The US short seller who caused Quindell huge problems five years ago has weighed in on Burford Capital too, describing the litigation funder as “inappropriately financed”.
Daniel Yu, founder of Gotham City Research, also argued that short sellers were “important players in fulfilling justice”.
Burford’s share price dived last week after US short seller Muddy Waters Research published a highly critical 25-page report on its accounting and governance policies – with a notable focus on it writing up the value of cases before they conclude – saying it was “arguably insolvent”.
The shares bounced back to some extent following a robust response from the company.
Gotham City’s dossier on Quindell in April 2014 triggered a crisis at the then alternative business structure that ultimately led to its controversial deal with Slater & Gordon, and all the knock-on problems that caused.
Mr Yu has not issued a dossier on Burford but published a statement saying that Gotham shorted its shares last year but decided not to publicly share its findings.
“I am of the view that it is foolish to own shares at a meaningful premium to book value per share,” he said, citing three reasons.
- “I believe that high-growth financial companies, whose markets values trade at extreme premiums to book value, tend to experience disappointing returns, over the long term”;
- “Burford shares and litigation finance exhibited signs to us, last year, of being in the bubble stage of a multi-year boom/bust cycle”; and
- “I don’t think Burford is able, in coming years, to consistently deliver sufficient returns on capital that would merit a meaningful premium to book value per share. If I am wrong, and the company is able to grow book value per share at a sufficiently high growth rate, its shares will rise, and the company will have earned it.”
Mr Yu argued that public scrutiny of Burford was “long overdue” given how it has been able to raise “cheap public capital” and enjoy an “absurdly high valuation”.
Though commending Burford for rapidly putting together an investor and analyst conference call last Thursday in response to the Muddy Waters report, Mr Yu said he found some of its responses concerning.
This included what he paraphrased as Burford’s “we are lawyers, therefore (by inference) we are trustworthy” statement.
“[This] was very disturbing. When questions about dishonesty are met with ad hominem, appeal to authority responses, the risk of deception is high, according to former CIA/FBI intelligence officials.”
He continued: “We think Burford is inappropriately financed. Litigation assets – whose associated cash flows’ size and timing are notoriously unpredictable – should not be financed with debt. This poses a real risk of an eventual asset/liability mismatch nightmare.”
Mr Yu urged Burford to view the current scrutiny as “an opportunity to improve its disclosures and governance”.
He added: “Companies do not fail because of short sellers; I have not heard of a single example where that has been the case.”
He hit back at Burford’s counterattack on short sellers. “These knee jerk reactions miss an inconvenient truth: short selling serves an important role in the fulfillment of justice, as does litigation finance.
“Practitioners of justice, whether they are market participants or legal professionals, should therefore react to scrutiny with humility and grace, especially when there are matters of public interest involved.
“What is activist short selling? Activist short selling is nothing more than the marriage of short selling and free speech. Activist short sellers are profiteers, but so are litigation financiers (and all other corporate actors).
“Just because a profit motive drives both short selling and litigation finance, does not mean there are no public benefits resulting from both activities.
“I believe that activist short sellers throughout history have furthered justice by providing the public with new and often contrarian opinions and facts – usually at significant personal, reputational, legal, and financial risk – information that the public would otherwise not be privy to.”