David Einhorn, CEO of Greenlight Capital, is starting to speak now. Greenlight Capital is a value oriented hedge fund, with a long bias. The fund has total assets under management of $9 billion. Einhorn is famous for his short picks. Even the mention of a negative aspect about a stock could send it down double digits. At the Value Investing Conference last year, Einhorn discussed his short thesis for Green Mountain Coffee Roasters Inc. (NASDAQ:GMCR). The stock is down approximately 75% since the presentation.
Below are live notes:
(See our full coverage of the Value Investing Congress here).
Einhorn is only a few minutes away, and the crowd is really filling out. The buzz so far for potential short ideas revolves around: Lumber Liquidators, Herbalife, Dick’s Sporting Goods, or Martin Marietta. At this point its all speculation
The media section, nearly vacant this morning, is now full of reporters with laptops up
Einhorn takes the stage to a packed house. The presentation is “quite rigorous” and called “Kicking the Tires”
4 ideas in 120 slides for today
Einhorn begins talking about an anonymous “Influential Investor” from 1996 who purchased shares in Cityscape stock and touted it at the Barron’s Roundtable. The stock tanked, and the investor admitted the mistake. The lesson he preached to those who followed him into the name is: “do your own homework”. Einhorn reiterates: never blindly follow an investor into a stock.
Now he is going through the market’s reaction to his GMCR pitch last year
Einhorn thinks the public debate is healthy, which is why he continues to pitch at these conference
Einhorn thinks a lot of people owned HLF stock into the earnings call because they believed management sand bagged the earnings. Once he showed up on the call, a lot of investors were looking to sell. He won’t be pitching HLF today.
He thinks its crazy analysts are forecasting what he will pitch and basing decisions off that. He compares these analysts to replacement refs
The first part of his slide deck is all about: don’t invest in the rumors or what I invest in without doing your own work
Greenlight’s policy is to not comment on any rumors. The vast majority of the time the rumors are completely wrong, but sometimes they are right
Doing his own homework, Einhorn does pay attention to what other investors do but would never blindly follow anyone into an idea.
First Idea: GAAP-auchino II the sequel
Hitting GMCR again
GMCR said the audit committee reviewed Einhorn’s allegations and concluded no misconduct. But the maximum time they could have possibly looked at the financials is 23 days. He thinks they just tried to shove Greenlight’s critique away as fast as possible
Einhorn is going to update the thesis, first discussing Starbucks entering the segment. GMCR tries to portray the Verismo as an espresso machine, not a coffee machine.
Howard Schultz came out and explained that the Verismo is a coffee machine, and they have a partnership with GMCR “for the time being”. Einhorn thinks they will remain committed for at least 23 days, a little jab at the GMCR audit committee.
GMCR has plans to reduce CapEx spending, but it remains aggressive Normal capital spending in the food industry is around 3.3% of sales. At over 9% GMCR’s capex spends is well ahead of just about anyone. GMCR spends about $.15 per K cup produced in capex. Based on Greenlight’s market research, he thinks lower cost competitors will give them problems going forward.
With no patents, and most key relationships through license agreements Einhorn thinks many contracts will be renegotiated at terms less favorable to GMCR. He sees Kraft entering the market through Maxwell House, and according to Greenlight research K-cup prices are already down 14% from $.62 per cup to $.51 per cup. Considering the EBIT per cup is roughly $.08, he thinks this discount is very material to margins.
Idea #2: long General Motors
Einhorn thinks GM is an “ugly duckling” at the moment for investors, but is a much healthier company today after reducing work force and dealerships across the country. The bankruptcy cut out over $83 billion in liabilities, including $25 billion of healthcare costs. The pension expenses remain at $81 billion, but with current pension assets of $69 billion. Greenlight sees pension liabilities continuing to shrink, and they don’ t view it ultimately as too much of a concern.
At ~$23 the brand is improving, and the company will not have to pay cash taxes for about a decade. Considering all the cash on the balance sheet, they project enterprise value at just over $6 billion. The product refresh cycle in 2013 and 2014 will drive growth, and GM is doing very well in China. Europe remains a concern, but its a concern for everyone.
Greenlight estimates that the average vehicle is over 11 years old, because customers keep cars longer during periods of recessions. They expect an upcoming vehicle turnover for customers who held on to cars during the last few years, getting back to normalized demand of 16 million units per year. For GM this mean a~$1.10 EPS tailwind.
Einhorn likes the recent releases from Cadillac, but thinks the 2013/2014 truck and SUV releases are even more important. GM has the #1 position in China and the #3 position in Brazil. Investors are pessimistic on the international operations currently due to struggles in Europe. He thinks investors are projecting sluggish European growth out indefinitely, which he views as inaccurate.
Einhorn thinks Obama will not sell the government owned shares below $53 (at a loss) before the election, but Romney is in favor of immediately selling shares.
Based on the Greenlight model, Einhorn is projecting 2014 cash earnings of $8.00 and after tax EPS of $6.00. This compares to consensus forecast of $5.00, and Greenlight views those earnings as mid-cycle warranting a solid multiple.
Idea #3: long CIGNA (CI)
Its a boring homework exercise, but they love those situations. He thinks the added complexity discourages investors, but with efforts the HMO’s can be pulled apart and estimations can be made.
Healthcare is a growing part of the economy, but starting an HMO is very difficult. The current HMO’s have scale, and the regulatory hurdle add in another moat for this attractive business model. Cigna is the best performer in the group.
HMOs re-price every year, so while they may have a bad quarter or year the business model makes money over the long term. He views ObamaCare as just another homework problem, one Greenlight doesn’t mind tackling and can be figured out.
Einhorn likes the ASO business, which continues to grow for Cigna. He believes this capital light business warrants a premium multiple in the markets. Most of Cigna’s covered lives are in large enterprises or middle-market companies, not in the ultra-small businesses where its easier to steal share. He thinks conservative 2015 EBITDA for the ASO segment is $200mm, and this business could be divested.
Einhorn thinks CI overall is higher quality, earns a higher return on capital, and has growth potential internationally that is trading for a discount compared to peers.
Idea #4: Short Chipotle (CMG)
Short pitch on a “nose bleed valuation”. CMG is generating a lot of enthusiasm on Wall Street, but restaurants are a competitive business and numerous emerging competitors will put pressure on them. The summer drought will put pressure on CMG, and ObamaCare will hurt CMG who does not provide healthcare for the vast majority of its employees.
The biggest near term threat for CMG is….a resurgent Taco Bell. The market focuses on other high multiple fast-casual as competitors, and relegates Taco Bell to QSR or Quick Service Restaurant. Based on a Greenlight survey of 4,000 consumers, they found that the CMG consumer is also an avid Taco Bell consumer. Taco Bell has the edge with more locatons, lower prices, and quicker service. Einhorn views the Cantina Bell menu in 1,500 stores as a real threat to CMG. The menu is similar, but the pricing is about 80% of the typical Chipotle offering.
Greenlight spoke with many Taco Bell franchisees and operators in researching the pitch. The see the Cantina Bell menu as a big success so far, and think they are gaining many new customers directly from CMG. The launch is going so well they are now planning to add new menu items. Einhorn thinks that CMG is at serious risk of losing loyal customers to Taco Bell’s Cantina Bell menu. The ongoing threat at lower price points inhibits CMG’s ability to raise price. With upcoming commodity cost increases and added healthcare expense, this is a huge issue for CMG in the next year. In the past when CMG falls short of expectation, the market crushes them. Einhorn reiterates that he loves eating at Chipotle, but the stock’s expectations are too high and headwinds are approaching.
11:23 EST: Q&A
Greenlight is up in the “low-teens” so far this year after being up in the “low-single digits” last year
Do you think YUM is a long? Its interesting because of the resurgence of Taco Bell, but the KFC business in China is slowing down and Pizza Hut has some issues. Overall Greenlight is on the sidelines, but taking a look and its definitely and interesting investment.
Greenlight looks at the risk/reward of various investments, and right now they feel the profile for CMG looks much better for the shares going down. He doesn’t have a multiple in mind for a fair value, just like the risk/return profile on the short side.
Any thoughts on Moody’s after it has run up recently? Einhorn thinks they still face enormous regulatory risk, and it has run up because it beats expectations. He thinks the really strong lawsuits will take a while to get through, and the Abu Dhabi case in NYC is very important to keep an eye on. The limit for fraud cases are 6 years, and those who lost money on the worst of the CDO’s now have a clear roadmap on how to sue Moody’s and get to a trial. Its a long tailed thesis for them, it will take a while to play out, but for a longer term investor the company faces tremendous liabilities without great assets to satisfy them. If you are looking for a long for the next quarter, Moody’s could work for you. For a long term investor he would avoid it.
His position and thesis on AAPL remain “largely unchanged”. Einhorn also mentioned that they do not do pair trades at Greenlight, but being short a steel company (United Steel) while being long GM works well for the fund.
Any thoughts on Care Fusion? Einhorn doesn’t have anything to add to it, but he has owned it in the past
Einhorn still at the podium taking questions, cutting into the next presentation which was scheduled to begin at 11:20am
Question about his short position in Japan? They were never short JGBs, instead took a currency position. He think the trade continues to confound, but they are sticking with it.
Question on St. Joe: he highly recommends investors listen to the most recent earnings call. Apparently the rest of the management team was too busy, so it was just the CFO. The only analyst allowed to ask questions brought up many of Greenlight’s old concerns, to which the CFO avoided answering many and instead said: “we are just going to focus on Florida”. Einhorn said nothing is really going on with the business, they aren’t really generating revenue, and there is no plan in place. All JOE is doing is cutting expenses all over the place to remain in business.
Asked about Dicks Sporting Goods from Ira Sohn for the last question. Einhorn said he has nothing to add there and then walks off the stage to a large applause.
Einhorn is now finally done after 70 mins straight, beating Ackman’s time from last night. Now a mass exodus is ensuing as the next speaker, Bob Robotti, comes on stage