Updates on three stocks to avoid; A shocking story with a connection to short sellers

1) It's good practice to keep an eye on what activist short sellers are up to...

As regular readers know, I periodically write about them – for four reasons:

• I used to be one, so I know many of them personally...
• I want to warn my readers about stocks to avoid...
• While I think 99% of investors shouldn't ever engage in short selling, every investor would benefit from developing a short seller's "toolkit": Not blindly accepting what company management says, identifying discrepancies in financial statements that are warning flags, etc...
• And the people, stories, and battles between "good guy versus bad guy" are endlessly entertaining.

With that background, here are three recent headlines that caught my eye – all of which cover stocks I've written about previously...

First up, Wall Street legend Carl Icahn and his public holding, Icahn Enterprises (IEP), were in the news earlier this week after settling a case that the U.S. Securities and Exchange Commission ("SEC") brought against them for $2 million.

Here's the press release from the SEC on it: SEC Charges Carl Icahn and Icahn Enterprises L.P. for Failing to Disclose Pledges of Company's Securities as Collateral for Billions in Personal Loans. Excerpt:

The Securities and Exchange Commission today announced charges against Carl C. Icahn and his publicly traded company, Icahn Enterprises L.P. (IEP), for failing to disclose information relating to Icahn's pledges of IEP securities as collateral to secure personal margin loans worth billions of dollars under agreements with various lenders. IEP and Icahn agreed to pay $1.5 million and $500,000 in civil penalties, respectively, to settle the SEC's charges.

I first warned my readers about IEP on May 2, 2023 after one of the best-known activist short sellers, Nate Anderson of Hindenburg Research, released a damning report: Icahn Enterprises: The Corporate Raider Throwing Stones From His Own Glass House. Excerpt:

• Icahn Enterprises (IEP) is an ~$18 billion market cap holding company run by corporate raider and activist investor Carl Icahn, who, along with his son Brett, own approximately 85% of the company.
• Our research has found that IEP units are inflated by 75%+ due to 3 key reasons: (1) IEP trades at a 218% premium to its last reported net asset value (NAV), vastly higher than all comparables (2) we've uncovered clear evidence of inflated valuation marks for IEP's less liquid and private assets (3) the company has suffered additional performance losses year to date following its last disclosure.

And as that report continued:

• Most closed-end holding companies trade around or at a discount to their NAVs. For comparison, vehicles run by other star managers, like Dan Loeb's Third Point and Bill Ackman's Pershing Square, trade at discounts of 14% and 35% to NAV, respectively.
• We further compared IEP to all 526 U.S.-based closed end funds (CEFs) in Bloomberg's database. Icahn Enterprises' premium to NAV was higher than all of them and more than double the next highest we found.
• A reason for IEP's extreme premium to NAV, based on a review of retail investor-oriented media, is that average investors are attracted to (a) IEP's large dividend yield and (b) the prospect of investing alongside Wall Street legend Carl Icahn. Institutional investors have virtually no ownership in IEP.
• Icahn Enterprises' current dividend yield is ~15.8%, making it the highest dividend yield of any U.S. large cap company by far, with the next closest at ~9.9%.

The stock dropped 20% that day to close at $40.36... but I correctly saw that it had a lot more downside ahead and continued to warn readers about it nine more times in my daily e-mails (archive here). It was a good call, as the stock has continued crashing – it closed yesterday at $15.75 per share. Take a look at the decline:

Anderson continues to believe IEP is wildly overvalued and remains short it – as he posted on X on Monday:

Icahn rightly got charged by the SEC for failing to disclose details of his massive margin loan.

The company is still operating a ponzi-like structure, as we originally alleged. Icahn Enterprises lost almost $1 billion last quarter alone yet is paying out a distribution equivalent to an annualized ~47% of its net asset value (NAV).

The company currently trades at an ~88% premium to its reported NAV, even when ignoring its aggressive marks on its illiquid private investments.

Rather than blame us for his own investment failings, Icahn should put his money where his mouth is. Following our report, the company announced a $500 million buyback and has since bought back zero units. Instead the company has actually sold $99 million of units through an at-the-market offering in the past 2 quarters, continuing to dump overvalued shares on unsuspecting retail investors.

We remain short units of $IEP.

I agree with Anderson. Don't get seduced by IEP's apparent 25% dividend yield... continue to stay far away from the stock.

2) Anderson has also been in a long-running battle with India's Adani Group, which he first warned about on January 24, 2023. As I wrote in my daily e-mail the next day:

Nate Anderson of Hindenburg Research – who (among many other notches in his belt) is known for uncovering Nikola's (NKLA) "pusher truck" – just released a bombshell report saying that Indian conglomerate Adani Group, which has a $218 billion market cap, "has engaged in a brazen stock manipulation and accounting fraud scheme over the course of decades." You can read the report, [Adani Group: How The World's 3rd Richest Man Is Pulling The Largest Con In Corporate History,] here.

I also shared these excerpts from the Hindenburg report:

• Gautam Adani, Founder and Chairman of the Adani Group, has amassed a net worth of roughly $120 billion, adding over $100 billion in the past 3 years largely through stock price appreciation in the group's 7 key listed companies, which have spiked an average of 819% in that period.
• Our research involved speaking with dozens of individuals, including former senior executives of the Adani Group, reviewing thousands of documents, and conducting diligence site visits in almost half a dozen countries.
• Even if you ignore the findings of our investigation and take the financials of Adani Group at face value, its 7 key listed companies have 85% downside purely on a fundamental basis owing to sky-high valuations.
• Key listed Adani companies have also taken on substantial debt, including pledging shares of their inflated stock for loans, putting the entire group on precarious financial footing. 5 of 7 key listed companies have reported "current ratios" below 1, indicating near-term liquidity pressure.

The stock of the company's Adani Enterprises – which trades in India on the BSE stock exchange – initially fell off a cliff in the weeks following the report. But since then, the stock has roughly tripled (giving it a market cap of around $42 billion). You can see the big moves in this five-year chart of Adani Enterprises:

In light of Anderson's report, did the market regulator, the Securities and Exchange Board of India ("SEBI"), investigate Gautam Adani, his family, and his companies?

Yeah, right...

As is typical – and not just in developing markets like India's (just look at how German regulators hounded short sellers and journalists who warned about the massive fraud at Wirecard) – SEBI is going after Anderson, leading him to post this response last month: Adani Update – Our Response To India's Securities Regulator SEBI.

Then, 11 days ago, Anderson published a bombshell report about SEBI Chairperson Madhabi Puri Buch and her husband, Dhaval Buch: Whistleblower Documents Reveal SEBI's Chairperson Had Stake In Obscure Offshore Entities Used In Adani Money Siphoning Scandal.

Here's Anderson's thread on X about their response, which "includes several important admissions and raises numerous new critical questions."

My kudos to Anderson for staying in the fight – and exposing the suspicious activity at the highest levels of business and government in India.

3) I have written more than three dozen times (archive here) about Cassava Sciences (SAVA)...

It's a biotech company with a roughly $1.5 billion market cap – despite no revenue – based on bullish expectations for its sole drug, Simufilam, which it claims will help treat Alzheimer's disease.

As you can see in the chart below, the stock has been on a wild ride since my friend and former student Gabriel Grego of Quintessential Capital Management released his initial report on it on November 3, 2021 (which I covered in my daily e-mail that day):

In my July 18 e-mail, I shared Gabriel's latest bearish update on the company, which he presented at the Value Investing Seminar in Italy on July 5. Since then, the stock has nearly tripled... so I checked in with him for an update. As he told me in a private e-mail:

Cassava's recent stock surge following the CEO's dismissal, despite clear signs of scientific misconduct, is a classic example of meme stock irrationality. The [U.S. Department of Justice's] actions should be seen as a fatal blow to the credibility of Simufilam, not a cause for celebration. Investors are ignoring the warning signs, choosing delusion over reality.

There is no doubt in my mind that Gabriel is right and that this stock will collapse... but its recent surge underscores how dangerous short selling can be.

4) This shocking, tragic story has been getting a lot of press this week – and has a connection to short sellers that few people are aware of...

In a terrible accident on Monday, a 184-foot luxury yacht off the coast of Sicily was hit by a waterspout before capsizing. The Wall Street Journal has more on the story in this article from yesterday: Top Banker, Lawyer Among Missing and Presumed Dead in Yacht Sinking off Sicily. Excerpt:

Tech entrepreneur Mike Lynch and his daughter were among the six people the [Italian] coast guard said were missing after the yacht was hit by a sudden thunderstorm just before sunrise Monday. Corporate spokespeople confirmed Tuesday that Morgan Stanley International Chairman Jonathan Bloomer and his wife, Judy, and Clifford Chance lawyer Chris Morvillo and his wife, Neda, were among the missing...

Lynch, one of the U.K.'s most celebrated tech entrepreneurs, was recently acquitted in the U.S. over allegations that he fraudulently inflated the value of the company he sold to Hewlett Packard for $11 billion.

Many of the guests on board the boat had gathered to celebrate Lynch's freedom following around a year of house arrest in the U.S.

Bloomer previously headed the audit committee at Autonomy, the company that Lynch founded and sold to Hewlett Packard. Morvillo, a senior partner at law firm Clifford Chance and a former assistant U.S. attorney in New York, represented the British entrepreneur during his U.S. trial. 

The company Lynch sold to Hewlett-Packard in 2011, Autonomy, was widely known in the short-selling community as a fraud – and many were public about their concerns, as this 2012 article in The Guardian notes: Hewlett-Packard: the warning signs were there. Excerpt:

Hewlett-Packard can't say it wasn't warned. Autonomy, in its independent life, was a company that seemed to be in perpetual war with half the City's analysts over accounting treatments. Even at the time of the takeover offer last year, technology specialists blogged furiously about aggressive revenue recognition, cash conversion and the like.

In fact, famed short seller Jim Chanos publicly raised plenty of concerns with Autonomy, as this 2012 CNBC article notes: HP Showed 'Willful Blindness' on Autonomy: Chanos. Excerpt:

Hewlett-Packard showed "willful blindness" to the accounting problems at software firm Autonomy, noted short-sell Jim Chanos told CNBC's "Squawk Box"...

He said that the accounting problems were hard to miss and that HP showed "willful blindness" in ignoring the warning signs....

"It was pretty clear if you look at Autonomy's books over time that it was a very, very aggressive roll-up," Chanos said. "It was buying other companies. It was writing them down before it bought them and putting all kinds of goodwill on its books, which most accounting mavens know is a real way to play earnings games if you want to."...

"There was all sorts of cookie jar accounting... that appeared to be going on and it was hard to miss," he said.

Hewlett-Packard ultimately paid the price for ignoring the warning signs – taking a staggering $8.8 billion write-down soon after.

Over the next dozen years, the U.S. managed to extradite Lynch and the Justice Department charged him with 15 felony counts... but in June, a jury acquitted him of all charges – much to my surprise.

But the story has another connection to short sellers...

After selling Autonomy, Lynch co-founded another software firm, Britain-based Darktrace, which none other than Gabriel Grego targeted in a report early 2023, The Dark Side of Darktrace – stating that Lynch was running a similar fraudulent playbook. Excerpt:

• Multiple executives, board members, line managers not adequately disclosing their involvement with Autonomy and selling shares.
• Increasing competition, questionable product value, "front loading" of existing contracts, high churn rates and lack of sustainable cash generation, point to a rapid, possibly sharp, deterioration [of] financials.
• Employment, website traffic and search volume metric suggest a sharp slowdown may be underway.

We are of the opinion that Darktrace's financial statements may not be relied upon as the company looks like a sophisticated replica of the Autonomy debacle.

All in all, it's a story filled with some unexpected coincidences and a tragic ending...

Best regards,

Whitney

P.S. I welcome your feedback – send me an e-mail by clicking here.