When the Levee Breaks – A List of Stocks to Short

We’re in a record bull market. Because of the bailout and ensuing relaxed monetary policy associated with the recession, a lot of deadwood companies have managed to float with the tide. So I made a list of the shadiest, smelliest, most overvalued junk that I could find for when the levee breaks.

I have no mandate and can therefore be more tactical. I prefer to only short companies which have glaring fraud/accounting issues, heavy debt loads, and negative insider commentary. From a macro perspective I think we’re getting close to the peak. My one real limitation is that I have to short stocks by buying puts. While this makes timing perhaps more important, I don’t like investing on margin and/or paying rates just to short. I prefer to rely on my prospects being so terrible that they will be down in 6 months to a year anyway.

The Short List
The Short List

 

A few comments on some of the listed companies are below.

Frontier Communications overpaid on several acquisitions. They’ve been able to show cash-flow only by adding more debt to the business and buying more things. Leverage ratios are at the high-end at almost 7x -even for telecom this is high- and the company was forced to service debt with cash-on-hand last quarter because operating income was negative. The Verizon asset flash-cut which was executed last year, appears to have been an unmitigated disaster which alienated both existing customers and local government officials. The entire RLEC space is seriously challenged, as evidenced by results at WIN and CTL. It has forced me to question my current long positions in both UNIT and CTL. I think there might be easier money to be made at this point and am considering selling both. I expect that investors will be scrambling to FTR in the short-term for the dividend now that WIN has eliminated theirs. FTR currently yields 15% vs CTL around 10% and UNIT at 12%. WIN should not have had a dividend post spin-off, the whole point of UNIT was tax efficiency for shareholders… but whatever, ultimately this *should* be good for UNIT. The market doesn’t seem to agree so I need to dig further. FTR stock could rise in the short-term, but I think uninformed investors seeking an easy dividend will realize their mistake, and view long-dated 2019 $13 FTR puts as a good way to hedge out some industry risk.

Global Eagle Entertainment recently fired most of its c-suite, including the Chief Accounting Officer, and was forced to delay their 10-K. ENT has been struggling to compete in a crowded field of in-flight wireless providers, and with only one major customer (LUV), is not heading anywhere good. Shareholder interest was never aligned with management and thus it looks like incentives may have driven questionable account keeping, poor due diligence, and dumb acquisitions. The firm has been forced by its creditors to report cash-on-hand every week. Since June, ENT has spent $20m and is down to $46m cash, with outstanding revolver principal of $50m. It’s very hard to see how this firm survives unless Southwest Airlines purchases them outright and with the messy accounting I don’t see it happening. I bought some Feb 2018 puts at a strike of $2.

Oramed is a shell company that’s been used as a pump and dump for seemingly forever. I wrote about this one too on Seeking Alpha, and the stock is only down 50% since. The trouble with ORMP is even though it is a glaringly obvious fraud, a lot of the float is controlled by the manipulators. They are not based in the U.S. and that makes it harder for regulators to do anything. I mean, they aren’t committing accounting fraud. They just submit the same sensational drugs for testing to the FDA again, and again, and again while stock promoters write steroidal posts about the market opportunity. So all you can really do is ride it up and down when they change directions. It’s frustrating, but my hope is that the next market crash drives this thing to zero where it belongs. The manipulators behind this one appear to have insane resources backing them up. You can read the multiple boiler room shill Seeking Alpha articles  about it, or my own article, which is as true today as it was 3 years ago. Puts are so expensive that this one might require a naked short.

Groupon was a flash in the pan, the sizzle is gone. I barely even want to talk about it as a short, because it is so obvious. Like many people, I used to use Groupon, and quickly realized how lame it was. Management is paying itself and offsetting the dilution with share repurchases…. not exactly turning the ship around. The fundamentals appear to be turning, but far too slowly to justify the current share price. No short position yet, but if things get nasty on the macro level this thing will go under.

Tuesday Morning is the perfect place for old people to shop at before they die or get shipped to Gitmo. The retail sector is getting crushed by Amazon. Meanwhile Tuesday Morning is still hawking its horrible castaway junk merchandise. There’s no reason to root around in the dim lighting for the stuff that Hobby Lobby refuses to sell. Does anyone actually expect Tuesday Morning to be around in 5 years? No, but unfortunately it’s mostly priced in. I think retail is oversold currently and think TUES could jump the very low hurdle in front of them. Better entry-points might be in store later this year if retail rallies. Additionally, insiders have been buying.

Planet Fitness is a capital-intensive business which IPO-d about 1.5 years ago, which means it has 6 months until the sell-side analysts covering it will start to downgrade the stock. Gyms are (in general) terrible businesses. You try to charge a nominal fee for a bunch of nut-jobs to beat up all your fancy gear. A franchise model makes sense, but I would expect franchisees to get frustrated over time. I need to research this one further. Short interest is probably too high making it too expensive to borrow the shares. It may take a real change in employment here before this one starts trending down.

Cartesian is a super small ($10m) nano-cap based in my hometown. I’m still learning more about it, but my read is that the GPs are extracting as much cash from the company as shareholders will permit. The level of frustration on the quarterly calls is palpable. I kind of respect CRTN for even holding them at all. CRTN management destroyed  roughly 75% of the shareholders equity last year. They have several off-balance sheet non-arms-length transactions with entities related to the general partners. Doesn’t look/smell right. Furthermore, I think the global consulting firms are going to be the real canaries if globalization stays on the wane. CRTN has been spending quite a bit on marketing and failing to get much new business, and they apparently had a hand in the FTR flash-cut mentioned above. Asset turnover is higher than it has ever been, which makes me wonder if perhaps the business is peaking despite eating through a ton of cash without anything to show for it. I’ll be watching earnings next week pretty closely.

IBM is being and will continue to be crushed by the cloud. You can only buy back shares for so long. At some point you actually do need to grow revenue and cash flow. I haven’t seen a single product from IBM that has a chance of out doing what MSFT and GOOGL offer. It’s probably not a good time to short this one, yet. They still have a lot of cash on hand, but are becoming more and more irrelevant to their customer base.

U.S. stocks have been overbought for some time now. It’s about time we started clearing out the deadwood and I am positioning accordingly. So many great investors have commented on this that I’ll just leave you with a Led Zeppelin classic.

 

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Author: secondhandstocks

The genesis for this blog stems from a Marine buddy and I came back from Afghanistan with more money than knowledge, and heedlessly tossed our hats into the stock market ring. A few months later, I remember discovering the classic book The Intelligent Investor by Graham and Dodd, and ravenously devouring my first introduction to value investing. That framework - with some generous additions by Seth Klarman, and Joel Greenblatt among others - guides my investment philosophy. I spent five years working in the intelligence field, both in the Marine Corps and then for a government agency after that. I speak Arabic and Pashto, have programming and analysis experience, and enjoy investing in technology companies as a hobby. I also spent a year on Wall Street working on a #1 Ranked Institutional Investor team, before deciding that that the Sell-Side was not for me.

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