0001 Soren Aandahl - Blue Orca Capital (Short Activist Investor)

Investing in Depth

Today’s guest is Soren Aandahl, founder and chief investment officer at Blue Orca Capital, based in Austin, Texas. Soren is a short activist investor who specializes in deep dive due diligence. He’s a recognized star in the short activist universe and was previously CIO at Glaucus Investments, which was named the 2016 Short Activist of the Year by Activist Insight Magazine. He’s incredibly thoughtful about his craft as an investor and his passion for short activism shined through in our conversation. We talked about the colorful tale of Quintis, a one-time high-flying Australian company that his research revealed to be largely worthless. If you would like notes from today’s episode, please subscribe to our free newsletter. I hope you enjoy this conversation as much as I did and feel free to email [e-mail] with feedback.

You can follow Blue Orca Capital on their web site and Twitter.

2:10 Soren’s journey to becoming an investor: An aspiring federal prosecutor turned activist short seller.

4:29 Quintis is an Australia-based manager of commercial Indian sandalwood plantations. Their business requires planting trees and cultivating them for 15-20 years before harvesting and generating cash.

6:28 Quintis hit Soren’s radar screen after they sued a sell side analyst who had written a private note to his clients advising them not to invest in the company. “As a general rule, as a short seller, you look in the world and you say that great companies don’t really care if you criticize them. They know that in the long run that they’re right. It just kind of brushes off their shoulder. But companies with something to hide get incredibly prickly and defensive when you criticize them or when anyone says something that contradicts their world view…. Our spider senses just went up right away and we said these guys have something to hide.”

8:42 Digging into a potential short selling opportunity: unpacking disclosures and financial statements. Red flags included deploying an unusual financial structure for fundraising, non-cash profits based on revaluations of assets, and a high amount of debt (i.e., almost half of EBITDA went to servicing debt each year).

13:42 The first big break: Comparing financials against what Quintis marketing materials told investors. Quintis was promising investors dividends after two years and full payback after seven years even though their trees 15-20 years to mature and generate revenue. “That immediately jumped out to us as like a hallmark of Ponzi-like behavior.” Fun fact: Ponzi schemes are named after Charles Ponzi, a 1920s-era swindler based in Boston whose history Mitchel Zuckoff details in the book Ponzi’s Scheme.

17:17 An analogy to Enron where “The problem wasn’t necessarily the mark to market accounting, it was the abuse of the market to market accounting…. what Jim Chanos called mark to model accounting…. Enron’s scam was taking incredibly difficult to value assets for which there was not only no determinable spot price but they took 15-20 years to come to fruition, recognizing the revenue upfront but also revaluing those assets every year to get non-cash profits.” Quintis likewise was generating non-cash paper profits based on increases in the value of its maturing sandalwood trees where it had wide discretion in the value that it attributed to these assets.

20:50 The “detective moment.” Quintis set the value that it attributed to its assets by relying on price projections from a broker who was an undisclosed stock promoter for their company.

24:56 Soren’s investing superpower: “There is no substitute for doing the hard work and doing the grind…. The best short ideas are the ones that in retrospect look so obvious…. You earn the luck of finding that… by grinding through the filings and the footnotes and chasing down 30 leads before the 31st one is your eureka moment.”

26:21 Discovering that Quintis bid up prices for sandalwood at occasional auctions, which had the effect of bolstering the value that it could attribute to its sandalwood tree assets.

30:20 “The final element”: tracking down the primary customer that Quintis claimed as generating over half of its sales and learning that they appeared to be largely a fake company.

38:50 A primer on how short selling works. “You’re selling the stock today with the hope that you will buy it back later at a lower price because it will decline…. you don’t have the shares, you receive the cash [for selling the shares], but you need to pay interest because you need to borrow them from someone who has the shares.... In shorting you call that negative rebate. Think of it as the interest rate that you pay to borrow the shares while you have your position…. The interest rate fluctuates wildly and there’s no real centralized market for the borrow fee… it’s set by the brokers…. The hard part about shorting is that while your position is on, you are paying the interest to borrow the shares and so that’s going to eat into your eventual economic profits should you generate any.”

41:00 How Soren thought about taking a public activist position.

53:08 Considerations when sizing short position: borrow availability and short interest as a percentage of float (i.e., whether it is a “crowded” short).

54:14 Exiting the short. “Oftentimes as investors, the easier decision is ‘I know this is the time to enter into this investment’ and… the much harder decision is ‘when do I exit.’”

55:38 Recommended reading

• The Smartest Guys in the Room by Bethany McLean on the Enron scandal. “There really is nothing different… a lot of the things we’ve seen, especially in the markets, we’ve seen before” and this classic provides insight not only on how “these schemes work, but how they’re perpetuated and how they convince so many people”
• Muddy Waters Research posts by Carson Block (web and Twitter)
• Wolfpack Research posts by Dan David (web and Twitter)
• No Mercy / No Malice newsletter by Scott Galloway
• Economist for breadth and “expanding your touchpoints into areas you wouldn’t have even considered”
• Soren was humble in not mentioning his own short reports, but there are dozens available on Blue Orca’s web site and they make for terrific reading. The Quintis report is here.

Note: This podcast is for educational purposes only and nothing here constitutes a recommendation or offer.