Equity Analyst, LightStream Research

Supun Walpola

Equity Analyst

Long-Short Analysis on Japan, Asia and the World

LightStream Research

LightStream conducts quantitatively rigorous and data-driven analysis with a focus on Japan and Asia.

We consistently cover the Tech, Consumer and Industrial sectors, and provide ECM and Events coverage more broadly.

We supplement traditional qualitative insights from company relationships with a robust quantitative foundation that examines as much historical data as is available.
We further refine the accuracy of our insights and calls through the use of alternative data to flesh out current trends, and through a valuation framework that emphasises non-superficial peer group selection and a proper attempt to understand the metrics and changes that have driven security valuations in the past.

Forensic Accounting

<div class="content-highlight">
<p>This insight has been produced jointly by <a href="https://www.smartkarma.com/profiles/shifara-samsudeen-acma-cgma" target="_blank" data-smartkarma-citation="accounts:3297" rel="noopener">Shifara Samsudeen, ACMA, CGMA</a> ​and <a href="https://www.smartkarma.com/profiles/supun-walpola" target="_blank" data-smartkarma-citation="accounts:1650" rel="noopener">Supun Walpola</a> ​at <a href="https://www.smartkarma.com/companies/lightstream-research" target="_blank" data-smartkarma-citation="companies:909" rel="noopener">LightStream Research</a> ​</p>
</div>
<ul>
<li>In this Smartkarma Original, we provide a guide on short-sell strategies employed by short-sellers to identify, analyse, and subsequently target companies. We also provide our recommendations to companies to prevent, detect, and combat short-sell attacks.</li>
<li>We believe companies whose share prices have increased significantly within a short period of time and whose valuations are at significant premiums to their peers become vulnerable for short-sell attacks. The share price of the short-sell targets in our sample increased by 89.2% on average from its 52-week low to the date of release of the short-sell report. The EV/Revenue, EV/OP, P/E, and P/B multiples of the short-sell targets in our sample were at premiums of 241.2%, 37.6%, 42.5%, and 118.7% on average over their peers, respectively.</li>
<li>Short sellers also seem to target companies that significantly outperform their peers on operating matrices. Short-sellers imply that such outperformance is due to fabricated results. The OP margin of the short-sell targets in our sample were around 4.5x higher than their peers.</li>
<li>It is conventional wisdom that insiders cash-out when they are no longer confident about the prospects of the company. Short sellers try to exploit this idea and are often on the lookout for instances where insiders are continuously cashing out, either by way of selling their stake in the company, or through back door transactions like share pledges, collar transactions, and high levels of compensation.</li>
<li>Short-sellers show no mercy when it comes to questionable or complex corporate structures like VIE arrangements either. Short-sellers are of the view that such dubious corporate structures enable companies to round trip revenue and assets to fabricate financial results. Short-sellers are also on the lookout for suspicious M&amp;A transactions with related parties, particularly overvalued asset sales to and undervalued asset purchases from insiders.     </li>
<li>When a company fakes revenue or profit at the income statement level, it leads to a fake cash problem, i.e. the company then has to forge significant cash balances to match its inflated profit. Short sellers believe that inflated capex or R&amp;D expenses are helpful tools to burn fake cash as these expenses often do not raise any suspicion if they do not generate instant returns.</li>
<li>Short-sellers also seem to target companies and insiders that historically have a bad reputation. We also came across several instances where short-sellers have questioned the track record of auditors, underwriters, and appraisers that were employed by the target companies. Short-sellers also consider frequent auditor changes and audit fees that are either too-high or too-low as red-flags.</li>
<li>Short-sellers regularly keep an eye out for companies with weaker corporate governance practices. However, some of the cases that we came across in our research suggest that traditional corporate governance matrices have limited relevance in exposing fraudsters in this day and age. Short-sellers now seem to question the true “independence” of independent directors and are sceptical about companies with high board turnover.</li>
<li>A short-seller can identify a plethora of red-flags for a company, but a short-sell attack is seldom successful without any smoking-gun evidence. Therefore, short-sellers often thrive on finding that one key piece of evidence that would make their thesis irrefutable. In most of the cases we looked at, this smoking gun evidence has come in the form of alternative filings, which include the likes of filings with the local regulators, credit reports, and tax filings. Short sellers have often used these alternative filings to reconcile reported financials and in some cases to trace the “true” ownership of assets.</li>
<li>We believe recent short-sell reports on <a href="https://www.smartkarma.com/entities/luckin-coffee-inc" target="_blank" data-smartkarma-citation="entities:28046:1" rel="noopener">Luckin Coffee (LK US)</a> and <a href="https://www.smartkarma.com/entities/gsx-techedu-inc" target="_blank" data-smartkarma-citation="entities:28069:1" rel="noopener">GSX Techedu (GSX US)</a> raise the bar for modern-day short-sellers. The anonymous short-sell report on Luckin was backed by 11,000+ hours of store traffic video and 25,000+ customer receipts while Grizzly’s short-sell report on GSX Techedu used a variety of alternative data sources such as customer reviews, web traffic, keyword search results and app rankings as smoking-gun evidence.</li>
<li>Short-seller attacks have become part of today’s investment world and companies should learn to co-exist with them and more importantly, to defend these attacks, companies should have a plan in place while strengthening their fundamentals and improving corporate disclosures.  </li>
<li>In order to prevent short-seller attacks we recommend companies to 1) be honest about any errors and make due restatements to reported financials, 2) adopt conservative accounting practices, 3) avoid providing aggressive earnings guidance, 4) provide detailed disclosures when deviating from accepted accounting standards, 5) avoid withholding or delaying bad news such as product failures, litigation, profit warnings, layoffs, etc. from the market, 6) improve corporate governance measures, 7) and improve company disclosures particularly regarding company acquisitions, divestitures, and capital investments.</li>
<li>If a company has always been committed to providing complete disclosures and its shareholders are kept informed about both good and bad news regarding a company, the best way to approach the shorts may be to completely ignore them. However, a company should respond to a short sell attack if the allegations laid out by the shorts were unreasonable or misleading or if it is impacting the company’s valuation.</li>
</ul>


This insight has been produced jointly by Shifara Samsudeen, ACMA, CGMA ​and Supun Walpola ​at LightStream Research ​


In this Smartkarma Original, we provide a guide on short-sell strategies employed by short-sellers to identify, analyse, and subsequently target companies. We also provide our recommendations to companies to prevent, detect, and combat short-sell attacks.
We believe companies whose share prices have increased significantly within a short period of time and whose valuations are at significant premiums to their peers become vulnerable for short-sell attacks. The share price of the short-sell targets in our sample increased by 89.2% on average from its 52-week low to the date of release of the short-sell report. The EV/Revenue, EV/OP, P/E, and P/B multiples of the short-sell targets in our sample were at premiums of 241.2%, 37.6%, 42.5%, and 118.7% on average over their peers, respectively.
Short sellers also seem to target companies that significantly outperform their peers on operating matrices. Short-sellers imply that such outperformance is due to fabricated results. The OP margin of the short-sell targets in our sample were around 4.5x higher than their peers.
It is conventional wisdom that insiders cash-out when they are no longer confident about the prospects of the company. Short sellers try to exploit this idea and are often on the lookout for instances where insiders are continuously cashing out, either by way of selling their stake in the company, or through back door transactions like share pledges, collar transactions, and high levels of compensation.
Short-sellers show no mercy when it comes to questionable or complex corporate structures like VIE arrangements either. Short-sellers are of the view that such dubious corporate structures enable companies to round trip revenue and assets to fabricate financial results. Short-sellers are also on the lookout for suspicious M&amp;A transactions with related parties, particularly overvalued asset sales to and undervalued asset purchases from insiders.     
When a company fakes revenue or profit at the income statement level, it leads to a fake cash problem, i.e. the company then has to forge significant cash balances to match its inflated profit. Short sellers believe that inflated capex or R&amp;D expenses are helpful tools to burn fake cash as these expenses often do not raise any suspicion if they do not generate instant returns.
Short-sellers also seem to target companies and insiders that historically have a bad reputation. We also came across several instances where short-sellers have questioned the track record of auditors, underwriters, and appraisers that were employed by the target companies. Short-sellers also consider frequent auditor changes and audit fees that are either too-high or too-low as red-flags.
Short-sellers regularly keep an eye out for companies with weaker corporate governance practices. However, some of the cases that we came across in our research suggest that traditional corporate governance matrices have limited relevance in exposing fraudsters in this day and age. Short-sellers now seem to question the true “independence” of independent directors and are sceptical about companies with high board turnover.
A short-seller can identify a plethora of red-flags for a company, but a short-sell attack is seldom successful without any smoking-gun evidence. Therefore, short-sellers often thrive on finding that one key piece of evidence that would make their thesis irrefutable. In most of the cases we looked at, this smoking gun evidence has come in the form of alternative filings, which include the likes of filings with the local regulators, credit reports, and tax filings. Short sellers have often used these alternative filings to reconcile reported financials and in some cases to trace the “true” ownership of assets.
We believe recent short-sell reports on Luckin Coffee (LK US) and GSX Techedu (GSX US) raise the bar for modern-day short-sellers. The anonymous short-sell report on Luckin was backed by 11,000+ hours of store traffic video and 25,000+ customer receipts while Grizzly’s short-sell report on GSX Techedu used a variety of alternative data sources such as customer reviews, web traffic, keyword search results and app rankings as smoking-gun evidence.
Short-seller attacks have become part of today’s investment world and companies should learn to co-exist with them and more importantly, to defend these attacks, companies should have a plan in place while strengthening their fundamentals and improving corporate disclosures.  
In order to prevent short-seller attacks we recommend companies to 1) be honest about any errors and make due restatements to reported financials, 2) adopt conservative accounting practices, 3) avoid providing aggressive earnings guidance, 4) provide detailed disclosures when deviating from accepted accounting standards, 5) avoid withholding or delaying bad news such as product failures, litigation, profit warnings, layoffs, etc. from the market, 6) improve corporate governance measures, 7) and improve company disclosures particularly regarding company acquisitions, divestitures, and capital investments.
If a company has always been committed to providing complete disclosures and its shareholders are kept informed about both good and bad news regarding a company, the best way to approach the shorts may be to completely ignore them. However, a company should respond to a short sell attack if the allegations laid out by the shorts were unreasonable or misleading or if it is impacting the company’s valuation.


Short-Sell Strategies – How to Get Teflon Coated?

United States

WageWorks, Inc. provides tax-advantaged programs for consumer-directed health, commuter, and other employee spending account benefits, or CDBs, in the United States.  The Company operates spending account management programs such as health and dependent care Flexible Spending Accounts (FSAs), Health Savings Accounts (HSAs), Health Reimbursement Arrangements (HRAs, and transit programs.

Wageworks Inc (WAGE US)

Short-Sell Strategies – How to Get Teflon Coated?

This insight has been produced jointly by Shifara Samsudeen, ACMA, CGMA and Supun Walpola at LightStream Research In this Smartkarma...

Supun Walpola

Short-Sell Strategies – How to Get Teflon Coated?

This insight has been produced jointly by Shifara Samsudeen, ACMA, CGMA ​and Supun Walpola ​at LightStream Research ​ In this Smartkarma...

Supun Walpola

This insight has been produced jointly by Shifara Samsudeen, ACMA, CGMA and Supun Walpola at LightStream Research In this Smartkarma...