Blockchain is a useless technology

Blockchain, a way of implementing a distributed ledger (distributed record-keeping), is a novel technology with little real-world practicality.  The original Bitcoin white paper published back in October 31, 2008 spurred little interest in distributed ledgers.  The distributed ledger was ignored for years until Bitcoin started receiving mainstream attention and a few years had passed.

I simply couldn’t find much evidence that distributed ledgers are useful for any real-world applications (other than speculative asset bubbles).  Once you understand that blockchains are bad at solving real-world problems, then you will understand why Bitcoin will fail.  The blockchain imposes limitations that makes Bitcoin a bad version of something that has been tried in the past: e-gold (description here and Wired profile here).

A company’s stance on blockchain can also serve as a test of a company’s management.  In my view, companies pushing blockchain technology (e.g. IBM, Microsoft, Intel, Oracle) are disconnected from customers’ actual needs and have mediocre management.  Companies that don’t talk about blockchain (e.g. Facebook, Amazon, Google, Apple) are more likely to produce sensible technology that will work in the real world.

Betting against the cryptocurrency bubble via AMD

The cryptocurrency craze has infected the real world economy, driving up the prices of GPUs (graphics chips used for playing 3-D computer games that are also really good at crypto calculations).  Mining Ethereum with GPUs has become an increasingly profitable endeavour largely because the price of Ethereum went up about 170 times from $8.24 at the beginning of 2017 to a peak of around $1400.  Mid and high-end GPUs are selling out everywhere, retailing for 2 to 3 times their suggested retail price.  PC Part Picker has some good data on market pricing of GPUs such as the Radeon RX 570.

Note that computer hardware normally depreciates over time, roughly halving in price every 1.5 to 2 years due to Moore’s Law.  Instead of depreciating, most GPUs have appreciated wildly thanks to rising Ethereum prices.

If the crypto mining market collapses (due to a broad collapse in cryptocurrency prices), I am willing to speculate that AMD’s valuation would better reflects its difficulties in generating profits.  Historically AMD has never been a particularly profitable company, losing $7.82B of the $8.34B in capital raised.  In YE2017 AMD earned $62M before taxes, buoyed by aggressive accounting (perhaps $40M-97M+?) and unusually high GPU demand (perhaps a few hundred million?).  If AMD returns to its money-losing ways, its shares ought to trade closer to its $0.611B book value (plus the value of its x86 license) rather than its current $10.83B market cap.

US health insurers

US health insurance stocks have performed extremely well.  Even if you had bought the worst ones, performance would have been similar to the S&P 500.  Why?

While the overall US healthcare system is dysfunctional relative to those in other developed countries, a broken healthcare system doesn’t explain why insurance stocks have done better than hospital stocks.  While hospitals engage in abusive practices such as surprise out-of-network medical bills (balance billing), hospital stocks have been mediocre investments.  A better supported explanation is scale.  One manifestation of scale is in dialysis treatment, a unique market where Medicare is the biggest negotiator with at least 90% of patients.  Commercial payers, with their lack of scale in this situation, are charged many times what Medicare pays.  SIRF’s analysis puts it at roughly $1,050 per treatment versus $250.  Of course, no health insurer enjoys 90%+ market share so their scale advantages are smaller.

Here’s a look at how market cap (a proxy for size) correlates with return on assets:

Some ways to short Bitcoin

The price of Bitcoin has fallen significantly from its peak… perhaps foreshadowing a quick collapse.  Perhaps short positions in Bitcoin will work out quickly.  But who knows… short positions may turn out to be extremely dangerous as Bitcoin may skyrocket even more.  Here are some quick notes…

For the image above, the columns are:

1. Ticker
2. Green = shortable, dark green = no borrow, red = Interactive Brokers won’t let you short it.
3. Borrow rate (retail rates).

Pretium could disclose what happened to their VP Operations

(*I don’t think that this is material to the Pretium thesis.)

On Nov 11, 2017, Pretium issued a press release announcing the promotion of David (Dave) Prins to Vice President, Operations (EDGAR, Marketwired).  Roughly a month later (sometime around Dec 19, 2017) Pretium decided to remove that press release from their website.  The workBC.ca website has a job posting dated a few days later (Dec 22, 2017) for an operations vice-president for Pretium that would start “as soon as possible”.

Is David Prins being demoted?  Was he fired?  Why is he being removed from his position?  If it’s material, Pretium should disclose instead of trying to rewrite history by deleting webpages from the company website.  (Granted, I don’t think that this is a big deal relative to Pretium’s other disclosure issues such as the monthly production reports to some but not all shareholders, Strathcona’s reasons for resigning, etc.)

EDIT (1/8/2018): So I think this is the answer… on Dec. 19, 2017, the Pretium management page changed Prins’ title from “Vice President, Operations” back to “Project Director, Brucejack Mine”.

EDIT (8/1/2018): On August 1 or several days before that, it seems like Pretium has changed its website so that David Prins is now listed as “Vice President Operations”.

CNIT’s market cap jumped to $81M

For those of you interested in Chinese reverse mergers… CNIT’s share price jumped by around two-thirds today.

Back in 2013 and 2015, I wrote about the company.  In 2015, CNIT bought a company called Biznest.  Apparently they did not own Biznest already… despite CNIT email addresses showing up on Biznest’s domain registration and despite having the CNIT logo on Biznest’s website.

*Disclosure:  I am short CNIT.

RH has some weird loans

The latest Restoration Hardware 10-Q discloses 2 unusual loans.  The first loan is a $14M promissory note “secured by the Company’s aircraft”.

1. The collateralization of the loan is unusual.  I could not find FAA registration records that would suggest that there are any airplanes currently backing this loan.
2. Secondly, it’s unclear if the interest rate is attractive for the lender.  The statement of cash flows and contractual obligations in the Q2 2017 10-Q imply that the lender will receive $14.0M back ($0.117M plus $13.883M) by 2022 or later.  On the face of it, it seems that this loan has a term of over 4 years and a cash interest rate of 0% (!!).  Now perhaps I am wrong about the terms of this loan as the 10-Q does not disclose many details on the note (e.g. effective interest rate, non-cash components, etc.).
3. Similarly, there is a $20M “equipment security” note that also seems to have a cash interest rate of 0%.

It is a little weird that RH was able to find a party willing to lend money in such an unusual manner.

Unfortunately, I actually don’t know what’s going on… perhaps my readers can figure this one out.

Defense contractors- a world full of politics, corruption, and incompetence

Arms manufacturers are capable of making weapons that help win wars- but surprisingly enough, their customers don’t care about that.  The root of the problem is with political leaders- their interests tend to lie in buying votes.  As well, the skillset of getting elected does not overlap with the skillset of choosing competent military leaders.

As a result, the world’s richest nations often purchase weapons without any realistic testing and later discover that they do not work.  The Patriot missile defence system likely did not shoot down any Scud missiles from Iraq.  Worse still, they likely increased overall casualties as stray Patriot interceptor missiles hit civilian apartments (see page 9 of “Evaluating Weapons: Sorting the Good from the Bad“).

From an investing perspective, the history of corruption is interesting as it stretches back for decades.  During the Vietnam war, the US Army’s ordinance bureau intentionally sabotaged the M16 rifle with ammunition that would cause the rifle to jam more frequently (see page 3).  Since then, abuses have continued despite exposure in mainstream media.  Chuck Spinney was on the cover of a 1983 TIME magazine; the 1998 TV movie Pentagon Wars explained issues with the Bradley Fighting Vehicle (clip).  This suggests to me that the corruption in the US is fairly resilient, entrenched, and will likely continue to grow at a slow pace.

The China hustle lives on

There are reasons as to why Chinese stocks on non-Chinese exchanges have been a problem in the past:

1. The VIE structure used for many China stocks is dubious.
2. China is an easily-marketable theme that attracted the pump and dump industry.
3. No repercussions for egregious accounting fraud.

Have investors learned their lesson?  Apparently not!  More Chinese stocks with VIE structures are being IPOed.  This is despite the VIE structure becoming even more dubious.  China Law Blog has an excellent post explaining why the VIE (should have) died on January 19, 2015.  Go read it.

Draft makes clear that the State Council understands how VIEs work and that their sole function is to evade the requirements of Chinese law. The Draft makes clear that such evasion is illegal and will be prohibited upon the effective date of the new investment law.

I hope that the investors who buy into the newly-minted Chinese VIEs lend their shares out.

Equifax: a quick accounting note on capitalizing expenses

It’s possible that Equifax is pulling on accounting levers to juice its earnings and the Adjusted EBITDA that it reports.  Capitalizing expenses (e.g. software development costs) creates profits now and losses later- it changes the timing of when expenses are recognized.

1. On the balance sheets, capitalized internal-use software grew from 212.5M to 307.0M (an increase of 44% per year, or 94.5M).  This area of accounting is subjective- should software development costs be amortized over 3 years, 10 years, or somewhere in between?  What expenses should be considered capex?  Should these expenses even be capitalized?- some software companies don’t capitalize software development costs at all.  The answers are not clearcut.  However, accounting distortions can occur if a company were to suddenly aggressively capitalize expenses that it previously expensed.
2. While capitalized internal-use software grew 94.5M, consolidated income before income taxes grew 91.6M in the same timeframe.  So it’s possible that Equifax’s growth is not as fast as it seems.