Fooling Some of the People All of the Time, a Long Short (And Now Complete) Story, Updated With New by David Einhorn (tohfa e dulha read online TXT) 📕

the SEC is its direct regulator. And yet, the SEC has shown itself incapable of doing that job—or perhaps more truly told, has proved unwilling to do that job. Lawlessness inside regulation, a Möbius strip of hypocrisy: the entire Allied saga has a Through the Looking Glass quality to it.

At one point, over a lunch in 2003, I had the opportunity to conduct a “reality check” by discussing short selling with Warren Buffett. He said he has shorted stocks before, the first one being AT&T when he was a teenager to irritate his high school teachers, who held their retirement money in it. Over the years, he said he had trouble getting the timing right on short sales and preferred to have a public persona as a long investor. I asked Buffett what he thought of the Allied Capital saga. Though he said he didn’t know about the company, he observed that it was tough to win being short something like that. As he saw it, for Greenlight, Allied is just one position in our portfolio. But, for the company and its management, it is the whole ballgame, so they will say and do things we wouldn’t consider doing in order to win.

Allied’s campaign against its critics has been quite effective. The story of Mark Alpert, the Deutsche Bank analyst who issued a “Sell” rating, only to wind up being investigated by the NYSE, has been a good deterrent. Joel Houck apparently got the message. While he was still at Wachovia, he re-emerged by reinitiating coverage of Allied with an “Outperform” rating in October 2006. Regarding his previous concerns (the October 2006 recommendation was issued before Allied resolved its SEC investigation) Houck took comfort that Allied and BLX had successfully sold debt and equity—thereby passing scrutiny from the SEC and others; and that BLX “is valued by an independent third party” and is a nationwide SBA preferred lender.

Houck’s report stated a single sentence investment thesis: “We believe Allied has best-in-class management and can generate a midteens internal rate of return, net of expenses, over the long run.” The same person who previously speculated that Allied was a culture of fraud wrote this. Houck has since left Wachovia and joined Allied’s competitor, American Capital Strategies. I contacted Houck to hear his explanation for his change of heart and newfound regard for Allied’s management. He declined to comment beyond referring me to his published research.

The vilification of critics, be they short-sellers, journalists or regulators, chills the free flow of ideas and analysis—indeed, chills free speech by making it so darn expensive. If posting an analysis on a web site or making a speech gets you an SEC investigation, why bother? Allied’s success has emboldened other questionable companies like Overstock.com, Biovail and Fairfax Holdings to take even more aggressive actions against critics. At a minimum, silencing critics through personal attacks will distract some investors from understanding and regulators from dealing with the real problems facing these companies.

There are all kinds of academic studies showing that short selling adds value to the market. One of my friends refers to short-sellers as the “de facto enforcement division of the SEC.” I wish the SEC enforcement division could take that on for itself. However, I think the point is much larger than the merits of short selling. The bigger point is the right to, and benefits of, free speech and the open discussion of ideas, especially critical ones, in the context of the American marketplace. The Allieds, the MBIAs (a short that finally became profitable in 2007 after five years), and the Overstock.coms of the world are doing the markets an enormous disservice. Through their toxic tactics, they make the cost of open analysis and open criticism much too high for participants. The reputational and legal cost of defending oneself against bogus manipulation charges deters public discussion.

Unless we wish to encourage the intimidation of critical thinking and speaking, there needs to be regulatory responses to these abusive companies, or we risk stifling the discussion or, at best, forcing it underground. If critical statements about companies are the basis for investigating investors, then managements should not be able with impunity to make the type of false statements seen in this story.

From April 30, 2002, through December 31, 2007, Allied returned 5.9 percent per year including tax distributions, lagging its benchmark, the Russell 2000 index, by about 2.2 percent per year, or about 15 percent cumulatively. As a short, it hadn’t been what I expected, but it hasn’t been a disaster, either. Greenlight’s overall performance remained quite strong, returning 17.7 percent per year during that same period.

Six years ago, I told the SEC about Allied’s aggressive, inappropriate, and illegal accounting. Five years ago, I told multiple government agencies about the fraud at BLX. Four years ago, I told the FBI that other Allied critics and I had our phone records stolen. Three years ago, I notified Allied’s Board in detail about its management’s misconduct and made a detailed presentation to the U.S. attorney in Washington outlining a variety of illegal activities. Two years ago, the USDA was notified about BLX’s pervasive fraud at that agency. One year ago, Allied admitted it had Greenlight’s and my phone records. Neither Allied nor any regulator has commented on the matter since. It is hard to imagine that an investigation should take so long, if Allied is, in fact, co-operating.

As of now, Allied continues its aggressive accounting. The government has not sought repayment for hundreds of millions of losses in its lending programs. No one at Allied has been prosecuted. Its management team remains in place—and has made tens of millions of dollars to boot. The good news is that this can change. The relevant parties—some combination of investors, government agencies, Allied officials or auditors, the media, and prosecutors—may still decide to remedy the situation. Count me an optimist.

PART SIX

Epilogue

CHAPTER 35

Looking Back: As the Story Continued

There are challenges in writing a book about a story without