Small Cap Value Report (23 Oct 2015) - GBO, AFN, NAR

Good evening (being written on Sunday evening).

Apologies for this report being 2 days late. I want to get it done before the new week starts, so that I can start the week up-to-date, and with a clear conscience. Plus, how could I not comment on £GBO shares being suspended, after publication of a dossier alleging that 60% of its sales may be fictitious?!

Globo (LON:GBO)

Share price: Shares suspended
No. shares: 373.7m
Market cap: £105.6m (based on c.28.25p price at time of suspension)

(at the time of writing I have a short position in this share)

Shares suspended - under Stockopedia's editorial policy, I'm not supposed to comment on shares where I hold a personal short position. However, since the shares are currently suspended, and we don't know when they are coming back from suspension (if at all), then it's not a stock which can currently be traded. Therefore I think it's perfectly reasonable for me to comment on this.

In any case, technically I don't personally hold the short position - it's in a family member's spread betting account, but I always over-disclose, because I think it's best to be completely open, and tell people all mine & my family's positions as if they were mine.

As regulars here will know, Globo has been a bargepole stock for me, for nearly 3 years now, I've been warning readers here in numerous reports that there are many red flags with the company's accounts, and its behaviour. Put those things together, and I've been virtually certain that this thing was very badly wrong, and would probably end in disaster.

We don't know for certain yet, but it's looking increasingly likely that my suspicions were correct.

A small New York based Hedge Fund, called Quintessential Capital Management ("QCM") seems to have issued its highly critical report on Globo via ShareProphets. I've googled it, and can't find the report anywhere else, not even on QCM's own website, which is visually pleasing, but almost entirely devoid of content. I saved a copy of the report onto my hard drive, just in case the report is pulled from the web.

I've read the full report twice now. My reaction is similar to others, in that it appears a little amateurish in parts, seems to make some factual errors - not good when you're trying to establish credibility. The little details do matter, so it's important to get it 100% right if you can, although everyone makes some mistakes.

The central thrust of the article is not really about the dodgy-looking accounts, or the other stuff that I've gone into a lot of detail about. QCM's allegations are new, and based on due diligence they have done, focused on product & distributors.

The conclusion they have come to, is staggering;

... the results of our investigation strongly suggest that at least 60% of Globo's turnover is fabricated.

The method of carrying out this alleged fraud, is by the use of multiple shell companies, to generate fictitious sales, but also fictitious costs (which are then capitalised onto Globo's balance sheet into intangible assets). Hey presto! Sales, and profits are created, but no cashflow is generated.

This is consistent with my criticisms of the accounts, which have primarily been that the company's profits look fictitious, and have been created by capitalising costs very aggressively into intangible assets. The lack of cashflow (as debit balances piled up in various places on the balance sheet) is also consistent with the above. What cash there is, would just go round in a circle, in the above scenario.

QCM has also investigated Globo's distributors, and concluded that these are effectively sham distributors. They do not seem able find anyone able or willing to sell them any Globo products. Defenders of the company say that this is because the company mainly sells direct these days. No doubt Globo's forthcoming defence document will claim that to be the case.

It really should be incredibly easy for Globo to provide copious amounts of evidence, and happy clients, to back up its claims for large number of users of its main products. I've never been able to find anything much on the web - Globo's core products seem to leave hardly any footprint on the web at all, and when there is, it's negative.

EDIT: MartinC from the comments section below has provided two links to more positive reviews of Globo products, here, and here, which are worth a look.

Although as defenders of the company have been at great pains to point out to me, I know nothing about software companies, and should leave that sort of analysis to the experts! There's some truth in that, but I am very good at sniffing out dodgy companies & dodgy accounts, as readers here will know well. That's because I trained for 3 years as an auditor, and was then an FD for 8 years, so I know how accounts are actually put together, and I know where to look, to locate where the bodies are buried!

It's always the same - to create fictitious profits, you have to create fictitious assets on the balance sheet (or under-stated liabilities, or both). That's because of the way double-entry bookkeeping works. Fictitious profit is a credit entry on the P&L, so there has to be a fictitious debit entry (i.e. an asset) on the balance sheet, to make it balance.

Globo's balance sheet is riddled with obviously stretched assets - intangible assets were massive & growing fast, and various forms of debtor stuck out like sore thumbs, due to their size & improbability.

Going back to the QCM report, I think it's the comments from former employees that are the most striking. This hasn't been verified of course, but a comment in the report from a former employee says that the company's "products are junk, and nobody is buying them". That very much chimes with what our own Ed reported here, when he tried to download & test Globo's product - it didn't work properly, so he very wisely avoided the shares.

My opinion - I've said repeatedly, for nearly 3 years now, that the accounts from Globo look dodgy as hell, or words to that effect. There is very unlikely to be an innocent explanation, in my opinion.

No doubt the company will now put out yet another clarification statement, which itself is a big red flag actually - Quindell did the same before that blew up.

The only big question now, is whether Globo's cash pile actually exists, or whether that has been syphoned off, partly or in full? QCM reckons the cash pile may still be intact. I'm not so sure, but time will tell - we just don't know at the moment. I wouldn't count on it though, in valuing the shares. If a major fraud has really happened, then usually the cash will have vanished too. Fraudsters don't tend to leave the cash behind, do they? But we don't know for sure (yet) whether or not Globo management are fraudsters, so let's not pre-judge that issue.

I agree with QCM that parts of Globo's business are bona fide, but probably don't make much, if any profit. That's been my view from the start, pretty much. It looks like an App developer, which has tried to present itself as a much bigger business than it actually probably is, in order to raise more money from investors and use that to build a bigger, legitimate business. That narrative sounds entirely believable to me, but we don't yet have the full facts, so let's see how it pans out in due course.

Proper companies, with decent products, and straightforward accounts, simply don't have problems like this. Short-sellers target companies specifically because there are things badly wrong with them, and most such detailed shorting attacks turn out to be correct. There now seems an established formula of bloggers flagging up the issues with such companies as Globo or Quindell, and then a USA Hedge Fund will pick up on it, and prepare a more detailed dossier that everyone seems to suddenly sit up and pay attention to. Which is rather frustrating for me, given that my stuff has been flagging up some of the issues for years now! Never mind. Maybe I should move to New York and give myself a fancy-sounding corporate name?!

EDIT: Note also that Dan McCrum of the FT has published an article which repeats some of the allegations against Globo. Interestingly in the comments section below his article, he makes it clear that he has independently verified the facts.

ADVFN (LON:AFN)

Share price: 66.5p
No. shares: 25.2m
Market cap: £16.8m

Results y/e 30 Jun 2015 - these results were slipped out at 5:30pm on Friday evening, so that guarantees that they'll be bad, and they are. Turnover is slightly down, from £9.7m to £9.3m, but the operating loss ballooned from £663k to £1.9m.

Worse still, the balance sheet doesn't have the strength to absorb continued losses on this scale - net cash was only £986k, and the current ratio looks weak now, at 0.83.

The company says that strategy has been changed, to refocus on cashflow, and to abandon growth plans. I'd say the cash position dictates that's the only viable strategy from now on.

Ad-blocking software - as I mentioned recently, due to the increasing use of ad-blocking software, any business that relies on income from online ads, is I think an automatic bargepole job. So for that reason I have to put advfn on my bargepole list today, as it is heavily reliant on ad income, I believe. Personally I don't see any ads when I use the site (usually to have furious arguments with people on their chaotic bulletin boards).

My opinion - people have been saying for years that there is hidden value in advfn's millions of subscribers. The problem with that, is that many of the registered users are fake multiple accounts set up by the mentally & morally challenged, in order to have conversations with themselves on its free bulletin boards. I've personally had to block literally hundreds of vile people on that site. It's probably in reality just half a dozen actual people, with numerous fake accounts.

I would like to know how many paying subscribers advfn has - and I bet you it's only a tiny fraction of their advertised registered user base.

On the positive side, their costs will be almost entirely variable, so they'll be able to scale down the size of the overheads to match income, hence I'm sure the business will survive. Whether there will ever be any return for shareholders - well there's been nothing so far in the last 15 years, so what exactly is likely to change for the better?

Also, I feel that too many parts of their website are completely stale, and haven't been changed for donkey's years. Technology has moved on a lot, in that time, but advfn looks stuck in a timewarp.

Northamber (LON:NAR)

Share price: 37p (down 14% on Friday)
No. shares: 27.5m
Market cap: £10.2m

Results y/e 30 Jun 2015 - from one company that's stuck in a timewarp, to another! Northamber falls into that category where you just look at the figures, and respond, "Why?!". Why does this company even exist? The 71-year old Chairman's weariness comes through loud and clear from the narrative this time.

Results are (as usual) poor - turnover of £65.5m generated a loss before tax of £886k. It seems obvious from the figures & narrative, that the business has a value of nil, in terms of its likely future earnings. If you can only generate a gross margin of 7%, then you're not likely to achieve any net margin at all, which is the case here. The Chairman talks about getting rid of "empty revenue" - I agree - the best way to do that would be an orderly closure of the entire company.

So why do the shares have a combined market value of £10.2m? It's a net asset play. Amazingly, this pointless company is tying up net tangible assets of £20.5m, although you could probably take an axe to that figure if you write them down to realisable value on a winding up. However, it would probably still be the right way around, compared with the £10.2m market cap.

My opinion - the only reason I can see to hold this share, is if the weary Chairman appoints a really good new CEO, who can think up new ways to inject some life into the company.

Or that the company is just wound down, and funds returned to shareholders? Something has to give anyway. Dividends have been shrinking in recent years, although the cash pile is still about half the market cap. So the company could tread water for years, as it has indeed already proven.

Phew, we're up-to-date! Normally service will resume from Monday morning.

Regards, Paul.

(of the companies mentioned today, Paul has a short position in Globo (shares currently suspended, hence why OK to comment on it), and no long positions.

A fund management company with which Paul is associated may also hold positions in companies mentioned.

NB. These reports are personal opinions only, not advice or recommendations)