Muddy Waters short seller report

Wednesday, Aug 07 2019 by

See link to Muddy Waters short seller report.

Burford short

I've held Burford all the way up from 180p, and think they've picked the wrong target. For instance Burford just announced that it has over $400 million of cash and cash equivalents on hand as of 5 August 2019.  Carson Block seems like a sound guy, very knowledge-able. Also Muddy Waters were very good at finding fraudulent Chinese companies listed in London and New York. So will read with interest. As I say, I'm long Burford and think they've picked the wrong target, but DYOR!

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Burford Capital Limited is a Guernsey-based finance and investment management company focused on law. The Company's businesses include litigation finance and risk management, asset recovery and a range of legal finance and advisory activities. It provides investment capital, investment management, financing and risk solutions with a focus on the legal sector. Its segments include provision of investment capital in connection with the underlying asset value of claims; investment management activities; provision of litigation insurance; and exploration of new initiatives related to application of capital to the legal sector until such time as those initiatives mature into full fledged independent segments. Its provision of litigation insurance segment reflects the United Kingdom and Channel Islands litigation insurance activities. more »

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134 Posts on this Thread show/hide all

langley59 7th Aug 15 of 134

I would suggest that the answer to that is to split out the reported fair value adjustment into current and prior period amounts then. The net realised gain/loss has to be the difference between cost and final realisation.

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brucepackard 7th Aug 16 of 134

In reply to post #501471

No. You're assuming that management have to take on cases.  They don't - it's like assuming banks have to grow their loan book.  They don't. 

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dmjram 7th Aug 17 of 134

In reply to post #501526

No I'm not.
I'm using the figures reported to state that without raising external capital, Burford would be overdrawn from its operating activities which include the buying/selling of case loads and the  costs/profits related to servicing the cases on it books.

i.e. to fund its day to day business activity, it needs to raise capital or go overdrawn.

You are making the assumption that Burford only raises capital to acquire cases. Which we just do not know.

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brucepackard 7th Aug 18 of 134

In reply to post #501536

No - you are making the assumption that if Burford had not raised capital, management would have taken on exactly the same number of cases, and gone to the bank and asked for money to fund these cases. I think that is an unrealistic assumption.

In my view, it would be more realistic to credit Burford management with some flexibility. If they had not been able to raise capital last year, rather than go to their bank manager and ask for money, it would be much more likely they would say "oh, I don't think we can fund all these uncertain future court cases with bank debt, if we can't raise equity we will have to slow our growth rate."

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mojomogoz 7th Aug 19 of 134

I don’t have time to write much as at the Edinburgh Fringe. But skimmed MW report and it’s innuendo around level 3 assets and a gripe about acquisition accounting.

It’s perfect timing to release a bear report on this stock given ongoing controversy and market conditions. My bet is that MW will be out by end of week. They don’t have a smoking gun to short to zero and they could cover today for 75% short term gain.

All high finance is a bit dodgy and involves refinance risks (confidence important) market to market risks and controversy

I bought 2x my share holding earlier

Obvs DYOR. I’m not sitting comfortable. I have interviews many short sellers (most of the ones that did it with any significant assets in last 20 years). Marc Cohodes is the hardest ass and maybe best I met. Check him out. He doesn’t imply and play around with words. If he sees fraud and has done his work he calls fraud. MWs are spivving the price down. No way they believe they have the insight to ride this to zero. They’d have been much more explicit.

The report is BS

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dmjram 7th Aug 20 of 134

In reply to post #501586

For the 2nd time, no I am not!

I have no clue what the operational cash needs would be if Burford ran down its book and took on no new cases. And neither do you. It could even make matters worse if reducing cases left a large overhead underutilised.

Again....I've stated that Burford has negative operating cash flow from its accounts. A statement of fact. You are making assumptions on what would happen if XYZ happens, I am stating facts from the reported accounts. Burford needs external capital to fund its operational needs.

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brucepackard 7th Aug 21 of 134

In reply to post #501626

In your first sentence you say that you have no clue what operational cash needs Burford would have if it took on no new cases.

In your last sentence you say that Burford needs external capital to fund its operational needs.

Do you think those 2 sentences are consistent? because I don't they are.

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dmjram 7th Aug 22 of 134

In reply to post #501641

I know that Burford as is needs external capital to fund its operations. See the accounts. That is the basis for the statement.

I have no clue what capital would be needed if Burford went into run down mode. And neither do you I suggest.

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harvs19 7th Aug 23 of 134

Interested to hear from investors as to whether they agree with the following statement made by MW in their report;

'Net Realized Gains actually include previously recognized Fair Value Gains.
In other words, a Net Realized Gain is Proceeds minus BUR’s invested capital in the case – not
minus the investment’s Carrying Value. We think the vast majority of investors believes the
opposite is true – that Net Realized Gains are Proceeds minus the Carrying Values.7
To the
extent we are correct that most investors misunderstand Net Realized Gains, it is because BUR
deliberately misled them.'

Perhaps I am too simplistic in my way of thinking, but to me I have always understood Net realized (realised!) gains to be the the proceeds of a concluded investment minus the original investment value. If Burford were to account their net realised gain as proceeds less the most recent carrying value would this not be incorrect as now the litigation is concluded the fair value is null and void ? If you invested $100 and the eventual return was $150 surely you would class your profit or 'net realised gain' to be $50? You would not report your profit it at say for example $10 just because your most recent fair value was increased to $140.  In my mind I have always viewed the realised gains as the ultimate net profit from concluded investments, and have never expected it to be the profit on their most recent fair value of the case. 

I get the confusion with unrealised gains being removed upon conclusion of a case and moved to net realised gains but surely this is the best and obvious way to report it. I have always looked at the net realised gains as the most important figure with the unrealised profits being a good guide to performance of ongoing cases but ultimately only a guide. I don't feel I have been mis-lead in this regard at all.

I dont think I have communicated the above at all well but hopefully you understand the point I am trying to make and would be interested to hear other investors' views on whether they feel they have been mis-lead on this aspect? 

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langley59 7th Aug 24 of 134

In reply to post #501746

I agree with you and said as much earlier in this thread (posts nos. 13 & 15).

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Maddox 7th Aug 25 of 134

In reply to post #501746

Hi harvs,

Yes take your point.  There are two representations of the cases - one whilst they are in-flight and un-concluded and then a backwards looking presentation of a concluded case and a reckoning of what did we invest and what did it return.  So lots of opportunity for confusion - particularly as where you have to translate between the two and present it in the books.   

BUR explained this in detail with examples in the Capital Markets Day  see about  1:20:00 in.  

Hope this helps.

The name Muddywaters says it all really - muddying the water and trying to confuse rather than explain and scare potential buyers off whist they short the stock down.  I note the interview with Muddywaters was by Wolfpack research - a similarly apt name.  

Regards, Maddox

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Trigger14 8th Aug 26 of 134

In reply to post #501746

Yes this struck me too as being very deceptive by MW. I agree with your and previous comments that this is a sensible way to account for the balance between realised and fair value gains. Fair value gains are just expected future realised gains so should be converted when they realise.

The way I understand it is that Burford’s accounting for each year is all based around the principle of looking at net changes in its total assets. This is intuitive and needed for it to add up correctly.

Net income in year x = net change in asset values (realised and unrealised)
Realised gains in year x = net change in realised gains
Fair value gains in year x = net change in fair value gains

MW seem to imply that Burford should continue to account for gains as fair value when they are realised, rather than convert them to realised - this would seem very unintuitive (well wrong) to me. For example, consider if Burford was able to correctly identify all its gains at least a year in advance of realising them. MW approach would keep accounting for all gains as fair value gains, suggesting Burford was never able to realise anything. What would look like persistent high levels of unrealised gains each year would actually be good revenue visibility. What really matters to investors is whether cumulatively the fair value gains do actually get realised.

I am surprised Graham Neary seems taken in by MWs misleading presentation of this point.

Blog: Quality Share Surfer
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dmjram 8th Aug 27 of 134

In reply to post #501806

Fair value gains are accounted for when they arise, based on accounting estimates of the value of the asset. Realised gains are based on the actual proceeds received for the asset. You can't realise them before the actual proceeds are known by basing them on an estimate in advance. AFAIK MW is not suggesting anything differently.

What it takes issue with I think is that realised gains are calculated with reference to the original cost with the previously taken fair value uplift netted against current period fair value uplifts. Presumably because it skews the metrics. In contrast to net realised gain being the difference between proceeds and the carrying value including the fair value uplift already recognised, so there's no netting off of current and prior period gains.

May have got the wrong end of the stick re MW's concerns so please correct me if so.

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Bonitabeach 8th Aug 28 of 134

Burford Capital (LON:BUR)

I write as a disinterested outsider never having owned or had the vaguest interest in the shares of this company. I do have some past experience of commercial litigation and totally agree with the following statement from the Burford website:

Pursuing a high-stakes commercial claim is costlier and more uncertain than ever.

Translating this "uncertainty" into an unbroken run of net profit increases from £2.15M in 2013, to £317.6M in 2018, is truly a wonder to behold.

The increase in gross debt from nil in 2013 to £751.5M in 2018 explains all the cash in the bank, none of which in the real world belongs to the shareholders!

The attraction has been the historic growth in the share price and congratulations to all who have realised profits.


No position.

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wilkonz 8th Aug 29 of 134

In reply to post #501851

As an ex-holder of Burford Capital (LON:BUR) (buying in 2016 and selling in 2018) I confess I was attracted by the price momentum until volatility set in. But I never really understood the figures apart from the apparent remorseless rise in profits. It is now becoming clear that Burford's accounting methods have been somewhat creative (if not Enronesque) and designed to benefit Burford Capital rather than inform investors. I note that none of the directors has bought shares since 2016 - after some steady buying up until that point - and I wonder if that is the time when they realised that their business model was less than perfect. With the benefit of hindsight, it does seem odd that they had to raise funds last year with a new share issuance at below market price (£18.50 vs. £20) when they were purportedly doing so well.

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pka 8th Aug 30 of 134

A poster called Boris has made what I think is a perceptive comment on the FT website about the Muddy Waters report:

"Some of the MW report is impressive work, but a lot of it really isn't. They have found some damning evidence, but I believe MW are equally trying to bamboozle investors by sensationalising and deliberately misinterpreting the accounting.

- MW's argument that the company is potentially insolvent is based on the idea of subtracting off-balance sheet investment commitments from net assets to arrive at negative equity, but this is ridiculous because the returns on investments are made on capital deployed over the life of an investment, so if they're subtracting contingent investment commitments, they should also be adding contingent assets as these are part of the capital base and would become part of the balance sheet if those liabilities ever materialise. Either MW are not very clever (which I doubt), or they're deliberately misinterpreting the accounting to sensationalise their argument and ensure their short position works for them, both from an investor sentiment perspective, but also to reduce the company's access to capital markets and clients' willingness to rely on them for litigation funding - essentially to put the company out of business. The report is highly unethical in this regard.

- Also, a large part of the report is dedicated to claiming the company misled investors in its definition of realised gains. I think this section is totally unwarranted because (a) any scrutinising investor should have noticed purely from the math how these gains were applied, (b) the treatment the company applied isn't wrong in any way or otherwise misleading, and in fact there are plenty of additional disclosures and statements the company has made that would allude to how they actually calculate realised and unrealised gains. The point was worth a mention, but MW dedicate a major section to the report on it, clearly just to paint the company as deceivers rather than poor communicators, because if this were an intentional deception, it's way too obvious.

- MW claim the company is insolvent because they calculate an expense ratio that they've deliberately highly inflated by dividing operating expenses by current at-cost deployments. This completely ignores one of the reasons why a long investor would have been attracted by the fact that the company's accounting cannot follow the matching principle, which significantly impairs the appearance of the business' economics: necessarily there is a lag between when the company incurs costs, when it deploys actual commitments, and when it sees the profits on those commitments. Due to the company's growth rate, the true expense ratio should be calculated based on expected at-cost deployments or commitments, not the current deployments at cost because those will always be extremely low if the company is doubling its commitments every year, while full deployment of those commitments (ie: balance sheet recognition) takes place over years. The fact that this is all off-balance sheet by the way does not reflect badly on the company's accounting because the company has very prominently disclosed its commitments and how litigation funding works repeatedly in all its presentations and filings.

- What also surprises me is how many things Muddy Waters haven't even mentioned but which should be red flags from a first read of the annual report: for example that the company realised an investment by selling it in the secondary market for 100m, but they wrote a put option on it to the buyer, effectively retaining all of the risk. This is accounting gimmickery and significantly inflates profitability and returns. There's also no mention on the post-settlement fund, which buys claims after they've been litigated. Suspiciously, Burford discloses very little about this external fund despite disclosing a lot of information on their other funds and investments, and suspiciously it also seems to be the only fund they haven't invested in themselves. If Burford is buying claims using this fund from their own clients, then they're effectively manufacturing a secondary market for their own claims so they can post higher profits and returns. Either MW have dilligenced this and concluded there's nothing dodgy going on there, or they haven't. In either case I think their research is incomplete without mentioning it, which demonstrates more to me that - whether their arguments are right or wrong - their aim is stock price manipulation, first and foremost.

So I have very mixed feelings about the MW report, and I think they're trying to bamboozle investors in the same way Burford has."

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shipoffrogs 8th Aug 31 of 134

I should think MW's report may accelerate some of the demand for cash embedded in the commitments should there be any insolvency worry.

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brucepackard 8th Aug 33 of 134

In reply to post #501656

Just thought I'd leave this comment from Burford management.  Obviously you don't have to believe management, but at first glance looks like a good response to the issue your raise :

"Burford also devoted considerable time at its Capital Markets Day in November 2018 on its approach to cash management and capital structure and showed that Burford at that point could be self-financing, without any external capital, at a lower growth rate than we were experiencing (see, e.g., slide 41 in our CMD presentation). We believe it is a benefit that our growth rate currently exceeds the level at which we could be self-financing, and we have significant cash reserves (approximately $400 million currently) and have demonstrated a very successful track record of raising external capital."

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garbetklb 8th Aug 34 of 134

I hold BUR. I'm pretty pissed off that they release their response during market hours - especially as the share price hadn't done an awful lot during the day. The slight drift down could have been due to no response - but BUR could have put out an RNS stating that they would publish their response after the market closes to allow people to digest at their leisure........

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