Research In Motion's Outlook Grim

By Eric Jackson, Senior Contributor07/28/10 - 06:00 AM EDT

Stock quotes in this article: RIMM , AAPL , GOOG , AMZN , NFLX , MOT

Since the initial shock of Research In Motion's(RIMM) disappointing quarterly earnings numbers last month, a number of investors have tried to call a bottom and point out how cheap are the company's shares. They shouldn't.

Although the stock could see a slight short-term rally from here, expect the shares to come under renewed pressure in the fall.

On June 24, RIMM shares took a dive after it announced its earnings. They sold-off from $58 pre-earnings to just below $48 on July 6. Since then, and timed with the general market rebound, the stock price has recovered to $55.

Amidst the sell-off, there were many RIMM bulls who made the rounds on television talking about how "irrational" the market's negativity on the stock was. Here are some of the arguments they made at the time in defense of the stock and why these arguments don't hold water.

Lofty Sales Projections

RIMM sold 11 million devices in its most recent quarter and surpassed the 100 million mark for BlackBerries shipped. The RIMM bulls find it hard to fathom that a company selling so many devices will not continue selling the same number on an ongoing basis.

I have one retort to that point: Remember the RAZR byMotorola(MOT)? RAZR, of course, was a runaway success of a phone for most of the last decade.

The iconic phone, which was introduced by former CEO Ed Zander in 2004, enjoyed a great four-year run and sold 110 million units over that time. But no one uses a RAZR today.

I'm not saying BlackBerries will disappear in two years, but it is clearly on the decline, as RAZR was in late 2007. With all the speculation about whether Apple will have difficulty surpassing the $250 billion market capitalization size, no one has yet asked: will BlackBerries hit a wall after they ship their 110 millionth device like RAZR did?

A Lock on Enterprise

BlackBerry bulls often talk about the security of these devices and how they are beloved by enterprise IT managers. They point out that enterprises have written apps for the BlackBerry, making the devices sticky.

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A Look at the Eye in the Sky

By Eric Jackson
RealMoney Contributor
7/26/2010 5:06 PM EDT
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Have you taken a look at some geospatial imagery stocks lately? Probably not, but you should. You have probably seen these companies' end products on Google (GOOG - commentary - Trade Now) maps.

The two leading public companies in this space are GeoEye (GEOY - commentary - Trade Now) and DigitalGlobe (DGI - commentary -Trade Now). They both got their start working closely with the U.S. military as private companies. They launched their own satellites into space to take images of Earth. Their initial customers were the U.S. government - specifically the National Geospatial-Intelligence Agency (NGA). Of course, this agency is tasked with keeping tabs on all the "evildoers" out there who might inflict harm on U.S. interests.

This agency and the rest of the U.S. government have had an interest in seeing both of these companies develop and strengthen over the last few years. To support them, they've provided their largest customer orders over the greatest period of time and given them the support needed to raise financing to build and launch their newest satellites.

The industry (at least in the U.S.) basically operates as a duopoly for GeoEye, which is based near Washington, D.C., and DigitalGlobe, which is based in Colorado. The two companies play leapfrog in terms of which one has the latest and greatest satellite in the sky, taking images.

The quality of the imagery keeps getting better in terms of color, resolution and how small a space they can capture. They're now at the point where they can capture an image of home plate on a baseball diamond, so they are extremely powerful.

Because of this, GeoEye and DigitalGlobe have found eager buyers of their imagery from the Web portals Google, Microsoft (MSFT -commentary - Trade Now) and Yahoo! (YHOO- commentary - Trade Now). These geospatial companies produced striking images of the recent Iceland volcano ash, the Iranian protests last year and President Obama's inauguration 18 months ago.

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ONP Is Doing All the Right Things

By Eric Jackson
RealMoney Contributor
7/23/2010 12:45 PM EDT
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Over the past five days, Orient Paper's (ONP - commentary - Trade Now) stock price has dropped 31%. Over the past month, the stock price has plunged 51%. Obviously, this has generated a lot of pain for long holders of the stock, including me.

Research organization Muddy Waters has made many allegations against the company. Based on ONP's response and my research, I do not believe these allegations to be true. ONP published a detailed response to Muddy Waters' allegations on July 6. In that response, ONP answered questions on: (1) its use of the proceeds from two prior placements, (2) its reasoning for purchasing a new 360,000-ton corrugating paper line, (3) the consistency of its SEC and Chinese securities filings, (4) its top 10 customers, (5) its transportation logistics, (6) its inventory turnover and (7) its gross margins. If you haven't read the response, I would urge you to do so and judge for yourselves which side has a more convincing argument.

After its written response, ONP held a conference call with investors to discuss its rebuttal of Muddy Waters' allegations. I dialed in and asked a question of management. Neither Muddy Waters nor any other critic of the company called in.

Furthermore, since the company's detailed response on July 6, Muddy Waters has only made two additional comments. On July 13, Muddy Waters asserted that the new production line being built by Qinyang for ONP was vastly overpriced. This new assumption was based on a phone call allegedly conducted by Muddy Waters with a Mr. Zhang, who is the head of sales for Qinyang.

Muddy Waters had speculated in its original June 28 allegations that Qinyang might not be building a machine at all. It based this assumption on previous phone calls to Qinyang, in which it claimed to have spoken with someone there and discovered that most machines built by Qinyang cost less than the $27 million being paid by ONP.

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Guest Post: Another Perspective on ONP and Doing Business in China

I have been writing about Orient Paper (ONP) for the last few months. There have been a number of bullish and bearish articles written about the company.

Last night, I received the following article from Edward Hoots, who is an American now living in China working as a Shop Foreman at a plant. I don't know Edward and haven't done any due diligence on him or his background. He appears to be a long holder of ONP.

Although I don't necessarily agree with all his points below, I think they are a useful perspective on the ONP controversy and how cultural biases might play a part in some of the different points of view. If you have comments on the post below, I will pass them on to Edward:

… Alas, I have read the July 22^nd article on the Muddy Waters website and I think I understand some of the confusion (not fraud) that their original report and ensuing turmoil has generated.

I have always felt that the Muddy Waters people were comparing operations and accounting procedures at ONP to western business practices.

Some of the allegations of fraud and shell companies may seem valid by western standards but are an essential if not required part of doing business in China.

Some of the other allegations, drawing from my memory are:

Fraudulent RTO

Dongfang Trading company

Overstating the cost of new equipment

Changing top 10 customers year to year.

High inventory turnover

RTO:

I have not see reams of documents, best estimates, bank statements, balance sheets, etc.

What I do know is that a RTO is an inexpensive way to take a company public on the targeted exchange as opposed to an IPO. If the Chinese people can find a way to do something cheaply, they will exploit it to the MAX. Remember, China is a nation of savers. It is their nature to be as tight as possible with their money. This move is commendable.

DongFang Trading company:

In China, when goods are imported or exported, the government requires the use of an Import/Export license. This license is not cheap. Some of them can cost as much as $350,000USD or more and they are specialized and specific as to what they can be used for. Large companies Like Intel, Motorola, and other western companies the US investor would be familiar with more that likely have their own import/export license they purchased from the government at a hefty fee to import raw material and export finished goods. Smaller companies that don’t have the resources to buy a license have to use other means to export. Enter the trading company. A trading company is in every sense of the word the ultimate middle man. It is not unlike acceptance banking from the days prior to wire transfer. In the case of ONP, DongFang is owned by the chairman. It appears to have been originally set up as a Trading company to import and export paper and paper related products as provided by the license. Most smaller non public companies would list a trading company as a supplier because they would pay the trading company(not the actual supplier) for the imported goods purchased. The trading company in turn then pays the supplier and normally pays any taxes due to the government, and takes a small fee for the transaction. That is how a trading company makes money from a transaction. ONP looks to be using DongFang more as an export/import license instead of a trading company and (addressing the Beijing subsidiary) still doing some actual trading with third party companies. I am not sure of the legalities of using the Im/Ex license like this but it appears to be going on. If ONP is using Dongfang as a Im/Ex license then DongFang would indeed show no or very little revenue and the cost would be reflected on the ONP books. It would be a cleaner way to account for Im/Ex transactions that way. So yes, DongFang is a shell ,but it is a required and legitimate entity.

Overstating the cost of new equipment:

Lumber, Pulp Processing, and Paper making equipment cannot be purchased at the local Walmart. Having grown up in the Northwest I am intimately familiar with this equipment. When a company wants to install a new line, be it for lumber or paper, it has to be designed to the specifications of the purchaser. When the Muddy Waters folks called the vendor for the new ONP paper line they got someone on the phone that said the biggest line they sell is much smaller than the ONP line as far as tonnage goes and it costs less. So it stands to reason that a larger line would cost more. A growing company like ONP does not have identical multiple locations through out China. Hence they do not have a stock design for a specific paper line that produces a certain tonnage annually. So that means it has to be designed and built from the ground up. A paper line that produces over 300,000 tons of paper a year is not a tinkertoy and knowing what I know about the level of technology in China, it is more than likely the biggest paper line that the vendor has ever built. The pictures that I have seen of ONP competitors show equipment that appears to have been designed, built, and imported from abroad. Imported equipment is very expensive compared to domestic built, so here again the least expensive route is taken.

Changing top 10 customers year to year.

I remember reading part of an interview with the ONP mgmt. and they stated they were going to switch a line from a high grade paper to a lower grade paper because the raw materials for the higher grade product were increasing rapidly and the margins were being reduced. After the switch, questions were raised as to how the new customers for the lower grade paper were cultivated so rapidly. The answer is that being tight with the money on the expense side, it gives ONP a big competitive edge as far as pricing. Like I have already mentioned price is the big “decider” for Chinese buyers. Unless told otherwise the cheapest always prevails.

High inventory turnover

An up and coming company like ONP with expanding orders will have a tough time keeping an inventory at all. As orders come in, production capacity is filled to the point of full capacity. At some point more equipment is ordered but before it can be installed demand keeps increasing to the point of exceeding 100% capacity. When this situation occurs, product is literally going from the machine and then loaded on the truck for delivery without intervening warehousing. I suppose that for accounting purposes some form of inventory could be recorded, but it is not a true reflection of the situation. There are some manufacturing terms I have not heard used by anyone when capacity and inventory were referred to and that is: Lean manufacturing and Just in Time. To my knowledge, ONP is not either ISO or AS certified but it doesn’t preclude the company from using modern manufacturing techniques to achieve maximum efficiency. Therefore, a minimal inventory would show a higher turnover that a slower growth company keeping a larger inventory.

Some important things to remember about China.

China is not America. Chinese businesses operate differently than American businesses. Sometimes the only common thread is profit. Only time will tell whether or not ONP is a fraudulent company. I intend to visit them in August to determine just that. My gut feeling is that they are on the up and up for the most part. Some corners may have cut here and there. The Chinese are famous for that. I think there are actions the company took that are misconstrued by some people as fraud but in the context of the Chinese business environment it is standard practice. China is a very dynamic place right now. That is why it is attracting so many investors. In a lot of cases there are no standards or average performances. As China tries to become less dependant on exports and more of a domestic consumer driven economy standards and norms will increasingly move in a state of flux along with that will come shortages, surpluses, and all the growing pains that every industrialized nation has had to endure. I view Chinese companies as no more corrupt than their American counterpart. How many off balance sheet monkey business shenanigans have US companied been caught doing in the last few years. In every country there are honest people and there are cheats. Time has a way of weeding out the bad apples.

[At the time of publication, Jackson had a long position in ONP.]

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FinReg: Best and Worst Parts

By Eric Jackson07/21/10 - 05:59 AM EDT

Stock quotes in this article: FNM , FMCC , MCO , MHP

There has been a lot of complaining about the new Dodd-Frank financial regulation reform bill -- or FinReg -- by bloggers and politicians. However, most critics (and supporters) haven't read the 2,200+ pages of the bill. The reactions are driven more by pre-existing politics and shorthand biases for the general concept of governmental regulation.

If you think market actors are greedy and that the government keeps everyone honest, you support FinReg. If you think the government is made up of incompetent bureaucrats who get in the way of efficient markets and choice, then you think FinReg is terrible.

It's easy to be cynical about a big reform bill like this (and I am about a number of points in the bill). However, there is some good here. I believe that the politicians have used this bill as an opportunity to move a lot of little balls forward.

Critics trot out phrases like "this bill will do nothing to stop the next crisis." On one hand, they're right that it's hard for traders (let alone politicians) to predict the future. On the other hand, do they seriously think it's best to sit back after 2008 and do nothing?

In my view, here are the best parts of FinReg:

Derivatives OTC clearinghouses

Some estimate that the global market for derivatives is more than $700 trillion. Yet, a large part of it has operated between parties rather than through a clearinghouse. Now, it will and bank profits will go down. I think the system is better off and safer with this change.

Resolution authority

Former Treasury Secretary Paulson argued that he never had the "authority" to take over Lehman Brothers. Barney Frank has backed up Paulson's explanation, which is why he strongly supported the creation of this authority process to specifically deal with that one challenge.

Proxy access

This bill punted the idea to the SEC to define. Proxy access will determine whether shareholders can nominate directors to appear on the company's proxy statement for all shareholders to vote on at the annual meeting. This is good though. At the last minute, Chuck Schumer, Chris Dodd, and Evan Bayh (all Democrats) tried to water down proxy access by stating that shareholders should have to own 5% of the company's stock for over 3 years before being allowed to make a nomination -- thereby making 99% of shareholders ineligible. I'm grateful that Barney Frank pushed back.

A watered down version of Volcker Rule

I supported the Volcker Rule because I saw its intent was to lower the risk of financial institutions by getting them out of proprietary trading with assets that they would not have if not for the depositors' money sitting in "safe" bank accounts. Critics again howled that it wasn't part of the 2008 meltdown. This is one of those issues where I would ask the banks if they want to be short-term rich or long-term rich. Separating the trading from banking will allow all these banks to prosper in the long-term, even if they lose a few pennies in EPS over the next couple of quarters. It's discouraging that the bill version of this rule got watered down.

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Oh, Dear, Canada!

By Eric Jackson
RealMoney Contributor
7/19/2010 1:45 PM EDT
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Canada's economy has been the subject of many glowing reviews by American analysts over the last 18 months. In comparison with the U.S., the Canadians seem to have a great thing going. Unemployment is 7.9% versus 9.5% in the U.S. There has been no major failure of a Canadian bank. The country's debt-to-GDP ratio is only 70% versus more than 90% in the U.S.

The Canadian housing market has also shown remarkable resilience and even strength. Home prices, although they declined in the wake of the Lehman Brothers bankruptcy, have now recouped all their losses and are higher than they were prior to September 2008.

When the U.S. economy drove into the ditch in the fall of 2008, the Canadian government got rightly scared, as Canada's economy has often been the tail on the U.S. dog, manufacturing lots of American cars, as well as shipping oil, gas and lumber across the border. (Most Americans don't know that Canada is the largest exporter of oil to the US, far ahead of any Middle Eastern country.) The Canadian dollar -- used by traders as a proxy for a bullish bet on commodities -- went from a pre-crisis high of near parity with the U.S. dollar to 78 cents by October 2008.

The Canadian government responded to the financial crisis in much the same manner as the U.S. -- a similar level of stimulus dollars on a GDP basis (remember that Canada is 10% the size of the US economy) and a similar level of government purchases of mortgages off the balance sheets of banks on a GDP basis. Interest rates plummeted and mortgages became a lot cheaper.

In contrast to the US, Canada's housing market had not been as overheated for as long. While most U.S. house prices ramped up starting in 2002, when rates dropped after 9/11, in Canada, most housing prices didn't really start to appreciate to U.S.-type levels until 2006. Therefore, even though the Canadian housing market did freeze up after Lehman, by May 2009, with low rates and a comparatively better local economy, most Canadians started to jump back into the housing market with both feet -- especially in the two hottest markets of Vancouver and Toronto. Property bidding wars in Canada became common between May 2009 and as late as April 2010.

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Show Us the Money!

By Eric Jackson
RealMoney Contributor
7/16/2010 7:30 AM EDT
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On Monday, I was on CNBC's Fast Money, talking about a problem afflicting most of large-cap US stocks today -- chronic cash retention on their balance sheets. Excluding financials, U.S. public companies now have $1.6 trillion in cash sitting on their balance sheets, according to The Economist estimates. Now, the CEOs of these companies would argue that they need this cash as a potential cushion against the next downturn. After all, companies like General Growth (GGP) went bankrupt in the aftermath of Lehman Brothers' failure because they didn't have enough cash and were at the mercy of creditors who wouldn't roll over its debt as it matured.

However, that argument doesn't hold water if shareholders are saying, "keep your debt at zero, but reduce some of your cash hoard to pay us a better dividend". After all, it is the shareholders' money. Management has the right to run the company in such a way as to maximize its long-term value, but shareholders have the right to complain when they see management running it inefficiently.

Let's talk specifically here. Microsoft (MSFT -commentary - Trade Now) has $37 billion in cash and $22 billion in annual operating cash flow. It currently pays out a forward 2.1% dividend yield, costing it $4.5 billion a year. It could easily double that yield out of cash flow, paying $1 a share annually versus $0.52 currently. It would commit to paying that dividend going forward, giving shareholders a reason to continue holding the stock. (When it paid a $3 special dividend a few years ago, what was the incentive for shareholders to continue holding the stock after getting their money?)

I imagine that Microsoft (and many other tech companies that also cling to cash) would respond to this argument by saying that it is operating in a highly dynamic competitive environment. It is competing against Apple(AAPL - commentary - Trade Now), Google(GOOG - commentary - Trade Now),Salesforce.com (CRM - commentary - Trade Now) and Research in Motion (RIMM -commentary - Trade Now) across multiple businesses. Last year alone, Microsoft spent $9 billion on R&D to try and stay competitive. Doesn't it need its cash to fund these important research activities?

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Why Seabridge Says No to Mining Projects

By Eric Jackson07/14/10 - 08:00 AM EDT

Stock quotes in this article: SA , NEM , ABX , GG

Rudi Fronk has been the Chief Executive Officer and President of Seabridge Gold(SA) since 1999. In this recent interview, he talks about the company's history and two key Seabridge projects in Canada.

Tell us how Seabridge started.

Fronk: We launched Seabridge in October 1999. At the time, gold was trading for well below $300 an ounce. The dollar was strong. People wanted to buy technology stocks. Gold had fallen completely out of favor. However, we thought it would eventually rebound.

Seabridge's Advantage

With my partners at Seabridge, during this depressed gold price period, we looked to acquire uneconomic gold assets. We hoped we could convince their owners to sell these deposits to us at low prices. We wanted the gold assets to be in the ground still with low holding costs so we could wait for prices to come back. We wanted them in politically stable countries, where they weren't going to be expropriated by the government on a whim. We wanted projects that had additional exploration upside which could be exploited later. Our concept was to create a public vehicle that supplied our shareholders a high-leverage investment on the gold price.

During the early years from 1999 through 2002, we bought nine deposits after looking at more than 100. We spent $15 million on the nine deposits we purchased at which previous owners had estimated about 15 million ounces of gold still in the ground. The parties we bought the projects from had already spent $300 million to find them, so we really were getting them for pennies on the dollar.

So the approach you took with Seabridge sounds like it directly was influenced by your experience at Greenstone.

Absolutely, experience is the best teacher. I ran Greenstone from 1993 through early 1999. During that time we discovered a number of large gold deposits in Central America, totaling approximately 5 million ounces. We completed bankable feasibility studies on three projects, raised capital to build them and were going through final commissioning on two of them just when the price of gold began to collapse. To make matters worse, in 1998 hurricane Mitch came through Central America devasting our supply chain. To build these mines, we took on significant debt. In 2000, the projects were expropriated by the Honduran and Nicaraguan governments. It is interesting to note that two of these mines are still in production today.

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