The Microcap Speculator

Like most financial bloggers, I am constantly pitched by IR and PR consultants trying to get free exposure for the companies they cover.  I wasn’t too surprised to receive an email from Chris Jones, whose LinkedIn page describes him as a consultant for Overstock.com.  After all, Overstock now sports a market cap of only $201.07M (per Yahoo!), well within the microcap territory covered here, and CEO Patrick Byrne loves any publicity he can get.

But the pitch was just plain bizarre.  Not Sith Lord weird, but strange nonetheless.  I’ll reprint it in its entirety:

The “shock” of the financial meltdown has passed, now comes, the “awe,” and with it plenty of questions.   Primarily, “What’s next?”  Is there another bubble brewing?  What happens if millions of Americans begin to default on their credit card debt?

Overstock.com chairman and CEO Patrick Byrne, says we are less than 50% of the way through the mess, he predicted the coming of this current crisis many times before, starting 3 years ago, Watch this montage to see Byrne’s predictions beginning in 2005:
http://www.youtube.com/watch?v=SIHw7C73s3E

Today Byrne is suggesting one of the following scenarios could occur in the coming years:

*Reagan Recession:  A deep retraction reminiscent of the recession under Reagan in the early 80’s.
*The lost decade:  A protracted recession similar to the one suffered by Japan in the 90’s.
*Great Depression: A severe economic dip on par with the Great American Depression in the early 30’s.
*Mad Max:  Not likely, but still possible, a catastrophic breakdown of society with mass shortages of energy, food, and water.

Dr. Patrick Byrne has learned at the knee of Warren Buffett, the greatest investor of all time.  As a child Byrne’s parents would allow him skip school so he could spend time and get an education from the “Oracle of Omaha.”

He survived cancer, to go on to get a Bachelor’s in Philosophy and Asian studies from Dartmouth, a Master’s of philosophy from Cambridge, and a Doctorate of philosophy from Stanford.  He founded Overstock in 1999, and in 2007 the company generated nearly a billion dollars in revenue.

Byrne is an experienced and pithy commentator, if you’d like to speak with him I’d be happy to arrange it.

Thanks for you time and have a great week.

Chris Jones

Two questions:

1.  Does anyone really believe that Patrick Byrne “learned at the knee of Warren Buffet”?

2.  Why has Overstock.com hired a “”consultant” to promote Patrick Byrne personally as a market guru?  Look at the chart below…hasn’t the Wrath of Byrne already hurt shareholders enough?  Seriously, OSTK would shoot up 15-25% if Byrne resigned.

Get trend analysis of OSTK from Ino.com

DISCLOSURE: No position.

UPDATE (11/19): It looks like Chris Jones spammed a lot of bloggers with the same email.  Gary Weiss wrote about it over the weekend in his blog.  Thanks for the heads up Gary.

As one of my four “picks from the rubble,” I had high hopes for NetSol (Nasdaq:NTWK).  The software and outsourcing company appeared poised to deliver strong profits and top line growth, even amidst the market slump.  For a short time, the pick paid off handsomely, as the stock bounced over 30% from my entry just above 1.30.

Get trend analysis of NTWK from Ino.com

I should have taken profits.  Soon after, the bottom dropped out.   On November 10, 2008, NetSol filed 8-K’s revealing that its CFO had resigned and that it would restate its financials to eliminate a good part of its earnings.  The company blamed the discrepancy on “computational errors in connection with the allocation of appropriate amounts to minority interest in the statement of income (operations) and calculation of minority interest ownership.”

Departing CFO Tina Gilger gave a little more color on the conference call:

At the timing of our IPO firm, our Pakistan subsidiary we conducted in August 2005, we made classified certain purchases, including officers and directors as affiliate with the parent. As they were classified as affiliate, we included their ownership as part of the parent’s ownership for purposes of calculating the minority interest adjustment and subsidiaries. In recent discussions with our auditors, it was determined that although these parties were affiliates, the affiliate ownership should not be included in the parent’s ownership. Together with the auditors, it was determined that minority adjustment involved from this changing ownership percentage of 9.26% was material and necessitated a restatement of the fiscal years ended 6/30/06, ’07, and ’08.

In fiscal ’08, the subsidiary issued bonus share dividends to shareholders. In calculating the amount of the minority interest adjustment, the net income of the subsidiary is multiplied by the minority interest percentage. The calculation had inadvertently reused the net income after the bonus dividend rather than before it. It was only after filing of our 10-K and during the preparation of our 10-Q that this formula error was detected. We immediately took measures to correct the error, and as it was material, a restatement was necessary. The only changes in the restatement relates to the change in the ownership percentage of the parent versus all of the holders and the miscalculation of the minority interest dividend. There was no effect on all other amounts in the income statement. Please refer to our detailed finances as provided in our recently filed amended form 10-K for additional information.

This explanation troubles me.  If they miscalculated share count, that’s sloppy but not a sign of long-term problems.  However, a stock dividend by a subsidiary should not change the ownership percentage of the parent.  Typically, stock dividends are distributed equally to all shareholders of a given class, so the percentages should remain stable.  The only way they change is if NetSol allowed NetSol PK to distribute shares to all shareholders except the parent (in other words, diluting NetSol’s ownership for the benefit of Pakistani holders of NetSol PK).  Is that what happened?  Until I find out, I want nothing to do with this company.  I have sold all but a few hundred shares, which remain only because of a partial fill on my sell order.

DISCLOSURE: Long NTWK (until my sell order fills completely).

Over on RealMoney today (sub. req’d), James Altucher pointed out that Trident Microsystems (Nasdaq:TRID) can be had for less than half of its cash value.  He notes that the company, which trades at $1.50 per share:

is not particularly interesting, but: Trident is actually trading with a negative Enterprise Value of $135.92 million dollars. The company has $230 million dollars in cash ($3.763 per share), and zero debt; forget about the fact that the company has a stated book value of an additional $3.643 per share. The company has no meaningful expenses in its horizon, and given the massive amount of cash on the balance sheet, I simply do not see how Trident doesn’t move higher—at least in line with the cash on hand?

Get trend analysis of TRID from Ino.com

As usual, I like the way Altucher thinks.  MF Global is another stock trading well under liquidated cash value.  The trend is just plain awful, and business is not good.  However, MF Global (NYSE:MF) remains the #1 independent (not bank-affiliated) futures commission merchant in the US, and just got a legitimate CEO.  I think he leads MF Global through the abyss and into recovery.  In a conference call earlier this month, CFO Randy MacDonald said:

So said another way, if we take all the assets and liabilities and we liquidate the balance sheet, we would immediately return to our shareholders approximately $900 million in cash. Assuming 120 million of diluted shares, that’s $7.47 a share.

Get trend analysis of MF from Ino.com

I bought both this afternoon.

DISCLOSURE: Long TRID and MF.

Like many microcap traders, jumping in and out of the dozens of U.S.-traded Chinese microcaps has been my bread-and-butter over the past few years.

Until now.  Something has changed, and until I get a better sense of how severe the change is I am staying away from China stocks.  Today I sold my last positions, HQ Sustainable Maritime (Amex:HQS) and China 3C Group (OTCBB:CHCG), even though both posted good numbers.

China itself is going through a massive transition from breackneck growth to….I’m not sure what.  As Kevin Depew explained on Minyanville:

I saw this morning where Nouriel Roubini has said he believes growth in China could slow to 4 to 5%. I believe that may be too optimistic. China is already experiencing massive deflation.

* According to a recent report from Mitsubishi UFJ Securities (MTU): the Toyota (TM) Corolla, which was selling at 250,000 yuan last year is now selling at 90,000-130,000 yuan, a drop of about 50%.

* Mercedes C Class cars prices have declined from 800,000 yuan to 350,000 yuan.

* Audi A4s from 300,000 yuan to 50,000-60,000 yuan.

* While official government figures show the average price for housing sales (in 70 large and medium cities) rising at 6.2% year-over-year, in Shenzhen’s Jini Mieda district (an expensive residential area), the average price per square meter has declined from 18,000 yuan in autumn 2007 to 11,000 yuan (finished) recently.

* Steel-related prices have seen a marked decline.

* Iron ore prices started the year at $250/tonne, fell to $100 in July and now stand at $83

Incidentally, Mitsubishi UFJS notes that 65% of bank lending in China is secured by real estate.

These deflationary trends should have the greatest impact on Chinese retailers like China 3C Group and LJ International (Nasdaq:JADE), and manufacturers like China Precision Steel (Nasdaq:CPSL).  Biotech/pharma companies like American Oriental Biosciences (NYSE:AOB) and exporters like HQS might be less affected, but at times like this I’m inclined to step back from the whole group.

UPDATE: Some commenters on the syndicated version of this post on Seeking Alpha indicate that the pricing figures above are inaccurate.  Perhaps–they are quoted from Kevin Depew of Minyanville, not something I have independently verified.  That said, I have read him for years and he is solid.  Just take the particular figures with a grain of salt until verified.

DISCLOSURE: No positions