Monday, March 30, 2009

CEO Murren Tells MGM Employees: "Trust Me."

In a letter sent to MGM Mirage (MGM-$2.85) employees, CEO James Murren assured the staff that the management of the casino operator remained committed to avoiding insolvency and completing the troubled $8 billion CityCenter Las Vegas project:

“There is little doubt that you will continue to see and hear stories from others about what the future holds for us. I ask that you please reserve judgment on what you hear while your leadership does the vital work necessary to protect our Company’s and your interests. You can be assured that I will continue to update you as often as I can with accurate information.”

This is the same Jim Murren, who as Chief Financial Officer from January 1998 to August 2007, oversaw the more than doubling of long-term debt on the balance sheet to $12.4 billion in just four years. As MGM teeters on the verge of bankruptcy, I would less-than assured that he had my best interests in mind.

“I’m not upset that you lied to me, I’m upset that from now on I can’t believe you.” ~ German Philosopher Friedrich Nietzsche (1844 – 1900)

Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

Thursday, March 26, 2009

Shorts Do Battle with PrePaid Legal Services

Similarities between PrePaid Legal Services (PPD-$30.39) and Bernie Madoff? The company, which markets prepaid legal plans, is actually nothing more than a pyramid scheme, alleges Barry Minkow’s The Fraud Discovery Institute.

PrePaid principally derives the bulk of its revenue through the multi-level marketing of membership fees and enrollment costs slapped on new sales associates. The 10Q Detective notes that key metrics slipped year-on-year, with the volume of total new membership subscriptions and the number of new sales associates recruited in 2008 falling 9.8% and 17.8 percent, respectively, to 552,327 and 122,225.

Is the company involved with a tug-of-war with short-sellers? Although retention characteristics continue to disappoint, the board authorized an additional one million share repurchase last month. PrePaid has spent more than $110 million on stock buybacks in the last two years—or about 82 percent of total cash generated from operating activities! In 2008, the company spent $44.7 million alone, retiring one-million (+) shares at an average price of $42.44 a share. Given the stock’s [three-month] average volume of 86,496 shares traded per day, it would take about 20 days to cover total shares [known] shorted.

Could a
cash shortage be on the event horizon? Reggie Middleton, another well known short-seller certainly thinks so. The company must report first-quarter 2009 earnings by May 15—just in time for May option expirations….

Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

Monday, March 23, 2009

Misdirection at China Natural Gas?

Despite year-on-year revenue growth of 91 percent to $66.7 million and comparable net income gains of 67 percent in 2008, the share price of China Natural Gas (CHNG-$2.45) tumbled more than 60 percent last year. Now that crude oil prices are trending higher again, is this the time to step in and purchase stock of the owner/operator of 35 compressed natural gas (CNG) fueling stations for hybrid (natural gas/gasoline) powered vehicles in Shaanxi and Henan provinces?

Chinese Demand for Natural Gas

Currently, natural gas consumption accounts for less than three percent of total energy consumption in the People's Republic of China (PRC). Driven by environmental pressures, improvements in social infrastructure fueled by economic growth, and a stable energy supply, natural gas consumption is anticipated to grow at 15 percent annually for the next 20 years, according to China’s Ministry of Science and Technology.

The company estimates that currently there are approximately 50,000 vehicles using CNG in the Xi'an metropolitan area (where it owns 23 fueling stations), with some 6,000 buses and 20,000 taxis using CNG. The PRC government projects that current total demand for CNG as a vehicular fuel in Xi'an (capital of the Shaanxi province) is approximately 1,070,000 cubic meters per day—more than the approximately 940,500 cubic meters of CNG pumped per day. As a result, management believes that there is significant unmet demand for CNG as vehicular fuel.

Construction and Related Costs

The major market risk exposure is the pricing applicable to purchases and value-added reselling of condensed natural gas, which are regulated and fixed by the PRC central and local governments. Ergo, revenues and profitability depend substantially upon the end-user demand for natural gas. In 2008, sales of CNG increases year-over-year 82 percent to 149.4 million cubic meters, due to the addition of 11 new filling stations. Growth will likely slow in 2009 as management anticipates adding only five new fueling stations.

Average construction costs per fueling station and construction period are $900,000 - $1.0 million and two – three months, respectively. If the future is so bright—with demand allegedly outpacing supply—
why is the company only building out capacity by five gas stations this year?

Could it be a looming cash shortage? The company added $42 million in long-term debt to the balance sheet in 2008, due to a liquefied natural gas terminal being constructing in Jingbian, Shaanxi province. Management opines that transportation savings from the processing plant will result in lower transportation costs and improved margins. What about the interest expenses and fixed, operational costs associated with the debt and facility servicing? The plant is expected to start operation by late 2009. Once completed, the plant has LNG processing capacity of 500,000 cubic meters per day, or approximately 150 million cubic meters on an annual basis.

Construction of the LNG facility has not helped the share price of CHNG. The company issued senior notes to Abaxis Lotus Ltd. in exchange for $40 million in funding. In connection with the purchase agreement, CHNG issued seven-year warrants exercisable for up to 2.9 million shares of the company’s common stock at an initial exercise price equal to $7.3652 per share. The exercise price was reset to $3.69 a share on January 29, 2009.

The indenture also required CHNG to pay additional interest at the rate of 3.0% per annum if the company had not obtained a listing of its common stock on the Nasdaq Global Market, the Nasdaq Capital Market or the New York Stock Exchange by January 29, 2009. To date, CHNG has not obtained a listing of its common stock on any of the markets stated in the agreement. In the opinion of the 10Q Detective, it is unlikely that CHNG will get the required stock listing. If the Company fails to get waiver from Abax, the interest rate on the debt will jump to eight percent.

Sleight of Hand

"The magician and the politician have much in common: they both have to draw our attention away from what they are really doing." ~ Nigerian writer Ben Okri

Is CNHG management practicing sleight of hand, too? In an
April 2008 Investor Presentation, management said it would have 42 fueling stations in operation by January 2009 and was "working with the Thai government to evaluate opening retail CNG filling stations throughout Thailand." As of March 2009, CHNG had no CNG operations in Thailand.

The company purportedly owns property and equipment worth $76 million, up from $32 million in fiscal 2007. However, the 10Q Detective observes that at December 31, 2008, one consultant based in California served as CHNG’s accountant—she being the one engaged to prepare the financial statements! In a related concern, according to the
2008 FORM 10-K filed with the SEC:

  • The Company did not have sufficient and skilled accounting personnel with an appropriate level of technical accounting knowledge and experience in the application of generally accepted accounting principles accepted in the United States of America commensurate with the Company’s financial reporting requirements, which resulted in a number of internal control deficiencies that were identified as being significant. The Company’s management believes that the number and nature of these significant deficiencies, when aggregated, was determined to be a material weakness.

    The Company is lacking qualified resources to perform the internal audit functions properly. In addition, the scope and effectiveness of the Company's internal audit function are yet to be developed…. due to limited qualified resources in the region, we were not able to hire sufficient internal audit resources before the end of 2008.

Give me your secrets
Bring me a sign
Give me a reason
To walk the fire
– "The Unit" TV Theme Song

CHNG is not a new story for us. The 10-Q Detective
owned/sold 2,000 shares of the stock for an 18 percent short-term gain in early 2007. The profitability of the LNG terminal aside, we still believe that the company’s original business model—acquiring and operating CNG fueling stations—is an attractive growth opportunity. We just need some credible reasons to believe that CHNG—with its current management—can become a leading CNG player in Shaanxi, Hunan, and other provinces in Western China.

Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

Wednesday, March 18, 2009

Georgia Gulf Hangs on By Polyester Thread

The fortunes of Georgia Gulf (GGC-$1.85), a plastics company whose products are used in home-building materials ranging from pipe fittings to vinyl siding, moldings and outdoor vinyl decking, collapsed in the last two years due to ongoing weakness in the North American housing market. Teetering on the edge of bankruptcy, the company won a reprieve today when its senior lenders agreed, among other things, to amend loan covenants until March 2010. Given that the company's end-markets are dependent on the level of demand for residential construction and 'do-it-yourself' home remodeling—where activity remains anemic—is 12-months' relief enough time for management to stop the bleeding?

Credit problems at Georgia Gulf were originally sewn in 2006, when management looked to diversify away from its commodity chemicals business. Eyeing the manufacturing and distribution operations of Toronto-based Royal Group, Georgia Gulf
acquired the maker of vinyl building and construction products at the peak of the construction boom, paying $1.6 billion. Unfortunately, the purchase has not proven accretive to earnings; and, expected cost savings and operational efficiencies previously anticipated have not been realized, according to the 2008 annual filing with the SEC. Instead, as a result of overpaying for Royal Group—and financing more than $800 million of the purchase through debt—total indebtedness climbed five-fold in the last three-years, ending 2008 at $1.4 billion.

The latest credit amendment eases restrictive covenants for 2009, increasing the maximum leverage ratio to 8.75 (from 3.75 times) for the fourth quarter and decreasing the minimum interest coverage ratio (earnings before interest and taxes/interest expense) to 1.15 x (from 3.0 x) for the fourth quarter. At December 31, total debt was 6.4 times available working capital and the interest coverage ratio was 1.2 times interest expense of $133.2 million.

The amendment also establishes a trailing twelve-month minimum consolidated EBTIDA threshold covenant. The minimum compliance EBITDA was set at $167.0 million for the quarter-ended December 31, 2009 (slightly higher than the $165.7 million the company scratched out last year).

In the plus column, more than $1.1 billion of Georgia Gulf's debt does not mature until 2013 and beyond. However, the company is contractually obligated to make payments totaling about $2.0 billion in the next two years ($1.5 billion in raw material purchase agreements).

The company is working to slash overhead costs, from freezing its pension plan and salaries to shortening workweeks and reducing headcount in all divisions. In addition, Chief Executive Officer Paul Carrico told analysts on the
fourth-quarter 2008 earnings call that the company will look to improve its liquidity profile (cash on hand of $90 million) in coming quarters through asset sales, tax refunds, and $142.9 million available under a credit facility.

Assuming continued softness in the North American housing and construction markets (especially in new home construction) combined with estimated cost-savings (totaling more than $55.0 million), Georgia Gulf is forecast to be able to generate enough cash to cover interest costs, fund normal capital expenditures, and pay down debt due in 2009, said Carrico. However, in my opinion, continued overcapacity in commodity chemicals production (chlorovinyl and phenol businesses)—and rising energy and feedstock costs—will adversely impact the company's financial performance in coming quarters, likely forcing management back to the negotiating table with its lenders before March 2010.

Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

AMEX Management Fleecing Shaeholders?

American Express (AXP-$12.92) warned yesterday that February delinquencies advanced to 8.7% from 7.3% in December, as 5.3% of its credit-card loans are now at least 30 days late, up from 4.7% in December. One might be forgiven for mistakenly concluding that this announcement contained typo errors, however, given the generous bonus payouts to senior management of the credit card provider, according to the 2008 Proxy Filing:

Chairman and Chief Executive Ken Chenault took home incentive compensation and perquisites/ other benefits totaling $6.1 million and $1.2 million; Vice-Chairman Edward Gilligan received cash bonuses and perks totaling $4.6 million and $4.3 million; and, the Board rewarded President Alfred Kelly with a $4.1 million cash bonus.

The share price of AMEX tumbled 70 percent in the past year, reflecting the deteriorating performance in the company’s credit loan portfolio. Amid this backdrop, the only line item that seems justified in the executive compensation table was the $200,898 in ‘home security’ services provided to Chenault in 2008, up from $60,716 in 2006.

Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

Tuesday, March 10, 2009

What is China Security & Surveillance Hiding from Stockholders?

China Security & Surveillance (CSR-$2.67) said it expects 2009 earnings of $2.16 to $2.26 per share on revenue of $600.0 million to $630.0 million. Why then, is the stock of one of the largest digital surveillance providers in China selling for less than two times earnings?

The share price of CSR has lost 80 percent in value this past year, some of which can be attibuted to the 84 percent decline in the Shanghai Composite Index. Some investors remain concerned, however, that accounts receivables due from customers rose $73.8 million year-on-year. As Days Sales Outstanding, or the average amount of time that elapses before payments are received from customers, climbed only seven days to 91 days, the increase in AR likely resulted more from rising sales than collection issues.

A bigger worry was that gross margin in the installation segment fell 160 basis points to 27.3% in 2008, as customers from larger projects demanded higher discounts. Most of CSR’s revenues derive from the installation of surveillance and safety systems [73 percent], which are generally non-recurring. Consequently, it is likely that margins will fall further in coming quarters as discounting is the cost of business necessary to ensure “Safe City” contract wins from renminbi-starved government customers looking to save monies on their surveillance and safety budgets and other commercial clients.

On the surface, the balance sheet looks clean: debt service coverage was 2.6 times annual interest payments; cash flow used in operations of $39.1 million resulted principally from increases in inventories and AR [to support sales growth]; and, working capital was a comfortable $231.9 million at December 31.

Sun Tzu wrote in The Art of War: “Even though you are competent, appear to be incompetent. Though effective, appear to be ineffective.” The reverse is also true—and that is my biggest problem with CSR—and most PRC-based companies: lack of transparency.

Chief Executive Guoshen Tu and his investment entity Whitehorse Technology Limited beneficially own 32.9% of the outstanding common stock of CSR. On January 11, 2008, Whitehorse sold $50 million in aggregate principal amount of Exchangeable Senior Notes due 2012 to “un-named” third party investors not affiliated with the company (when CSR stock traded at $20 a share). In connection with this transaction, Whitehorse and Mr. Tu pledged 14.7 million shares of their common stock in CSR. In my opinion, the precipitious decline in the value of CSR shares is directly related to a “blow-up” that occurred in this less-than transparent lending transaction:

  • If the market price of the shares pledged by Whitehorse and Mr. Tu fell below $150 million, Whitehorse and Mr. Tu were obligated to pledge the number of additional shares in order to increase the aggregate value of all of the pledged shares to $150 million. As, the value of CSR fell more than 80 percent in the last year, I question whether or not Whitehorse and Mr. Tu had—and have—enough equity to meet potential margin calls. Supposedly, Tu and Whitehorse are not in default on this note, according to the 2008 annual report.

In 2007, CSR received $120 million from Chicago-based hedge fund Citadel Equity Fund, which included common stock convertible provisions. The Notes were convertible, by the holders, at any time on or prior to maturity, into common shares of CSR initially at the conversion price of $23.60 per share (equal to 9.9% of the common stock outstanding). HOWEVER, the exchange was subject to semi-annual reset of the conversion price. It is not known what the new exercise price will be—although investors should expect an adjusted reset at a significantly lower price than $23 a share (which will be dilutive, too).

The share price may look like a bargain at under $3.00 a share—until one begins to consider the stories not being told….

Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

Saturday, March 07, 2009

Newsday Invites Soft Forgetfulness of NewsPrint Industry

But, soft! what light through yonder window breaks? ~ William Shakespeare ("Romeo & Juliet").

Could it be the greenish glow emitted from the LCD flat screen of some portable mobile device, as yet another "Gen Y" scrolls through their morning paper, with an occasional perfunctory sip of their Starbux coffee--blithely unaware another newspaper plant has closed....
"Our goal was and is to use our electronic network assets and subscriber relationships to transform the way news is distributed,” said Chief Operating Officer Tom Rutledge on Cablevision Systems’ (CVC-$10.35) conference call. The question going forward is what will happen to the print version of Newsday? … Read More….
Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

Friday, March 06, 2009

Dark Future for Evergreen Solar

Lux Research predicted last month that solar cell and module capacity will overshoot demand by twofold in 2009. The 10Q Detective speculates that capital-starved Evergreen Solar (ESLR-$1.05) will not survive the impending industry shakeout.

At December 31, the solar panel maker had approximately $155 million in unrestricted cash on its balance sheet. However, the first phase of its Midland factory (in Michigan)—where it plans to manufacture the unique high temperature filament used in its wafer process—and debt service interest payments will require about $120 million in cash through the 1H:09, leaving just $35 million available to fund its operations, according to its recently filed
2008 annual report with the SEC.

Chairman and Chief Executive Richard Feld told analysts on the
fourth-quarter 2008 earnings call that signed customer contracts totaled 79-megawatts in 2009, 116-megawatts in 2010, and 254-megawatts in 2011. However, operating losses are expected to continue until the Deven’s (Mass) facility reaches production capacity of about 160-megawatts, according to the 10-K filing. In addition, as the plant only shipped 8.5-megawatts in the fourth-quarter of 2008, reaching total capacity this year will not happen. Obtaining the funding for factory expansions is difficult in the current credit environment. As such, expect the company to secure the use of subcontractors to make solar cells and panels using its proprietary, thin-wafer "String Ribbon" technology.

Another obstacle to success—its German manufacturing joint venture with REC and Q-cells, called Sovello, is in financial distress, being in violation of certain of its bank loan covenants. If Sovello cannot obtain an amendment with its lenders, Evergreen would be required to provide gap funding of approximately $168 million to Sovello (in the form of a loan or an equity investment).

The company has $381.3 million in contractual obligations coming due in one to three years.

At December 31, Evergreen had an accumulated deficit of $221 million and had never delivered a quarterly profit. Albeit the company has sales contracts for approximately 80-megawatts of product to be manufactured at its Devens’ facility for delivery in 2009 at an average selling price of approximately $3.20 (assuming a U.S. dollar/Euro exchange rate of 1.25)—about 10 percent less than the average selling price of $3.55 in 2008—current manufacturing costs are approximately $3.50 per watt.

Given the existing liquidity risk and uncertainty in sales visibility and profitability, investors would be prudent to avoid this solar stock.

Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

Wednesday, March 04, 2009

Readying for Stock Implosion at Intrepid Potash

One does not need to see wires dangling from C-4 plastic explosive attached to any of the five potash production facilities owned by Intrepid Potash (IPI-$20.07) to sense that the common stock of the largest U.S. producer of potash is heading for an implosion. My friend—and convicted felon turned fraud fighter—Barry Minkow, co-founder of the Fraud Discovery Institute (FDI), has disclosed that a background check by FDI found that Intrepid Potash’ President and Chief Operating Officer Patrick Avery did not earn at least two of three degrees claimed in the registration prospectus filed with the Securities and Exchange Commission prior to the fertilizer maker’s IPO in April 2008.

That got the 10Q Detective to wonder what other ticking bombs might be buried in the potash mines at Intrepid Potash. Like Minkow, we have unearthed additional loose wires that lead back to Intrepid Potash, too:

1. Intrepid Potash has $335 million in deferred tax assets on its books, which represent approximately 48.4% of total assets. The company must generate enough taxable income in future years—with more than a 50 percent probability of doing so—to take advantage of this intangible asset—in accounting circles known as a pre-tax payment—or else it must write down the value of that asset.

  • On Dec. 18, management predicted fourth-quarter sales would be less than half of the $146.3 million it posted in the third-quarter ended September 30. Slow fertilizer demand, the global credit crisis, and growing potash inventories will likely adversely impact sales and profitable in the first-half of 2009, too. The company closed two plants for two weeks in February and one facility will temporarily close March 9. Upon re-opening, the plants will witness reduce shift hours for workers.

    Almost 30 percent of sales are made to oil & gas drillers in the Permian Basin and Rocky Mountain regions, who use standard potash for use in oil and gas drilling fluids. As most of the company’s domestic customers have curtailed drilling activities in 2009, the 10Q Detective anticipates year-on-year declines in industrial sales.

    While secondary to the impact of global demand and supply dynamics, U.S. potash prices have tended to increase when the U.S. dollar weakens because as the ruble and loonie appreciate there is upward pricing pressure from the Russian and Canadian producers to maintain their profit margins on U.S. sales. At March 3, 2009, the ruble and loonie have lost (year-over-year) 35 percent and 21 percent, respectively, to $0.02761 U.S. Dollar(s) and $0.7735 U.S. Dollar(s). This weakening in comparison to the U.S. dollar suggests that foreign competitors may choose to lower potash prices significantly to increase their sales volumes. Intrepid might be forced to lower the sales price of its own potash to maintain market share.

Given the aforementioned headwinds, we expect, stockholder value, which totaled $620 million, or $8.28 a share, to take a hit when the company reports potential losses in the first-half of 2009. Deferred tax asset write-downs will show up on the balance sheet as a negative valuation adjustment to shareholder net worth.

2. Another dangling red wire is Patrick A. Quinn, CPA, who started with the company since Intrepid Mining’s inception in 2000, and served as Interim Chief Financial Officer until March 24, 2008. Quinn also is the primary owner of the accounting firm Quinn & Associates (Q&A), which provides services—including auditing—to Intrepid Potash.

In 2007, Intrepid Potash paid Q&A $567,769 for services rendered on Intrepid’s behalf by Quinn and other employees of Q&A, $240,638 of which was attributable directly to services performed by Mr. Quinn. In 2007, payments from Intrepid Mining represented approximately 39 percent of Q&A’s annual revenue!

The average man is a conformist, accepting miseries and disasters with the stoicism of a cow standing in the rain. ~ British writer Colin Wilson

Intrepid Potash investors: Are you men, women, or cows standing in the rain?

Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

Monday, March 02, 2009

GM's Wagoner Too Optimistic

G. Richard Wagoner, Chairman and Chief Execitive of General Motors (GM-$2.01), said the auto maker’s cost cuts will make it profitable in a U.S. car market of 11.5 million to 12 million cars, about 1 million fewer vehicles than the company said it needed in December before it cut more jobs. If all goes according to plan, GM could return to profitability within 24 months, added Wagoner: "Supporting GM's viability is a sound investment for U.S. taxpayers and one that will be paid back.” – but are GM's sales expectations realistic enough to bring the struggling automaker back to profitability?

Against all odds in a sighted world, Helen Keller said: “Optimism is the faith that leads to achievement. Nothing can be done without hope and confidence.” Albeit one cannot fault Wagoner for embracing hope and confidence, me thinks he is brimming with too much optimism.

Editor David J Phillips does not hold a financial interest in any stocks mentioned in this article. The 10Q Detective has a Full Disclosure Policy.

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