Alpha exposure recently penned an apparently well researched article about Eros International.
Alphaexposure in his bias as a professional shorter left out many important facts which we list below for an independent review of the merits of Eros and Alphaexposure's analysis.
This post has three sections:
- Listing a number of facts AlphaExposure has not mentioned
- Evaluating AlphaExposure's assertions
- Determing whether Eros is a valueless or valuable company
We took some time to consider AE's accusations and list our thoughts below:
A. Let's acknowledge a few key items AlphaExposure conveniently chose to ignore.I. AlphaExposure conveniently neglects to mention that Eros produced Bajrangi Bhaijaan, the Biggest Blockbuster of 2015 and 2nd Highest Grossing Bollywood Film Ever at $92 Million in Gross Revenues
- Bajrangi Bhaijaan - an all time Indian hit - a record gross of Rs 600 crores - that's $92 million
- Cost of production - Rs 55 crore, Cost of marketing - Rs 20 crore. Total: Rs 75 crore
- India theatrical box office: Rs 311 crores as of Aug 11th
- Distributor's take: Rs 139 crore
- Overseas theatrical box office: Rs 167 crores
- Distributor's take: Rs 83 crores
- Music, Digital and ancillary: Rs 15 cr
- Satellite: Rs 50 cr
- India theatrical box office: Rs 311 crores as of Aug 11th
- Total Recovery: Rs 139 + 83 + 15 + 50: 287 crores - 75 crores = Rs 212 crores / $32 Mil.
- ROI 212/ 75 = 283%
II. AE conveniently neglects to mention that Eros also produced the 2nd Biggest Blockbuster of 2015 : Tanu Weds Manu II, an instant Comedy Classic
- Tanu Weds Manu II is a comedy classic with huge re-run potential
- Cost: 30 crores
- Income: 150 crores
In addition, Badlapur and NH10 were two additional hits during the year and Eros had a fantastic year.
- Badlapur - Rs 24 cr in 1st weekend - grossed $7.6 million
- NH 10 - a surprise hit that grossed $4.8 million
III. AlphaEx further neglects to mention Eros is releasing Bajirao Mastaani - another likely blockbuster in the 4th Quarter 2015, creating the possibility of another $25 Million+ BlockbusterLet's acknowledge Eros has knocked it out of the park this year.
Eros has a strong movie pipeline with superstars and a track record of huge success. This is the positioning that NetFlix wants to move into but is nowhere near doing so. Eros has the expertise and relationships to collaborate, produce, market and distribute in India and globally.
IV. Eros Uses a Risk Mitigating, Profit Sharing model with Actors & Directors, creating Motivated Partners and Huge HitsWhen Eros wins, it wins big. When it loses, it loses small. The essence of smart investing.
Eros enters into agreements with directors and actors to share profits on a 50/50 to 90/10 basis depending on the actor / directors popularity / pull. Baajiaro Mastaani has a budget of only 100 crores as a result of profit sharing deals. So it's almost guaranteed to be a great return for all parties.
Eros' revenues and business model are plainly confirmed by box office receipts and confirmations provided by counterparties. There's over $100 Million in Revenues and great Profit Margins. So let's not confuse this real business, with actual box office receipts, with an Enron that was essentially a trading company.V. ErosNow, the streaming venture, in any conservative analysis, can frankly be valued at Zero.
Eros does not want to become NetFlix. So let's forget about number of subscribers, pricing, subscriptions. Eros is a $150 Million dollar Exclusive Content Production House right now. Any revenues from ErosNow are incremental.
I have no idea why Alphaexposure is fixated on ErosNow. He needs a reason to bash Eros I would presume. True, management has been hyping itself as the Bollywood Netflix but that's not really the case. Eros is a $200 Million production, distribution powerhouse with a large library of exclusive content and the ability to produce successful Bollywood Blockbusters.
ErosNow is a business with a zero valuation right now.
NetFlix recently stated they are moving into the content business. Eros is already in the content business, owning a major content library comprising 2,000 plus films. Why is alphaexposure obsessed about ErosNow streaming? Eros is a movie producer, distributor and content aggregator, with plans to add streaming to the mix but no dependence on streaming revenues.
VI. Eros has grown Net Gross Revenues from $1.38 Million in 2008 to $112 Million in 2015 YTD
These Aren't Accounting Tricks, It's Box Office Receipts
This data is from the website listed below that tracks gross box office collections
B. Let's look at Alphaexposure's claims, item by item:I. AlphaExposure Claim: "Due to aggressive accounting practices, EROS' reported earnings are significantly overstating the economic reality of its business model."
First, the business reality is that Eros has grossed over $100 Million this year from a very modest start of $1.3M in 2008. The timing of accounting cash flows and accruals has no impact on the actual dollars earned, so what we're disputing is the aggressiveness of the amortization cycle.
Alphaexposure says "EROS' accounting policy for amortization is more aggressive than its U.S. peers despite the fact that piracy more meaningfully impairs the longer term value of EROS' assets".
Eros may use an "aggressive" policy with respect to other studios, but is within the norms of accounting standards and not in violation of them. AlphaExp offers no substantiation or proof of violation of accounting norms.
AlphaExposure's claim is that Eros spreads its amortization over 9 years and in so doing reduces it's expenses. His assertion of using a 3 year amortization is not reasonable. Due to a dearth of original content, many movies - especially hit movies - continue to be aired on Indian channels for years to come, way beyond the 3 years that AlphaEx expects. Indians love their movies, and love to watch them.
There are also many cinema halls that air historical releases at discount prices. The common man can only afford to watch these movies. An amortization where 50% is done in year 1 and 50% over the remaining eight years is more reasonable than a 3 year amortization cycle. AlphaExposure's claim is debatable.
India is a vast country with 1.2 billion consumers, 90% of which love movies. The possibilities for continual licensing revenues are endless.
Second, despite what AlphaExposure may believe, legitimate DVD rentals do occur in India. Not all content is pirated and legitimate dvd rental businesses do exist.
We can confidently state that AlphaExposure's assertion that Eros is overstating its operating profit is purely his opinion on his interpretation of accounting standards and Eros is within norms to do so.
Second, AE's assertion that EPS should be discounted as a result should be rejected outright.
II. AlphaExposure Claim: "EROS subsidiary financials reveal a lack of free cash flow and raise many questions about the company's accounting."
Alphaexposure claims that 100% of the revenue growth is coming out of the Middle East.
Let's assume he's right and invert his claim.
IF UAE revenues are fictitious then how does one explain that India revenues aredown year over year?
How can a company produce two of the biggest blockbusters of all time and 4 major hits this year, but show NO revenue growth in India?
Doing business in India is complex and full of regulatory hurdles. Dubai is a vastly more attractive domain to conduct business in.
Alphaview states: "the British Virgin Islands, Singaporean, and Mauritian subsidiaries show significant revenue growth"
Mauritius is a very, very popular entity that is used by hundreds of Foreign Institutional Investors to avoid onerous tax structures in India. It's a commonly accepted practice to route investments into India out of Mauritius. Ditto B.V.I, Singapore.
https://en.wikipedia.org/wiki/Mauritius_route - Avoiding double taxation, Mauritius is a channel used by foreign investors to invest in India.
Just because Alphaview does not understand business practices relating to India does not mean that they are illegal.
III. AlphaExposure Claim: "EROS enriches its family management team through related party transactions and by appointing numerous family members to management positions."
I would attribute this again to a cultural difference. In India, trust is an absolutely paramount issue. Promoters trust their family and relatives first. That the business performs should be an investor's concern. Businesses are handed over from generation to generation.
If AE can prove that nepotism has led to a decrease in shareholder wealth, he should provide proof.
There's nothing illegal here.
IV. AlphaExposure Claim: "EROS has numerous warning signs of poor financial controls, such as employing a tiny auditor for its most important subsidiaries."
Eros International is audited by the very reputed firm of Grant Thornton, a U.S. company that is probably one of the 10 largest auditors in the U.S. It ranks right up there with the Big Accounting Firms and has a solid track record.
Grant Thornton was paid hundreds of thousands of dollars for their audit service. They've signed off.
It's pretty convenient to pick on the smaller auditor. But again, it's an opinion that because the guy has a gmail address, he's not competent? AlphaEx just issues opinions, accusations, claims and questions. He thinks things don't look accurate. Where's any proof?
The size of the flows he disputes when converted to dollars amount to much smaller amounts in the range of a few million dollars and the reasonable thing would be to give the company a chance to clarify.
V. AlphaExposure Claim: "ErosNow is losing the battle for streaming movies in India and its position will only get worse because Netflix plans to launch in India."
Again, Alphaexposure gives absolutely no proof that this will be the case. Any rational investor would believe that a company with the control over content will carve a solid niche for itself and a company with access to relationships will eventually engineer exclusive arrangements. Eros says it has, with the exception of Star, which owns HotStar.
So we're supposed to believe the opinion of an anonymous poster who's probably never visited India, does not understand how business is done in India.
Finally, just because NetFlix will launch in India does not mean it'll succeed. Just look up the case of Walmart. It's launched in India over 5 years ago and it's done nothing. It would depend on expertise, content, relationships, resources and execution.
C. So Is Eros an Enron or Is This a Takedown?I. With major blockbusters, Eros' Revenues in 2015 have accelerated rapidly, with a corresponding rise in Receivables
With revenues tripling from CY 2014 to CY 2015, it would be a logical extension to expect receivables to increase.
Now if we are to believe Alphaexposure, then there is an issue with huge growth in UAE. What about no growth in revenues in India. Doesn't that seem strange that a company is releasing blockbusters and showing no growth in India revenues? Wouldn't it be plausible that the revenues are being booked in the UAE for tax haven purposes as Eros International is a foreign entity.
Generally, a foreign institutional investor investing in India would show growth in Mauritius revenues.
MNCs today domicile where it makes sense for profit maximization. To suggest that no other MNC is involved in similar practices is naive at best and a hack job at worst.
Alphaview conveniently forgets to mention that Eros has produced major blockbusters: Bajrangi Bhaijaan, Tanu Weds Manu II, NH10 and Badlapur, which would be 4 of the top 6 biggest hits in 2015.
Alphaview uses what ever facts that suit his hypothesis and makes lots of allegations without proof.
We agree that Eros may never be NetFlix. We think Eros is actually a content producer, distributor and aggregator, a far more valuable business model.
Whether ErosNow succeeds or not is pointless. Alphaview does not understand this simple fact that Eros' model is far better than being a simple streamer of music.
Some accounting issues have been raised. It would appear logical to wait for management to exit their quiet period and respond. However this is a concerted bear attack intended for personal gain.
Eros Worldwide FZ was incorporated in UAE June 2006, and owns the subsidiaries responsible for acquisition of content and distribution within India. So wouldn't it be logical to expect to see a significant rise in UAE revenues?
II. Some of Alphaexposure's accusations range from 7 years ago to 5 years ago
- "Prior to fiscal 2010, after the year of a film's release, the remaining capitalized film content costs were amortized evenly over a maximum of four years"
- "Dhrishti Creations: In 2011 and 2012, EROS licensed a large portion of its satellite TV syndication rights to Dhrishti,"
- "In April 2008, EROS PLC exercised a call option granted on June 27, 2006 to acquire Acacia Investments Ltd from a family trust. EROS has not taken a write down even though B4U significantly underperformed its business plan."
Just throw everything up, and hope it's gonna stick.
III. Eros is solidly positive on an Operating Cash Flow basis
As far as capex is concerned, we believe the results speak for themselves. Eros is moving into the big leagues and producing blockbusters and generating large profits.
We can think of another firm that's done very well for investors that constantly invested in itself and its business : Amazon.
IV. The Number of Indian Cinemas Is Growing Leaps & Bounds - It's an Enormous Market and Eros Is a Leader
Now that we've gone over each one of Alphaview's accusations, and not found a single shred of actual proof that Eros has acted illegally in any manner, let's go over the potential of Eros.
V. The average Net Revenue Gross Per Film Is Growing Exponentially Over the Past 5 Years
5 years ago, Bollywood insiders used to be happy with a Rs 10 Crore grossing film. Then the number went to Rs 25 Crores. In 2013, the magic number started hitting Rs 100 Crores. In 2015, we've started hitting Rs 500 - 600 Crore!
Eros, in 2015, is the dominant producer, distributor and content owner of Bollywood, partnering with the Khans.
India is a growing country and there isn't a lot to do here in the form of entertainment. Movies are religion. The quality of Indian cinema has improved by leaps and bounds and going to the cinema has become an enjoyable experience.
In 2016, we fully expect that a movie will gross Rs 1,000 Crore. Bollywood is targeting ever expanding markets.
India's poor and middle class are passionate about movies and because the quality of movies is improving constantly, Bollywood is in its prime.
Eros is better positioned to ride this wave than any production house. Eros has the expertise and now, the track record to produce Blockbusters.
VI. Global interest in Bollywood is growingBollywood's producing fresh, enjoyable fare and moviegoers are responding worldwide. With 1/4th the world's population watching Indian movies, that's a very large market and growing.So Should Eros Be Declared Worthless Just Because an Anonymous Guy Without Facts and No Proof Thinks So?
$100 million earned in Bajrangi Bhaijaan must have been fabricated? The 2nd largest grossing film ever.
Grant Thornton is clueless and has abdicated its responsibility despite earning millions in fees, but AlphaExposure got it right.
Superstars are willing to let Eros be their studio production house when they could easily produce movies themselves?
Eros has managed to convince Bollywood Actors to not get paid somehow?
Is $200 Million in Revenues a myth, India's box office collections reporting fabricated, news reports fabricated?
Eros is more like Disney than Netflix. It's a play on the growth of Indian movies. Eros produced 1 movie in 2008. Today it produces 65 - 70. Eros works on business models that minimize the upfront risk. So you're looking at a few movies that will be grand slam home runs, and a few that will lose 25% of the investment at worst.
Isn't that the PE model that has been used very successfully by Kleiner Perkins and others?
When did negative free cash flow become a call for bankruptcy. If so, then shouldn't Amazon have been dead a long time ago? Eros is strongly positive cash flow on an operating basis.
On the balance sheet, there's been no meaningful increase in current liabilities, while an increase in receivables would appear to be an expected outcome if a company is generating strong revenue growth.
Long term debt has grown 30% over 2 years, but one would argue that $237 million in debt for a company that will generate potentially $150 million in Operating Profits next year is not a cause for concern.
Alphaexposure attacks Eros on a growing content library. Again, assertions and accusations, but no actual facts.
Alphaexposure attacks Eros on transactions that occurred in 2011. Throw everything and the kitchen sink and hope a lot of it will scare most investors and let him rake in profits on his short positions.
B4U occurred in 2008. Dhristi in 2011.
Let's review AlphaEx's key assertions:
- Claim: "Due to aggressive accounting practices, EROS' reported earnings are significantly overstating the economic reality of its business model"
There's no evidence that Eros is involved in any illegal accounting practices. The economic reality of its business model is that revenues have grown 90 fold from $1.4 million in movie production to $150 million plus this calendar year. The company has a clear expertise and success track record, working with superstars and producing all time record breaking blockbusters.
- Claim: "EROS subsidiary financials reveal a lack of free cash flow and raise many questions about the company's accounting"
A lack of free cash flow does not a worthless company make. Already addressed. Nothing to add. It's an absolutely moronic statement.
- EROS has enriched its controlling family at the expense of shareholders through a series of related party transactions
Possibly, though again, no actual evidence has been provided.
- Claim: "ErosNow is poorly positioned to win the battle for streaming media in India and appears to have made meaningful misstatements to investors"
ErosNow is meaningless today in terms of a conservative investor's valuation model. It is a zero. Any success on ErosNow is gravy. The real value of Eros lies in content production, distribution, marketing, an exclusive content library, a track record for blockbuster success, an eye for producing superhits, relationships, experience. It would appear most Hollywood studios would kill for this kind of talent.
- Claim: "Based on the company's persistent negative free cash flow and growing debt and share count, we believe the stock is worthless"
Persistent negative free cash flow = worthless? Is Amazon worthless? Are firms funded by venture capitalists worthless? That's an asinine, moronic and idiotic assertion. It's an attempt by a vicious bear to spread fear.
Nor is debt growing alarmingly. Debt has risen 30% in 2 years, but Revenues are up and Eros is positioned for $100 million in revenues. Operating margins are extremely healthy.
Consider whether AlphaExposure provides a single shred of proof in their accusations? Most tellingly, they avoid mentioning that Eros just producted the 2nd largest grossing film in the history of Bollywood cinema and a host of other facts.
A reasoned analysis would have acknowledged the huge positives this company enjoys.
A coterie of shorts has engineered a panic. Panic induces flight or fight. Most investors get overwhelmed by the length of AlphaExpense's post and capitulate. Capitulate into selling. Fear often produces the wrong emotional response.
You can sell now and be the jackass and watch as these shorts book their profits while you'll have exited a dominant company with a huge loss due to a concerted and vicious attack.