Global Outlook: Holy mackerel – are short-sellers the new caped crusaders in the fight to uphold corporate integrity?

 

Has an obscure short- seller called Gotham City Research managed to elevate the reputation of its trade from profiteers of doom to superheroes and saviours of the universe?

Short-sellers are often controversial because they profit when stocks fall in price – just as mainstream investors who hold “long” positions in the same shares lose money.

But in order to make their cash, a number of short-sellers, such as Gotham and Muddy Waters, often do excellent research to expose dodgy accounting and corporate fraud, often in smaller stocks that can get overlooked by the big banks’ analysts.

In just such a role Gotham City Research, Wall Street’s self-styled Batman, recently made a big catch with Gowex, a family-run Spanish tech company that had set up wireless hotspots in cities from Paris to New York and was the darling of the, admittedly niche, Spanish junior stock market.

Gowex’s shares had soared more than 1,000 per cent since 2013, valuing the company at almost $2bn (£1.2bn) earlier this year and attracting the attention of other short-sellers, such as the US hedge fund Valiant, which began to question its prospects.

But it was Gotham’s detailed 93-page report, claiming that more than 90 per cent of the wi-fi company’s reported revenues did not exist and the stock was worth nothing, that sent Gowex’s shares into a tailspin a week ago. It filed for bankruptcy this week, a few days after Jenaro Garcia Martin, the chief executive, admitted reporting false financial results for at least four years and resigned.

In true superhero fashion, the corporate crime crusader Gotham then offered philosophical advice to the vanquished firm.

“May truth, justice (and not vengeance), restoration and redemption prevail,” said Gotham, whose leading figure is Daniel Yu, an investor who invokes Batman as he goes about his business.

Given the nature of what they do, short- sellers are not always viewed as saviours by the investing public or the companies they target, and Gotham reminded its fans that it makes money from unmasking dodgy companies and causing their shares to fall.

“You should assume … Gotham City Research LLC stands to profit in the event the stock issuer’s stock declines …” the firm told investors in its report on Gowex.

The short-seller’s fights with some of the other companies it targeted have sometimes been less straightforward.

One of these companies has been the British AIM-listed claims processor Quindell. Gotham claimed in its report on the business that it was “A Country Club Built On Quicksand”, that 42 per cent to 80 per cent of its profits were “suspect” and that its shares were worth a mere 3p.

Quindell, whose stock price plummeted after Gotham’s report, responded by saying that the short-seller’s claims were “highly defamatory.” In its highly detailed 22-page response, Quindell said: “Legal action has already been initiated by the company against those responsible for this co-ordinated shorting attack and reports are also being made on their activity to the appropriate regulators.”

Gotham reveals little about itself on its website and is registered as a limited liability company in Delaware, where it doesn’t have to disclose publicly who its members and managers are.

But Mr Yu has been more forthcoming about the group’s background since its Gowex coup, telling Bloomberg that he became a short-seller after losing money on an investment in the US state mortgage lender Freddie Mac in 2008.

In an email to The Wall Street Journal, he expanded on Gotham’s foundation, explaining that he and others had lost money in companies that were deceitful or committed fraud. “We were victims of these corporate fraudsters. We believed this isn’t right, and that the world needs someone to expose these crooks. Just as Batman catches criminals (and then submits them to authorities), using little more than his wit and some nice gadgets, Gotham City Research was born.”

Ceasefire buys some time for war-torn American Apparel

American Apparel, the troubled retailer that has been at war with its controversial founder Dov Charney for weeks, has declared a truce and found funding to keep itself in business – for now at least.

The deal would appear to leave Mr Charney’s allies at the New York hedge fund Standard General in the driving seat at American Apparel.

After being ousted by his board several weeks ago because of an “ongoing investigation into alleged misconduct”, Mr Charney had teamed up with Standard General to build a combined 43 per cent stake in American Apparel in his efforts to get his company back.

This led to an ugly public relations and legal battle and yet more public examination of Mr Charney’s unorthodox behaviour and management style. Mr Charney has faced several allegations of sexual misconduct through the years, which he has always denied.

Well, American Apparel’s board and Mr Charney have now found some unlikely kumbaya and come up with a workable arrangement that will put Standard General and its new board nominees in a strong position.

The deal worked out sees Standard General providing up to $25m in “immediate financial support” to American Apparel and five of the board’s seven members, including Mr Charney, stepping down.

The departing directors will be replaced by three new ones chosen by Standard General and another two selected jointly by Standard General and the current board.

The current co-chairmen Allan Mayer and David Danziger will continue in their roles.

An independent board committee will be formed to oversee the continuing investigation into the alleged misconduct by Mr Charney, which includes allegations that he used corporate funds inappropriately.

“Mr Charney will serve as strategic consultant until the end of the investigation,” said American Apparel. “Based on the findings of the investigation, the committee will determine if it is appropriate for Mr Charney to serve as CEO or an officer or employee of American Apparel.”

The company stressed it would continue with its sweatshop-free, “Made in the USA” manufacturing philosophy, with a commitment to maintaining its manufacturing headquarters in Los Angeles. 

Until its 2015 annual meeting, Standard General and Mr Charney are prohibited as part of the agreement from acquiring any more shares in American Apparel, and their voting power is limited to no more than one third of the company’s stock.

“This truly marks the beginning of an important new chapter in the American Apparel story,” said Mr Mayer. “With the support of Standard General, we are confident the company will finally be able to realise its true potential.”

The deal buys important breathing space for the financially strapped retailer. Before this agreement was reached, analysts said American Apparel – whose stock price fell from $15 in 2007 to just 60 cents last month – had been ripe for a takeover by a private equity firm or a rival retailer. The stock is now back over $1.

So, has Mr Charney won? Will he ever be back as chief executive? Will American Apparel eventually be sold?

Watch this space.

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