Friday, February 05, 2016

The Haiku of Finance for 02/05/16

Chinese Chicago
Small stock exchange selling out
Deep dish dim sum mix

Financial Sarcasm Roundup for 02/05/16

I avoid watching politicians debate each other on TV because I have more important business tasks to accomplish. I realize I'm giving up a huge source of inspiration for sarcasm. Oh well, we can't have it all in life.

Here comes a new oil barrel tax to fund green technologies. The UN COP21 architects would be proud. I have no problem with this fee. It will destroy part of the US shale industry, but that's to be expected after years of overinvestment in wells that are only economically viable at higher oil prices. Kermit the Frog once said that it's not easy being green, but he didn't mean green energy.

The IMF lectures China on getting into better financial shape. Good luck with that one. China is flailing around for a workable economic policy. Beijing cannot admit that its Ponzi scheme is unraveling because it can't afford to frighten away the Western investors who were dumb enough to start trading the yuan onshore. The IMF can't afford to look bad after adding the yuan to its reserve basket. It all looks like two poker players in a televised tournament who know they can't bluff each other anymore but are still bluffing the audience.

The mortgage bond market just isn't much fun anymore. Taking the punch bowl away is good news for responsible homeowners because there will be fewer secondary bids for mortgage products that should not exist. Issuing paper backed by other paper is usually pretty dumb. Of course, if the Federal Reserve ever had to sell a big chunk of its MBS holdings, the banks would have to hire back MBS traders in a hurry. Catching a falling knife is usually pretty dumb.

More political debates are ahead. They won't mention any of the issues I blogged about here. That's too bad.

Thursday, February 04, 2016

The Haiku of Finance for 02/04/16

One more penny stock
No need to waste time looking
Just note poor earnings

IGEN Networks Defies Explanation

About five years ago, someone who does not deserve mention told me and a few other people in the vicinity about some hot idea. It had something to do with IGEN Networks (ticker IGEN). I could not figure out the opportunity at the time, which is why I ignored it. Five years later, the market can't figure it out either.

The stock has traded in the pennies for something like several years. The retained earnings deficit is -$7M and growing with every quarterly loss. I cannot recall the last time I have seen such a severely negative profit margin, operating margin, or ROE even in a penny stock. The business model has something to do with cloud, M2M, and wireless. I hear that all the time from Silicon Valley companies with serious experience and solid partnerships. I don't have to waste my time with anything else.

I do not feel sorry for the investors who bought the stock from January to March 2009, before that year's 1:100 reverse stock split. I don't know why I held onto this reference for so long. I should clean out my archives more thoroughly. There is nothing else worth saying about IGEN Networks.

Full disclosure: No position in IGEN, ever. I am too smart to do that, ever.

Financial Sarcasm Roundup for 02/04/16

The US Congress does not feel like rushing through a review of the Trans-Pacific Partnership. It is unusual to see lawmakers take their time with important legislation. They typically pass major lobby-backed items in record time, like the Affordable Care Act. "We have to pass the bill so we can see what's in it," or something like that. There's no time to lose when there's money on the table gathering dust.

Vanguard can now buy a bigger block of Chinese A-shares than ever before. Suckers! If you don't know who the mark is in a group of people, it means you are the mark. Western investors keep falling for any China story, whether it was the bull market everyone thought they could ride to planetary dominance or distressed-value bargain investing. Investors raised in Anglo-West cultures, where anti-corruption auditing and property rights are norms, simply cannot fathom that those traits do not characterize the Chinese economy.

The corporate bond market's signals have analysts scratching their heads. Dumb analysts don't realize that the US economy has been truly stagnant since the 2008 financial crisis, with overstated GDP growth and understated unemployment and inflation. National policies to avoid mortgage defaults and backstop corporate credit have only postponed the inevitable crack-up. No one on Wall Street wants to admit that the bond market is toast because that would have investors running for the exits. A whole bunch of careers and firms are bound to implode.

Wednesday, February 03, 2016

The Haiku of Finance for 02/03/16

Small cloud service scale
Scaling cost trailing leaders
Cloud needs rainmaker

Fusion Telecommunications International In Cloud Services

Fusion Telecommunications International (ticker FSNN) is a small player in cloud services. The management team has experience in previous telecommunication and networked communications enterprises, which is part of the cloud computing spectrum but not the whole enchilada. Their current CTO at least has data center experience. Big companies like Google, Amazon, and Salesforce dominate the cloud sector. Anyone muscling into their market share must bring serious computing power.

A simple rundown of this company's summary statistics from Yahoo Finance reveals their present condition.

Profit Margin (ttm): -11.88%
Operating Margin (ttm): -6.41%
Return on Assets (ttm): -5.89% 
Return on Equity (ttm): -138.70% 

Those annual numbers are discouraging. It's even more discouraging to search FSNN on Reuters and find long-term financial highlights. Fusion's 5yr sales growth exceeds the industry's average but they are still not profitable. Revenue and net income per employee both underperform the industry. The company's 5yr ROA, ROI, and ROE are all negative. The management team has its work cut out.

One simple math comparison illustrates the competitive disadvantage Fusion faces. Customer acquisition cost, or CAC, is a make-or-break metric in cloud computing. Analysts can approximate a company's aggregate CAC without even knowing its detailed product pricing or the seat count of the solutions it sells. We can divide the cost of revenue by gross revenue to find a rough CAC percentage. It's really the inverse of gross profit, but it's worth finding to see whether other expenses are contributing to a problem. Let's use the numbers in Yahoo Finance for the most recent quarter to show current conditions.

Fusion's rough CAC percentage in this method is $13.5M/$24.5M, or 55.10% for the quarter ending September 30, 2015. Compare this rough CAC to the figures for Oracle (ticker ORCL) and Salesforce (ticker CRM). Oracle came in at $1.85B/$8.99B, or 20.58% for the quarter ending November 30, 2015. Salesforce clocked in at $0.42B/$1.71B, or 24.56%. Fusion thus spends twice as much for a dollar of revenue as its larger competitors. What's really hurting the company is that SGA expenses have remained stubbornly high as a percentage of revenue even while revenue increased for several years. Oracle's SGA is usually a smaller percentage of its revenue than Salesforce's comparable numbers, which is partly why it is more consistently profitable than Salesforce. Mitigating both SGA and the cost of revenue will be a challenge for Fusion while growing its revenue.

Data storage is now a commodified supply chain input where the low-cost providers are market winners. I do not know whether Fusion can scale its services to the point where it mitigates its cost disadvantage. The company's retained earnings deficit of -$172M has grown year by year, quarter by quarter. It is not obvious how a smaller cloud provider can compete against larger companies without maintaining a cost advantage. Any investor who bought into FSNN in late March 2015 when it was over $4/share, only to see it close under $2/share in early February 2016, learned that the hard way.

Full disclosure: No position in FSNN at this time.

Financial Sarcasm Roundup for 02/03/16

Groundhog Day came and went without any animals feeling Jungian existential angst. Climate change has more impact than a rodent's shadow on winter's length.

The ECB lowers expectations for more monetary stimulus. It could mean anything, or nothing. The ECB now mimics the Fed as it discovers it has the ability to move stock markets and resolve bad banks' balance sheets. Central banks don't make policy errors anymore. They send "layer cake" messages in a bifurcated economy. Retail investors will hear something about selling bonds that may have peaked in value. European bond fund managers will hear something about not expecting support for their asset valuations. Crying then begins in earnest in bond fund boardrooms.

The UK must wonder if the BOE plans for negative interest rates. "I say, Jeeves, is that a minus sign in your savings account? Why yes, it is indeed, old bean. Good God, man, such poppycock used to be confined to less dignified countries like our former colonies. Oh, fiddlesticks. This calls for a shot of brandy." BTW folks, anyone who wants to pull another George Soros move and attack the British pound should watch how far the BOE tries to push this NIRP speculation.

China will keep cutting banks' reserve ratios. It's just like getting a haircut every month until you're forced to go bald, and then the barber scalps you. Forget about responsible bank stewardship. That just flew out the window in a desperate search for capital to prop up China's failing stock and property markets. I guess Beijing couldn't entice enough Western banks to launch onshore yuan trading branches. There are plenty of suckers in both the West and China who will try to catch falling knives behind a bamboo curtain.

Your average groundhog does not follow the financial markets as closely as I do. That's another bragging point for Alfidi Capital.

Tuesday, February 02, 2016

The Haiku of Finance for 02/02/16

Drugs for rare disease
Very hard to develop
Lucrative per dose

Soligenix And Rare Diseases

Soligenix (ticker SNGX) pursues several treatments for rare diseases and other critical problems. It is always intriguing to watch new drugs develop in the hope they can make life easier for pain sufferers. The management team has the requisite background in drug development to make this company worthy of serious analysis.

The company's SGX942 drug for oral mucositis is one of their leading products. Research for the oral mucositis treatment market from 2014 showed a significant number of competitors with treatments in their development pipelines. The Oral Cancer Foundation notes that Amifostine and palifermin are currently used in limited treatment of OM's effects. The National Cancer Institute's most recent coverage of OM also mentions Amifostine and palifermin. Amifostine is widely available from a subsidiary of AstraZeneca. The NCBI PubMed cites research on how clinical trials have established Amifostine's cost savings potential. A drug that beats Amifostine must generate mean per patient supportive care costs savings of at least $1472 (based on the cost difference in that PubMed article) if Medicare and health insurance reimbursement mechanisms are to find such an alternative compelling.

Several US government research agreements support Soligenix's development of biodefense products. Using federal research funds is a good move if it keeps the rest of an enterprise moving toward its larger business goals. The government's defense needs typically include drug stockpiles for emergency use. These stockpiles are not frequently consumed and typically need replenishment only when batches expire. Investors should note that the small government market and its infrequent demand will limit a drug maker's quality of earnings.

I reviewed Soligenix's most recent 10-Q filing dated November 12, 2015. The company had cash on hand of US$4M on September 30 that year. Their quarterly net income of almost $2.8M was largely due to a positive change in the fair value of their warrant liability. They continued to incur losses from operations of almost -$1.3M, although that is an improvement from the comparable 2014 quarter's loss from operations of over -$5.1M. Soligenix's success at raising non-dilutive funding keeps it in the game until its drugs can find large markets.

The good news for Soligenix is that it has many product options that have advanced through several trial phases. The risks for any drug company include some of the health care sector's structural problems I identified as ultimate lessons from the JP Morgan Healthcare Conference in 2016. Headwinds facing the health care sector can affect every company's valuation. Insurance affordability and the solvency of payment intermediaries can challenge companies like Soligenix that do everything they can to be successful.

Full disclosure: No position in SNGX at this time.

Financial Sarcasm Roundup for 02/02/16

There are always voters in an election year who think a politician can make the stock market go up. There's always a politician ready to pander to those voters. They are all stupid.

Bond yields are tanking in Japan. The two-year yield dropping to -0.11, even less than the BOJ's -0.10 rate for excess reserves, is totally crazy. How can they be profitable on any product with a duration of less than two years? This totally scrambles overnight lending to businesses. I want every hedge fund manager who jumped on the Japan bandwagon to be blown out of the water. Forcing the dumbest fund managers out of business will be a shock to the really dumb investors who trusted in non-existent genius.

Now the Federal Reserve is thinking about negative rates. The rest of the world sometimes laughs at America for the dumb things we often do here. Now we have the chance to be as dumb as the rest of the world in monetary policy. The shock of initiating NIRP may lift the US stock market as investors leave cash and enter riskier equities. The rush should last for about six months, the typical duration of monetary policy's lagged effects. After that, the deflationary death spiral across multiple asset classes will be impossible to prevent. Lethargic Americans will wonder what happened.

Leading financiers want better public company shareholder relations. Anything with Warren Buffett's approval will probably work. JP Morgan's involvement indicates confidence that its balance sheet will survive long-term turmoil. Better corporate governance is an imaginary prophylactic against corporate raiders. Private equity firms will target well-run firms anyway if they're undervalued. The best corporate governance policy would be an electric shock device attached to a board member's chair, activated if they fall asleep during a quarterly meeting.

Vote for panderers and they will do absolutely nothing for you. I promise. You can't vote for me because I work for myself.

Monday, February 01, 2016

The Haiku of Finance for 02/01/16

Iowa voter
Likes farming and ethanol
Vote for subsidies

Financial Sarcasm Roundup for 02/01/16

It's time for caucuses in Iowa. If sarcasm were a Presidential qualifier, I'm certain that my name would be at the top of the ballot.

JP Morgan is jumping on the blockchain bandwagon. All aboard! You all know I've trashed Bitcoin many times but the blockchain tech that succeeds it may be worth a look. The SIFI banks doing this will have to completely own their particular blockchain tech and disallow developers from forking it. They will also have to reserve a significant amount of data center space in case the hashes get out of hand. I suspect the world's central banks will have to standardize some part of a blockchain's code for money transfers. The whole movement risks turning into spaghetti code if central banks don't get involved.

China wants more foreign banks to trade its currency. It's a fun way to celebrate the yuan's new IMF reserve currency status. More importantly, it's a clever way to entice foreign banks to pump fresh currency into China so the PBOC can postpone the economy's day of reckoning. A stronger yuan means less PBOC money printing and less immediate stress on China's currency reserves. Have fun while it lasts, Beijing. The game will be up pretty soon. Foreign banks won't be happy to find out that empty real estate developments and shadow wealth management products are their currency trading counterparties' collateral.

The OMB is ready to review the US DOL's fiduciary rule for retirement advisers. Well, that sure took long enough. I blogged about this proposed rule in 2015 and I am all in favor of tighter controls. The industry's claimed concerns about stronger rules forcing them to drop smaller, less profitable clients are baloney. Automation is reducing the cost of servicing small clients to zero. Robo-advisers can implement fiduciary rules automatically. I want OMB and the rest of the administration to turn the screws on the retirement plan sector and make greedy brokerages howl with the pain of fiduciary compliance. That will force them to fire more humans and accelerate the automation shift.

May the most sarcastic candidate win. That would be me, of course, in any election year. Always vote your conscience, America.

Sunday, January 31, 2016

The Limerick of Finance for 01/31/16

Chinese copycats steal at will
Cheap knock-offs still give them a thrill
They make a quick buck
Counting only on luck
Cashing in on some grey market bill

China's Shanzhai Economy Mocks Innovation

China has a long tradition of "shanzhai" knock-off goods. Companies shamelessly copying global brands without compensation or even attribution contribute to China's poor reputation for quality manufacturing and intellectual property (IP) protection. Shanzhai extends to more than just brand image. It permeates every aspect of China's allegedly miraculous growth, including real property and government statistics. Its persistence poses risks to Western investors who underestimate China's resistance to cultural change.

PwC republished Booz's 2009 report regarding shanzhai as an innovative phenomenon. It may have appeared innovative when China was trying to convince the West that its booming production would translate into what we would recognize as an advanced economy. Things never worked out that way. Breakneck production without the rule of law to protect innovation eventually turns off international investors.

China somehow managed to fool amateur observers into thinking that everything would be okay once it grew out of its wild frontier phase. The Atlantic in 2014 interpreted shanzhai as an evolutionary crowdsourced ecosystem for innovation. Silicon Valley would recognize innovation without IP protection or market share as an invitation to further piracy. The Wall Street Journal had a similar analytical lapse in 2009, more from a political and cultural standpoint. Astute observers integrate social and political trends into economic analysis if they understand those trends from a native perspective.

Native mainland Chinese have not developed the legal and political traditions the Anglo-West relies upon to protect property rights, including IP. Some Chinese innovator making shanzhai wearable tech is unconcerned with the product quality or global branding that leads to defensible market share. They're still in it for the fast buck because they cannot count on legal protection outside China or political protection within China. Western observers who cannot see shanzhai through Chinese eyes would find this inscrutable. Personal connections through "guanxi" matter more than rules and laws. The Chinese Commonwealth "bamboo network" diaspora matters more than sovereign trade agreements. The West continues to misinterpret these concepts by pretending to see in China what it wants to see in its own culture.

Shanzhai has metastasized beyond consumer goods into real property. Freakonomics noted in 2013 how shanzhai skyscrapers copy other popular building designs. Run a Google image search of China's property boom to see entire cities containing replicas of Paris' Eiffel Tower, quaint European town squares, and parts of Manhattan. China's government economic statistics have long been unreliable, according to descriptions of the Keqiang Index. Replacing that index with something the UNDP or WTO can audit would be a sound step. Instead, the WSJ reported in 2015 that China's State Council would replace the Keqiang Index with measures tracking quality of life. The state is acting in the spirit of shanzhai innovation, copying Western ideas wholesale without grokking how enforcing laws means breaking personal ties.

The shanzhai apotheosis is a huge red flag for US investors with exposure to China. Mainland China's economic growth is more mirage than reality, notwithstanding CSIS's "Broken Abacus" 2015 nonsense that China's economy is bigger than what it self-reports. Try reconciling national-level economic data with provincial-level data and see how China's national authorities guide subordinate governments into supporting its fabrications. Investors betting on US-traded instruments for Chinese stocks or ETFs are gambling that reality will eventually catch up to fantasy. Shanzhai's continued dominance of Chinese business culture makes that a poor gamble.

Full disclosure: No positions in any Chinese investments. BTW, I have corrected the spelling of "shanzhai" after publishing this article.