response to a question I was told this level of expenditure might be a bit more in the current year. They are building a new unified front end on their 3 applications (platforms) – some of which were acquired.

I queried the collateral requirements of financial institutions they deal with (see page 6 of the Annual Report) and was told this is taken out of the cash figure on the balance sheet and is now in “Other receivables” – hence the large increase in that figure plus the impact of acquisitions on it and general increase in turnover.

Wirecard was mentioned during these questions. Apparently FairFX has historically used them as a “Card Issuer” but they now have the capability to issue cards themselves which will improve margins – customers will be migrated over. That’s reassuring because Wirecard has been getting some very negative publicity in the FT lately.

The other shareholder attending asked about the economic trends and their impact. Corporates are apparently sitting on their hands re FX and clearly Brexit risk might be impacting the demand for personal FX credit cards as holidays in Europe might be impacted by the uncertainty. However the CEO seemed confident about the future.

I might sign up for one of their “Everywhere” Pre-paid Credit Cards which looks cheaper than the company I am using at present.

This is one of those companies that has stopped issuing paper proxy forms – promoted by their Registrar Link Asset Services. I complained about that. I was also not happy that the resolutions were taken on a poll rather than a show of hands. But I understand the proxy counts were all higher than 99% so that was an academic issue.

Link acting as ACD for Woodford Funds

Link, in the guise of “Link Fund Solutions”, also got their name in the FT today over their activities as the Authorised Corporate Director (ACD) of the Woodford Equity Income Fund. An ACD is supposed to ensure that a fund sticks to the rules. They would have been involved in the decision to close the fund to redemptions.

It also seems very odd to me that they approved the listing of some fund holdings in Guernsey to get around the limitations of unlisted holdings. That was clearly an abuse as the reality was that these were not listing that provided any significant liquidity, with minimal dealing taking place. It’s the substance that counts, not how it might simply appear to meet the technical rules.

This looks to be yet another case of those who are supposed to be keeping financial operators in line not doing their job properly. But ask who is paying them.

FT article on Net Zero Emissions

I commented previously on Mrs May’s commitment to go for net zero carbon emissions by 2050. I called it suicidal.

There is a very good article on this topic in the FT today by Jonathan Ford (entitled “Net Zero Emissions Require a Wartime Level of Mobilisation”). The article explains how easy it is to get to the £1 Trillion cost mentioned by the Chancellor on required housing changes alone to remove all fossil fuel consumption. There may be some payback from the investment required but the payback period might be 37 years!

The whole energy system will need to be rebuilt and some of the required technologies (e.g. carbon capture) do not yet exist on a commercial basis. For more details go to the web site of the Committee on Climate Change and particularly the Technical Report present here: https://www.theccc.org.uk/publication/net-zero-technical-report/

If this plan is proceeded with there are enormous costs and enormous risks involved. But it will certainly have a major impact on not just our way of lives but on many UK companies many of which consume large amounts of power. That is definitely something investors must keep an eye on. Companies like FairFX may be one of the few that are not affected in a big way as they only manufacture electronic transactions. That’s assuming the rest of the economy and consumers are not too badly depressed by the changes as a result of course.

Nobel prize winning economist William Nordhaus has shown how a zero-carbon target is unwise. See this note for more information: https://www.econlib.org/library/Columns/y2018/MurphyNordhaus.html

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

You can “follow” this blog by clicking on the bottom right.

© Copyright. Disclaimer: Read the About page before relying on any information in this post.