I was enjoying a few moments of peace and quiet this Sunday afternoon (kid/baby asleep), catching up on some reading/current affairs and I came across a excellent post in my news feed from a former NYU Stern professor of mine – Aswath Damodaran – on Theranos. Really an inspiring guy, and his research and commentary on valuation is a must-read for any budding stock picker. If you want a nice background read on the general story of the company and the “nanotainer”, this WSJ article is very helpful too.
There is a lot in this article for ASX bioscience enthusiasts. I suppose it’s also heartening – in a peverse sort of way – to realise that even the US markets aren’t immune from companies taking everyone for a ride, even on a grand scale. It’s tough to be a retail investor because one of the basic and reasonable tenants is “follow the smart money”. Sometimes the “smart money” is obvious, and sometimes it isn’t and you need to trawl through a shareholder registry and peek behind holding companies and family trusts. But – as in the case of Theranos – even the “smart money” got it wrong, massively wrong, and the laundry list of Silicon Valley VCs and wealth managers that lapped up the story is truly staggering.
In my opinion there are several lessons for bioscience investors in the Theranos story. One of them is “positive” and two are cautionary:
1) The “positive” message is that even a relatively simple idea can capture investor interest. Does it mean that a long-term holder is going to do well? Not necessarily, but simple ideas can certainly generate a lot of momentum and so just because some sort of a device or product doesn’t have an indescribable molecule name or a hopelessly complex mechanism of action, doesn’t mean it isn’t worth investing in. I actually think a few of the most investable ASX companies at the moment are relatively simple medical device companies.
2) Even the “smart money” can behave in a fairly rudimentary way. Just like you, they look for momentum in stocks, but a big mistake that I hear ASX bioscience retail investors make again and again is “this <fund> is in it, so it must be good” or “they have shareholder X in their cap table, so it must have real potential.” Not so. The brand name public equities funds that we love to see own our stocks have a totally different viewpoint of portfolio risk, especially when it comes to Australian securities. There are also factors that most Australian investors are not considering in their daily trade, such as currency arbitrage (i.e. on a periodic basis, you might desire exposure to a portfolio of equities in $AUD with a spread of risk profiles). Most importantly, however, those big funds are NOT in the stock picking business, they are in the capital deployment business and so watching a fund plough into a slightly higher market cap company doesn’t necessarily mean some stock geek on Wall St thinks its a great equity.
3) Beware of personality cults. The CEOs of most successful public companies have to possess some degree of communication skills because otherwise they wouldn’t raise money and they wouldn’t move the needle on the shareholder perception of their company. But most successful public companies also pay decent money to communication firms to maximise those opportunities. Charismatic CEOs that really enjoy the limelight, spend a lot of time on media presence, and have a kind of cult-ish status with shareholders are not necessarily crooks – but personality draw is not a substitute for performance either. I like to see a glimmer of personality in a CEO, but mostly I just prefer it if they are the “hunker-down-and-get-stuff-done” type. I think whenever you go on HotCopper and read about a company and there are pages of commentary about the CEO (good or bad), it’s probably a red flag.
4) The FDA is the FDA. No matter how great the story is, or how luminary your investors are.
On a small scale, we have a number of “Theranos” of our own on the ASX. Companies that just don’t stack up and are led by (or were formerly led by) personality heroes. Vision is important, but substance is too. Unfortunately for Theranos, despite Elizabeth Holmes’ impressive personal projection, there doesn’t seem to be a whole lot under the bonnet.