The Accounting Neverland: Software that refuses to grow up

One way to perform due diligence on a company is to look at the estimated useful life assumptions behind the depreciation and amortization calculations.  Overly optimistic assumptions will inflate reported earnings while overly conservative assumptions will deflate reported earnings.

One outlier is Continental Resources (CLR).  This oil and gas producer estimates that the useful life of its “Enterprise resource planning software” will be 25 years.  So let’s take a trip down memory lane and examine what software looked like two and a half decades ago…

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Verifying oil and gas estimates

Performing due diligence on the accuracy of oil & gas reserve estimates requires two elements:

  1. An understanding of the art and science of reserve estimation.  This blog post will provide a brief overview of reserve estimation techniques.
  2. Technical information on the methodology used and its key assumption.  Places to look for technical disclosures would be investor presentations, CORRESP filings, and (occasionally) the 10-Ks / annual reports.  However, this process can be tedious whenever investor presentations are difficult to locate.

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E&P Revolving Lines of Credit

In today’s article, we will be covering a very hot topic in the E&P sector right now: liquidity. More specifically, how you can use Sentieo to quickly find out about a company’s credit facility as well as any restrictive indentures that might be out there limiting the amount of debt that a company can take on.

Most E&P companies are financed with some combination of equity and debt. Often times, these companies will supplement their equity and debt financing with revolving lines of credit that can come in two forms: asset-based or a more traditional facility based on earnings.

Asset based revolving lines of credit are tied to the present value of their proved reserves (reserves with a high degree of certainty that these resources can be extracted from the ground) and are typically assigned to non-investment grade companies since they do not have the creditworthiness to have a facility that is simply governed by earnings. The amount of borrowing capacity on these reserve based lending credit facilities is typically reassessed twice a year, once in the spring and once in fall. Read More

Performing due diligence on Martin Shkreli

The pharma CEO Martin Shkreli has been attracting attention lately after taking a very large position in KaloBios Pharmaceuticals.  After Shkreli made his initial investment, the stock has risen roughly 40-fold.  One of the more interesting documents that I found was the Retrophin 8-K filed on August 17, 2015 (EDGAR, snt.io).  Shkreli’s former employer seemed a little unhappy with its former CEO, accusing him of:

  • “repeatedly breaching his duty of loyalty to Retrophin”
  • being the “paradigm faithless servant”
  • using “his control over Retrophin to enrich himself, and to pay off claims of MSMB investors (who he had defrauded)”
  • diverting “47,610 Retrophin shares for the benefit of himself and his MSMB Funds, resulting in a benefit to him and to them of more than $4.5 million (at current market prices)”

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When did Valeant first talk about Philidor?

Valeant Pharmaceuticals (VRX) has drawn a lot of controversy over its ties to the specialty pharmacy Philidor.  An October 21, 2015 report by Citron Research was provocatively titled: “Valeant: Could this be the Pharmaceutical Enron?”. Making note of the report’s impact on Valeant securities, a Bloomberg news article remarked:

The company’s bonds erased more than a billion dollars in market value after the Citron report was published.

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