Back in 2007, I was CEO and Partner at the UK arm of a billion dollar hedge fund, and one of the more colourful shorts in my fund was Oerlikon, a Swiss company that transformed itself from a sleepy industrial business into a high tech firm ready to take over the world with thin-film solar panels. Only it wasn’t. Here is the story.
In 2005, an Austrian private equity group took over management control of Oerlikon, apparently backed by a large stake acquired by controversial oligarch Viktor Vekselberg (he is pictured with Vladimir Putin below). Shortly after that, the company reported its best profits in six years, driven mainly by accounting chicanery. At the time, I thought they were pulling out all of the stops – releasing provisions to income, bleeding out gains on sale of assets into income, and raising revenue accruals, and I duly shorted the stock. Much to my chagrin, the management subsequently continued producing fabricated earnings, including capitalizing development costs, creating large provisions on acquisitions and bleeding this out to earnings, and recognizing a profit margin of 51% on their work-in-progress accounting, or two-and-a half times the normal level, boosting earnings by a third. Even worse, the stock responded to these optically high earnings levels, as well as the claims that Oerlikon had invented a new type of “thin-film” solar panel technology that would soon supplant all other solar panels.
The private equiteers and Russians had also been acquiring more shares using derivatives, and essentially managed to engineer a short squeeze where the stock price increased by 400%. Risk management is incredibly important on the short side, primarily because, if you’re wrong on a long, the position becomes a smaller part of your portfolio, but if you’re wrong on a short, the position becomes a bigger part of your portfolio. One of the primary ways of addressing this risk is to have a diverse book of small short positions. We typically have approximately 30 single stock shorts, each with a position size between 1.5% to 2.5% of capital. And, if the stocks run, we cut back on our shorts for risk management purposes (and also sometimes add as they decline). Oerlikon was no different, and I had to reduce the short as the stock ran up.
Something clearly needed to be done, and I decided to attend their AGM in Zurich to publicly confront them. I was a little apprehensive about the meeting, since one of the characters that did business with the Austrians had been the victim of a drive-by shooting in Venezuela the year before. So, it didn’t help my confidence that I arrived in Zurich with a 40cm long rip in my suit pants, exposing my boxers. Not even my non-existent needlework skills could solve this issue in the men’s room of the hotel where the meeting was to be held. I had to press ahead with my questions at the AGM, which was televised, knowing that my boxers were visible to everyone else in the room, but at least not the board which I was putting under hard-nosed questions about their accounting and disclosure. I concluded the day with an interview with the Financial Times, who I was trying to get to write a story about the fraud, at all times letting the reporter walk ahead of me so as not to allow my visible underpants to discredit my assertions about Oerlikon.
The payoff of my “full disclosure” meeting was quite good, as the stock fairly quickly lost ground, subsequently declining by 85% and with the company requiring an emergency rights issuance to stay in business.