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StreetAccount Summary – U.S. market recap: Dow +0.19%, S&P 500 +0.24%, Nasdaq +0.57%, Russell 2000 +0.68%

Online mortgages and the weekly roundup in tech and retail by Leah Grace

Apple Watch and the continuing cult of Mac/iOS by Leah Grace

Barry Ritholtz’ Masters in Business Bloomberg radio show with Charley Ellis, Chair of Yale Endowment, and author of Winning the Loser’s Game: Timeless Strategies for Successful Investing.

The Complete Bull Vs. Bear Debate on Whether Biotech Is in a Bubble

Not really my definition of “complete” but interesting.

Period of adjustments – Watch out for the growing list of ‘exceptional’ items in company results

(…) By their nature, these issues will rarely be black or white and with restructuring – a particular favourite with the adjusters – the greyness relates to how much something is truly an exceptional item rather than a continual cost of doing business. Some costs associated with closing a business, say, could well be a true one-off but, if a business needs to ‘restructure’ every year to keep up with the latest trends, it probably is not. 

Speaking of trends, something we are seeing more and more in the retail sector is businesses looking to make an adjustment for the cost of refitting stores and then flagging that as ‘exceptional’. Again, it can be a matter of degree but surely one must at least ask the question as to how much keeping your stores looking nice so customers actually want to visit actually counts as an exceptional, and how much it is just a basic cost of retailing. 

Another adjustment classic relates to acquisition costs. If a company is regularly buying other businesses, should the legal, investment banking and other costs being incurred every year in relation to that really count as exceptional? That is before we start to consider whether the reason a company is having to make regular acquisitions is to compensate for underinvestment in R&D or marketing.  

In a similar vein, the same question may be asked about costs incurred by companies that regularly have to defend themselves against legal actions. For a number of multi-nationals – banks, pharmaceuticals and tobacco companies would be obvious examples – fighting lawsuits, dealing with regulators and so forth is not so much exceptional as a cost of staying in business. You might take a different view on the explicit large fines such companies can face but even negotiating their size is arguably part of the decisions those businesses make every day. 

Then, since we mention the pharmaceutical sector, there are research and development costs – and indeed explorations costs for, say, oil and mining businesses. It is a well-established accounting practice that, if these costs are expected to have a high probability of leading to revenues or similar in the future, they can be capitalised as an asset on a company’s balance sheet rather than charged against profits on day one. 

This is open to a fair amount of management discretion as it is, but the real distortion comes if it later transpires these costs will not yield any benefit, which results in the asset having to be written off. These write-offs tend to be treated by companies as exceptional items yet, if you are an oil producer or a pharmaceutical company, say, respectively digging for oil and investing in research and ending up with nothing to show for it is not so much exceptional as a fact of business life. In this way the inevitable costs of failed endeavours all businesses have can be hidden both as they are being incurred and when they are written off. 

There are other examples of these rather unexceptional exceptionals – stripping out the costs of running a company pension scheme, stripping out the costs of giving employees shares as part of their remuneration package and so on – but you get the idea. The bottom line, if you will excuse the pun, is there is a growing list of reasons for investors to be wary of how companies are stating their profits. 

In order to build up a real sense of what a company’s profits and cash generation actually are – and that, after all, is how you appraise the value of a potential investment – investors need to roll up their sleeves, dig into the numbers and come to their own view on whether certain costs really are as exceptional as some companies would appear to believe. Blindly accepting a company’s view of what its real profits are is an increasingly perilous thing to do.

I am not a big fan of these “read me-hear me-see me” apps (really no time for much of that!) but they are fascinating nonetheless. Here’s the latest one:

Meet Periscope, Twitter’s New Live Video App

MR. MARKET, AT YOUR SERVICE

Ben Graham, my friend and teacher, long ago described the mental attitude toward market fluctuations that I believe to be most conducive to investment success. He said that you should imagine market quotations as coming from a remarkably accommodating fellow named Mr. Market who is your partner in a private business. Without fail, Mr. Market appears daily and names a price at which he will either buy your interest or sell you his. Even though the business that the two of you own may have economic characteristics that are stable, Mr. Market’s quotations will be anything but. For, sad to say, the poor fellow has incurable emotional problems. At times he feels euphoric and can see only the favorable factors affecting the business. When in that mood, he names a very high buy-sell price because he fears that you will snap up his interest and rob him of imminent gains. At other times he is depressed and can see nothing but trouble ahead for both the business and the world. On these occasions he will name a very low price, since he is terrified that you will unload your interest on him.

Mr. Market has another endearing characteristic: He doesn’t mind being ignored. If his quotation is uninteresting to you today, he will be back with a new one tomorrow. Transactions are strictly at your option. Under these conditions, the more manic-depressive his behavior, the better for you. But, like Cinderella at the ball, you must heed one warning or everything will turn into pumpkins and mice: Mr. Market is there to serve you, not to guide you. It is his pocketbook, not his wisdom, that you will find useful. If he shows up some day in a particularly foolish mood, you are free to ignore him or to take advantage of him, but it will be disastrous if you fall under his influence. Indeed, if you aren’t certain that you understand and can value your business far better than Mr. Market, you don’t belong in the game. As they say in poker, “If you’ve been in the game 30 minutes and you don’t know who the patsy is, you’re the patsy.”

… [A]n investor will succeed by coupling good business judgment with an ability to insulate his thoughts and behavior from the super-contagious emotions that swirl about the marketplace. In my own efforts to stay insulated, I have found it highly useful to keep Ben’s Mr. Market concept firmly in mind.

Warren Buffett’s Letter to Shareholders, 1987 Berkshire Hathaway Annual Report (via Raymond James’ Jeffrey Saut)

The Fuzzy, Insane Math That’s Creating So Many Billion-Dollar Tech Companies Startups achieve astronomical valuations in exchange for protecting new investors

(…) Here’s the secret to how Silicon Valley calculates the value of its hottest companies: The numbers are sort of made-up. For the most mature startups, investors agree to grant higher valuations, which help the companies with recruitment and building credibility, in exchange for guarantees that they’ll get their money back first if the company goes public or sells. They can also negotiate to receive additional free shares if a subsequent round’s valuation is less favorable. Interviews with more than a dozen founders, venture capitalists, and the attorneys who draw up investment contracts reveal the most common financial provisions used in private-market technology deals today.

The backroom agreements are becoming more common as tech companies stay private longer, according to the interviews and financial documents obtained by Bloomberg Business. The practice obfuscates the meaning of a valuation, which can become dangerous down the road because private investors aren’t taking the same risks a public-market shareholder would. (…)

“These big numbers almost don’t matter,” says Randy Komisar, a partner at venture firm Kleiner Perkins Caufield & Byers. “Those numbers are just a middling shot at a valuation, and then it’s adjusted later” through various legal techniques, if an earlier valuation was too high, he says. (…)

Buried in their corporate filings, startups tuck away all sorts of provisions that reward investors for accepting these mega-valuations. The practice is more regular and egregious in financing rounds for mature companies. Their capital requirements tend to be much larger, so they must turn to more sophisticated investment firms that demand these kinds of terms. Startups that are generous with these guarantees can garner much higher valuations.

Each provision covers different ways to make sure new investors get paid back, even if disaster strikes, if an initial public offering gives the company a market cap far less than its private number, or, more commonly, if the startup has to raise money again at a lower valuation. One stipulation, called senior liquidation preference, ensures that a certain group gets its money back before anyone else, including employees. Another class, called downside protection or ratchets, automatically grants additional shares in the event of a declining valuation, removing a great deal of risk that the stake will ever lose value. (…)

Self driving cars and the weekly roundup in tech and retail by Leah Grace

Justice, capitalism and progress: Paul Tudor Jones II at TED2015

Can capital be just? As a firm believer in capitalism and the free market, Paul Tudor Jones II believes that it can be. Jones is the founder of the Tudor Investment Corporation and the Tudor Group, which trade in the fixed-income, equity, currency and commodity markets. He thinks it is time to expand the “narrow definitions of capitalism” that threaten the underpinnings of our society and develop a new model for corporate profit that includes justness and responsibility.

I suppose Tudor Jones dedicated his presentation to the over-greedy bankers, investment bankers and money managers of this world…How about adding Professional, Moral, Ethical and Responsible behaviour to his speech and hope these guys understand?

Among too many:

• Justice Department Is Seeking Felony Pleas by Big Banks in Foreign Currency Inquiry

(…) The most recent example comes to us from the “Evolution” Darknet, which according to a report from Crytpo Coins News shut down their web server and ran off with $12 million in user bitcoins. (…)

The operators of Evolution did leave a note for their users letting them know what happened to the money. As you might expect, the $12 million in bitcoins that have been disappeared will be shared among the former admins of Evolution, with the operator of the site claiming he’s headed to the Caribbean to enjoy his profits:

Due to unforseen events I decided to close down Evolution Marketplace. We want to thank you guys for you effort and help making this the most profitable and popular marketplace. This wasn’t an easy decision but due to other marketplaces getting shut down and the forum going downhill I decided to cut my ties and exit with an eight figure profit. The millions from evo will be divided up amongst the mods a few admin and members. Since this is such an abundance of money I may consider buy ins from former evo members in exchange for 1k bitcoinis. I’ll be around around for a short period of time before permanently moving to the caribbeans, I hope you guys understand.

“Evolution Marketplace”! Evolution is not always progress…

• Citigroup Fires Trader for Alleged Mismarking

The bank fired Carl Bonde after discovering that he had been exaggerating his trading performance, according to the person. Mr. Bonde, who declined to comment, traded inflation derivatives at the bank’s New York office. The bank also fired Mr. Bonde’s boss, Keith Price, for failure to supervise.

Somebody must have made this up. Bonde inflated his numbers trading inflation derivatives. Eventually, his boss paid the price.