Archive for April, 2008

The Off-Off-Balance Sheet

A lot of banks have a lot of bad paper in many different forms. Some of it is from ill-advised and underwritten LBOs which top-ticked the buyout market. Some of it is from complicated structured products based on real estate, bank loans, student loans, what have you. Some of it is even financing used to fund a chain of off-balance sheet restaurants to serve the growing off-balance sheet community (as many of you know, this is a space currently under served with respect to basic amenities, more on this in the future).

Regardless, due to the current credit crunch crisis banks are very desirous of (read: being forced to find) a way to unload a lot of debt from their balance sheet. But where to put it? Off-balance sheet locations are coming under increasing scrutiny whether they come in the form of SIVs, super-SIVs, of ultra-megawide–thisonewillwork-SIVs. Under the carpet is where they keep the trillions of derivative exposure, so there’s no room there. If only there was a way to OUTSOURCE the off-balance sheet.

And now there is. The latest credit product is the new OFF-off-balance sheet provided by Private Equity Shop Y and Hedge Fund X (as seen on the internet). In exchange for below market financing, loose structural terms, and a 10-20% down payment, the off-off-balance sheet structure is designed to take an undiversified smorgasborg of the bank’s very own hung deals fresh from the bank’s books. The banks liked it so much, they underwrote it at par, so it must be a steal at 89!

Recommendation: Being that off-off is a double negative, we think that maybe, just maybe, that selling loan assets to highly leveraged entities to which you provide the financing is more of a shell game than a credible solution.

Haha, gotcha! That’s crazy talk, this time it’s different. Between the new Citibank (NYSE: C) reality distortion field and the new non-SAAP acounting measure Earning Before Everything, the bottom has been put in.

EBITDAGSAC: A Guide to Cash Generation for Bankers

Submitted by reader cjm in response to Earnings Before Everything

Many have noted that EBIT is a bad measure of a company’s ability to pay down debt because it includes abstractions like Depreciation and Amortization that aren’t really cash expenses. Hence, EBITDA.

But why stop there?

Your Sales and Marketing team are bounty hunters by blood; let them sharpen their hunger a little.

Thus, I propose EBITDAMS.

Of course, I am about to outdo myself. Aren’t General and Administrative expenses highly theoretical at the end of the day? Is Cindy in accounting, with her two plump mortgages, really going to stop coming to work if you don’t pay her for a quarter?

Thus, (say it with me) EBITDAGSA.

What about COGS, you ask? The power of my theory is rivaled only by its subtlety: pay your vendors in stock options. (for the novitiate: options are a kind of theoretical scrip, not dissimilar from Camel Bucks, Mexican pesos, or Monopoly money.)


By this transformative metric, no business can reasonably be said to be too expensive. It’s like beer-goggles for acquisitions; that 40 P/E heifer with acne scars is a waifish 1/1 cindarella after a few pitchers of EBITDAGSAC.

Quotes Entirely Relevant to Investing 04-27-2008

Wooo!!! Business drunk! More business juice please!
-Liz Lemon on 30 Rock

Past Quotes Entirely Relevant to Investing

New Non-SAAP Measure: EBE

Many companies provide an EBITDA figure along with their earnings, and they let you know it’s a non-GAAP measure, because, well, it’s a non-GAAP measure. Like Skittles, EBITDA comes in a rainbow of fruity flavors: adjusted EBITDA, EBITDAR, EBITDAM, EBITA, EBITDARP, EBITDARM, EBITDARPO, EBITDO and when times get really bad REBITDA.

We think there is an ample opportunity for the introduction of a new non-SAAP measure, one we call EBE or Earnings Before Everything. Let’s cut to the chase, let’s not dicker around, people use EBITDA as a proxy for free cash flow but management wants to use it as a way to inflate the appearance of a company’s health and what better way to do that than EBE? Add-back whatever you want, add it all back, even stuff the firm has nothing to do with. How much did the Chunnel cost? $100 billion? Add that back. Katrina cost a lot too. Add that back. That earthquake in Pakistan or Mexico or wherever? Add that back. Did you donate to charity? Add it back. Did you write something down? Add it back. Did you write something up? Use your discretion to not back that out.

Recommendation: Whenever I see EBITDAM, I say it in my mind like someone who is really surprised at EBIT. Like “EBIT, DAMN, those results are amazing!” or “EBIT-DAM! Cash flow is king!”

Your Favorite Kind of Candy, Please Respond, Now

We are conducting some research, which we plan to analyze rigorously, produce a model from which to profit, front-run the publication of such a model and then, lastly, publish said model.

Please, answer these questions in the comments section

Favorite Candy when you were
6 years old:
16 years old:
26 years old:
And (if you are older than 30) today:

Thank you for your time.

More Frankonomics

Barney Frank is in full regulator, politician-in-need-of-something-to-yell-about mode. Unfortunately, I must note that Mr. Frank is among our most financially-savvy elected officials (gulp) as well as one of the leading advocates of Zimbabwenomics. In this interview with the Economist, he discusses his misguided rationale for dealing with the current financial mess and, as any good politician should, proposes to 1) increase government regulation and 2) increase taxes.


“[Hedge funds and unregulated pools of capital] caused the problem by making a wide ranges of loans that shouldn’t have been made. Now some of the borrowers shouldn’t have borrowed… but there was no regulation to prevent abuse.”

“If only [banks and credit unions] were the originators, there would be no subprime crisis and no recession today.”

Now every major US bank I can think of – Citigroup, BofA, Wells Fargo, etc. — has written down billions in losses from the sub-prime, Alt A, sub-crap, and moderate-crap mortgages they held. Additionally, they are still trying to unload the billions of remaining debt still on their books from their loans to the only group more levered than sub-prime borrowers: private equity firms. These banks were regulated but they still participated, enabled, benefited from, and ultimately suffered as a result of the sub-prime fiasco. Why? Because the problems that the financial system has suffered over the last 18 months are the result of an expansionary credit cycle. Credit begat credit until temporarily insane lenders gave cash to un-worthy borrowers. Sub-prime were the symptom of this craze rather than the cause and while regulation may have been able to stem some of the more egregious abuses, an expansionary credit cycle will find a way to wreck damage.

Here’s Warren Buffet on the subject:

There are significant limits to what regulation can accomplish. As a dramatic illustration, take two of the biggest accounting disasters in the past ten years: Freddie Mac and Fannie Mae. We’re talking billions and billions of dollars of misstatements at both places.

Now, these are two incredibly important institutions. I mean, they accounted for over 40% of the mortgage flow a few years back. Right now I think they’re up to 70%. They’re quasi-governmental in nature. So the government has set up an organization called OFHEO. I’m not sure what all the letters stand for. But if you go to OFHEO’s website, you’ll find that its purpose was to just watch over these two companies. OFHEO had 200 employees. Their job was simply to look at two companies and say, “Are these guys behaving like they’re supposed to?” And of course what happened were two of the greatest accounting misstatements in history while these 200 people had their jobs. It’s incredible. I mean, two for two!

It’s very, very, very hard to regulate people.

LoS prediction: Frank and his legislative cohort will find a way to prevent any of the abuses of this cycle from recurring. Say good-bye to pick-n-pay, Freedom, and pay option loans. However, this regulation will do nothing to prevent the excesses of the next expansionary credit cycle, scheduled to start in 2012 which may include Magic Loans, Money Tree Triple-Reverse Amortizing ARMs (if it works in old-time college football, it can work in loans), Collateralized Magic Loan Obligations, Ultra-SIVs and our favorite, Chocolate Covered Mortgages, which will not not only be affordable but delicious.


“First, try to pay as little as possible [to bail people out].”
“I’m willing to give [homeowners who can’t afford their houses] some help. Not direct taxpayer assistance but some other type…”

“They didn’t bail out Bear Stearns. [The Fed] bailed out the people who did deals with Bear Stearns.”

Now for the classic politician’s sleight of hand. When people won’t tolerate direct transfers of wealth, make the transfers indirect. The First Law of Bailouts is that Someone Must Pay. So when Barney says that he’s willing to give homeowners who speculated on housing (and lost) “some help” but that won’t involve direct taxpayer assistance, he’s not quite lying. Instead of giving these people straight cash, he will find some other ways to transfer taxpayer dollars to these people (voters).
Similarly, it’s true that the Fed didn’t bail out Bear Stearns. After all the company was sold to JP Morgan and the employees lost most of their equity. However, he failed to mention that the Fed DID bail out the Bear Stearn’s bondholders [see John Hussman’s insightful analysis] who did nothing to deserve the preferential treatment.

Recommendation: Stop voting for politicians who cannot think more than 2 steps ahead of themselves. Stop voting for politicians who have never heard of the 2nd (forget about the 3rd) order effects.

Thank You Child

Dear Future Child of Mine [Chase or Madison depending on your gender],

Thank you for the tax rebate. $600 was a very generous gift for such a small child. I know that, at some point in the future, you will have probably have to work a full week — taxes will be higher — to pay for this gift. So I want you to know that I really appreciate it. I have been frivolous lately and made some bad decisions (the 2nd home with the pik-n-pay mortgage, the jacuzzi, the viking kitchen) that I really couldn’t afford. So I’ll probably use the $600 to pay off some of my personal debt. That will leave less debt to eat into the estate I’m planning to leave you (post-tax, of course)!!


Citi’s New Financial Product: Reality Distortion Field

Citigroup (NYSE: C) announced first quarter fiscal earnings. The results were incredibly good and the stock has subsequently surged almost 10%. WSJ article on Citi’s Q1 release:

The loss of $5.11 billion, or $1.02 a share, was deeper than Wall Street had expected and took the bank’s total loss over the past two quarters to nearly $15 billion.

Citigroup’s first-quarter revenue plunged 48% to $13.22 billion amid the write-downs. Analysts polled by Thomson Financial had expected a loss of 95 cents a share on revenue of $12.77 billion. A year ago, Citigroup reported net income of $5.01 billion.

They also announced, via brain-wave subversion transmitters, that they have developed a Reality Distortion Field, a device long-rumored to have been in the possession of Steve Jobs but which has only actually been developed and effectively utilized by Citi.

Recommendation: If you can get the financing to buy a large truck, which may be difficult since no banks are lending money to anyone at the moment (but don’t worry, their future results will still be killer because the business of banks is not actually the loaning of money to people and stocks don’t consist solely of a company’s future earnings), we recommend backing that truck right up to the biggest pile of Citi stock you can find. The Write-Down Rally has been one-upped by the Write-Down AND Miss Expectations Rally.

Long the Sense of Humor of Big Pharma

I feel fine NO NOW I FEEL CRAZY AND ANXIOUSWellbutrin is an antidepressant prescribed to people who are depressed. Normal run-of-the mill stuff. But Wellbutrin is also a source of endless amusement for the pharmaceutical engineers who created it. These guys went way long humor. Most drugs have side effects such as nausea, loss of appetite, loss of sexual appetite, etc, but it’s a trade-off that is usually worth it. Wellbutrin’s side effects are…that it can cause anxiety and panic attacks. PANIC ATTACKS.

The production meeting must have gone something like this:

Pharma 1: God, work is so stressful here sometimes. We develop great ideas and then we have to subject to a time-extensive testing, FDA regulatory approval, my god, I can’t take it anymore.
Pharma 2: Sounds like you need to blow off some steam good buddy.
Pharma 1: But how?
Pharma 2: Me and the boys, the other pharmaceutical engineers, every once in awhile we have ourselves a little bit of fun. We use spectroanalysis, chromatographic distillation and other processes to create a drug that cures a condition, say hair loss, for most people. I stress the most people because in a certain random group of people, the drug actually serves to aggressively exacerbate the condition, in this case by causing the complete death of all the hair follicles on the body. It’s like roulette with people, just spin the pill and see where it lands.
Pharma 1: What about a drug that can soften depression, but in a certain subset of people will spur an increase in anxiety and a higher likelihood of panic attacks?
Pharma 2: Now you’re thinking like a pharmaceutical engineer!
*Pharmaceutical Engineer high-five (like a normal high-five, but more awkward, and while wearing funny suits)*

Recommendation: Long practical jokes, especially when they are in the form of an anti-depression pill. Short people who can’t appreciate jokes and/or who are crazy.

Long Bonds

In this time of financial uncertainty, we have experienced heretofore unseen volatility in our portfolio. Assets that were previously uncorrelated are now correlated, assets that were previously correlated are now uncorrelated, write-downs are good, the recession either didn’t happen or is already over, LIBOR is possibly a figment of a banker’s imagination and it’s always the best time to buy. As such, management has decided to allocate a significant amount of our cash on the balance sheet into a fixed income product that shows no correlation with any of our current holdings and is not in any way sensitive to interest rates.

Our new favorite fixed income product is barry bonds. We have invested a meaningful amount of our cash into this asset and the maturity is one year. The yield is 0% on a cash basis, but approximately 25% based on our performance enhancing risk model.

We think barry bonds will help dampen the volatility we have seen in our portfolio as the only thing they correlate with is steroids, perjury and racism. In turn, this should allow our subscriberholders to benefit from more stable returns. Yet again, we say, “You’re welcome.” We considered a pair trade with a short of roger clemens so that we could effectively short the racism spread, but that trade looks to continue to be volatile.

How Are Oil Prices Affecting You?

Sorry honey, I'm so hungry I feel totally asexualInspired by this incredible expose about oil prices hurting kids via increasing operating costs of school buses all over the country, we decided to survey other demographic representatives to see how higher oil is affecting them.

Middle-aged white woman in the midwest: “Gas prices are so crazy I had to buy a second car, one for when gas is cheap and one for when gas is expensive. But sometimes I drive the wrong one just to be bad, I’m a naughty girl on the inside, I go wild!”

A London debutante: “12 months ago it was so posh to be shagging a banker, but now I can’t be bothered if he doesn’t come from oil money. Russians, Iranians, MAYBE a Norwegian – but only if he has that Viking look. Also unrefined crude oil makes for great lube – it’s so hot when they put it on you, and the fact that it’s getting more expensive and they still just keep using a lot of it- that only makes it hotter and shows they care about you.”

A common dragon on the street: *FIRE!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!*

A baby: “You would be alarmed at the rate of inflation I’m seeing in breast milk. Most people wouldn’t believe it but the persistently rising crude oil price has a direct impact on mommy juice. I estimate 2% of the input costs for breast milk are oil and oil related products. How do you think mommy makes milk? She gets in her car, goes to Olive Garden and eats pasta, you can’t walk to Olive Garden, you can’t crawl either — I know, because I tried. Shit’s like an ultramarathon of crawling, and with my job, my kids and the commute, I don’t have the baby-time to be in that kind of baby-shape.”

That oil-eating bacteria (which may or may not exist): “I don’t think you understand how hungry I am and what it takes to feed a family of four oil-eating bacteria. I’ve lost thousands of micrograms and my entire asexual family, also known as me and those who are indentical to me on a cellular level, we are all doing horribly. But boy does Gail (who is also me (this is getting meta-creepy)) look fabulous in her skimpy bacteria-lingerie! The government always says it will stand up for the little guy, but apparently this little guy is too little. Vote Obamoeba!”

Please tell us how oil is changing your life.

Quotes Entirely Relevant to Investing 04-13-2008

Anytime is the best time to buy.
-Kieran Quinn, chairman of the Mortgage Bankers Association

Past Quotes Entirely Relevant to Investing

Business Model Drift in the Entourage Sector

The whole point of being an entourager is a display of power, wealth and ultimately, desirability for procreation. The whole point of being an entouragee is to ogle women and not have to take care of yourself. Thus it concerned us when we read this WSJ piece on the economics of entourages:

Underperforming security guards, personal assistants and coordinators can be fired for offenses like ogling women or falling out of shape. “It’s no different than working for Xerox,” Mr. Ellerbe says.

If you are no longer getting to benefit from the whole point of doing something, is that a long-term viable enterprise?

Recommendation: While there are certainly attractive elements about entourages, especially when modeling the models and female groupies, we are concerned about the burgeoning business model drift. As entourages move the experiences of their core entouragees from that of “ogling women” to that of “working at Xerox” we think there is a significant risk that the entire premise will face significant diminution. That some firms, such as Thomas Howard, are already being forced into outsourcing is another red flag. When we have done sufficient modeling of the models with the help of our own entourage, the Doo-Dilly Gents, we will issue appropriate guidance.

July 2008 LHC End of the Universe Puts

People are concerned about an end of existence event that may be caused by the Large Hadron Collider and there is talk when the LHC is turned on in July 2008, that a super-collision here, a super-collision there and *bam*, no more Universe. This would doubtless be an event from which most investors have not adequately protected their portfolios. That is why Long or Short is now offering LHC End of the Universe Puts. It’s a simple put option wherein the buyer retains the write to sell the Universe at a strike price of “Existing”. Based on our Black-Holes model used to value all “end of the world” options, the July 2008 vintage options are currently priced at $20.

Link to purchase

Recommendation: These options are literally the only way to protect your portfolio from the possibility that when the LHC is turned on mini-blackholes will form, come together and have a blackhole party that literally rips the (cheap) fabric of universe asunder.

Don’t let this

The Large Hadron Collider looks like this

Turn your portfolio into this

We don't know if no existence is white or black or something else, we had an internal debate over it, anyone who has experienced it please let us know tia

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