- KiOR was a short recommendation that fell 99%.
- Insights on what made KiOR a compelling short are below.
- And whether or not KiOR is still worth shorting.
(Editor's Note: Edward Schneider's Oct 7, 2011 article on KIOR was selected for an Outstanding Performance Award.)
KiOR (NASDAQ:KIOR) is a renewable energy company attempting to convert wood chips into petroleum on a high-volume basis. In October 2011, I recommended shorting KiOR at $16.91 in an article entitled KiOR: $1.7B Market Cap With No Revenue. Since then, KiOR stock fell 99% to $0.24 today.
KiOR was a compelling short for a few reasons. First and foremost, a $1.7B market cap with no underlying revenues made KIOR stock an attractive short on a fundamental basis. Secondly, KiOR required over $1B in more capital to move to high-volume production; a recipe for massive shareholder dilution and/or debilitating debt. Third, technical challenges made it highly unlikely that KiOR's conversion process would ever achieve yields close to those of crude oil, thereby debunking pie-in-the-sky sell-side analysts' estimates and other bullish views.
Today, KiOR is on the verge of bankruptcy. The company defaulted on a loan payment to the state of Mississippi on June 30, 2014. A few weeks later, KiOR entered into a Protective Advanced Loan and Security Agreement with KFT Trust, Vinod Khosla Trustee. According to KiOR's 8-K SEC filing on July 17, 2014:
The Protective Advances will be used to i) preserve, protect and prepare for the sale or disposition of KiOR's collateral under the Protective Advance Agreement or any portion thereof, and ii) enhance the likelihood and maximize the amount of repayment of KiOR's Existing Secured Obligations and the obligations secured under the Protective Advance Agreement.
Thus, KiOR's 50%-owner chose to avoid equity and instead purchase a senior loan of last resort; hoping to pick-up as much of KiOR's assets as possible in an anticipated bankruptcy/asset disposal.
Short interest on the stock went from 3M three years ago to 20M today. Initially, the shares were hard to borrow at high interest rates. But as the stock price crashed, so did the effective interest rate that was paid. For example, even if the borrow rate was unchanged at 30% per annum, the effective rate at $5 is only 9% if the shares were shorted at $17 (30% x 5/17). To short the stock today, however, the borrow rate of 106% per annum is at the high-end of its wide historical range (and prime brokers round penny stocks' borrow cost-basis to at least $1, an effective rate of 442% at the current stock price).
Given KiOR's high short interest, very expensive borrowing cost, and current market cap of only $27M (albeit an EV of $256M), the stock is no longer an ideal short. Stub equity values in bankruptcy proceedings can be unpredictable sometimes. I lost money a few years ago on the Nextwave Wireless bankruptcy proceedings. Also, if KiOR stock stops trading, and short investors are locked in at high borrowing costs, this could be another source of losses. While KiOR stock looks like it will continue to decline in the short term, it may not be worth holding KiOR short to the very end.
Finally, I recommend that readers review the above-mentioned KiOR article and back-and-forth commentary. This provides a glimpse of how hype and false assumptions created a great shorting opportunity. As an aside, investors should be wary of bullish sell-side research of public venture companies. Despite Chinese Walls that supposedly exist between investment banking and research activities, brokers remain conflicted, especially in the case of a high-stake client like KiOR.
Editor's Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.