Small Cap Value Report (Thu 8 Aug 2019) - BUR, ZTF, WATR, ELCO, BUR (rebuttal), VTC

Thursday, Aug 08 2019 by

Good evening/morning, it's Paul here.

To manage expectations today, I'm on the afternoon shift, so estimated completion time of this report is c.6 pm. As usual, I'll update it in sections as I go along. It's a quiet day for small caps news anyway. All done now (17:36)

Burford Capital (LON:BUR)

Yesterday was so dominated by BUR that I didn't get round to looking at many other things. Hence today's reports starts with some catch up items, written by me late on Weds night. Incidentally, I really liked Graham's coverage of Burford on his own website, here.

Another thought occurs to me. It might be that the share price could bounce from here, but will it get back to previous levels? I doubt that, because now it appears (according to MW) that profit is mainly coming from aggressively anticipating the future cashflows from only 4 big cases, then that casts considerable doubt over the sustainability of future profits. That in turn means that a much lower multiple of earnings should be used in valuing the company.

Taking that into account, means that I suspect Burford shares could eventually settle permanently at a lower level - maybe 500-1000p? As Graham points out in his article, given that Burford appears to recognise future profits aggressively, then we should possibly be valuing it at a discount to published NAV, not a premium? It depends on how you look at it.

Interestingly, the Stockopedia computers were negative on Burford, before the recent share price collapse. On 4 Aug 2019, when the share price was 1425p, the StockRank here was very low for a (at that date) £3.1bn company;


That has since dropped to 18, as the momentum has obviously dropped this week.

Nobody is claiming that the StockRank system is infallible - it couldn't possibly be, as no system can predict the future. However, I've noticed that ignoring low StockRanks is often a costly mistake - many of my low StockRank personal holdings have done really badly in the last year. With hindsight, if I'd played it safe, and stuck to higher StockRank positions, I'd probably be a lot happier and wealthier than I actually am now. Ho hum, we live & learn. Or maybe that should be: live and make the same mistakes…

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77 Comments on this Article show/hide all

Steve Hill 9th Aug 58 of 77

On a personal note of trust, who would you trust dating your daughter or with your life savings :-

Someone call Carson Block (you know he's got to be a tool with a name like that) that makes money from confusing investors out of their money & was educated at Chicago-Kent college of Law (no I hadn't heard of it either)
Johnathon Molot who is Professor of law at Georgetown University (consistently ranks among the top law schools in the United States and the world).
Christopher Bogart who as Executive Vice President & General Counsel of Time Warner Inc., managed one of the largest legal functions in the world.

Just watch videos of the guy he has untrustworthy written all over him.

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Julianh 9th Aug 59 of 77

On short attacks (sorry if this has been said already) with specific reference to £BUR :

In theory private investors should be able to:

1. understand the companies in which they are invested

2. assess the details included in a short report

3. make an informed judgement on whether the report contains a smoking gun

4. sell, hold or buy more based on that assessment

In practice (taking £BUR as an example)

1. the share price fell 20% even before the details were published

2. the share price collapsed as soon as the document was published

3. these huge price falls leave investors with no time to read, let alone assess the allegations in the document

So lots of investors have no choice but to decide almost instantaneously and then analyse later. And this of course exacerbates the fall in the share price

On balance, I like Paul's suggestion (or a version of it) best

1. shorter's to give the company 7 days notice of their document

2. both the short document and the company's rebuttal to be published at the same time

This would make shorters more cautious. They would not want to take out short positions only to find that the company's rebuttal was enough to stabilise the share price

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pka 9th Aug 60 of 77

In reply to post #502571

Hi Julianh, you wrote:

"There are several possible reasons why fair value has grown faster than investments
1. as cases draw to their conclusion it becomes easier to assess fair value
2. Burford have sold on parts of their existing cases (specifically Petersen) giving them a clear mark to market value for the remaining portion that they still hold
3. if you are cynical, you might think that BUR may be trying to manipulate fair values in order to show the business in the best light"

I'm not sure whether this provides evidence for your point 3, but I'll repeat what I wrote in a previous post:

A poster called Boris wrote on the FT website: "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."

I found the following note in Burford's 2018 annual report: "Included in net realised gains for the year is $87,197,000 relating to a sale transaction where the Group has written a put option relating to the investment that was sold and derecognised in the financial statements. The fair value of the option at 31 December 2018 is $7,000,000 (2017: $nil) and is included in derivative financial liabilities in the consolidated statement of financial position. There has been no subsequent income or expense following the recognition of the option. The option is only exercisable based on contingent future events and, in the event it is exercised, the Group would recover the underlying entitlement and become entitled to its future value. The cash outflow required to repurchase the asset if the put option becomes exerciseable and was exercised would be $100,000,000 and the maximum exposure to loss for the Group assuming a recovery of zero proceeds would be $100,000,000. The put option expires on the resolution of the contingent event, which could be expected within 12 months."

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shipoffrogs 9th Aug 61 of 77

In reply to post #502571

Hi Julian

I suppose it just comes down to an almost negligible growth in the cost of investments over the last 3 years - suggests that operationally there is no growth.

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Steve Hill 9th Aug 62 of 77

In reply to post #502591

If you read the RNS that relates to this put it was a very sensible thing to do.

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pka 9th Aug 63 of 77

In reply to post #502631

Do you have a link to that RNS?

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Luthrin 9th Aug 65 of 77

If it's any help, the following table gives a breakdown of all Burford's concluded investments together with the concluded element of those investments which BUR classes as 'partially realised'.

The table is a filtered version of a spreadsheet that I compile from Burford's published investment data, which is available on the company's website. The table is sorted by size of gain, high to low.

The totals match those in the highlighted 'Total Investment Recoveries' field on page 9 of Burford's 2019 Interim Report (with minor differences due to rounding).

The status of 'Ongoing' means that the investment has only been partially realised. For example, the investment at the top of the list is Petersen, which is still active in the courts. However, Burford has disposed of part of its stake in Petersen via secondary market sales, and that element of the investment is now regarded as concluded.

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shipoffrogs 9th Aug 66 of 77

Luthrin - your schedule suggests an invested cost of under $600m too, so little growth in the size of investments at cost over the last 3 years.

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rwalford 9th Aug 67 of 77

In reply to post #502151

Burford Capital (LON:BUR)
This put option was dealt with in an RNS on 30 May 2019, part of which reads as follows

30 May 2019


Burford Capital Limited ("Burford Capital" or "Burford" or "the Company"), the leading global finance and investment management firm focused on law, announced today that the World Bank arbitration panel considering the Republic of Argentina's annulment application in the Teinver matter unanimously dismissed the application and upheld the original tribunal's decision in full.

As previously reported, Burford sold its entire interest in the Teinver matter for $107 million in 2018. The transaction included the ability of the purchasers to put the investment back to Burford should annulment be granted whereupon Burford would have had to return $100 million of the purchase price (and Burford would have regained the investment to relitigate the matter). With the decision on annulment, the put has now expired.

Burford previously recognised $87 million of income associated with the Teinver sale ($100 million of the sale price less Burford's $13 million investment) and treated the incremental $7 million as the premium for the put, which was then carried at fair value on Burford's balance sheet. With the put now expiring, the $7 million will be recognised as income in Burford's financial results for the six-month period ending 30 June 2019.

All looks reasonable to me.

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eahriman 9th Aug 68 of 77

In reply to post #502656


I suspect the main reason for the lack of growth (at cost) of direct balance sheet investments from 2017 is due to the agreement with the sovereign wealth fund. The SWF consists of a separate pool of capital of 1 billion where Burford has contributed 333m and the sovereign wealth fund 666m.

From 2018 funding for investments were allocated between Burford's balance sheet and the sovereign wealth fund, therefore slowing the growth of direct balance sheet investments.

Burford are compensated for this arrangement by receiving 60% of any investment proceeds due to the SWF, whilst only having contributed 33% of the capital.

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shipoffrogs 9th Aug 69 of 77

In reply to post #502731


I think you might be in the right area - but if so, shouldn't this be a lot clearer in the accounts?

And how is it that fair value has grown so much (up over threefold since 2016)?

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pka 9th Aug 70 of 77

In reply to post #502701

Hi rwalford, thanks for the information about Burford's put option. I agree that it looks reasonable, so I am no longer concerned by it.

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Steve Hill 9th Aug 71 of 77

In reply to post #502746

If the fair value mark ups have trebled since 2016 its probably simply Peterson case + a massive increase in investments since 2016.

Remember fair value of a case normally only increases one year before conclusion, you should be seeing this as a positive as it points to superb realisations over the next year or so.
Fair value is a red herring, ignore it, just look to realisations for the real profit figure & use fair value increases as a pointer to future (probably next years) realisations.

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mammyoko 9th Aug 72 of 77

What strikes me about the movements in the Burford Capital (LON:BUR) share price this week is that they clearly indicate the widespread and almost complete lack of understanding of how a set of consolidated statutory accounts are constructed. Block has been able to create pandemonium in the market by suggesting that Burford's accounts are fraudulent to people who clearly haven't the faintest idea of how to assess whether his claims are true. If they were able to do so they would have been able to identify how amateurish his accusations of accounting irregularities were. Instead, in a febrile atmosphere where investors have been duped by previous sets of fraudulent accounts, he has been able to string together a series of innuendos, misrepresentations and preposterous claims of accounting irregularity without providing a single credible example of one. It is clear from the document that Block and his team have a very low level of understanding of the double-entry involved in creating the cashflow statement in Burford's accounts. I rarely listen to management speaking, as I have mentioned here before, because I am a bad (over-generous) judge of character. However, I did listen to the whole two hours of conference call yesterday. I would like to say I was shocked at the naivete of the questions from the analysts but, frankly, it was as I expected. I would hazard a guess that none of the questioners have ever been responsible for preparing a set of group accounts. In my experience (ex Group FC for a couple of FTSE 100 companies and subsequently employed as forensic accountant by PE houses to analyse financial statements) analysts often have an ACA qualification but, like a driving licence, this teaches you only the most basic of information about a set of accounts. Most of the people I qualified with at PwC were absolutely appalling at what was then called Financial Accounting - it was regularly the exam that tripped up people who thought they were intelligent and didn't have to work to pass the exams. Most of these dunces left PwC as soon as they were qualified and, with an ACA qualification were lapped up by the financial industry as analysts. Yesterday's conference call did nothing to convince me that the financial accounting calibre of analysts is any better now than it was when I worked in the industry 30 years ago.

What is also patently obvious to me from Block's document is that there is absolutely nobody on his team who has any genuine financial accounting experience either - certainly not someone who has ever prepared a set of complex group accounts. The document demonstrates a pitiful understanding of the double-entry for the cashflow statement. Not wishing to offend any lawyers on this site, but I am afraid that I assume this to be because, as a lawyer, he has surrounded himself with other lawyers. Frankly, i haven't met a lawyer in my career who had a good grasp of the fundamentals of double-entry book-keeping (or one who wanted to) and all of those I worked with extensively on many acquisitions were quite happy to admit it. The skill-sets are simply different. And as i mentioned above, most chartered accountants (all the way up to Partner level) are not comfortable with financial accounting. Audit Partners are good at auditing, not at understanding how complex accounts are constructed. It really takes a certain type of person to understand how a set of accounts are put together - not one that usually makes FD and certainly not one who leaves after qualification to work as an analyst in the financial industry.

So why my spleen? Because I can see quite clearly what is going on here. Block is an ignoramus when it comes to financial accounting. He doesn't have anybody of any quality to forensically deconstruct Burford's accounts or, if he does, they are on holiday. So he feeds on the fear that exists among people making the investment decisions who are bright enough to know he limits of their own understanding of Burford's accounts. These are complex, to be sure. But I have prepared group accounts for groups with 400 subsidiaries. What has happened to the teaching of financial accounting that we are in a situation where a financial ignoramus can spook a bunch of investors who aren't able to see through his incompetence? And, in the process, billions get wiped off a company's market value.

In the meantime, the real questions about the fair value of Peterson and what it will eventually be worth are easily sidestepped by the Board. And what prospects they have of generating similar high value cases.

No doubt Block will come back with further utterly piffling comments about Burford's rebuttal and comments that were made on the teleconference. But it is quite clear to me that he is intellectually incapable of landing a killer blow that proves beyond reasonable doubt that the accounts are materially manipulated. As an observer, I found Burford management far more credible than Block - just a completely different calibre. But, as i said, I am a very poor judge of character.

So, unless Block has clear and uncontestable evidence of fraud (and there is absolutely no evidence that he has), I suspect that there will be diminishing returns to his amateurish accusations about Burford's accounts. He might just be able to bring them down if he can cause sufficient loss of trust that they lose access to the retail bond market but even that isn't guaranteed if there really is a SWF in the background - I seem to recall that there is £800m undrawn on that although I could be wrong.

Anyway, I will go away and have a cold shower now. But I remain simply amazed at the collective stupidity of both Block and the markets who took the content of his report seriously enough to react in the way they did. I have no real idea how to value Burford but it does seem to me to be similar to the PE model. The question is what premium to ascribe to success. As people have recently discovered with Lindsell Train Investment Trust (LON:LTI) there is a limit to what is reasonable to ascribe to the mean-avoidance of certain humans.

No position but mystified by why anybody would believe in the efficient market hypothesis if they have followed events here. I do fear that the number of incidents like this and Patisserie Holdings (LON:CAKE) will increase in inverse proportion to the financial accounting ability of the people making investment decisions.

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langley59 9th Aug 73 of 77

In reply to post #502806

I pretty much agree with what you say although IMO the CFO did not come over very well on the conference call, she should have been all over every number and in control of the discussion with the analysts but sounded quite hesitant and unclear on the detail on some questions. A CFO who had had a long career preparing financials and answering to superiors on the details would probably have come over better.

Reminds me of the non accountant CFO Lehman had just at the point in its history when it needed a highly confident knowledgeable person to handle the analysts, disastrous.

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mammyoko 9th Aug 74 of 77

In reply to post #502816

As a career Group FC of about 20 years, I never had a Group FD who understood the financial accounting any better than the audit partner. As I have posted elsewhere, the skill set required by a Group FD is completely different to that of a Group FC. What you have is varying degrees of being able to field questions about the accounts. This doesn't, in my experience, require the FD to actually understand how the accounts have been put together or the double-entry for the transactions, just to be able to provide a plausible explanation for what has been asked. Sometimes this is a simplified version of the truth and sometimes it isn't but it is plausible. A Group FD's key skill is in being convincing and commercial not in being excellent at financial accounting. Sometimes a Group FD has been a Group FC but really good Group FCs don't generally make good Group FDs. A really good career Group FC is worth their weight in gold and can easily command £150k to £250k in a £1bn turnover group. It's a good solid job with none of the risk of being fired or having to suck up to the CEO that is entailed by being a Group FD.

I listened to the whole teleconference yesterday. In terms of financial accounting understanding, the CFO did not seem to me to be much different to any other that I have worked for. But I wouldn't expect her to be able to answer every question about financial accounting and would be somewhat concerned if she could as it would indicate that she might not have the commercial skills that her role requires. There was one point where I said to myself 'you really ought to know that' but it was only once and i am sure that would be the case if I listened to more of these things. As I say, I am a very poor judge of character and so tend to avoid them.

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Gromley 9th Aug 75 of 77

In reply to post #502806

Well just call me Mystic Meg.

The short tracker reporting reveals that Carson Block closed out his short (at least below the dis-closable level if not to zero - although I suspect the latter) on Wednesday. Yes that's right the day that he published his document. It was a bit rude of him not to wait for Burford's rebuttal before "changing his mind".

I found myself nodding along to mammyoko's 'rant' about financial literacy.

I do though disagree on one point.

Block's analysis was demonstrably as convincing as it needed to be.

I suspect that he actually had a pretty good feel for how superficial some of the claims were. However, had he employed skilled resource to test some of the claims (or even heaven-forbid raised them with the company) then he would probably not have been able to make those claims and inferences.

It will perhaps be interesting to see whether he puts up the pretence of disputing the rebuttal, but I wouldn't expect much more than a token effort. It seems to me that effectively "his work here is done".

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mammyoko 9th Aug 76 of 77

In reply to post #502836

Yes, you can't argue with the money.

But I have never really agreed with money as the scorecard and detest those that do. Block isn't just a financial accounting ignoramus he is also a pretty pathetic specimen if this is all he can find to do with his time given that he presumably doesn't need to do so. But, then again, there are plenty in that position.

He is really only a more successful version of Tom Winnifrith or Evil Knievel (or, in a different way ZeroHedge). Don't get me wrong, I find all those hugely amusing (not the racist, misogynistic, homophobic ramblings of the loons who follow them) and think that there is a valid place for pricking the conceit of the pompous. But I wouldn't ever want to be like that!

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pka 9th Aug 77 of 77

'The short tracker reporting reveals that Carson Block closed out his short (at least below the dis-closable level if not to zero - although I suspect the latter) on Wednesday. Yes that's right the day that he published his document. It was a bit rude of him not to wait for Burford's rebuttal before "changing his mind".'

In view of that, I think Burford have a strong case for claiming market manipulation if they take Block to court.

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About Paul Scott

Paul Scott

I trained as an accountant with a Top 5 firm, but that was so boring that I spent too much time in the 1990s being a disco bunny, and busting moves on the dancefloor, and chilling out with mates back at either my house or theirs, and having a lot of fun!Then spent 8 years as FD for a ladieswear retail chain called "Pilot", leaving on great terms in 2002 - having been a key player in growing the business 10 fold. If the truth be told, I partied pretty hard at the weekends too, so bank reconciliations on Monday mornings were more luck than judgement!! But they were always correct.I got bored with that and decided to become a professional small caps investor in 2002. I made millions, but got too cocky, and lost the lot in 2008, due to excessive gearing. A miserable, wilderness period occurred from 2008-2012.Since then, the sun has begun to shine again! I am now utterly briliant again, and immerse myself in small caps, and am a walking encyclopedia on the subject. I love writing a daily report for on most weekday mornings, constantly researching daily results & trading updates for small caps. Cheese! more »


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