Book Review: David Einhorn's 'Fooling Some of the People All of the Time'

One of the tangible things (and there were also a multitude of valuable intangibles) we walked away with from the Value Investing Congress West was a copy of David Einhorn's new book "Fooling Some of the People All of the Time". A long wait at LAX before a Wednesday night redeye back to Philly left plenty of time to crack open Einhorn's 379 page work. Unfortunately, once I started reading, I could not put it down.

Einhorn presents a very detailed account of financial shenanagins happening within Allied Capital (ALD), a midcap darling of the high yielding, rising dividend "subculture". Seems that, among other transgressions, the investment company was very reluctant to mark down securities (primarily debt)on its balance sheet that were impaired. Instead of being marked to market, these were "marked to fantasy".

What you will find within the pages of this book will blow you away. This is a tale of deceit, fraud, misrepresentation, cloak and dagger antics, millions amd millions of wasted taxpayer dollars, and an unbelivable amount of effort expended by Einhorn and others to bring it all to light. Unfortunately a mounting pile of evidence still falls on deaf ears--far longer than you'd imagine in the post-Enron, Sarbanes Oxley world of today.

Einhorn often takes his lumps in the press for being a hedge fund manager and short seller, (which comes with the territory), and he's been short Allied for years. But don't let that cloud your judgement as to his motives for writing this book: all profits from it's sale, as well as any from his Allied short positon are going to charity.

Einhorn's attention to detail is one of the great attributes of this book, plus he's got a great "voice". This book may go down as one of the classic financial forensics books of our time. CFA wannabe's would do themselves a great service by giving it a read--its a great testament to the propensity of many a modern day analyst to stop well short of the in-depth analysis many aspire to provide.

The Allied Capital story is not over yet, but thanks to David Einhorn for having the guts to bring us in on what's transpired to date. Of course Allied Capital will tell you a much different story--I'm waiting for their book.

I've never met David Einhorn, have never spoken with him, just traded a few emails. (we tangled over a piece we published on St. Joe's back in August. Einhorn believed his analysis had been misquoted, and we subsequently published his response). But I could not walk away from this book without believing that Einhorn has a great deal of character. The fact that he's a hedge fund manager, or profits from short sales do not diminish that character.

Disclosure: The author does not have a position in Allied Capital, long or short. This is neither a recommendation to buy or sell any securities. The author will not trade any of the securities mentioned (buy, sell, short) for at least two weeks following the date of this post.

Comments

[Stevesvt]

I know this is a very old article, but I must read this book. In today’s market I’m concerned these shenanigans may be going on today by many of these high yielding BDCs (and non-BDCs). I generally look for investments that yield more than any US Treasury note or bond will yield and I believe in this decade dividend stocks will perform well. That being said I’ve never invested in any BDC, although sometimes the temptation does arise. Something always stops me, however. That often repeated, for good reason, line “if it is too good to be true..” rings in my mind. I’m curious on your thoughts after more than a decade and wonder if this problem is yet unnoticed, but remains esp. in a market in turmoil. Thank you for the article.

[Jesse Darvas]

Seems to me Einhorn is finally vindicated. Just get a look at their recent stock chart. If he has kept his short position, he should have done nicely in the past two months.

[BlueDome]

Has anyone added up the capital that ALD has raised in the last 10 years, and then added up the dividends that it has paid, and compared them? And what are the Sales it reports?

I have to say, if it was easy to return 18%, a lot of companies would be doing it. It suggests "too good to be true".

[paulibloom]

The fact is the Einhorn was completely wrong period-full stop. During the intervening years, ALD has increase the dividend, and created a multi earnings backlog. Goldman Sachs and GE decided to be partners. The rest of this asset value stuff is a waste of time for Wall Street fools. Cash and cash flow are all that count-and ALD has increased that without mirrors. The incredible stupidity of Einhorn is that he does not recognize great investors who have outlasted everyone. Cash is always king and always wins-keep the dividends coming. It is amazing how many people are fooled by these arcane but baseless discussions.

[ShuddaCuddaWudda]

Bravo Patrick1980S for completely debunking the Ponzi scheme myth!

To help foster employment, BDCs were established by Congress to provide funding to smaller and newer businesses that aren't well connected to financiers who only support the corporate elite.
BDCs like ALD and ACAS support the employers of hundreds of thousands of workers.

Further, by being publicly-held, these BDCs offer the small investor an opportunity to participate in financial successes that are usually reserved for big-time-operators.

We know what the shorts gain. but what does the USA gain by destroying these BDCs?

[Turn55]

The real facts remain after all these years. He can't adequately convince enough people to destroy these companies by shorting the ALD stock into the ground. Poor baby. Get a real job.

[Patrick Harden]

I have not read Mr. Einhorn's book, so I can't comment as to the allegations therein. However, I can provide some relevant facts about Allied Capital. Allied Capital is a Unit Investment Trust eligible under Regulation M of the Internal Revenue Service to pass capital gains, dividends, and interest earned on fund investments directly to its shareholders to be taxed at the personal level. To qualify as a regulated investment company, the fund must meet such requirements as 90% minimum distribution of interest and dividends received on investments less expenses and 90% distribution of capital gain net income. To avoid a 4% excise tax, however, a regulated investment company must pay out 98% of its net investment income and capital gains.

Per Allied's tax information, the dividends it has paid have been either ordinary taxable income or capital gains -- not a return of capital. For Allied to truly be a Ponzi scheme, its dividends would have to be a return of capital.

In addition, regulated investment companies must have a debt-to-equity ratio of no greater than 1:1. As a result, Allied must consistently do secondary offerings in order to increase the amount it is able to borrow to grow its portfolio.

[voiper613]

I know this is an old comment.. but... read the book.
ALD had minimal cash flow, so they sold more stocks. In time, they sold their winning investments for capital gains.

Along with all the illegal manipulative accounting fraud (mark-to-fantasy) and tremendous fraud costing tax payers hundreds of millions, it's terrifying that the SEC basically did nothing.

You can start by watching his speech that started it all here: http://bit.ly/13ue9WS

[jamookey]

Read the insider trades on ALD.That says more than Einhorn does about this company.Could be HE can't read complex financial reports.I suppose the officers at GE Finance are also fools..not!He gambled and lost.It happens all the time.

[fxtrader07]

Einhorn is not criticised for being a short ora hedgefund´guy. both is legitimate.
He is criticised for spreading false allegations, bashing companies, teaming up with other hedgefund managers in short attacks on genuine companies and influencing the media to foster his positions. very similar to the job ackman did with MBI/ABK - even down to the "charity" boolahoo.
The author of the article is naive at best.
The book's title says it all: "fooling some of the people all of the time" - people like the author obviously like getting fooled by the Einhorns, Ackmans and Rockers of the world all of the time.

[OGIL]

HOW DOES MR EINHORN FEEL ABOUT MANAGEMENT HAVING A LARGE
POSITION IN ALD AND THEIR WILLINGNESS TO ADD TO THESE POSITIONS

[qi_y0]

einhorn is always talking his book-- ald has been perhaps the preeminent v/c firm for 40 years. ald was successful when einhorn was in diapers. finally, the author should look into einhorn's involvement with subprime debt and especialy new century -- now that's the enron equivalent.

[kctri]

I agree with pvnotes. The people commenting on this article have either 1) never read the book 2) have bought into the Allied spin (or more likely work within the company) or 3) don't have the capacity to understand complex financial analysis. Just because a company pays a dividend doesn't make it a solid company especially if the company is issuing new equity to pay those dividends.

[pvnotes]

I just finished the book and was really taken by it. David Einhorn has written one of the best and most entertained investment books I've ever read.

I think you're seeing the Allied response (in real time) - just look at the first 4 replies to this blog - all clearly written to the Allied "trash the messenger" script, but with no answer to substance of Mr. Einhorn's book - that Allied is paying dividends out of new investors money - the classic Ponzi scheme but with a lot more complexity wrapped around it.

[IPAYMYTAXES]

David Einhorn has a long history of driving good companies into the ground. Allied Capital has been paying dividends since before the shortselling poker gambler boy wonder was born. What his book should advocate for is the elimination of all shortselling and naked shortselling that leads to unfair stock price manipulations. How can this author believe a gambler who makes his living by lieing in cards and stocks ? Even the ACAS CEO said ALD was an above board company. Who are you going to believe a professional lier or a company paying divdends since the 1950's ?

[Trader Joe]

It has always appeared to me that Einhorn's comments and research have the extreme bent to the short side ... after all heis short ALD and is self serving on any negative comments. His book is just that, very self serving and is just a bunch of bunk.

[User 192524]

Clyde Milton doesn't have the guts to put nis name to this. What a shill.

[Toeser]

The author appears to have bought Einhorn's self-serving ongoing smear of ALD hook, line, and sinker. In the last 10 years, ALD has paid out MORE in dividends than it's current share price. How does that make in Enron? They perhaps did engage in some "beneficial" accounting, but dividends are real. ALD is no Enron.