Fraud, Energy Bankruptcies, And Election Shenanigans - Bezek's Daily Briefing

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Includes: AZUR, BAP, CHK, EGC, GRAM-OLD, KNDI, PLUG, UNXL, USO, WATT
by: Ian Bezek

Summary

Uni-Pixel gets busted by the SEC. What can investors do to avoid the next one?

The floodgates of energy bankruptcies may be about to open.

Peru's democracy takes a step in reverse. Should investors panic?

Today's Briefing will focus on a few quick takes on stories I've found interesting. The markets were pretty quiet on Wednesday. Apart from the usual volatility in oil (NYSEARCA:USO), there wasn't a whole bunch going on. So let's take a tour around some interesting stories.

Unipixel Reminds Us: Frauds Exist

If you read about popular story stocks here at Seeking Alpha, you'll run into messy comments sections. Particularly for small companies that seem like a David with a technology that could potentially unseat a Goliath of the tech space, these sorts of debates tend to get nasty.

I'm not casting judgment on these stocks, positive or negative. I'd just note the likes of Kandi (NASDAQ:KNDI), Energous (NASDAQ:WATT), or Plug Power (NASDAQ:PLUG) that make really bold claims and have rabid fan bases and equally aggressive detractors.

The owners of these stocks often believe firmly in the company's story, and take it as an almost personal affront if someone suggests that the company's management is up to no good.

Having spent much of my life in investing, turning over stones looking for shady companies to short, I can tell you there're more bad actors out there than you'd think. Normally it's hard to show this publicly, since people tend to complain when you say mean things about management. Short sellers will often make successful investments without exposing the fraud broadly to avoid public scrutiny.

So when a clear example of fraudulent behavior appears like Uni-Pixel (NASDAQ:UNXL), it behooves me to share it.

A few years back, Uni-Pixel shares ran up from $5 to $40 on an aggressive promotional campaign that highlighted the company's allegedly game-changing touchscreen technologies.

UNXL Chart

UNXL data by YCharts

Problem was, the company's technology didn't actually work. A small detail, perhaps. The SEC complaint goes as follows:

The SEC alleges that Uni-Pixel Inc. began publicly touting sales of a touchscreen sensor product supposedly in speedy high-volume commercial production when in fact only a few samples had been manually completed. The misrepresentations caused Uni-Pixel's stock price to more than double, enabling then-CEO Reed Killion and then-CFO Jeffrey Tomz to make more than $2 million in personal profits from selling their own shares of company stock. Killion and Tomz allegedly knew the company's statements were untrue and Uni-Pixel's manufacturing process was still incapable of mass producing commercial quantities of sensors.

That's right, there are in fact shady management teams that will blatantly lie about their technology in order to pump up their stock and unload it on the naive public. When short-sellers allege dirty dealing, it's worth considering their claims rather than assuming management is honest just because they say so.

Furthermore, the SEC included this hilariously specific charge:

  • Uni-Pixel issued a press release in November 2013 touting a "purchase order" for its sensors that expected to ship an initial "commercial run" of sensors by year-end. The company concealed that the order was for a mere $10 worth of sensors for the customer to review as samples.

You read that right. According to Uni-Pixel's former management, an order for $10 of product was a "commercial run" of sales. Hang on a second, I'm going to sell a few tacos outside my apartment so I can demonstrate a "commercial run" of sales for my new fast casual restaurant concept. IPO coming soon.

As investors, the best defense is to be aware of the good and bad guys in the small-cap stock world if you are going to buy story stocks. Perhaps the best way is to go back to the Uni-Pixel article archives and see who repeatedly wrote up this company, and who was on the side of the truth.

I personally keep a list of authors associated with these sorts of companies. Any stocks they tout in the future I immediately view skeptically. I've found several great shorts and avoided many pumps and dumps from doing so. Equally, the short sellers, such as Citron Research, that had the courage to call out Uni-Pixel get additional respect.

I'd encourage everyone to go back and read Richard Pearson's timeless article on how small-cap stock pump and dump occurs in practice. There's a lot more smoke and mirrors in microcap stocks than we might wish to admit. If you're going to venture into the space, educate yourself.

Here Come The Energy Bankruptcies

Remember how the recent run in oil sent energy shares up two or threefold over the past week? As though a small bump in one of the energy commodities would save a sector so over its head in debt.

Wednesday was an unpleasant day for the energy optimists. Even though the zombie energy companies largely resumed rallying, there were some cracks in the facade.

Azure Midstream (NYSE:AZUR) fell 35% after delaying its earnings release and admitting that it may breach the restrictions on its credit facility as soon as the end of this quarter.

AZUR Price Chart

AZUR Price data by YCharts

The hope-based rally of the past few days will give way to the crushing weight of reality for many of these energy stocks. Take a good look at that chart, since you'll be seeing it play on repeat.

Today's imploding energy stock may well be Energy XXI (NASDAQ:EXXI). Energy XXI ripped from 40 cents to over a buck over the course of the past week for no discernible reason. The company has already missed an interest payment and it appeared almost inevitable that the company would end up in bankruptcy. Yet the stock did this:

EXXI Price Chart

EXXI Price data by YCharts

That party came to a deafening end Wednesday evening, as Reuters reported the company may declare bankruptcy as soon as next week. According to the report, the company needs $60 barrel to break even; whether oil is at $28 or $38 really doesn't matter much.

Energy XXI's bankruptcy would mark the second largest thus far of the energy bust. Shares dropped as much as 40% in the after hours session though they've started to rally off the worst levels at the time of this writing.

Importantly, the company noted that it may have to sell assets at less than book value. This seems obvious, but appears to be a fact missed by many energy bulls.

If you're long Chesapeake (NYSE:CHK), for example, with its book value well below negative $1/share, asset sales aren't an easy solution. Your only chance of having positive equity value in the future is your assets suddenly and rapidly gaining value.

By being forced to sell at a discount to book value, you're digging yourself into a deeper hole in terms of negative NAV per share, and you're reducing your leverage to whatever remaining upside there might be should energy prices rapidly turn.

Peru: Election Shenanigans

In this US presidential cycle, there's been plenty of jokes cracked about one of the candidates potentially being too Canadian to run. However, eligibility, which is mostly an aside in the US, has become a serious issue in Peru ahead of its presidential election.

Two of the leading four candidates were disqualified from the running Wednesday. The less important of these was Cesar Acuña. His campaign was already in the process of imploding. Acuña, it turns out, had allegedly plagiarised while writing his doctorate thesis on the topic of - and you can't make this up - education.

Acuña had been running as high as second, but his star fell after the allegations came public. His removal from the race won't matter too much.

However, his place in second was taken by rising star Julio Guzman. Guzman, while still trailing the frontrunner 35-16, had pulled into a clear second place and had momentum.

But the electoral court disqualified him as well. He was disqualified because his party allegedly failed to follow procedure while nominating him. The party vigorously denied any wrongdoing.

It appears to set a very bad precedent for Peru going forward. Reuters had the following quote:

"No modern democracy excludes major presidential candidates...for breaking minor rules," said Harvard University political scientist Steve Levitsky. "It's a horrible precedent."

For us investors, the immediate upshot is that Keiko Fujimori is likely to win in a landslide in next month's election. She is the daughter of currently in jail ex-president Alberto Fujimori. Like her father, many observers expect a corrupt but mostly pro-business government under her rule.

That's fine as far as investing climate goes. But it does put Peru back on the path toward a less credible country for serious investors going forward. And the way in which she'll have won - by knocking out her main competition on a technicality - will raise eyebrows as to the quality of Peru's democracy.

I own shares in Credicorp (NYSE:BAP), the country's leading bank, along with engineering firm Graña y Montero (NYSE:GRAM-OLD). I won't be selling on this news, a Fujimori government isn't a terrible development in a strictly investing sense.

But it's a real and tangible step in reverse for the country that had been tentatively following in Chile's admirable footsteps. As longtime readers know, I view Chile and Colombia as the only high quality economies in South America. Peru isn't anywhere near as bad as, say, Argentina, but it's not ready to be part of the top tier either.

Disclosure: I am/we are long GRAM, BAP.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Short CHK.

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.