Orthofix to plunge 50% on undisclosed FDA issue and accounting manipulation

Summary

  • Bone Growth Stimulators (“BGS”) comprise the largest segment of revenue and more than half of profits, while also driving growth at Orthofix.
  • Other segments are lower margin, commodity businesses and/or showing declines and pricing pressure. BGS is absolutely the only reason to own Orthofix.
  • October 2016: FDA is actively moving to “down classify” BGS from Class III to Class II, allowing cheap competition to flood in, stealing revenues and crushing margins.
  • Clear accounting manipulation by 26% demonstrated in recent quarters, Orthofix is currently grossly overvalued as a high growth player with a strong “moat”. (WRONG !).
  • Following the FDA move, expect Orthofix quickly to fall by at least 50% (share price of around $15-17).

Note: Everything in this article represents solely the opinion of the author. Nothing herein comprises a recommendation to buy or sell any security. Information in this post has been sourced from a variety of online sources, including current and historical documents from the FDA, the Federal Register, and the SEC, among others. Various links to relevant data and information have been included. Additional information has been provided directly via phone calls to the FDA’s Department of Orthopedics. Additional information may be available from these and other sources. As always, readers should conduct their own research and form their own opinions and conclusions.

Overview

I have been heavily focused on FDA issues with healthcare stocks for almost 20 years. My past articles highlighting problems with numerous healthcare stocks have quickly presaged share price declines well in excess of 50%, sometimes within just days. A few of these articles are shown below. The key theme in all of them is that most investors simply don’t do their research. (This includes institutions as well as individuals.)

Every once in a blue moon, I come across what I describe as a “unicorn short”. This is a short trade where there is massive near term potential downside, but with very little upside potential. It is a truly “asymmetric trade”. That is what we see with Orthofix (NASDAQ:OFIX).

As I will categorically demonstrate, an impending FDA action will send Orthofix stock at least 50% lower in the near future. The documentation below, along with new developments just in recent weeks, shows why I am 100% confident that this is going to happen. Just watch.

Orthofix knows that this is coming and Orthofix is scared. The company engaged a well known lobbying firm, and total payments for this effort now exceed $1 million. The recent lobbying effort appears to have failed. The process is now getting to the late stages and has continued through several important milestones, even in recent weeks. Yet Orthofix has made no adequate disclosure to investors.

Against this downside, Orthofix has virtually no visible upside potential from current levels. According to management, Orthofix already has a #1 market share in BGS (its main product) and the entire size of that market is only $500 million. The market for BGS is rock stable and is only growing by 1-3% per year. For each of these reasons, there is simply no chance of Orthofix pulling in unexpected windfall gains in BGS. Orthofix’s other businesses are either low margin and / or are facing accelerating declines amid soaring competition. As a result, I see no visible chance of an upside stock price surprise in being short Orthofix. Likewise, for longs, once the FDA thesis is understood, there is absolutely zero reason to continue owning the stock (not even in the $20s).

For shorts, clear evidence of significant and recent accounting manipulation, artificially boosting reported numbers, is just icing on the cake. This means that the downside in the share price will come sooner rather than later. Without that manipulation in Q3, Orthofix would already be trading at well below $30 (even prior to the FDA action).

What really makes this trade a “unicorn short” is that it has been totally undiscovered (until now). Neither longs nor shorts appear to have caught on to just how soon or how far this stock is going to fall.

There are very few institutions with a meaningful presence in Orthofix. The ones that were there in early 2016 have already been slowing liquidating during the year due to steadily worsening financial results across Orthofix’s other businesses.

At the beginning of 2016, Consonance Capital and North Tide Capitalwere both 10% and 5% holders respectively. As of September, Consonance had already cut its position size by 60% while North Tide had exited completely. Blackrock and Vanguard (i.e. the “dumb money”) each own 7%.

(Incidentally, last year Consonance was also one of the largest shareholders of Osiris Therapeutics (NASDAQ:OSIR). Shortly after I publicly exposed my fraud concerns at Osiris, the company was forced to restate its financials, the CEO was forced to resign and an SEC investigation ensued. Osiris subsequently fell by as much as 70%.)

In any event, despite the slow and steady liquidation, no one has yet run for the exits at Orthofix. As a result, the stock remains grossly overvalued. There is also virtually no short interest in the stock whatsoever. There are millions of borrowable shares for shorting and the negative rebate on those shares is only 40 bps (almost free). I expect at least 50% downside in the near term. Perhaps more over the longer term.

On the research side, the only real coverage comes from JMP Securities and Jefferies. But JMP rates Orthofix a “HOLD” and does not even include a price target. Jefferies rates Orthofix a “BUY” but has not even updated its coverage in almost 5 months, not even after the most recent earnings declines and visible declines in the other business lines.

The point is that neither JMP nor Jefferies are really doing much work on Orthofix or even really paying attention. Given this, no one should be surprised that they have totally missed this upcoming FDA issue or the accounting manipulation. When the stock price collapses to $15-17, they will simply pull their coverage.

Company Overview

Company: Orthofix

Business: Orthopedic Medical Devices

MarketCap: $700 million

SharePrice: $37.00

LTMRevenue: $406 million

LTMProfit: $14 million

Cash balance: $46 million

PERatio: 50x

NetSales: Stagnant / declining

Stockborrow: Over 1 million shares at Interactive Brokers alone

ShortInterest: 444,000 shares (only 2.6% of shares outstanding)

Options: Liquid calls and puts

Sales over 5 years have been entirely stagnant.

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Legal background – preview

Anyone who has followed Orthofix is well aware of the company’s troubled background with regulators and investors. Over the past few years, Orthofix has paid approaching $100 million to settle a wide variety of criminal violations and lawsuits for accounting misstatements and outright fraud.

Orthofix is fond of stating that “10 out of 11 of our management team are new to Orthofix”. So presumably the past problems are all behind them. But in Appendix I, I will show how there are actually numerous individuals from the bad old days who are still in the same senior roles at Orthofix.

Keep in mind that Orthofix’s past fraud and criminal behavior are NOT the crux of the current short thesis. These problems were bad. Really bad. But by now they are all well known and fully disclosed.

The crux of the short thesis is that the impending FDA ruling and the current accounting manipulation are far more relevant to the share price than the past fraudulent behavior.

The reason that I am highlighting this troubled past at all is that Orthofix continues to mislead investors in a very significant way, but now it is just about different issues. I am trying to highlight the pattern.

I will demonstrate below that Orthofix is 100% aware of the impending FDA down classification of its most important product. Orthofix even hired a lobbying firm (King & Spalding) to try to sway the FDA (I have included a copy of the letter from King & Spalding, along with links detailing over $1 million in payments). That lobbying effort appears to have failed badly and the down classification is still on track. There have even been new developments in the past few weeks. But despite its knowledge and the huge significance, Orthofix has failed to appropriately disclose any of this to investors.

In addition, I will show clearly below how Orthofix has been manipulating its financial results by pulling various accounting tricks. There is very limited sell side coverage on Orthofix and none of these analysts have adequately caught or highlighted the accounting manipulation. Had Orthofix not performed such manipulation in Q3, the stock would already be well below $30.

So again, just to be clear, Orthofix’s past history of Medicare and accounting fraud are not the dominant reason behind my short thesis. But for those who are new to the Orthofix story, you should at least be aware of the key highlights.

First, 4 years ago Orthofix was found guilty of massive Medicare fraud.

Following that discovery, Orthofix and various individuals pled guilty to obstructing a Federal audit which was investigating the fraud. More criminal charges followed from that.

Orthofix ended up settling with the DOJ and paying over $40 million in penalties. As part of the settlement, the company entered into a “corporate integrity agreement” (“CIA”) with the DOJ in which it vowed to refrain from further illegal activity for 5 years.

Yet within just 1 year, it was already uncovered that Orthofix was involved in a massive bribery scandal in Mexico, in violation of the Foreign Corrupt Practices ACT (“FCPA”). The DOJ extended the terms of the CIA (requiring additional years of probation) and Orthofix paid large fines, vowing to change its act. Yet within 1 more year, Orthofix was involved in another bribery scandal in Brazil.

And then finally, we hit the worst of the worst. Then, making matters even worse, as of 2015, Orthofix was required to restate inaccurate financials which had been released in some or all of 8 different years including 2007, 2008, 2009, 2010, 2011, 2012, 2013 and 2014. This then resulted in a separate SEC investigation. Not surprisingly, class action lawsuits then followed.

According to the lawsuits, the misstatements were not an accident or oversight. They were a deliberate set of misrepresentations designed to boost apparent financial performance and thus the share price. Orthofix settled but would not admit wrong doing.

The pain from past frauds is still ongoing today. Orthofix has already paid over $14 million in 2016 alone (including in Q3) as a result of these past settlements and investigations. The total financial consequence are now approaching in $100 million. For those who are interested, I have included full details of these past frauds, along with links to the criminal indictments and news articles as Appendix I.

If investors had been actually holding out any hope for Orthofix, it would be because they are hoping that CEO Brad Mason can keep the company out of further legal trouble. Mason has been with Orthofix in various roles since 2003. During the peak of the fraud problems, he was working for Orthofix as a consultant and advisor. He had also served as Group President, North America, but was not implicated in the fraud.

Again, as I will demonstrate clearly, Orthofix is well aware of the impending down classification but has withheld this critical information from investors. Orthofix is also clearly manipulating its accounting numbers. As a result, in my opinion, the “bad old days” of Orthofix are not just a thing of the past.

Investment summary

Orthofix is a medical device maker specializing in orthopedics. The largest source of revenue for Orthofix comes from its BioStim Bone Growth Stimulators (“BGS”). Bone Growth Stimulators are an external device that use a pulsed electromagnetic field (“PEMF”)to help increase bone fusion in bone fractures, including spinal treatment.

Orthofix already holds the leading market share for BGS of around 35%. The other primary competitors are Bioventus, Biomet, and DJO.

Beyond just revenue, BioStim is by far the most disproportionately profitable product for Orthofix. BioStim accounts for the majority of profits (more than 53% of net margin) at Orthofix. In addition, BGS is also the driving force behind any growth at Orthofix.

As I will explain below, the sole reason that Orthofix can command such high revenues and profits for BGS is the fact that it is classified by the FDA as a Class III device. This restriction severely limits competition. New entrants would be required to get Pre Market Approval (“PMA”) and/or run clinical trials. This takes years and costs many millions of dollars. This high barrier to entry is why Orthofix had previously been able to charge Medicare as much as $4,000 for a device that only costs $100 to manufacture. But that is about to change radically.

Orthofix has several other product lines. But it is clear that none of them create a real reason to own the stock. The impending down classification of BGS is really all that matters. But for those who wish to better understand the deepening declines in Orthofix’s secondary businesses, I have included relevant details at the bottom of this article.

Orthofix’s distant second business had been Biologics (such as bone allografts) but this business is now being eaten away on two fronts as shown below. Margins remain semi-strong, but quarterly sales have now consistently shown declines rather than growth. And pricing has been under repeated pressure due to a sharply increasing impact from a newly introduced competing product from DePuy (a unit of med device giant J&J). Management has repeatedly stated that this segment is about to turn around and get better, and is then surprised each time it gets worse. In fact, further declines are about to accelerate.

Orthofix’s other business segments (Spine Fixation and Extremity Fixation) have shown much lower margins and / or size. There has also been substantial trending weakness. Compared to BioStim, these are largely undifferentiated and low margin commodity products such as spinal screws, plates, rods and bars. Their relative sales are shrinking rather than growing. In the most recent quarter, Spine Fixation revenues plunged by almost 17%. The Extremity Fixation business is not really run out of the US, it is run out of Italy and primarily sells outside the US. But the accounting systems is place are so bad that Orthofix has been forced to only recognize these sales on a “cash basis”. In other words, they only count the sales when the cash is actually received.

The only point is that there is no way that these much smaller and struggling businesses, which are now showing declines, are going to in any way offset the tremendous loss about to affect Orthofix’s main product, BioStim BGS.

IMPORTANT POINT:

The only real reason to own Orthofix stock is because of the high revenues, the high profits and the strong growth behind one single segment: BioStim BGS.

And now that is about to dramatically change.

So here is the kicker !

What no one seems to have figured out is that the FDA is about to “down classify” Bone Growth Stimulators (“BGS”) from Class III to Class II. This means that there is far less of a regulatory hurdle for new competitors to start marketing BGS. With a much lower regulatory hurdle, cheap competition will be able to flood the market driving down prices and stealing most of the revenues outright. What revenues remain will end up on razor thin margins.

The impact of unfettered cheap competition can be seen to be massive. Competitors will soon be able to manufacture competing devices at prices which are as much as 80% below Orthofix’s historical sales price.

Certainly no one on the sell side has properly highlighted this problem to investors. But this is because they simply haven’t done the work.

The prospect of down classification should become obvious to anyone who performs thorough research on Orthofix. Just read the documents and call the FDA and you will know right away.

In 2006, an FDA panel did actually formally vote to down classify BGS. That initial evaluation by the FDA was in response to a petition from a low-priced competitor (RS Medical) who wanted to enter the BGS market.

According to the FDA panel, BGS clearly met the criteria for down classification. As a result, the FDA panel voted to down classify. But then that vote was reversed following an aggressive lobbying effort by Orthofix and the other BGS manufacturers, using DC lobbying firm King & Spalding. For obvious reasons, they wanted to keep out the prospect of cheap competition.

But that was then. This is now. Literally everything has changed!

The process was gradual at first, but there have been significant recent developments over the past few weeks.

In 2012, there was a big change. Congress passed the Food and Drug Administration Safety and Innovation Act (“FDASIA”). The purpose of this act was to speed up and streamline the approval process while reducing regulatory burden to enhance competition and product availability. As a result of this Act, the FDA began “re-reviewing’ hundreds of medical devices for potential down classification.

In 2014, the FDA decided to revisit the down classification of BGS specifically. That is where the new process began.

As part of its 2014-2015 Strategic Priorities, the FDA specifically proposed that BGS be down classified. More recent developments over the past few weeks show that the date of reckoning is now getting much closer.

Keep in mind that by the time of the FDA’s Strategic Review, the FDA already had in its possession all of that lobbying information from Orthofix. Yes, they already knew all of the arguments raised by Orthofix’s lobbying firm. And yes, they still proposed to down classify BGS.

In 2015, the lobbyists once again responded for Orthofix. (Here is a copy of the letter that King & Spalding submitted to the FDA). Their arguments were largely similar to the past arguments raised. Effectively they are simply trying to raise technicalities and trying to create beneficial interpretations of language in the law. But as we will see below, the Class III classification for BGS just doesn’t make common sense. Following passage of the FDASIA Act above, it is clear that these technical objections are not gaining much traction.

And now just a few weeks ago, even after the newest lobbying submission and the inclusion of the historical submission, the FDA has chosen to proceed further with the process anyway.

And keep in mind that this time, it was the FDA that initiated the down classification. This was NOT in response to an outside petition. In other words, this is something that the FDA itself wants to happen.

IMPORTANT DEVELOPMENT:

Just as of October 1st , 2016 (about 10 weeks ago) the FDA just transferred the BGS down classification process to the specific department responsible for handling the down classification (the department of Orthopedics). I have spoken to this department at the FDA. The point is that the process is now “active”. The most important point is that the individuals within the FDA responsible for this evaluation are the same people who previously voted to down classify BGS in the first place.

These developments are all very recent and have NOT been disclosed by Orthofix, even though Orthofix clearly saw fit to hire and dispatch a lobbyist to attempt to fight the threat.

As soon as Orthofix loses its competitive “moat”, we will see revenue immediately fall by around 30% or more. But the much bigger problem is that these revenues are actually responsible for a far greater share of profits at Orthofix. So of much greater importance is the fact that profits (net margin) will fall by nearly half. Any prospects for growth at Orthofix will evaporate immediately.

Again, this lack of disclosure to investors should be viewed in the context of a company which has been busted for issuing false financials, defrauding Medicare, obstructing a federal audit and paying bribes in foreign countries.

By looking to the site OpenSecrets.Org we can actually find out that total payments to King & Spalding just for attempting to defend BGS. These payments now total over $1 million. So this is not a minor effort. This tells me that the perceived “risk” is very real and the consequences are very substantial. It also tells me that this event is important enough that it should be adequately disclosed to investors.

Perspective on conducting healthcare research

Above I mentioned Osiris Therapeutics. After I exposed Osiris, the CEO was forced to resign, the company had to restate its financials and an SEC investigation ensued. The stock cratered by as much as 70%. All of the information in my article was obtained from publicly available sources that should have been available to anyone.

Earlier in 2016, I wrote an article where I stated that I was highly certain that medical device maker OraSure was going to lose a major, multi-year contract with AbbVie (NYSE:ABBV) within just the next few days. This contract was very important, because it accounted for over $40 million and more than 100% of Orasure’s net income.

It was well known that the contract was up for review, with a notification date of July 1st, but sell side analysts kept assuring investors that the contract was safe. Recent support from the sell side had pushed the stock up by 10-15%.

A number of skeptical readers stated that there was simply no way I could know for sure that OraSure was losing this contract in advance, and that I was simply “talking my book” to benefit my short position.

Instead, within just 24 hours (July 1) management arranged a hasty pre-open conference call to announce the fact that they had indeed just lost that Abbvie contract. Their announcement was clearly made as a direct response to what I had exposed in my article.

Here is the headline from July 1 (just 24 hours after my article):

July 1: AbbVie backs out of OraQuick HCV test co-promotion deal, OraSure down 16%

Once again, my skeptics were equally unhappy. Now they were insisting that they only way I could know this was though some sort of inside information. Obviously that is not the case. The research underlying my article should have been self evident.

I have undergone a similar process with Orthofix and I am now 100% confident that we will see an FDA down classification in the near future.

Similar research was beneath my short-pick articles on the following healthcare stocks which went on to decline as follows: (my point is that actually doing research really works).

Name Ticker Decline
Revance Therap. (NASDAQ:RVNC) Down 55%
Tokai Pharma. (NASDAQ:TKAI) Down 90%
Osiris Therap. Down 50%
CytRx (NASDAQ:CYTR) Down 95%
Galena Biopharm (NASDAQ:GALE) Down 95%
Northwest Bio (NASDAQ:NWBO) Down 95%
Regulus Therap. (NASDAQ:RGLS) Down 80%
Omeros (NASDAQ:OMER) Down 40%
Ohr Pharma (NASDAQ:OHRP) Down 80%
Keryx (NASDAQ:KERX) Down 50%
Unilife (NASDAQ:UNIS) Down 95%

Note: There is a 6 month “tail” on the revenues at OraSure, such that the company has not yet hit the revenue cliff. Some investors still haven’t figured this out. That, combined with some misplaced Zikka hype, have continued to support the share price. But I expect at least 40-50% downside from current levels.

No one should have been blindsided by any of these stocks. Links to my articles are included in the table above for those who wish to revisit the thesis prior to the sharp declines.

How important is BioStim BGS to Orthofix ?

(Overwhelmingly, extremely important !)

Orthofix’s business is divided into 4 segments (“SBUs”).

  • BioStim
  • Biologics
  • Extremity Fixation
  • Spine Fixation

The charts below show how Orthofix is overwhelmingly dependentupon BioStim.

The points to be made are as follows:

  • BioStim is the largest revenue generator
  • BioStim is also (by far) the largest profit generator in terms of net margin. This is due to its disproportionately high gross margin.
  • BioStim is the only unit showing any growth
  • BioStim has been increasing as a percentage of revenue

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Again, it is worth repeating: BioStim BGS is the largest revenue segment, it is responsible for more than 50% of profits, it represents the ONLY growing business segment, and it has been increasing as a percentage of revenue.

BioStim BGS is absolutely, positively the ONLY reason that anyone owns Orthofix.

Looking at Class III vs. Class II – recent developments

Documentation included below clearly indicates that BGS will be down classified. But before we get into that, it is worth understanding the logic here. It should quickly become clear that BGS should simply not be a Class III device. Common sense (and the FDA) will make this clear.

Bone Growth Stimulators are an externally worn device which emits an electronic pulse which enhances bone fusion. The devices are currentlyclassified by the FDA as Class III devices.

Class III is the highest classification for medical devices and is reserved for the most risky devices. Such devices must typically be approved by FDA before they are marketed. For example, when explaining its classifications, the FDA cites replacement heart valvesas a typical Class III device.

Getting approval for a Class III device is very time consuming as well as very expensive. As such, this has kept lower priced competition from entering the market. This lack of competition has allowed Orthofix to charge premium prices and capture the largest market share among a very small number of competitors. In the past, we have seen Orthofix charge as much as $4,000 for a device which only costs $100 to make.

So what does a real Class III device look like ?

The FDA cites heart valves as a Class III example for a reason. First, (clearly) heart valves are internal devices which must be surgically implanted. Second, any problem with a heart valve has a high likelihood of causing death. In other words, Class III devices such as heart valves are very risky and this is why they are treated as Class III.

Other devices (such as external devices, not surgically implanted and not life threatening) are clearly far less risky than this. This is why they are treated as Class II.

As part of the Food and Drug Administration Safety and Innovation Act(“FDASIA”) of 2012, and in order to help increase competition and improve availability, the FDA has begun a large effort to down classify various devices. This allows such devices to be marketed with far less onerous requirements. (Please note that this Act was passed AFTER the previous attempt at down classification on BGS. In other words, since that time, there is a new and enhanced effort by the FDA to down classify less risky devices).

As noted at the FDALawBlog, as part of its 2014-2015 Strategic Priorities, the FDA’s Center for Devices and Radiological Health (CDRH) committed to assuring the “appropriate balance between premarket and postmarket data collection to facilitate and expedite the development and review of medical devices.”

The FDA assembled a large list of devices for potential down classification.

Very quickly (by 2015) the FDA immediately rejected the obvious candidates. These devices were ones which should certainly remain as Class III devices. As noted, the FDA quickly declined to make any change to the status of 96 devices which were already Class III and were up for consideration.

(The point is this: if the FDA were going to reject down classification of BGS outright, they would have already done so…).

After the initial round of rejections, the FDA did propose to down classify 21 specific product codes, listed here. As is clearly shown, Bone Growth Stimulators (product code: LOF) are included on that list of 21 candidates which the FDA proposed to down classify. The complete list has been included as Appendix II below.

Following this, we can see from the FDA’s website that so far, that the FDA has already down classified 17 different products. The “hit ratio” therefore appears to be very high for products on this list. If they made the list, then they are going to be down classified. The down classification initiative at the FDA is still ongoing. Already in 2016, the FDA has down classified 7 more devices.

But wait, it gets better.

The products just successfully down classified in 2016 are obviously very similar in nature to the Bone Growth Stimulator. For example, here is the final order in 2016 down classifying External Pacemaker Pulse Generators. Here is the final order in 2016 down classifying External Cardiac Compressors.

Just as with BGS, each of these devices are:

– External electrical devices

– Not surgically implanted

– Not life threatening

In any event, so far, it looks as if nearly every device that made the proposal list ends up being down classified. This is especially true of the devices that are similar to BGS.

So what does the FDA say ?

Again, I did contact the FDA’s department of Orthopedics, which I confirmed is responsible for reviewing the classification. Obviously, they aren’t going to tell me the result of any final order until it comes out, but some useful information can always be had by calling. I am highly confident that the sell side has made no such effort prior to putting out their perfunctory reports (all of which are now outdated). Go ahead, ask them.

The biggest thing I learned was what seems to explain the delay so far in down classifying BGS. The process had previously been assigned to the department of Neurology and Physical Medicine. This was the wrong department. Just as of October 1st, 2016 (just 10 weeks ago) I was told that the process had been transferred to the department of Orthopedics.

First off, this makes much more sense, given that BGS are an Orthopedic device.

Second, it explains why the down classification hasn’t already happened.

Third, it tells me that the process is still proceeding on course towards down classification.

Perhaps of greatest importance is the fact that I was told that the team reviewing the down classification includes many of the same people from the team that had previously voted to down classify BGS in prior years. These people already know all of the arguments raised by Orthofix’s lobbyist and they have chosen to proceed anyway.

BGS down classification – chronology summarized

2006 – FDA proposes to down classify various medical devices including BGS from Class III down to Class II in order to streamline approvals, stimulate competition, improve availability and lower prices. The proposal to down classify BGS was prompted by an external petition to the FDA from medical device maker RS Medical which wanted to make competing lower cost devices. FDA panel initially votes to down classify BGS based on evidence.

2006 – Massive lobbying effort to the FDA by King & Spalding to reverse the vote succeeds. Vote is reversed and BGS not down classified. (King & Spalding is a D.C. based lobbying firm which represents Orthofix and others in front of the FDA).

2012 – Congress passes the Food and Drug Administration Safety and Innovation Act (“FDASIA”) in order to streamline approvals, increase competition and improve availability of med devices.

2014 -Following passage of the FDASIA Act, the FDA begins a Strategic Review in which it seeks to down classify various devices. The FDA quickly proposes to down classify BGS (product code: LOF). But this time, the FDA took its own initiative to down classify and was not prompted by any external petition.

2015 – King & Spalding again submits its arguments against down classification in 2015, focusing on technicalities.

2015 – By the end of 2015, the FDA declines to down classify 96 medical devices which it believes should remain Class III. However, an additional 21 devices (including BGS) are placed on the list of devices proposed to be down classified. By December 2015, FDA announces that it had already completed itsevaluation of 100% of the devices on the list.

2016 – After evaluation period was completed in 2015, FDA formally down classifies 7 devices more so far in 2016 (so far, as of July 2016). This takes the total to 17 devices so far. The FDA repeatedly down classifies external devices which are not life threatening (similar to BGS). The down classification process continues to be ongoing.

2016 – In October, FDA transfers the down classification process for BGS to the department of Orthopedics, including the same people who previously voted to down classify BGS. Again, the FDA has continued taking these steps even after it has received all of the lobbying arguments from King & Spalding.

Where are the disclosures from Orthofix

Again, back in the “old days” (actually just a few years ago), Orthofix was found guilty of Medicare fraud, of obstructing a Federal audit, of bribery in two different foreign countries. It then came out that multiple years’ worth of financials had been falsified and needed to be restated.

But supposedly the past is behind us.

If the threat of BGS down classification merits $1 million in total payments to a lobbying firm in DC, then it certainly must be both highly likely as well as very severe in its consequences.

Orthofix is clearly very concerned, yet there has been no sufficient warning to investors.

Looking at accounting manipulation

I spend a lot of my time analyzing financial and accounting information. But I am not a CPA. As with everything else in this article, the analysis below is just my opinion. And in my opinion, the manipulations below were very stealthy. But once you know where to look, they become downright obvious.

Let’s start with the old accounting anecdote:

A businessman was interviewing job applications for the position of manager of a large division. He quickly devised a test for choosing the most suitable candidate. He simply asked each applicant this question, “What is two plus two?”

The first interviewee was a journalist. His answer was, “Twenty-two”.

The second was a social worker. She said, “I don’t know the answer but I’m very glad that we had the opportunity to discuss it.”

The third applicant was an engineer. He pulled out a slide rule and came up with an answer “somewhere between 3.999 and 4.001.”

Next came an attorney. He stated that “in the case of Jenkins vs. the Department of the Treasury, two plus two was proven to be four.”

Finally, the businessman interviewed an accountant. When he asked him what two plus two was, the accountant got up from his chair, went over to the door, closed it, came back and sat down. Leaning across the desk, he said in a low voice, “How much do you want it to be?” He got the job.

Accounting manipulation – the smart way vs. the dumb way !

Again, the crux of the sell thesis on Orthofix is that the FDA will down classify BGS and then revenues and profits for Orthofix will quickly evaporate. As soon as the FDA makes that announcement, we will see Orthofix trade to $15-17.

But as a separate issue, the visible accounting manipulation is just icing on the cake for this short trade. It means that even if we briefly ignore any impact from the FDA, Orthofix should still be trading well below $30 – TODAY !

Looking back at the history of Orthofix, we can see that the company has often employed a wide range of devices in order to get its financial numbers up.

Note that Q2 results were a notable disappointment causing the stock to sell off by nearly 20%. Then in Q3 numbers were again a disappointment due to each of the non-BGS businesses performing poorly. Note that these results were STILL a disappointment even though they were actually boosted by the manipulations shown below. As a result, the stock fell again. Without the manipulations below, the numbers would have been much worse. We can see that in reality, Orthofix should be trading well below $30.

Obviously Q3 was another disappointing quarter for Orthofix. The only “saving grace” for Orthofix in its bad Q3 numbers was a sharp spike in its reported adjusted EBITDA. But so far no one seems to have caught on to the accounting tricks used to achieve this.

For Q3, Orthofix reported $23.5 million in EBITDA. It was a notable surge in an otherwise bad quarter, and seemed to indicate that the declines were perhaps not as severe as we might think.

But as shown here, the real number should have been $18.65 million, not much of a surge at all. As a result, Orthofix was able to boost its EBITDA by almost $5 million, or 26% by using artificial devices. As for the analysts, they either didn’t catch these moves or else they simply didn’t care.

Keep in mind that there are two ways to go about manipulating one’s accounting numbers: the smart way and the dumb way.

The dumb way is to figure out how big of a financial hole you need to fill and then conduct one gigantic revision right at the top or bottom line. This is the dumb way because it is so conspicuous that even the laziest of analysts and investors will be unable to ignore it.

Instead, Orthofix has manipulated its numbers “the smart way”. Orthofix finds multiple different levers which can be pulled. Each one is too small to really get much attention. In addition, each manipulation is derived from an area of the income statement which is not typically an area of heavy focus. As a result, no one catches on.

Infrastructure spending irregularities – $1.73 million = 9.3% boost

As readers of my past articles will remember, any time I come across blatant “mistakes” or “inconsistencies” in a company’s SEC filings, it should be cause for great concern. This is especially true when looking at the fraud in the backgrounds of the individuals as highlighted above. Not surprisingly, whenever I “catch them in the act”, I find that these “mistakes” or “inconsistencies” ALWAYS seem to benefit management and the financials. This was exactly what led to my exposure of Osiris Therapeutics and we are now seeing it again with the “mistakes” I have found in Orthofix’s SEC filings.

(Not surprisingly, these “mistakes” for some reason always seem to be of benefit to the company and not to their detriment. Go figure.)

In 2014, Orthofix initiated “project Bluecore” to improve systems processes, including ERP.

In the Q2 form 10Q, Orthofix discloses that: “Over the life of the project the Company has spent$27.5mm, of which $18.6mm has been capitalized. We expect to spend an additional $1.9mm”.

But then in the Q3 form 10Q (3 months later), Orthofix disclosed that: “Over the life of the project, the Company has spent$26.6 million, of which $18.1 million has been capitalized. We expect to spend an additional $0.8 million over the remainder of the project.”

Did you catch that ?!?

In Q2, Orthofix stated that they had already spent $27.5 million. But 3 months later, somehow this historical numberactually went down after the fact to $26.6 million. Obviously the real world doesn’t work this way. But thanks to the magi of accounting, companies can always find a way to pull a rabbit out of a hat to help boost a bad quarter.

The difference here presumably runs straight to the bottom line, with a benefit of $900,000.

Here is where it gets really weird.

Even though the incurred cost supposedly declined after the fact, Orthofix still chose to add back an additional $827,000 to EBITDA and EPS as one time adjustments. This alone added 4 cents to EPS.

To see these add back changes, it is easiest to compare the Q2 press release to the Q3 press release.

In total, the infrastructure manipulations benefited Orthofix’s EBITDA calculations by $1.73 million. (A boost of 9.3% from the base line number).

As you can see, the size of this one item is not massive and it was buried in a line item that likely no one (other than me) even focuses on. This is how the trick eludes attention from investors and analysts.

One time tax provisioning reversals – $2.4 million = 12.9% boost

This next lever was used to provide an apparent cut to Sales & Marketing Expense to abnormally low levels. S&M has typically run consistently around 45%. But in Q3, this was slashed to 42.4%. A large part of this was due to an accounting reversal of certain tax liabilities which flow through S&M. These are things like sales and use tax, property taxes, and other business taxes (ie. Not income taxes). Orthofix had provisioned this at the beginning of the year and then reversed it just in time to boost quarterly numbers as soon as results fell far too short. This is something that is entirely left to the discretion of management.

In total, the S&M tax manipulations benefited Orthofix’s EBITDA calculations by $2.4 million. (A boost of 12.9% from the base line number).

So again, a not-too-large accounting reversal in an area that doesn’t get much attention. So investors don’t really notice. But it is starting to add up.

Reversing allowance for doubtful accounts – $720,000 = 4% boost

In Q2, allowance for doubtful accounts was $9.56 million. But for Q3, that number was reduced to $8.84 million, resulting in a savings of $720,000. The allowance decreased not only in absolute terms, but also as a percentage of sales. So far I have found no explanation to justify this $720,000 benefit.

In total, change to allowance for doubtful accounts benefited Orthofix’s EBITDA calculations by $720,000. (A boost of 4% from the base line number).

Again, small enough to not raise flags and in a place where no one is looking.

Reversal of Obsolete Inventory – ???? = undisclosed size !

This one is great !

Orthofix had previously taken a reserve for writing off Excess & Obsolete Inventory (“E&O”). This amount or reason is not described in the financial statements so it is impossible to calculate just how much this boosted EBITDA. In any event, somehow Orthofix suddenly decided that formerly unsellable inventory (Excess & Obsolete) could now be sold. And, as always, this fortuitous development just happened to come along right when Orthofix was having a terrible quarter and needed to make its numbers.

In discussing E&O, Orthofix did disclose on the conference call that gross margin had been boosted by around 1%. As a result, we can estimate this artificial benefit at around $1 million. (1% of approximately $100 million in sales).

But since I can’t document the calculations, I am just ignoring this last item.

So even without the extra million from E&O, we can see that EBITDA was boosted by 26%. None of these items was big enough to stick out on its own and none of them really occurred in any key area of focus for analysts or investors.

Everything was cleverly kept below the radar, and the headline of soaring EBITDA reads great in an otherwise very disappointing quarter.

Beyond BioStim BGS – looking at the Biologics segment

Looking at the information above, it becomes clear that the only real reason that anyone owns Orthofix at current prices is because of a misplaced confidence in BioStim. And when the FDA moves to down classify Orthofix, that reason is going to be decimated.

In the past, there was sometimes a second reason to own Orthofix and that was its Biologics business.

Biologics mainly consists of bone allografts and tissues, including Trinity Elite and Trinity Evolution, which are “derived from human cadaveric donors”. (i.e. harvested from dead people).

(Incidentally, this happens to be the same business that Osiris Therapeutics is in, so it is one that I understand quite well.)

Orthofix’s bone allografts are mainly comprised of its Trinity ELITE and Trinity Evolution products. These contain viable cells and are used in surgery in the treatment of musculoskeletal defects for bone reconstruction and repair.

But keep in mind that Orthofix doesn’t actually PRODUCE these products and does not even own the IP.

What Orthofix really has is just a marketing agreement with the Musculoskeletal Transplant Foundation (“MTF”) which is a non-profit tissue bank.

In reality, MTF does all the work and then Orthofix just charges a “marketing fee”. The revenues are not enormous but the margins appear to be high because there is no cost of goods sold. There are of course heavy selling costs.

MTF processes the tissues, maintains inventory, and invoices hospitals and surgery centers and other points of care for service fees

In the past, this segment was attractive for two reasons. First, because Biologics afforded high net margins of around 50%. Second, in the past, this segment also used to show appreciable growth. For example, from FY2014 to FY2015, Biologics grew by 7.1%.

This has now begun to dramatically change along with the adoption of a competing product called Vivigen from Depuy (part of J&J). And it is about to get worse.

When Depuy’s Vivigen product was launched last year, it was quickly named among “THE NINE BEST NEW SPINE TECHNOLOGIES FOR 2015“. And as soon as its sales started to gain traction, it began to have an appreciable effect on Orthofix’s Biologics division.

Here is a quote from that award:

ViviGen is the first cellular allograft to focus on recovering, processing and protecting viable lineage committed bone cells. New evidence supports the use of bone cells instead of MSC’s for bone healing. It is made of viable cryopreserved corticocancellous bone matrix and demineralized bone. Because of its properties, ViviGen can be considered to be an alternative to autograft.

And here is what began happening to Orthofix’s Biologics sales just after Vivigen was launched.

(click to enlarge)

Last year, Biologics was growing by over 7%. Then Q1 continued to show slight growth, but just barely. But then Q2 got hit hard with a 6.7% decline in Biologics sales. Here is what management had to say on the Q2 conference call:

Net sales in our Biologics SBU declined 6.7% for the period due to our reduction in Trinity volume, which was primarily a result of an exclusion from a large national hospital account, as well as an increase in competing product offerings.

We remain optimistic about this SBU returning to growth in Q3 and Q4 and achieving growth in the low-single-digits for the full year.

Note that despite managements “optimism” about a recovery in Biologics into Q3, we can see that Biologics sales declined again in Q3.

Management then changed its views on the entire business. On the Q3 conference call, management noted that:

Considering our result over the last few quarters in our Biologicsbusiness, we’re now anticipating a low to mid single-digit DECREASE in year-over-year net sales for the fourth quarter and full-year 2016.

The reality is that Biologics is getting hit on two fronts. Anyone who is familiar with this business (including Osiris, Orthofix and Depuy) knows that it is a business that is gradually getting more competitive and less profitable each year. It is getting worse rather than better.

Extremity Fixation Segment

Even in a good quarter, Extremity Fixation only represents around 20% of profits for Orthofix. This is somewhat of a niche business where Orthofix already commands a large market share. As a result, easy opportunities for growth are very limited, even though quarterly results are often volatile.

Orthofix was originally founded in Italy a few decades ago and was focused on the Extremity Fixation business. These devices consist of pins, rods, bars and screws to hold bones in place after complex fractures. They are used for things like deformity correction and limb lengthening. In contrast to the Spine segment below, these devices are primarily used externally.

Orthofix continues to sell these devices, but the business is largely run out of Italy. Around 80% of the sales are non US sales. Obviously the rising US dollar has not been kind to the results for this segment. As a result, management repeated discloses the “constant currency” results which naturally appear much better on paper. But in reality, this means little for dollar denominated investors in a US company which reports in dollars.

This segment has a history of accounting problems. The segment cites limited visibility for the fact that it has been forced to use “cash basis” accounting to account for all sales. In fact, this is almost exactly what we saw at Osiris not long before the SEC investigation. It was part of my original short thesis on Osiris prior to the 70% plunge in the stock.

The cash collection policy means that revenue reporting is very lumpy and volatile. The past 2 quarters showed decent apparent growth. But this was largely because they were being compared against an easy previous comp when cash collections had been low.

Anyone who has historically been long Orthofix is certainly not banking on Extremity Fixation to move the needle.

Spine Fixation Market

Orthofix acquired the Spine Fixation business back in 2006. The company now provides a fairly full range of spine fixation products, including screws, rods, and plating systems, etc. In other words, this is a “hardware” business.

This is effectively a higher volume, low margin, commodity hardware business. Total profits from this segment amounted to just 6% of total profits for Orthofix.

One thing to note is that management discloses that 65-70% of the Spine Fixation sales actually go through the Biologics sales force.

So in other words, when the sales force is selling higher margin bone allografts, they then attempt to bundle in some sales of low margin spine products.

But following Depuy’s launch of Vivigen, Orthofix’s Biologics sales have been getting hit hard. This therefore has an even greater impact on Spine Fixation because it is such an undifferentiated product.

As a result, Spine Fixation revenues fell 17% YOY in Q3. Without a strong Biologics offering, Spine is going to be a product that is harder and harder to sell.

Again, certainly no investors are banking on this small segment to move the needle for Orthofix.

Conclusion

Because BGS are classified by the FDA as Class III medical devices, there is very little competition in the space. As a result, Orthofix can charge ultra high prices and still command a huge market share.

The FDA has proposed to down classify BGS to Class II status, which would make it easier and cheaper for competitors to offer similar devices. Cheap competition will flood the market at a fraction of the cost.

Timing is uncertain, but given the latest developments in October the down classification could come quite soon.

King & Spalding is a DC lobbying firm that represents Orthofix and others in front of the FDA. The firm has already been paid over $1 million for its attempts to influence the FDA to not down classify Bone Growth Stimulators. The risk and the consequences for Orthofix are big, they are real and they are near. This is why over $1 million has been spent. Yet investors have not been adequately warned.

Orthofix’s significant history of Medicare fraud and accounting misstatements are not the crux of the short thesis. But they should serve as food for thought regarding why the FDA issues have not been adequately disclosed to investors.

I believe that the down classification of BGS is a virtual certainty. First of all, it just makes common sense. Second, we can see from the FDA’s actions that they have continued to proceed with down classification through multiple milestones, including in recent weeks. Third, the FDA has recently been down classifying multiple very similar devices.

Back in 2006, the lobbying effort by King & Spalding succeeded. The FDA had already decided that the evidence indicated that BGS should be down classified. But King & Spalding was able to get the FDA to actually reverse its decision.

But then came the Food and Drug Administration Safety and Innovation Act (“FDASIA”) which was passed by Congress in 2012.

Following that Act, the FDA began to revisit hundreds of devices that should be down classified. Last year (2015), the FDA did immediately rule out down classification for 96 devices which it determined should remain as Class III. So if the FDA were going to not down classify BGS, they would have already made that decision.

The FDA then selected 21 devices which it proposed to down classify.

BGS are included on that “short list” of 21 items that the FDA wants to down classify.

So far, through 2016, the FDA has already down classified 17 devices. This includes 7 in 2016 and includes multiple devices that were very similar to BGS (external, electronic devices which are not life threatening).

King & Spalding sent in another lengthy letter to the FDA in an attempt to oppose the down classification, but the FDA down classification process has continued through multiple milestones since then.

In October 2016 (just 10 weeks ago), the FDA transferred the down classification process to the department of Orthopedics which is responsible for handling this.

I believe that BGS will definitely be down classified. As soon as the FDA announces this, Orthofix’s share price will trade to $15-17.

Recent accounting manipulations consisted of multiple items, each one of which was too small and too obscure for investors to notice on an individual basis. But in aggregate, they had a material impact on Q3 results. Without the benefit of this, Orthofix would already be trading below $30 (even before the FDA action).

The only sell side research on Orthofix comes from two firms who have issued brief reports which are already months outdated. They clearly are not following any of these developments.

BGS is responsible for more than half of the profits at Orthofix. Orthofix is overwhelmingly dependent upon BGS.

Each of Orthofix’s other business lines are facing unique challenges, pressures and declines. The only reason that anyone actually owns Orthofix is for the stable revenues and high profitability of BGS.

Again, as soon as the FDA down classifies BGS, I expect the share price to quickly trade to $15-17.

Appendix I – Orthofix regulatory violations, accounting misstatements and outright fraud

Please understand that the contents of this section are NOT a key part of the short thesis. I am simply including details on historical problems to demonstrate that various individuals have been present or involved in activities which blatantly deceived investors, consumers and or the government. The point I am trying to make is that there is a reason why investors have not been warned about the ongoing down classification proceedings. Investors should also consider this background when evaluating the section on accounting manipulation.

In the past, we can see a host of regulatory violations and outright fraud at Orthofix. This is a company that has been busted by the DOJ, the SEC, the department of Health and Human Services (“HHS”) and the OIG among others. The violations were as egregious as they were numerous and Orthofix was clearly found entirely guilty.

As would be expected, a number of individuals were fired dung the course of these investigations and indictments. A number of other individuals within management were criminally indicted themselves.

But surprisingly, given the severity of the fraud and regulatory violations, there has been a large degree of management continuity. Many of the same individuals are in place, still running Orthofix.

Current President and CEO Brad Mason has been with Orthofix off and on since 2003 (13 years). Between 2010 and 2013, he had served in a variety of consulting and advisory roles. Davide Bianchi, President of Orthofix International has been with Orthofix since 2013. Michael M. Finegan is Orthofix’s Chief Strategy Officier and has been with the company since 2006 (10 years). Jeffrey M. Schumm is Orthofix’s Chief Administrative OfficerGeneral Counsel, and Corporate Secretary and has been with the company since 2007 (9 years). Robert A. Goodwin is the President of Biologics and has been with the company since 2006 (10 years).

This management continuity needs to be kept in mind when evaluating recent developments, including failure to disclose very material FDA problems (which, as demonstrated, are fully known by management) as well as recent accounting manipulation in 2016.

Unfortunately, the reality is that fraud and manipulation are absolutely rife within the Med Device space in the US.

Just this week, Orthofix added a new board member, Alex Lukianov, who had formerly been CEO of spinal med device competitor NuVasive (NASDAQ:NUVA). Last year Lukianov was forced to “resign” as CEO following his “violations of personnel and expense reimbursement policies“. NuVasive has so far refused to disclose further details. However, just after his resignation NuVasive ended up paying millions to settle fraud charges with the DOJ involving violations during his time as CEO. According to the DOJ press release, “Defrauding Medicare and Medicaid by paying kickbacks to physicians and promoting uses not covered by Federal health care programs will not be tolerated“. In any event, after leaving NuVasive, Lukianov was in need of a job, so now he is a board member at Orthofix. Earlier in the year, Orthofix appointed Michael Paolucci to the board. Paolucci is another former NuVasive executive who had worked under Lukianov.

Article: NuVasive CEO Resigns After Probe Finds Policy Violations

Article: NuVasive Stock Tumbles on News of HHS Fraud Investigation

Already in 2016, Orthofix has incurred over $14 million of expense in relation to an SEC enforcement action which it was forced to settle over sweeping accounting misstatements and Medicare fraud. This includes millions in expense in the most recent Q3 alone.

Looking back, we can evaluate the relevant events between 2012 and 2015.

Violation #1 – Medicare Fraud (GUILTY)

In 2012, Orthofix pled guilty to civil and criminal Medicare fraud chargeswith the DOJ, including $42 million in fines. The fraud involved gouging Medicare for inappropriate an overpriced sales of its Bone Growth Stimulators (the main product at Orthofix).

Article: Orthofix To Pay $42M To End DOJ Medicare Fraud Case

In that suit it was noted that, “Orthofix made false claims for payment for certain items of durable medical equipment used by patients in their homes, in particular osteogenesis stimulators, covered by Medicare, Medicaid and other federal and state purchasers. Medicare would pay approximately $4,000 to purchase a device that costs only $100 to manufacture.” Currently Orthofix is still “onprobation” as a result of that guilty plea. Orthofix discloses that, “In the event that we fail to satisfy these terms of probation, we could be subject to additional criminal penalties or prosecution, which could have a material adverse effect on our business, financial condition, results of operations and cash flows.”

Violation #2 – Obstruction of a Federal Audit (GUILTY)

From looking at the website for the FBI, we can see that in connection with their Medicare fraud, Orthofix was also found guilty of obstructing a federal audit in an attempt to cover up the fraud. In the end, at least 9 doctors were also charged in the fraud ring.

Despite the tremendous legal exposure from ongoing “criminal probation”, they continued to commit other flagrant violations.

Violation #3 – Paying Illegal Bribes in Mexico (GUILTY)

Orthofix later settled with the DOJ over violations of the Foreign Corrupt Practices Act where it paid bribes to win business in Mexico. Not only was Orthofix prosecuted by the US government, but it also paid $4 million to the Mexican government.

Article: Orthofix Pays $7.4 Million To Settle Mexico Bribes

Violation #4 – Paying Illegal Bribes in Brazil (GUILTY)

Orthofix entered into a “deferred prosecution agreement” which stated that the company must refrain from future violations for 3 years or face additional penalties. But within just 1 year (in 2013), the company was already investigating improper foreign payments in another country, this time in Brazil.

Article:Orthofix reaches agreement “in principle” with SEC over Brazil FCPA allegations

As a result, Orthofix was then currently embroiled into a DOJ investigation which encompassed illegal payments in both countries.

But wait, it gets better.

Violation #5 – Accounting Misstatements (8 years !)

Then in 2015, the company completed a multi year financial restatement due to accounting misstatements which then became part of an SEC investigation. Amazingly the, accounting misstatements were gigantic and covered misreported numbers over a tremendous timespan, including 2007, 2008, 2009, 2010, 2011, 2012, 2013 and 2014 ! That is 8 years containing misstatements!

Article:Orthofix to restate results due accounting errors

The point is this:

I have demonstrated Orthofix’s clear knowledge of this impending crisis. Yet investors have not been adequately warned. This event clearly merits its own very prominent risk factor in Orthofix’s financials, yet this has not been done. Orthofix should also be spelling this event out to investors in its presentations and conference calls. Again, this has not been done.

Those with a good view on Orthofix’s regulatory history are likely NOT SURPRISED but this omission.

They should also not be surprised by recent accounting manipulation which has been used (including in the most recent quarter) by Orthofix to meet Wall Street estimates and boost the share price. Orthofix management throws in every accounting gimmick but the “kitchen sink” in order to manipulate their apparent financial results. Overall, Orthofix recently inflated its adjusted EBITDA by as much as 26% using pure accounting tricks.

Appendix II – product codes to be down classified by FDA

 

Product Code Description
LFD Saliva, artificial
LLX Catheter, sampling, chorionic villus
LMF Agent, absorbable hemostatic, collagen based
LNC Applicator, hyperthermia, superficial, rf/microwave
LOA Device, testicular hypothermia
LOB Dilator, cervical, synthetic osmotic
LOC System, rf/microwave hyperthermia, cancer treatment
LOF Bone growth stimulator
LPQ Stimulator, ultrasound and muscle, for use other than applying therapeutic deep
LTF Stimulator, salivary system
LZR Ultrasound, cyclodestructive
MBU Condom, female, single-use
MRK System, imaging, fluorescence
MVF System, laser, photodynamic therapy
MVG System, laser, fiber optic, photodynamic therapy
MYM Assay, enzyme linked immunosorbent, parvovirus b19 igm
MYL Assay, enzyme linked immunosorbent, parvovirus b19 igg
MYN Analyzer, medical image
NXG Fluorescence in situ hybridization, topoisomerase ii alpha, gene amplification and deletion
NZC Stent, urethral, prostatic, semi-permanent
OAY Light source system, diagnostic endoscopic

 

 

 

The author was previously an investment banker for a major global investment bank and was engaged in investment banking transactions with a wide range of healthcare companies including medical device, pharmaceutical, genomics and biotech companies. The author has not been engaged in any investment banking transactions with US listed companies during the past 5 years. The author is not a registered financial advisor and does not purport to provide investment advice regarding decisions to buy, sell or hold any security. The author currently holds a short interest in OFIX and during the past 12 months has shared his fundamental and/or technical research with investors who hold a short position in the stock. The author may choose to transact in securities of one or more companies mentioned within this article within the next 72 hours. Before making any decision to buy, sell or hold any security mentioned in this article, investors should consult with their financial adviser. The author has relied upon publicly available information gathered from sources, which are believed to be reliable and has included links to various sources of information within this article. However, while the author believes these sources to be reliable, the author provides no guarantee either expressly or implied

 

Nymox (NYMX): This offshore “biotech” promotion will go to zero (yes, zero)

Summary

  • Nymox withheld the data that Phase 3 trials of its only drug had failed for 6-12 months after management knew of the failure.
  • During this time, Nymox issued bullish press releases while management continued to aggressively dump stock without timely SEC disclosure.
  • Offshore anonymous Panamanian finance deals; auditor, legal counsel, bankers ALL closely tied to regulatory violations, stock promotions and/or outright frauds.
  • Nymox moved its domicile from Canada to the Bahamas to limit transparency and legal liability. No institutional ownership or research coverage by anyone.
  • Nymox is down to $800,000 in cash and has just $41,000 in quarterly revenues. Bogus misleading press releases have caused the stock to recently soar.

Authors note: Prior to publication, the author filed a formal written whistleblower complaint with the United States Securities and Exchange Commission (“SEC”), including details from the article below.

Investment summary – catalysts for a decline to true zero.

The key points I will make in this article are as follows:

  1. Nymox management has consistently and repeatedly misled shareholders about its prospects in a material way – and then dumped stock at inflated prices without making timely SEC disclosures. The stock price then crashes.
  2. Following the ensuing fraud lawsuits, Canadian Nymox reincorporated in the Bahamas to limit disclosure and legal liability. It then quickly resumed its promotional activities from the Bahamas.
  3. Nymox has a history of using anonymous offshore Panamanian financiers who then fail to disclose share ownership or their unregistered offshore dumping of stock.
  4. Unremedied material weakness in internal controls, a “going concern” warning and a highly problematic penny stock auditor of past stock promotions. Auditor Thayer O’Neal is simply a renamed “spin off” from previous auditor who was dissolved by the PCAOB for gross audit deficiencies.
  5. Nymox’s legal counsel has recently been charged by the SEC with stock fraud, engaging in pump and dumps and market manipulation. He has a long history of such activities.
  6. Nymox’s banker has a long history of involvement with penny stock promotions and blatant SEC violations when raising money for microcaps. Significant history of their troubled clients going to zero after raising money from investors.
  7. The doctor who was quoted in the recent bullish Nymox press release failed to disclose his direct funding from Nymox as well as ownership of shares.
  8. More details on repeated small purchases by new board member James Robinson

Nymox Pharma (NASDAQ:NYMX) is a “no-brainer” short which I expect to go to true zero. The company bears many striking similarities to Forcefield Energy (NASDAQ:FNRG) which quickly collapsed by 99% within a few days following my exposé of that company.

Multiple parties behind Nymox have been behind other stock promotions which have declined by at least 99%.

Shares of Nymox Pharma had nearly doubled this year as a result of several grossly misleading press releases issued by the company. The shares are now up by nearly 10x from their 2015 lows.

Nymox has been around for over 30 years but has failed to ever have a commercial success. In November of 2014, the company announced that its only clinical drug (NX-1207) had failed both Phase 3 clinical trials it was in, sending its stock to as low as 39 cents. However, Nymox management had in its possession the information that the trials had failed for as long as 6-12 months prior to releasing the news to the public.

During that time (well after the drug had failed), Nymox management continued to put out bullish press releases while dumping millions in stock without making timely SEC disclosures of the sales. During this time, Nymox also raised millions more for the company by placing unregistered stock with an anonymous offshore Panamanian shell companyThe Panamanian shell has never disclosed its ownership and has never disclosed its sales of stock.

On the legal side, Nymox is represented by Zouvas & Associates LLP. Luke Zouvas was previously a partner with Luis Carrillo in the firm Carrillo Huettel & Zouvas, LLP. That firm imploded when Carrillo was charged by the SEC in a wide range of small cap pump and dump fraud schemes involving Canadian stock promoters and Bahamas based brokers.

(Note that Nasdaq listed Nymox was originally a Canadian company. In order to avoid legal scrutiny and liability, Nymox recently (July 2015) re-domiciled itself to the Bahamas.)

Zouvas himself can now be tied to numerous small cap pump and dump stock promotions and was just recently (April 2016) charged by the SEC for outright stock fraud using offshore companiesundisclosed ownershipand sales of stock, as well as false and misleading press releases issued by the company.

Past Zouvas stock promotions (which all imploded) bear striking similarities to Nymox.

Nymox has quarterly revenues of less than $50,000 and is down to less than $1 million in cash. The company has had unremedied material weaknesses in internal controls for over two years and has a going concern warning.

Nymox’s auditor, Thayer O’Neal was created as a direct spinoff of LL Bradford, when that firm was recently shut down by the PCAOB for multiple gross audit deficiencies. The new “spin off” auditor simply changed its name and picked up LL Bradford’s troubled clients, all of which (aside from Nymox) have imploded to just pennies.

Nymox’s banker is Chardan Capital markets. Chardan and its founders have a lengthy history of run ins with regulators, including cases of market manipulation, numerous imploded reverse merger frauds and charges of defrauding the Small Business Administration.

Similar to Forcefield Energy , Nymox “appears” to have just 1% institutional holdings with the rest “supposedly” being scattered among small retail holders. Nymox has zero research coverage. Following my exposure of Forcefield, the share price plunged 60% within 3 days. The Chairman was then quickly arrested by the FBI for manipulating the worthless stock. After being halted, Forcefield quickly fell to zero. I believe that with Forcefield there were large holdings of stock being held by undisclosed offshore holders. These holders were well aware that the company was a sham and were the first to dump shares at any price as soon as I exposed the promotion. There was simply no value in the company and no bottom in the share price.

In the last section below, I will also provide more information on recent share purchases by an 81 year old Hollywood film director (James Robinson) who was appointed to the board of Nymox in 2015.

Background

Over the past few years, I have exposed a wide variety of deeply troubled companies. I have highlighted these companies as attractive targets for short selling opportunities. Following exposure, many of these companies quickly plunged by 80% or more. Examples of my “targets” which subsequently plunged by at least 80% include:

Biolase (NASDAQ:BIOL), CleanTech Solutions (NASDAQ:CLNT), CytRx (NASDAQ:CYTR), Erickson AirCrane (NASDAQ:EAC), Forcefield Energy Galena (NASDAQ:GALE), Sungy Mobile (NASDAQ:GOMO), Ignite Restaurant Group (NASDAQ:IRG), NeoNode (NASDAQ:NEON), Neptune Technologies (NASDAQ:NEPT), Northwest Bio (NASDAQ:NWBO), Ohr Pharma (NASDAQ:OHRP), Regulus (NASDAQ:RGLS), SunCoke (NYSE:SXC) and TearLab (NASDAQ:TEAR), Tokai Pharma (NASDAQ:TKAI).

These were the absolute homerun short trades.

But in fact, I have also exposed dozens of others which also quickly fell by at least 50%. This can be seen by looking at a list of my prior articles. While not the epic homeruns, I would also consider drops of 50% or more to be very successful short trades.

In my earlier career years, I spent nearly a decade as an investment banker for a major firm on Wall Street, with a primary focus on healthcare companies, biotechs in particular. I performed due diligence on more companies than I can count and helped successful biotechs raise billions of dollars. I learned quite a bit about what separates “real” biotechs from the “wanna be’s”.

It is now many years later, and I have parlayed that experience into investing for my own account. I continue to focus heavily on biotechs and (as my regular readers know) I often focus on short selling opportunities, betting on declines in the share prices of biotechs which have underlying problems.

Examples of my past biotech exposés include CytRx , Galena , Ziopharm (NASDAQ:ZIOP), Revance Therapeutics (NASDAQ:RVNC), Regulus , Keryx Biopharm (NASDAQ:KERX), Ohr Pharma . Each of these stocks quickly fell by at least 60-90% as their problems unfolded.

And now I get to tout my most recent successful short prediction.

About 2 weeks ago, Shares of Tokai Pharma plunged by 80% in a single day when its prostate cancer drug (Galeterone) failed Phase 3 trials. This is yet another stock which I had warned investors about in late 2015. When I wrote about Tokai, the stock had been trading at around $10. I showed that Tokai was engaged in “after-the-fact cherry picking” of data and highlighted heavy insider selling. I described Tokai as a “no brainer short“.

Following my article, Tokai’s share price ground down to around $5.00 – an initial decline of 50%. Failure of its drug was all but guaranteed. Following the announcement of the failure, the stock now trades for around $1.00.

Today I am exposing very deep problems at Nymox Pharmaceutical . There are obvious similarities between Nymox and my past homerun short trades, especially Tokai Pharma and Forcefield Energy.

Nymox is another “no brainier short” which will soon go to true zero. Yes, zero. This is a company with no value and basically no assets which has simply been pumped up on promotional hype.

Nymox – recent developments

In late 2014, shares of Nymox Pharma had just rallied by 25% to over $5.00 as anticipation was building for the results of its two Phase 3 trials for its NX-1207. The trials had been evaluating NX-1207 for use in treating Benign Prostatic Hyperplasia (“BPH”), otherwise known as an enlarged prostate.

Much of the share price strength had been due to a stream of positive press releases from Nymox touting the strong prospects for NX-1207. Examples of these press releases are shown below.

Then on November 3rd, 2014, Nymox announced that both trials had both failed to meet their primary endpoints. The stock immediately plunged by 85% to just 75 cents. It continued to decline to as low as 39 cents in the subsequent weeks.

(Note: as I will demonstrate throughout this article, management was already aware that NX-1207 had failed Phase 3 trials as far back as 6-12 months earlier. Instead of making timely disclosure of the failure, management continued to put out bullish press releases touting the drug’s prospects. During this time Nymox CEO Paul Averback aggressively sold millions of dollars worth of stock at inflated prices, while Nymox the company raised over $5 million from equity offerings. No SEC disclosures of the sales were made at the time).

Since the implosion in November of 2014, the shares have now recovered much of those losses, now trading at around $3.20 In other words, the stock is now up by nearly 10x since its post-failure lows !

The key driver of the stock price rebound has once again been a series of NEW favorable press releases under which the company seems to suddenly indicate that (contrary to previous disclosure) the company’s only drug once again has bright prospects.

As I will demonstrate clearly below, the information in these press releases is deeply misleading. Nymox’s only drug continues to be just as worthless as it was when the stock was trading at 39 cents.

With just 1% institutional holdings and zero research coverage, there has been almost no analysis of the faulty information being disseminated by Nymox.

Investors should run (not walk) from this dubious biotech which has a long and sordid history of deeply misleading shareholders as management dumps shares.

Company Overview

Nymox Pharma was founded in 1985 (yes, over 30 years ago) by CEO Dr. Paul Averback. During the past 30 years, the company has pursued multiple business paths including various diagnostic tests as well as several initial attempts at therapeutic drugs. It has never generated meaningful commercial revenues. The company does generate a miniscule amount of revenue (less than $50,000 per quarter) from sales of two diagnostic tests which test for the presence of nicotine in saliva or urine.

Looking at Nymox’s financials, it may appear that the company has generated a decent amount of revenues over the past 5 years. However, this is absolutely, positively not the case.

Back in 2010, Nymox signed a licensing agreement with Italy’s Recordati Pharma. Recordati paid an upfront licensing fee of $13 million for European rights to Nymox’s only drug, NX-1207. Over the years, Nymox has disclosed working on several different drug compounds, but NX-1207 is the only one that ever made it into any clinical trials. At the time of the Recordati agreement, NX-1207 drug had just entered Phase 3 trials.

It is important to note that the $13 million in cash from Recordati is long since gone and Nymox now has less than $1 million in cash. However, for accounting purposes the Recordati revenues were recognized pro-rata over the subsequent 5 years. This gives the appearance that Nymox had generated around $2-3 million per year in revenues. But again, this is for accounting purposes only. Nymox generates less than $50,000 per quarter in revenue and now has less than $1 million in cash. Nymox has never generated meaningful revenues from commercial sales of any product.

Following the 2014 failure of both Phase 3 trials, Recordati immediately terminated all development and commercialization activities related to NX-1207.

As of 2016, we can see that Nymox is no longer recognizing these revenues for accounting purposes. In Q1 of 2016, Nymox revenues amounted to just $41,501.

As for cash, Nymox’s situation is dire. As of December 31, 2015, the company was down to just $653,000 in cash. The company did raise $2.1 million in a series of small private offerings in February. But by March 2016, it was again down to just $831,000 in cash. Last year the company burned $3.7 million in cash from operations.

Given its shaky financials and limited prospects, it is not surprising that there is virtually no institutional investment in the company. Institutional ownershipstands at just 1% of shares outstanding. There is no research coverage of Nymox. Share price moves are entirely driven by retail day traders who play the latest headlines and press releases on the stock.

Nymox has a long history of misleading investors – and then dumping stock at inflated prices

My regular readers will remember that I have exposed multiple biotech stock promotions at companies such as CytRx , Galena , Ziopharm , Northwest Bio and Tokai Pharma . These promotions shared many similarities to what we now see at Nymox. This will be illustrated below.

Each of these companies was dominated by the participation of retail investors and each of them had completed seemingly “promising” Phase 2 clinical trials. Many small investors relied heavily upon numerous bullish press releases which appeared to presage almost certain success of their drugs.

What many retail investors do not understand is that drugs do not “pass” Phase 2 and then proceed on to Phase 3. The progression from Phase 2 to Phase 3 is simply a DECISION made by the company. For companies running stock promotions, they will ALWAYS proceed to Phase 3, even when they know that their drug doesn’t work. This is because having a drug in Phase 3 typically results in a share price bump and allows the company to raise larger sums of money. We saw this exact phenomenon in each of CytRx, Galena, Ziopham, Northwest Bio and Tokai. And we are now seeing it again with Nymox.

In each case, management aggressively touted the “compelling results” in Phase 2 in order to boost the share price. When the share price bumped up, the companies could then raise more money and enter partnerships with larger drug companies. Insiders would often sell stock.

Yet in each case, the Phase 2 trials were largely a sham. In each of may articles, I showed with a high degree of certainty that each of these dugs stood almost no chance in Phase 3 trials. Yet management chose to proceed to Phase 3 anyway. When Phase 3 results were released, they were a dismal failure in each and every case. The share prices quickly plummeted by 60-80% in a single day.

Sadly, such misleading behavior is very common with small cap biotechs.

With no institutional investment and no research coverage, there is simply no mechanism to keep Nymox honest. The day-to-day share price action is strictly dominated by retail day traders who play the headlines and press releases of the company along with following “technical analysis” on places like Twitter.

Nymox (in particular CEO and founder Paul Averback) has a history of grossly misleading investors and then dumping shares at inflated prices.

During its 30 year history, past business descriptions detailed the company’s primary pursuit of Alzheimer’s related projects. This included a diagnostic testfor Alzheimer’s as well as several anti-Alzheimer’s drugs. Many years ago, Nymox had also done very preliminary work on developing several anti-infective drugs. But these never went anywhere.

Even in the distant past, Nymox and CEO Averback have always been very aggressive in promotion.

With the Alzheimer’s test, Averback had once run an aggressive public ad stating that “Alzheimer’s–Now you can rule it out“. An article in Bloomberg quickly described Averback’s ad as “misleading”, “unproven” and “unsupported”.

According to Bloomberg:

Dr. Norman R. Relkin, an Alzheimer’s specialist who directs a memory-disorders program at New York Hospital-Cornell Medical Center, says hawking the test to the public is “reprehensible.” The Alzheimer’s Assn. derides Nymox’ “highly objectionable” sales efforts and advises against use of the test

Following such public criticism of his marketing tactics on the ineffective test, Avervack then switched to using “scientific meetings” to spread use of the test, funding studies conducted in hospitals which it said were supportive.

Bloomberg concluded that:

In its rush to market, Nymox seems more interested in cashing in on the data it has rather than learning more.

However, the effect of the public promotion by Averback had a strong effect and Nymox’s stock soared from $2.45 to as high as $13.50, before ultimately crashing back to the $2’s.

The issue here was that the Alzheimer’s test proved to be highly problematic.

Nymox’ test had demonstrated a disturbing rate of false positives of 11%. At the time, Harvard Medical School neurologist Peter Lansbury noted: “A false positive for Alzheimer’s is a nightmare.” It would end up preventing diagnosis for various other types of impairment, which could have otherwise been treated if properly diagnosed.

In July of 2005, an FDA advisory panel voted 5 to 2 to block use of Nymox’s Alzhemer’s test. The FDA ruled that the test was “non-approvable“.

By this time, the stock had declined back into the $2’s and Nymox’s cash balance was down to just $151,000. Nymox was broke.

With its Alzheimer’s test a failure, Nymox needed a new investment thesis to boost the stock price. Nymox also desperately needed cash.

Keep in mind that Averback had already been running the company for 20 years and had so far failed to ever generate more than a few hundred thousand in total annual revenues. Even these meager revenues were simply the result of a 2000 acquisition of Serex, which marketed two diagnostic tests for detecting nicotine in urine or saliva samples. At the bottom line, the company was losing $3.5 million per year.

What was Averback supposed to do after 20 years, go out and get a real job ?!? No chance.

On the product side, Nymox soon began emphasizing a new direction for the company. Historical filings had all emphasized Nymox’s focus on Alzheimer’s, but in 2006 the company began to emphasize its new focus on BPH (enlarged prostate).

Nymox had originally been developing a whole series of compounds for Alzheimer’s, including NXD-5150, NXD-9062, NXD- 1191 and NXD-3109. But none of these ever made it into clinical trials.

Instead, Nymox began pursuing NX-1207 for enlarged prostate (BPH). NX-1207 had inexplicably been developed directly from its work on entirely unrelated the Alzhemier’s drugs, none of which showed enough promise to enter clinical trials.

To address the cash shortage, Nymox began relying more heavily on an offshore financing agreement conducted via obscure Panamanian shell company, raising over $3 million by issuing stock at discounted prices.

(Note: In the past, it has been my experience that the involvement of anonymous offshore shell companies in holdings shares has typically been for the purpose of concealing true ownership of the shares as well as concealing the offshore dumping of these shares. Such dumping often presages massive plunges in the share price. This topic merits its own discussion and is addressed in the section below. But for now, we could see that Nymox had temporarily solved its near term liquidity crisis via its new Panamanian connection.)

Despite its curious beginnings as an unrelated Alzheimer’s drug, Nymox took NX-1207 through multiple clinical trials for BPH.

Throughout 2007 and 2008, Nymox began releasing a stream of positive press releases touting strong results from Phase 2 clinical trials. Throughout 2008, the share price began to rise to over $5.00.

Based on strong Phase 2 results (according to Nymox), Nymox then took NX-1207 into Phase 3 trials. And in 2010, Nymox announced a licensing deal with Italian pharma group Recordati.

The Pharma Times put out an article noting:

Italian drugmaker Recordati is shelling out 10 million euros [US$13 million] for access to US group Nymox Pharmaceutical’s experimental enlarged prostate drug NX-1207 in Europe, causing the latter’s shares to rocket more than 60%.

Misleading investors while secretly dumping stock

During this time, Nymox continued to put forth very aggressive and positive press releases. (A list of these is provided below). Because of the Recordati investment and the positive PR, Nymox’s share price had soared back to almost $10 by 2011.

As the stream of hyper bullish press releases continued, CEO Averback was quietly selling millions of shares without ever filing any SEC forms to disclose the sales. From SEC filings, the only way that anyone would know that Averback had sold would be to compare each annual form 20F to the previous year’s 20F and then do the math. This is further complicated by the fact that Averback has often awarded himself additional shares, which obscures the impact of his share sales.

Looking back, we can see that as of March 2011, CEO Averback owned 13.1 million shares. But by March of 2013, this number had declined to 12.2 million shares. Averback had therefore disposed of nearly a million shares when the share price was ranging from $7 to nearly $10, netting him at least $6-8 million in proceeds. As shown below, while he was selling, Nymox had put out more than a dozen bullish press releases on NX-1207.

As described in a subsequent lawsuit, in November 2013, Nymox completed enrollment for its first Phase 3 trial of NX-1207. Nymox did not make any disclosure of the results.(Note: as with most securities lawsuits, the suit was ultimately dismissed.)

Even prior to the failure, biotech journalist Adam Feuerstein from TheStreet.com was the first to highlight when these trials had already been completed as well as the fact that the results were well overdue. Investors refused to listen.

Investors had no idea, but as early as November 2013 (and certainly by May of 2014), Averback would have been fully informed that the first trial of NX-1207 had failed.

Rather than disclose this information to the public, Averback continued selling his shares of Nymox at inflated prices. Again, there was no direct SEC disclosure at the time of the share sales to US investors. Even though Averback knew that the trial had failed, he continued to have Nymox issue positive press releases on NX-1207.

By March of 2014, Averback’s share ownership was down to 11.4 million shares. CEO Averback had therefore sold over 800,000 additional shares at prices of $5-8, again netting him millions of dollars in additional personal proceeds. And again we saw numerous bullish press releases touting NX-1207 at the exact time Averback was dumping his stock.

By May 2014, Nymox’s second Phase 3 trial was completedIt was a failureand Averback would have been fully informed of this. Again, Averback refused to disclose the failure of the Phase 3 trial to investors until 6 months later, during which time he continued selling shares.

By March of 2015, Averback’s holdings were down to 10.9 million shares. He had therefore sold another 500,00 shares. But since there is no SEC disclosure of dates, we cannot prove how many of this last 500,000 shares were sold prior to disclosing the failure of the Phase 3 trials. Given that he knew of the drugs complete failure, and given his past behavior, I am assuming he sold his shares before disclosing the failure to the public.

But wait, it gets worse.

Averback wasn’t just focused on lining his own pockets. Instead, he had the company start aggressively issuing new shares to raise money that it would badly need once the trial failure became public. The shares were issued to an anonymous offshore Panamanian buyer, which would then sell them into the market. Again, no disclosure of any such sales were made at the time.

From the subsequent 20F filing (released a year later), we can see a list of the share issuances which started in December 2013. We can see that the share sales aggressively continued even after the second trial failure in May of 2014. Clearly the sale prices were (obviously) significantly above the sub-$1 levels where the stock ended up once the trails failures were disclosed.

– December 18, 2013, 48,544 common shares were issued at a price of $6.18 per share.

– January 14, 2014, 69,686 common shares were issued at a price of $5.74 per share.

– February 4, 2014, 61,533 common shares were issued at a price of $5.69 per share.

– February 28, 2014, 62,297 common shares were issued at a price of $5.62 per share.

– March 25, 2014, 65,408 common shares were issued at a price of $5.35 per share.

– April 11, 2014, 28,468 common shares were issued at a price of $5.27 per share.

– April 25, 2014, 29,487 common shares were issued at a price of $5.09 per share.

– May 7, 2014, 63,573 common shares were issued at a price of $4.72 per share.

– May 16, 2014, 59,595 common shares were issued at a price of $5.03 per share.

– May 28, 2014, 29,132 common shares were issued at a price of $5.15 per share.

– June 10, 2014, 31,062 common shares were issued at a price of $4.83 per share.

– June 23, 2014, 31,302 common shares were issued at a price of $4.79 per share.

– July 3, 2014, 21,501 common shares were issued at a price of $4.65 per share.

– July 8, 2014, 52,312 common shares were issued at a price of $4.78 per share.

– July 24, 2014, 31,672 common shares were issued at a price of $4.74 per share.

– August 5, 2014, 31,179 common shares were issued at a price of $4.81 per share.

– August 8, 2014, 60,926 common shares were issued at a price of $4.92 per share.

– August 27, 2014, 60,048 common shares were issued at a price of $5.00 per share.

– September 9, 2014, 61,703 common shares were issued at a price of $4.86 per share.

– September 15, 2014, 31,049 common shares were issued at a price of $4.83 per share.

– September 30, 2014, 37,406 common shares were issued at a price of $4.01 per share.

– October 9, 2014, 33,791 common shares were issued at a price of $4.44 per share.

– October 24, 2014, 50,040 common shares were issued at a price of $5.00 per share.

Under those drawings, Nymox received over $5 million in proceeds. The majority of these drawings occurred at a time when Averback knew with 100% certainty that the trials had failed.

As soon as the Phase 3 failures were announced, the share price plunged. But Nymox had already raised $5 million for its own use and Averback had personally pocketed at least $15 million for himself.

After pocketing the $15 million, and with the share price in tatters, Averback then announced that he would be “forfeiting” his $290,000 salary to help the company preserve cash. But he then also awarded himself 3 million new sharesupfront. This happens to be roughly the amount he had sold before disclosing the Phase 3 failures. So basically, after selling the 3 million shares for $15 million, he then got all of those shares back – for free.

Next, he then also set the company up to issue him an additional 250,000 shares per month for up to 7 years !! The justification for this massive award was that he was forgoing his $290,000 salary. But keep in mind that this would total a whopping 21 million shares ! Even at the distressed prices at the time of the award, the company valued these awards at $21.2 million. At current prices, they would be valued at over $60 million. This is how Averback compensated himself for forfeiting his mere $290,000 salary.

So Averback has already cashed out of at least $15 million personally. Due to the recent share price rise, his current holdings are now worth an additional $60-70 million. And with the additional shares he receives each month, he is set to receive up to $80 million more.

No bad for a company which has never even generated meaningful revenues over its 30 year history.

Included is a list of the press releases that Averback was putting out in the time that he was dumping his shares. Notice that a good number of these bullish releases occurred AFTER he was well aware that NX-1207 had failed Phase 3 trials.

Date Press Release
2011-01-31 January 28 Safety Monitoring Committee Meeting For Nymox Pivotal Phase 3 NX-1207 Trials Indicates Favorable Safety Profile
2011-03-16 Nymox Announces Positive New Results in 7 Year Study of NX-1207 for
2011-04-13 Nymox Announces New Positive Long-Term 39-45 Month Follow-Up Results From NX02-0016 U.S. Study of NX-1207 for BPH
2011-05-04 Safety Monitoring Committee Meeting Positive for Nymox Pivotal Phase 3 NX-1207 Trials
2011-08-17 August 16 Safety Monitoring Committee Meeting For Nymox Pivotal Phase 3 NX-1207 Trials Indicates Favorable Safety Profile
2012-11-22 Nymox Provides Safety Monitoring Committee Results and Update for Pivotal Phase 3 NX-1207 Trials
2012-02-15 Nymox Announces Current Safety Monitoring Committee Results and Update For Phase 3 NX-1207 Trials
2012-03-26 Nymox Announces New Positive Long-Term Follow-Up Study Results for Subjects Treated with NX-1207 for BPH
2012-04-26 Nymox Announces Positive Safety Monitoring Committee Results for Phase 3 NX-1207 Trials for BPH
2012-07-09 Nymox Announces Positive Safety Monitoring Committee Results for Phase 3 BPH NX02-0020 Repeat Injection U.S. Study
2012-07-11 Nymox Announces Completion of Enrollment for Phase 3 BPH Re-Injection Study
2012-07-17 Favorable July 12 Safety Monitoring Committee Meeting For Nymox Pivotal Phase 3 NX-1207 Trials
2012-07-31 Nymox Reports Positive Results from Combined Statistical Analysis of Long Term Follow-up Studies of BPH Drug
2012-09-12 Nymox Reports Positive Safety Monitoring Committee Results For Pivotal Phase 3 Trials
2012-09-18 Nymox Announces Positive Safety Monitoring Committee Results for BPH Repeat Injection Study
2012-11-19 Nymox Announces Clinical Trial NX02-0022
2012-11-28 Nymox Announces Completion of Patient Enrollment in Pivotal U.S. Phase 3 BPH Study
2013-01-22 Nymox Announces New Positive Results in Phase 3 Repeat Injection Study of NX-1207 for BPH
2013-02-19 Nymox Announces Positive Immunogenicity Results for NX-1207 BPH Program
2013-03-18 Nymox Announces Presentation of NX-1207 Data at Annual Meeting of the European Association of Urology
2013-04-16 New Study Supports Favorable Sexual Function Profile for Nymox’s NX-1207 for Prostate Enlargement
2013-04-23
Nymox Announces First Patient Enrollment for NX02-0022 Reinjection Study of NX-1207 for BPH
2013-05-03 Nymox Announces Completion of Patient Enrollment in Final Pivotal U.S. Phase 3 BPH Study
2013-07-11 Nymox Reports Positive Safety Monitoring Committee Results For Pivotal NX02-0017 Phase 3 Trial
2013-08-22 Nymox Reports Positive Results of Safety Monitoring Committee Review of NX02-0018 Phase 3 Trial
2013-11-11 Nymox Reports Update and Positive Safety Data for Phase 3 NX02-0022 Reinjection Study of NX-1207 for BPH
2014-01-28 Nymox Provides Update on NX-1207 Phase 3 BPH and Phase 2 Prostate Cancer Clinical Trial Activities
2014-05-08 Nymox Announces Completion of Second Pivotal Phase 3 NX-1207 Trial for BPH
2014-05-21 Nymox Reports New Results on Favorable Side Effect Profile of NX-1207 Treatment
2014-06-11 Nymox Reports Positive New Safety Study Data For Phase 3 BPH Drug
2014-06-17 Nymox Reports Positive Update on Nerve Sparing and Sexual Function Preservation in Men Treated With NX-1207
2014-07-15 Nymox Announces Completion of Enrollment for Second BPH Re-Injection Study
2014-07-22 Nymox Announces Positive Efficacy Results in Phase 3 Repeat Injection Trial of NX-1207 for BPH
2014-11-02 Nymox NX-1207 BPH Pivotal Phase 3 U.S. Studies NX02-0017 and NX02- 0018 Fail to Meet Primary Efficacy Endpoints

Nymox disclosure – going from “very bad” to “completely preposterous”

As stock promotions go, Averback had turned Nymox from a complete failure into quite a success. He managed to personally pocket at least $15 millionhimself simply by selling stock at inflated prices before disclosing the drug failures. This alone was more than the total cumulative revenues of Nymox in its entire 30 year history !

But Averback wasn’t done. In fact, he was just beginning. Now that he was awarding himself millions of additional shares, he now had a massive incentive to get the share price back up.

And in fact, with nearly $100 million worth of stock at prevailing low prices, the real incentive is to simply get the VOLUME up just so he could sell more stock even at the low prices.

But there were already a series of lawsuits brewing against the company following the share price implosion.

The first thing he did was to re-domicile the company to the Bahama’s in 2015. Now he would continue to benefit from the minimal disclosure requirements, but Nymox would also be largely insulated from the legal consequences of his stock promotion.

Subsequent to changing its domicile, the next 20F noted the company no longer had any stated business purpose or any restrictions on what business it may choose to carry out:

our articles of incorporation are on file with the Acting Registrar General of the Commonwealth of The Bahamas under Corporation Number 175894 (NYSE:B). Our articles of incorporation do not include a stated purpose and do not place any restrictions on the business that the Corporation may carry on.

Nymox has institutional holdings of just 1%. The majority of outside shares appear to be simply owned in small lots by scattered retail investors. Yet somehow the vote garnered the support of 94% of these scattered shareholders.

Such a move to an offshore secrecy haven would clearly disadvantage shareholders. That Nymox could somehow garner such strong support for such a detrimental motion seems like a stretch. In fact, even getting a 94% turnout for such a retail-only stock should be nearly impossible. Locating thousands of small investors and getting them to actually vote would have been quite a challenge.

But as we will see, Nymox’s offshore Panama connection may mean that there are concentrated pockets of ownership which are not reflected in any company disclosure. This would easily explain how Nymox could obtain overwhelming approval for such a detrimental motion.

This is just my observation and opinion, it remains to be proven. In fact, this could be the single most interesting part of the Nymox promotion story, so keep this aspect in mind as we proceed.

Re-igniting the promotion from the Bahamas

As soon Averback got the company re-domiciled to the Bahamas in 2015, the immediate next step was to re-ignite the stock promotion.

What Nymox did next was to “re-evaluate” the failed Phase 3 data in what it referred to as a “prospective extension study”. It was just 8 months after the dismal failure of its two Phase 3 trials. But this simplified “new look” at the data ended now ended up pointing to an overwhelming success with NX-1207 showing dramatic benefit vs. placebo. Just 8 months earlier, NX-1207 had showed little to no benefit vs. placebo.

To be clear, this was not a new study. It was simply “data mining” using data from the existing failed Phase 3 studies. The failed data and various subsets can simply be mined and re-analyzed over and over again until a something resembling a positive result is finally obtained.

In any event, this “prospective extension study” of existing data allowed the now-Bahamian Nymox to put out an explosive press release which single handedly dove the share price up by 125%.

Fierce Biotech cautioned that:

Additional new blinded protocol data from the same pivotal studies is being prospectively captured in order to assess long-term results in patients up to 5 years after a single injection of NX-1207 2.5 mg vs placebo,” said CEO Paul Averback at the time….

There’s no word on what the FDA’s position will be on “prospectively captured” data like this.

In that explosive press release Nymox promised that:

The Company now intends to meet with authorities and to proceed to file where possible in due course for regulatory approvals for fexapotide triflutate in various jurisdictions and territories.

The chances that the FDA allows Nymox a “do-over” on two Phase 3 trials due to after-the-fact data mining are basically zero.

Fierce Biotech had noted specifically that:

The general rule of thumb in biotech is that an unblinded Phase III failure is hard to get aroundYou can mount a new study or give up.

Quite obviously Nymox does not have the cash to mount a new study, which is why it simply sat and “re-analyzed” the old data until it found a subset that looked positive.

But the press release was a quick and easy way for Nymox to rally retail day traders and get the share price moving again. The ruse clearly worked due to the all retail nature of the investor base and the notable lack of analyst coverage to interpret the findings.

In reality, NX-1207 for BPH is dead. It failed both of its Phase 3 trials and no amount of after-the-fact “prospective data capture” is going to change that.

Case in point, a full year has now passed and there has not been a single update as to any progress on NX-1207 for BPH or any supposed discussion with the FDA. Not even a single new press release on BPH.

Instead, Nymox has shifted the focus to using NX-1207 for a totally different application. This time it is as an actual treatment for prostate cancer. Towards the end of 2015, Nymox began putting out preliminary early announcements of results in its Phase 2 trials for NX-1207 in treating prostate cancer.

As was the case in years past with the Phase 2 trials for BPH, the press releases were emphatically glowing about the strong prospects for NX-1207 in treating prostate cancer.

On February 9th, Nymox announced the results of the Phase 2 trial. Not surprisingly, the results were stated in a way that was overwhelmingly positive.

It was clear from the press release that “The trial commenced in February 2012” and that “The study lasted 40 months overall from the first patient randomized to the last patient 18 month endpoints.”

So you do the math. This means that Nymox already had the result of this study for 8 months before releasing the data.

This is funny because just a few days BEFORE releasing the data, Nymox conducted another financing whereby it issued $2.1 million of new shares to what it described as “long-term Nymox shareholders”.

At the time, Nymox did not disclose the names of the investors nor did it disclose the price at which the investment was made.

The point is this: Nymox already knew the results of the Phase 2 study for 8 months and it chose to sell $2.1 million of new shares at some unspecified discount to unnamed existing investors just days before releasing the positive press release. It was a true sweetheart deal. It was literally like handing the unnamed investor a pile of free money.

As expected, the share price immediately soared on 10x normal volume due to the glowing press release.

But the gains were not going to last.

Shortly after the glowing press release, independent websites focused on prostate cancer began to see the claims being made by Nymox. And this is where the latest problems began.

Website Prostate Cancer Info Link focuses exclusively on prostate cancer issues. The site is sophisticated and features detailed articles, video presentations, a daily blog and an interactive mentoring service. The site found immediate problems with Nymox’s press release.

Referencing Nymox’s Phase 2 protocol, the site noted that:

Now, as we have indicated all along, there are very serious questionsabout whether any of these patients actually needed treatment at allat the time that they were initially entered into this study, so it is difficult to ascertain exactly what the real benefit is (or is not) from this form of treatment.

You take a group of men who show no indication that they need treatment. You treat many of them (although it is unclear from the media release or the study summary on ClinicalTrials.gov whether the patients were randomized to one or other of the three study arms or how many patients were enrolled in each of the three arms), and then you claim success without providing any data on the numbers of patients who are said not to need surgery or radiation therapy … and all this with a drug that has no side effects.

Now if these were results in men with even favorable, intermediate-risk prostate cancer (i.e., clinical stage T1c or T2a, PSA ≤ 10, a Gleason score of 3 + 4 = 7), then one might be able to see what the fuss was about, but the patients enrolled in this trial were so low risk that giving them the drug might have had nothing to do with the actual outcomesdescribed!

We should be clear that, at this time, there is no randomized Phase III clinical trial in progress or scheduled to test the effectiveness and safety of NX-1207 in prostate cancer.

In other words, these findings basically invalidated the entire glowing press release from Nymox as being nearly irrelevant. It was a sham (just like the Phase 2 BPH trials from years past).

From February 2016 until June 2016, the share price stayed range bound in the range of $2-3. There was simply no news to drive the stock.

Then on June 22nd, Nymox put out yet another explosive press release detailing the results from another “prospective study” of the failed Phase 3 BPH data.

Of all the recent press releases, this press release was the worst. It was the least substantiated and the least rigorous. Yet the language in it was by far the most extreme.

The press release simply noted that:

These results are astonishingly good

Nymox went on to point out that “The expected rate of new prostate cancer in the U.S. general male population in this age group is in the 5-20% range after 7 year”. It then stated that the observed rate for those who had received NX-1207 was just 1.3%.

This simplified high level summary is what caused the share price to soar.

But in fact, this latest press release contained pure hyperbole and virtually no data with which to back it up. First off, it seems clear that many retail traders misinterpreted the release as if it were clinical trial results, which it is not. Again, this is a simply a rehash of old data from the failed Phase 3 BPH studies from 2014. Nymox didn’t even include the most basic of information from this “prospective study”, such as what age range was used or even basic statistical information such as means, medians, p values or baseline characteristics.

And in fact, it was noted that:

All men were thoroughly evaluated to exclude any prostate cancer prior to qualifying for enrollment in the studies.

So the fact that the incidence of prostate cancer in this group was very low should have been EXPECTED, and not a surprise.

But after years of using the same playbook, such an aggressive press release from Nymox should have come as expected. Here is an example of a previous glowing Phase 2 press release on the soon-to-fail NX-1207 for BPH.

Here is the worst part:

Like the most recent press releases, it offers strong assurances and praise for NX-1207 from different expert urologists who seem to assure us of NX-1207’s promising future.

One of these doctors who has regularly touted Nyomx is Dr. Ronald Tutrone.

Dr. Tutrone is the one who was responsible for the comment stating that “These results are astonishingly good”. His credentials appear to be quite strong and the quote was very forceful. This is likely what sent the stock soaring.

Given that Averback owns millions of shares of Nymox, his own bias and self interest should be obvious to any investor.

However, Tutrone appears to be just an outside doctor who is “astonished’ by the great results for NX-1207. In the press release, there is no disclosure of stock ownership or funding by Nymox to Tutrone.

Yet for those who are willing to dig deep enough, we can see that as part of a totally separate ASCO abstract, Dr. Tutrone had been required to disclose his stock ownerships and funding relationships with various companies.

Not only has Dr. Tutrone previously disclosed that he received direct funding, but he also disclosed personally owning Nymox shares. Again, no mention of these conflicts was made in the recent aggressive press releases which sent Nymox soaring.

This disclosure was not easy to find. I am a professional researcher who specializes in biotech stocks and I knew exactly what I was looking for. Yet it still took me days to find this disclosure from Tutrone. There is simply no way that small retail investors could be expected to find such disclosure.

The Panama connection – why you should be concerned

Over the years I have learned to pay particular attention to the presence of anonymous offshore shell companies when they appear as shareholders in dubious small cap companies. Sometimes it takes a bit of extra effort to identify these entities, but it is certainly well worth the effort.

In past cases, it was the presence of these hidden offshore entities that presaged the rapid implosion of the share price. This is because these are often anonymous offshore entities who don’t disclose how much stock they own or when they are selling. Once they start dumping stock, the share price simply implodes. Bystander investors are left wondering what happened. In most cases they will never know.

Note that there is no way to prove this until well after the fact, so for now it remains just my opinion based on past experience.

I saw this to dramatic effect when I exposed fraudulent Forcefield Energy , which had been trading at around $7.50. Following my article, that stock imploded by 60% in 3 days before being halted. When it reopened, it immediately traded down to just pennies. The reason why was clearly the dumping of shares held by anonymous offshore entities in Belize. More details are provided on this below.

With Nymox, the company disclosed the involvement of an offshore Panamanian shell company named Lorros-Greyse Investments to provide financing to the financially strapped company. The earliest reference to Lorros-Greyse appears in 2003, which is the inception of Nymox’s agreement with Lorros.

Initially the arrangement called for Lorros to purchase up to $5 million of new shares from Nymox at discounted prices. That agreement was quickly superseded by a new agreement for up to an additional $12 million in stock. Then there was a subsequent agreement for up to an additional $13 million. Then another $15 million.

We can see from the formation documents that Lorros-Greyse was actually formed within just days of the beginning of this arrangement with Nymox. We can also see that over the past 13 years there are no other references online or in SEC documents. With Lorros-Greyse, there has been no other activity and no involvement with any other company other than NymoxEVER.

The point is that Lorros-Greyse is simply an anonymous offshore sell company which was set up specifically to run the Nymox transactions and for no other purpose. It has been my observation that such anonymous shell companies are used to hide three things: the identity of the ultimate share holder, the size of their position, and the actual selling activity.

As an offshore entity, all sales to Lorros-Greyse were made pursuant to AN EXEMPTION FROM SEC REGISTRATION. Likewise, any sales by Lorros-Greyse would be unregistered offshore sales as well. They would be invisible to US shareholders, even though they would certainly impact the share price of Nymox stock in the marketplace.

Lorros-Greyse has no purpose other than acquiring and disposing of shares in Nymox. There has never been any other activity or reference to Lorros-Greyse. But by tracking down the nominee directors of Lorros-Greyse we can identify their activities in other similar companies.

It should come as no surprise that the other companies which w can tie to Lorros-Greyse have imploded to the pennies.

Note that the named directors are nominee directors only. They are NOT the beneficial owners who control the stock. The real owners are hidden.

For example, Viewpoint Investment Corp is another anonymous offshore Panamanian shell company. We can see from its formation documents that it has nearly identical directors as Lorros-Greyse.

· JOSE E. SILVA

· DIANETH M. DE OSPINO

· MARTA DE SAAVEDRA

With additional subscribers:

· JOSE EUGENIO SILVA

· DIANETH ISABEL MATOS DE OSPINO

Like Lorros-Greyse, Viewpoint appears to have been solely formed for the purpose of acquiring and disposing of millions of shares of a single company called 3Power Energy (OTCPK:PSPW). The shares would be acquired at a deep discount and then sold offshore using exemptions form US securities laws. At the time of its reverse merger, 3Power was trading at $2.48. Since that time it has collapsed to just 8 cents. Despite owning nearly 20 million shares, Viewpoint never disclosed owning these shares in any SEC filings. It also never disclosed when it sold (dumped) these shares. Anyone still holding onto shares of 3Power is simply left wondering what the heck happened to cause such an implosion.

Dianeth M. De Ospino is listed as a director of both Lorros and Viewpoint. She is also a director for another Panamanian entity called Opunosa Investment, whose sole purpose was to acquire and dispose of millions of shares in a company called World Gaming. Opunosa has not disclosed any sales of shares in World Gaming, however the share price has now imploded to just factions of one penny. Again, uninformed investors in World Gaming get to simply wonder what happened.

THE POINT IS THIS:

Lorros-Greyse is Viewpoint and is also Opunosa. It is all the same exact thing. They even use the same Panamanian law firm, Morgan & Morgan.

Morgan & Morgan received a “dishonorable mention” from The Economist in an article entitled “Who’s Next ?”. The focus of the article was on “incorporation mills” in Panama. Such firms received heavy attention this year upon release of “The Panama Papers” which detailed how many international politicians were using Panamanian entities to hide ill gotten assets and conduct illegal activities.

The Economist noted:

other incorporation mills face more scrutiny too, among them Panama’s other big law firms, such as Morgan & Morgan, and OIL, part of Hong-Kong-based Vistra, which caters primarily to Chinese customers. Like Mossack, these are wholesalers. They sell shell companies in blocks to law firms and banks, which sell them on to the end client, sometimes via other retailers.

The presence of anonymous offshore shell companies is a screaming red flag – DANGER !

A while back I exposed problems at Forcefield Energy . Forcefield plunged by more than 30% on the day of my article and management quickly issued a forceful response against me. Forcefield claimed that it had requested that I be investigated by regulators and stated that:

“We are not going to stand by and allow our Company, officers and directors, employees and shareholders to continue to suffer through what appears to be an orchestrated short selling attack based on misinformation”.

In putting out this press release, management was simply telling the latest in a string of lies that it had told to shareholders.

Forcefield promised to give shareholders a full business update on the company on the following Monday. In the meantime, the share price continued to plunge on massive volume and was quickly down by 60%. But when Monday rolled around, the only update the company could give was that the Chairman of Forcefield had been arrested by the FBI at Miami International Airport, as he was trying to flee the country, following my article.

Again, this all happened within 3 days of my article exposing the fraud at ForceField. For those who have time, I recommended re-reading that article, as it provides some good hints on how to spot impending frauds.

An early tipoff that Forcefield likely had major problems was the existence of numerous transactions and arrangements in offshore havens such as Panama, Belize and Costa Rica.

Just like Nymox, Forcefield appeared to have institutional investment of just 1% of outstanding shares. It appeared that 99% of the stock was spread out in the hands of retail investors. But we can see from the subsequent implosion that this was not the case at all.

According to the Justice Department complaint:

St. Julien [The Chairman] did not disclose his ownership and control of the shares purchased through nominees and used offshore banks, including in Belize, to pay the nominees to conceal his ownership and control. St. Julien coordinated the purchases by telephone and text messages…. Through his scheme, St. Julien and his co-conspirators deceived the investing public by creating the appearance of genuine trading volume and interest in ForceField’s stock

The FBI ended up indicting nine individuals in a $131 million fraud scheme which involved payoffs using brown bags filled with cash as well as disposable cell phones and content-expiring messaging applications in an attempt to avoid tracing,

The indictment noted that:

They took a company with essentially no business operations and little revenue and deceived the market and their clients into believing it was worth hundreds of millions of dollars through a dizzying round of unauthorized trades and deceptive promotions.

(Hint: In my opinion, this sounds quite a bit like Nymox).

Within just a few trading days of my article, Forcefield had collapsed by nearly 100%. The only explanation for this is that the ownership of Forcefield stock was far more concentrated than the supposed “1% institutional interest” would indicate. When these undisclosed holders chose to sell, they dumped massive amounts of stock, crushing the share price. These large, undisclosed, offshore holders were invisible to the rest of us. But they knew more than anyone that the company had no cash and no business prospects. Even after the share price had plunged by 50%, these holders were still willing to sell at any price, because they knew that the stock was ultimately worthless.

Based on my experience with Forcefield, I think I have every reason to have similar concerns about Nymox and its use of anonymous offshore Panamanian entities to conduct its financings. Given that the transactions are unregistered, we have no idea who is behind Lorros, how many shares they may still hold, when they are selling or how much.

The recent “sweetheart” financing deal in February to another anonymous investor only adds to my concern.

A history of using troubled auditors favored by pump and dumps and stock promotions

Many years ago, Nymox had all the appearances of a legitimate company. It had a single drug in two Phase 3 trials, it had accumulated a decent cash balance via its licensing deal with Recordati and it was audited by Big 4 auditor KPMG.

But as soon as the truth came out regarding the failed Phase 3 trials of NX-1207, everything changed. Fast.

We already saw that the share price imploded by more than 80% to just pennies. Almost immediately thereafter, two long term board members (Roger Guy and Jack Gemmell) resigned.

The cash had long since run out. Nymox was down to around $600,000 is cash and had a working capital deficit of $580,000. Over the prior year it had burned over $5 million in cash.

KPMG then found material weaknesses in Nymox’s internal controls. As of 2016, these material weaknesses have still not been remedied.

Thayer O’Neal and the revolving door of troubled auditors

Nymox was then forced to find a new auditor. Nymox initially settled with little known Cutler & Co. But following Cutler’s deregistering with the PCAOB, Nymox ended up with the audit firm of Thayer O’Neal.

Thayer O’Neal is basically an auditor for failed penny stock promotions. Both John Thayer and Thomas “Mickey” O’Neal had been partners at a firm called LL Bradford. LL Bradford had just merged with another little deeply troubled auditor called RBSM. The PCAOB had conducted a detailed inspection of RBSM in 2014, finding numerous deep auditing deficiencies. That report was not released until 2015, at which time the troubled RBSM simply merged with troubled LL Bradford.

LL Bradford itself was then shut down 7 months ago when the PCAOB censured the firm and revoked its registration, stating:

the Firm [LL Bradford] repeatedly violated PCAOB rules, auditing standards, and quality control standards and, in connection with several of those audits, also violated Section 10A(g) and Section 10A(j) of the Securities Exchange Act of 1934 (“Exchange Act”) and Exchange Act Rule 10A-2 concerning auditor independence.

These are very serious violations and as a result, LL Bradford was shut down completely.

Partners Thayer and O’Neal then simply started a new firm, changed the name and picked up LL Bradford/RBSM’s troubled former clients. As a result, the “new firm” quickly assembled a roster of failed penny stock promotions.

From his LinkedIn page, partner Thomas “Mickey” O’Neal clearly describes his “new” firm as just a “spin off” of the defunct LL Bradford and RBSM.

In other words, this is just a revolving door of faulty audit practices. When the PCAOB shuts one down, the partners just put a new name on the door and keep performing the same poor audits for the same troubled clients.

Aside from Nymox, this is who the “new firm” Thayer O’Neal audits. It is simply a collection of failed stock promotions which were previously audited by LL Bradford / RBSM and which trade for just pennies.

Company Ticker Market Cap Share Price Auditor
Can Cal Resources CCRE $2.9 m $0.07 LL Bradford / Thayer O’Neal
Joey New York JOEY $1.2 m $0.02 LL Bradford / Thayer O’Neal
3D MakerJet Inc MRJT $2.2 m $0.01 RBSM / Thayer O’Neal
AI Document Services AIDC $13 m $0.15 RBSM / Thayer O’Neal
Momentous Entertainment MMEG $2.8 m $0.03 RBSM / Thayer O’Neal
Indoor Harvest INQD $6.6 m $0.55 RBSM / Thayer O’Neal
Abco Energy ABCE $1.0 m $0.02 RBSM / Thayer O’Neal
CEN Biotech FITX $6.0 m $0.01 RBSM / Thayer O’Neal

THE POINT IS THIS:

Nymox has basically picked an auditor who’s past history shows that it is among the worst of the worst. The partners and their clients have a history of massive audit deficiencies and the predecessors were simply shut down by the PCAOB.

Thayer O’Neal simply adopted a new name and continued to audit the same companies.

This existing client list shows that Thayer O’Neal is the auditor of choice for failed penny stock promotions which trade for just a few cents and with no meaningful market value. Nymox appears to be the ONLY EXCEPTION to this pattern – for now.

Nymox’s legal counsel charged with running other stock frauds

From the recent equity prospectus in February 2016, we can see that Nymox is being represented by Zouvas & Associates LLP.

We are being represented by Zouvas & Associates LLP; the validity of the securities being offered by this prospectus and legal matters relating to applicable laws will be passed upon for us by Zouvas & Associates LLP.

Zouvas’ name also appears in previous Nymox SEC filings.

Anyone who is familiar with this name will immediately start hitting the “sell” button before reading any further.

Just a few months ago (April 2016), Luke Zouvas was charged by the SEC in a massive fraud case involving a “sham IPO” and “subsequent pump and dump” with Crown Dynamics Corp (OTC:CDYY). That company has since been renamed Airware Labs (OTCPK:AIRW). Promotion had driven the stock to nearly $3.00. It now trades for just 9 cents.

A read of the SEC charges reveals striking similarities to what we see going on at Nymox.

The history of Nymox’s attorney Zouvas’ in orchestrating stock fraud / promotion is extensive.

Zouvas had previously been a partner in the firm Carrillo Huettel & Zouvas Llp. Luis Carrillo was then busted by the SEC for running an international pump and dump scheme using Canadian stock promoters and Bahamas based brokers.

(Hint: Once again, this sounds a lot like Nymox)

But in reality, Carrillo and his cohorts used a variety of offshore locations (in addition to the Bahamas) to run stock promotions. Carrillo was also featured in a very informative article entitled:

$500 MILLION BELIZE PENNY STOCK MANIPULATION RING SHUT DOWN

(For those who wish to understand the mechanics of offshore stock promotion, I highly recommend reading that article.)

Nymox’s attorney Zouvas separated from Carrillo to found his own firm, which also focused on stock promotions. His brother Mark is an accountant who often runs the books. Up until the recent SEC charges, it had been a great recipe for stock promotion success.

Examples include the now bankrupt Reostar Energy. The ensuing lawsuitnoted that:

An alleged under-the-table deal between former CEO Mark Zouvas and several investors to sell the company’s credit line at a low ball price was approved after the board of directors was misled… the deal designed to skim millions of dollars to Zouvas.

Other past Zouvas promotions include Bold Energy (Pending:BOLD) which eventually became the stock Lot78 (OTCPK:LOTE). Nymox’s attorney Luke Zouvas acted as the attorney in the deal.

Similar to Nymox, Lot78 was a low priced penny stock which soared to over $4.00 due to stock promotion and bullish press releases. Just like Nymox, Lot78 had minimal revenues, was largely out of cash and had virtually no institutional investment. Yet the share price rose on retail hype alone.

An article on Seeking Alpha came out, exposing the promotion, entitled:

Lot78 Inc: Why This $240 Million Company Could Drop By 75% Or More

In fact, this was a dramatic understatementZouvas’ Lot78 has since plunged to just fractions of one penny. It is effectively a zero.

Nymox’s attorney Zouvas was also subpoenaed regarding USA Graphite (OTC:USGT), which has also plunged from over $4.00 to just fractions of one penny.

So the list of Zouvas promotions is long, and in each and every case the stocks end up imploding:

Company Result
Cuba Beverage (OTCPK:CUBV) Imploded to less than 1 penny
Definitive Rest Mattress(OTCPK:DRMC) Imploded to less than 1 penny, previously valued at over $100 million. Exposed by Seeking Alpha
Appiphany Technologies(OTCPK:APHD) Imploded to 1 penny.
Lot78 (OTCPK:LOTE) Imploded from over $4.00 to less than 1 penny.
ReoStar Energy Bankrupt. Fraud claims against Zouvas.
3DX Industries (OTCQB:DDDX) High of $2.75. Imploded to just 3 cents.
Airware Labs Imploded from $3.00 to 9 cents.
Enterra Corp (OTCPK:ETER) Trades for 5 cents.
Lustrous Inc (OTCPK:LSTS) Imploded from $2.50 to less than 1 cent.
Mix 1 Life (OTCQB:MIXX) Imploded from $6.00 to 75 cents
Noho Inc (OTCPK:DRNK) Imploded from $3.24 to less than 1 penny.
Petron Energy II (OTCPK:PEII) Following promotion, imploded to fractions of 1 penny.
USA Graphite Imploded from $4.00 to 1 penny.

THE KEY POINT:

EACH OF THE STOCKS ABOVE HAS IMPLODED TO JUST PENNIES. BUT AS WE ARE NOW SEEING WITH NYMOX, THERE HAVE BEEN PAST PROMOTIONSWHICH DROVE THE STOCKS SUBSTANTIALLY HIGHER.

IN ADDITION TO THE INVOLVEMENT ON ZOUVAS, THE OBVIOUS COMMON THEMES HERE ARE

  • · LACK OF MATERIAL REVENUES
  • · LACK OF CASH
  • · LACK MEANINGFUL INSTITUTIONAL INVESTMENT.
  • · A STREAM OF BULLISH PRESS RELEASES

(IN OTHER WORDS, EACH OF THE ABOVE ZOUVAS PROMOTIONS ARE JUST LIKE NYMOX.)

The explosive rise in Nymox following several dubious press releases is no coincidence. Here are past examples of Zouvas promotions:

Petron Energy, 2013:

The stock of Petron Energy II (OTCBB:PEIIadded a mind blowing 733% to its price in just 2 sessions relying on a promotional campaign in the end of July

USA Graphite, 2013

USA Graphite Inc. has been in the top ladder of OTC Markets activity statistics for the last couple of weeks. Just as we speak, the company has already turned over more than $1.6 million worth of shares and this is just the first half of today’s trading session. At the same time USGT stock has hit $0.87 per share which is nearly double its value from one month ago.

Mix 1 Life, 2015

Mix 1 Life, which makes nutritional shakes now carried in the health-foods sections of some large Arizona supermarkets, recently embarked on a local TV ad campaign. The Scottsdale company still hasn’t posted a profit, but recent sales have ramped up. Mix 1 Life is worth $30 million, at a recent share price of $2.30.

Lot78, 2013

After shares traded for less than $1.50 on Wednesday, they ended the week at more than $6. There was no news to justify the price soaring.

Nymox’s banker of choice – Chardan Capital Markets

History has shown us that when Chardan says “BUY” the wisest move is to quickly hit “SELL“.

In February, Nymox filed a 424B5 prospectus with the SEC hoping to raise up to $12 million by issuing new shares. This is the most recent document naming Zouvas at Nymox’s attorney. It also named Chardan Capital Markets as Nymox’s banker.

The timing of the prospectus also happened to coincide with Nymox issuing a new bullish press release. Nymox clearly wanted to be prepared to issue more stock if the share price soared.

Chardan was originally founded by Dr. Richard Propper, later getting his son Kerry Proper involved.

Chardan and its founders have a very long, long list of securities law violations going back decades and yet somehow the firm stays in business. Even a cursory Google search reveals multiple SEC and FINRA disclosure events / violations. Here is one recent detailed example on market manipulation of 4 US based small cap companies.

In the 1990’s, Richard Propper resigned as the managing general partner at Montgomery Medical Ventures, a venture-capital firm controlled by Montgomery Securities, amid reports that he inadvertently disclosed to a family member inside information about a Montgomery-related transaction (SEC investigation).

A few years later, he settled with the SEC over allegations that, as a general partner of two Montgomery funds, he failed to disclose holdings and transactionsin several public companies.

In 2005 and 2007, both Proppers were sued for defrauding the Small Business Association (“SBA”) out of $35 million.

It was at about this time that the Proppers and their Chardan Capital discovered the gold mine that was Chinese reverse mergers and SPACs (Special Purpose Acquisition Cos).

The implosion of Chinese reverse merger frauds is where Chardan became truly egregious. But this is where the firm also ended up making a fortune.

GeoInvesting (AKA The GeoTeam), highlighted no less than 17 different examples of Chardan Chinese reverse mergers / SPACs, the majority of which completely imploded following exposure of or allegations of fraud.

To highlight just a few examples:

Chardan formed the SPAC that housed Chinese A Power, which was then halted and delisted. It no longer trades.

Chardan formed the SPAC which also housed CABL, which voluntarily delisted from the NASDAQ.

Chardan was also involved in the $30 million capital raise for Liwa International (NASDAQ:LIWA) which imploded due to exposed fraud.

Chardan received substantial negative attention for an imploded fraud called Huiheng Medical, which was supposedly involved in treating brain cancer.

This attention went mainstream against Chardan and the Proppers in a USA Today article.

The USA today article details obvious and egregious supposed “oversights” by Chardan and the Proppers. A reporter who traveled to China revealed that Huiheng was in fact just an empty building with a tiny parking lot and little activity going on.

The USA today article also details numerous additional imploded frauds where Chardan and the Proppers were involved, making millions as investors lost everything.

Eventually it became clear that the market was no longer dumb enough to buy Chinese reverse merger frauds. But the Proppers still had an unused empty shell company which they wanted to monetize.

The empty shell had originally been intended for another China target and was (at the time) aptly named “Chardan 2008 China Acquisition Corp“.

By 2010, Chinese reverse mergers were imploding in a wave of outright frauds and Chardan and the Proppers were already getting heat for it. Anything with “China” in the name was toxic and no longer marketable to naïve investors. But Chardan and the Proppers had clearly spent millions of dollars setting up this empty shell acquisition company.

Rather than let it go to waste, Chardan simply changed the name and purpose of the shell and had it buy a US based law which specialized in processing mortgage foreclosures. Such foreclosures were booming in the wake of the 2008/2009 financial crisis in the US.

Once again, Chardan and the Proppers were the subject of widespread unwanted attention. The New York Times featured an article entitled, “Bet on Foreclosure Boom Turns Sour for Investors“.

As with the USA Today article, the NY Times details the lengthy history of regulatory violations from Proppers.

Here is the summary:

Chardan had its defunct “China” SPAC purchase the US based law firm of David J. Stern, which focused on processing housing foreclosures. As a result, the private company then became publicly tradable and was named “DJSP Enterprises”

Aside from making millions in fees, as the owner of the SPAC, Chardan retained a significant amount of ownership in the newly public company, receiving millions of shares for just pennies a piece. And then Dr. Propper was paid additional fees to act as a “consultant” to the company.

Shares of the company quickly soared to as high as $14 and Mr. Stern ended up cashing out a whopping $60 million.

But then the Florida Attorney General’s Office began investigating DSJP for falsifying documents to speed up foreclosures. The firm quickly lost its biggest clients. Its executives quit and the firm quickly fired 80% of its staff. In addition to the issues with regulators, the firm faced new lawsuits from both investors and employees.

DJSP now trades for just 13 cents.

Even with a US target, it turns out that Chardan’s renamed China SPAC ended up no better off than the previous generations of reverse merger frauds pursued in China.

The typical Chardan deal is heavily followed by retail investors who simply buy into the hype of a sexy story and a few bullish press releases. But when Chardan helps these companies raise money, it does need to get institutions to pony up a millions of dollars at a time.

QUESTION: If Chardan’s history of regulatory violations and stock implosions is so widely documented and well known, then how have they gotten new investors to buy into their deals ?

ANSWER: Give away FREE MONEY !

Here is how the technique works.

First, give some “friendly” investors a heads up that a company needs to raise money.

Second, those companies get SHORT the shares of the subject company, in advance of the financing deal.

Third, one or more banks announces that the company wishes to raise money at a discount. The share price falls.

Fourth, the “friendly” investor then buys the new shares at a considerable discount, covering its short position at a nice profit.

This is a great trade for all of the inside players involved. Everybody wins.

The bank involved makes a fat fee for running the offering.

The “friendly” investor makes a tidy profit with literally zero risk.

The company raises a few million dollars and then puts out a press release which leads smaller (naïve) investors to believe that some institution has enough confidence in the company to commit millions in capital to it.

The only ones who get suckered are the retail investors. Because in reality, this investor merely covered their short position and in no way wants to commit any capital whatsoever to this company or this deal. They know it is likely going down, not up.

No, this is not a hypothetical. And no, I am not making this up.

Here are the SEC charges which describe that exact sequence of events when Chardan was helping AutoChina raise money. Investor Charles Langston, who controlled CRL Management, LLC and Guarantee Reinsurance, LTD, got the heads up from Chardan and quickly began selling shares at $41.75. That very same afternoon, the deal was announced and Langston was able to cover his short at $35, making a near instant and riskless 17% profit.

Chardan’s defense to this is that it had sent Mr. Langston a “confidentiality” agreement and told him not to trade on it.

However, we can see from the SEC case that this was actually the 4th time that Mr. Langston has performed the exact same trade. Each time, he would short in advance and cover on the deal.

It becomes quite clear why someone like Mr. Langston would not want to hold Chardan’s AutoChina.

Chardan’s AutoChina was subsequently exposed as a complete fraud and imploded to zero.

By now, the mechanics of the fraud should start to sound familiar. This includes the use of offshore brokers and undisclosed holdings. The parties would make fraudulent trades between their own accounts to generate the appearance of legitimate trading volume and interest in the stock.

For those who wish to read more about Chardan implosions, here is a very partial list. Note that these are all recent deals on US listed small caps.

Northwest Bio

Chardan recently announced that it would be helping Northwest Bio raise a few million dollars. I had previously exposed a well orchestrated pump on Northwest Bio entitled:

Behind The Promotion Of Northwest Bio

This promotion had driven the worthless stock up to $7.50. Like the others, it was supposedly a promising biotech with a new treatment for cancer. (sound familiar?) The stock has since imploded to just 43 cents.

Live Deal / Live Ventures (NASDAQ:LIVE)

Another orchestrated stock promotion sent shares of microcap LiveDeal (now known as Live Ventures) up by 500%. As with the others, there was virtually no revenue and no business activity.

The promotion was exposed by Bleecker Street Research, which also detailed Chardan’s involvement in helping the company raise money at around $9.00 per share. The stock has since imploded by 80%.

Spherix (NASDAQ:SPEX)

Chardan also helped troubled Spherix raise millions of dollars. Spherix has since imploded by 90%, with the entire company now worth just $4 million.

22nd Century Group (NYSEMKT:XXII)

XXII was exposed by the GeoTeam as a stock promotion, which included details of insider’s past involvement in stock manipulation and excessive compensation of insiders bleeding the company dry.

Geo details Chardan’s lengthy history in financing the company, including the fact that it has received shares in XXII as compensation. Chardan had been aggressively touting the company, releasing a research report with a $9.00 target.

XXII has since imploded to just $1.00.

So again, Nymox recently filed a prospectus using Chardan as its banker and Zouvas as its lawyer. Nymox is again looking to sell millions of shares, following its hyper bullish (but unsubstantiated) press releases.

You do the math. This history of these parties should speak for themselves in terms of where the share price is headed.

In my experienced opinion, it quickly plunges to true zero. (Just like past Zouvas / Chardan deals)

Behind the purchases of James Robinson

In July 2015, right after Nymox re-domiciled to the Bahamas, Nymox appointedJames G. Robinson to the board of directors.

James Robinson is a big time Hollywood film producer He is the CEO and co-founder of Morgan Creek productions, which has produced dozens of well known hit movies, including the Ace Ventura Series, Young Guns, The Last of the Mohicans, Robin Hood: Prince of Thieves, The Major League series, Get Carter, Heist, and many others.

Robinson is now 81 years old and his net worth has been estimated at over half a billion dollars.

But please keep in mind that he has never shown any experience in biotech or in investing in small cap stocks.

In the initial press release, Nymox announced that:

Jim has been a long-term supporter of the Company in the past and this is great news for our shareholders

It is unclear what Nymox meant by “long-term supporter”. But in any event, we can see that Robinsons first SEC filing disclosing ownership of Nymox did not occur until 2 weeks AFTER that press release.

A that time, Robinson disclosed owning 2.1 million shares of Nymox.

Since that time, the 81 year old film director has continued to acquire small amounts of stock every few weeks or months. This is never more than a few thousand shares at a time, amounting to typically $10,000 or $20,000.

Yet each time he makes another small purchase, the news wires flag another “insider purchase by a director”. This (along with the bullish press releases from Nymox) is enough to lure in a few more retail investors and helps to keep the stock afloat.

I have already demonstrated above that so far EVERYONE with any involvement in Nymox has a lengthy history of imploded stock promotions, regulatory violations and / or outright fraud. This includes management at Nymox, their auditor, their legal counsel and their banker.

So far, I don’t believe that this is the case with Robinson. He has far too much money and far too big of a reputation to be caught up in a penny stock promotion to make just a few million dollars.

The reality is that I don’t know what attracted the 81 year old film producer to Nymox in the first place. But again, Robinson has never demonstrated any expertise with biotech or with small cap stocks.

What I do know is that I have seen this exact “movie” before and it always ends badly.

Robinson will lose a few million dollars on his investment in Nymox. He can certainly afford this small loss. In fact, with such a substantial net worth, I have no doubt that this will just be a tax write off at the end of the year against various other capital gains he may have. The financial impact of this will not be a big deal for Robinson.

A much bigger deal will be the damage to his reputation when his involvement hits the financial press and the Hollywood tabloids, which I am quite certain it will.

Here is what you need to know about the purchases by Robinson:

Recruiting a prestigious outsider is a standard play out of the penny stock promotion handbook I have seen it many times before and I will (of course) provide multiple examples.

In order to gain some credibility with retail investors, penny stock promotions try very hard to lure in any outside investor, manager or director who has some combination of wealth, fame or status.

As a board member, they frequently attract older retired executives who simply want to stay relevant and be “in the game” rather than being perceived by their peers as having been “put out to pasture”.

Despite the hype surrounding their appointments, these board members are not really required to know much about the underlying company and their involvement is limited to typically 8-10 days per year.

Again, I have seen this same phenomenon over and over again where wealthy, older executives are lured into a small cap stock promotion. They then lose their investment and their reputations when the promotion implodes.

There are many examples. I will start with four that come to the top of my mind.

Example #1 – DS Healthcare (NASDAQ:DSKX) and Manny Gonzalez of Proctor & Gamble

In 2015, a tiny microcap called DS Healthcare had minimal revenues, going concern warnings from a dubious auditor and multiple weaknesses in internal controls. The company was a blatant stock promotion with obvious problems and a market cap of around $50 million.

DS Healthcare was supposedly a “consumer products” company marketing personal care products.

In April 2015, the company managed to recruit 72 year old Manny Gonzalezas its Chief Commercial Officer. In the press release, DS Healthcare noted that:

In his role at Procter & Gamble, Mr. Gonzalez was responsible for managing an organization with $30 billion in revenue including the entire North American merchandiser sales force of over 3,000 sales representatives for all Procter & Gamble product categories, including the company’s extensive personal care products portfolio….. In addition to his 23 years of experience at Procter & Gamble, Mr. Gonzalez is the current Chairman of Center for Leadership, Florida International University (2013-current). He has served as Chairman of the Board Services Committee for Zoological Society of Florida, Board of Directors of Procter & Gamble Good Government Fund (GGF-PAC), and Vice-Chairman of Industry Trade Advisory Committee for Consumer Goods (ITAC 4) at U.S. Department of Commerce and ITA.

There is no doubt that Gonzalez is an experienced industry veteran in consumer products and a major big shot. This was tremendous news and appeared to completely validate the tiny microcap company.

Not surprisingly, the stock quickly doubled on the news.

Yet not long after his appointment, a scathing report from Bleecker Street Research highlighted deep problems at this transparent stock promotion, including:

– The company had virtually no revenues and was out of cash

– The stock had soared on a series of misleading press releases

– A going concern warning and a dicey auditor

– Ineffective internal controls

– Past due SEC filings (including 10K and 10Q)

– Management almost entirely run by one individual, founder and CEO Daniel Khesin

– Opaque financing and consulting deals with recently incorporated entities

In other words, DS Healthcare sounded almost exactly like Nymox.

Not surprisingly, the disturbing revelations from Bleecker resulted in an immediate plunge in the share price of DS Healthcare. It quickly ended up plunging by more than 50%, and by now it has fallen by around 80% from its pre Bleecker levels. DS now trades for around 60 cents, but there is so little volume that it is nearly impossible for anyone (including Gonzalez) to sell much stock.

As with the involvement of Robinson in Nymox, it is unclear how an experienced industry veteran could be lured into such a dubious stock promotion. But as we will continue to see, this does happen all the time.

Example #2 – Chromadex (NASDAQ:CDXC) and

In June of 2016, microcap Chromadex Corp announced the appointment of 77 year old William D. Smithburg to its board of directors. Chromdex is purportedly in the “supplements” business and Smithburg had previously been Chairman of Quaker Oats, following a multi decade career there.

According to the glowing press release from Chromadex:

The 77 year old Smithburg had previously been President and CEO of Quaker Oats, as well as serving on the board of directors for several well known publicly listed US giants including: Abbott Labs, Northern Trust and Corning, among others.

In addition, it was noted that Smithburg had disclosed owning 640,000 shares of Chromadex, all made in open market purchases. These were valued at nearly $4 million at the time.

Once again, an exposé report from Bleecker street revealed the existence of significant issues at Chromadex. The report was nearly 40 pages long. I printed a hard copy.

Bleecker had stated that:

  • Just weeks earlier, a key backer of Chromadex had just been publicly named specifically in a SEC plea agreement for another imploded fraud
  • Just a few weeks earlier, a key Chromadex director had just been indicted in a massive securities fraud case, but Chromadex had swept the news under the rug
  • Past Chromadex key investors had gone to jail for fraud, including for dumping undisclosed share holdings
  • Chromadex backers had a long history of involvement in similar microcaps which ended up imploding to the pennies.

Following the Bleecker report, the share price quickly plunged by as much as 50% on that single day.

And again, director candidates are typically expected to put in no more than 8-10 days per year in their companies, such that it is unlikely that the veteran Mr. Smithburg had any idea about the concerning allegations about Chromadex.

The 77 year old Mr. Smithburg quickly recognized that he was in over his head. He wanted nothing to do with such controversy.

Literally on the same day as the article was published, Mr. Smithburg resignedfrom the board of Chromadex.

The point (so far) is this: Despite the fact that he was an experienced industry veteran and had substantial board experience with very legitimate large cap stocks, Mr. Smithburg had no idea what he was getting into when he entered the world of heavily promoted microcaps. He made a very smart move by simply resigning as soon as even the hint of fraud and the involvement of fraudsters appeared.

And then it gets even more interesting.

About a week after the article was published, Bleecker took the unusual step of removing the article from publication. I am still unclear as to what behind-the-scenes events led to this outcome.

In fact, this simply strengthens the case the Mr. Smithburg was simply not well informed at all about Chromadex.

Had Mr. Smithburg known of problems at Chromadex, he would never have joined the board. And yet had he known about some perceived problems in the Bleecker article he would seemingly not have resigned.

The point is simply that the 77 year old Mr. Smithburg was appointed to the board and invested millions of dollars into the stock without really having enough information at all. He was ill informed when he joined the company and he was arguably ill informed when he resigned.

Because he had so little information, resigning is certainly the smartest move for him to make.

Example #3 – China Biotics (formerly CHBT) and Richard Azar

Back in 2011, I was intimately involved in exposing a Chinese reverse merger fraud at China Biotics. I had been living in China and I had been able to gain access to the company’s factories, proving that there were no operations and virtually no employees. It was an egregious empty shell fraud.

I was not alone in my fraud conclusions. There were at least a dozen other reports from well known short sellers providing truly conclusive evidence that China Biotics had no operations and was a total fraud. Yet the market cap still hovered at around $200 million.

At the time, Chinese reverse mergers were imploding due to fraud on a weekly basis. Literally hundreds of these former highfliers went straight to zero when their auditors resigned after finding fraud.

China Biotics was due to be audited in just a few weeks, when a little known investor named Richard Azar suddenly disclosed taking a massive 20% stake in the company, nearly $40 million worth of stock. Azar had been described as an accomplished investor who had taken large positions in other related industries. His net worth had been estimated in the hundreds of millions of dollars. Notably, he had never demonstrated any experience in Chinese micro cap investing.

According to this article:

Azar has been actively investing since he was 17. His father loaned him $100,000 at the time, and Azar paid his father back two years later by buying Berkshire and making currency trades. Azar retains a significant stake in Berkshire stock today.

Educated in Canada and the U.S., Azar was turned down at Harvard Business School, but said it was a blessing in disguise, as he used those years for intensive study of books about Buffett and value investing and continued business success.

He kept right on piling up stunning returns, vaulting him into the top ranks of businessmen in Trinidad. If Azar lived in America, he would be one of the wealthiest Americans for his age and could be in Fortune’s list of the 40 wealthiest people under 40.

As a result of the huge investment from Azar (which was shown in public SEC filings), China Biotics quickly surged by as much as 40%. After all, a sophisticated international investor like this wouldn’t take such a massive positon in such a controversial stock unless he “knew something” through deep due diligence.

As with the Nymox purchases by Robinson, Mr. Azar’s purchases were revealed in a string of continued SEC filings where various amounts continued to be purchased over time at various prices.

Retail investors also piled into the stock, trying to ride on the coattails of Mr. Azar.

Yet the fraud allegations against China Biotics were very public. Anyone using Google could see numerous articles and allegations.

And then just few weeks after the purchases by Mr. Azar, it was announced that China Biotics auditor had resigned due to egregious findings of outright fraud and that it would then simply voluntarily deslist its stock to the pink sheets. China Biotics no longer trades.

Subsequent SEC filings revealed that Mr. Azar continued to own over 4 million shares of China Biotics. His $40 million investment simply went to zero.

Example #4 – China Medical Technologies (formerly CMED) and Peter Deutsche

Like China Biotics, China Medical Technologies was a fraud. And just like China Biotics, China Medical managed to lure in an international “high net worth” investor who would quickly lose tens of millions of dollars.

At one time, device maker China Medical Technologies was trading at around $4-5. It was publicly exposed in a fraud report by Glaucus research. The stock plunged. The company then defaulted on its debt and its auditor resigned. The stock was truly worthless and quickly plunged to below $1.00.

At this time, despite the obvious terminal situation, a wealthy New York wine merchant by the name of Peter Deutsche began buying massive amounts of China Med stock. Literally tens of millions of dollars.

Like Robinson at Nymox, the Deutsche family was extremely successful in a certain industry, namely importing wine. They created a wine empire worth hundreds of millions of dollars.

But (like Robinson at Nymox), they clearly had no expertise in microcap stocks or specifically with medical devices.

Again, China Medical had been exposed as a fraud, its auditor had resigned and the company had defaulted on debts worth hundreds of millions. Yet retail investors chose to ignore all of these data points and focus on a single data point: that a wealthy New York wine merchant was buying the stock.

After all, such a “high net worth” investor who had been such a success elsewhere wouldn’t dive in and make such a huge investment without an information advantage.

The huge purchases by Mr. Deutsche attracted plenty of attention from retail traders and the stock price quickly soared by 200-300%.

Finally, the SEC stepped in and halted the stock. When it resumed trading, it immediately plunged. It has since been entirely delisted and no longer trades. The Deutsches lost effectively their entire investment, as did the retail punters who went along for the ride.

The Deutsches have since blamed their broker, Fidelity, for the tens of millions in losses and are now involved in a lengthy and detailed (and very embarrassingly public) court battle.

Unfortunately for the Deutsches, the whole story has been publicly aired by Bloomberg and other media outlets in excruciating detail.

Behind the purchases of James Robinson

Here is how I see it:

In each of the examples above, we should be reminded of the old saying by poker players:

Whenever you walk up to the poker table, you should always try to spot the sucker. If you can’t spot the sucker, chances are….it’s YOU.

In each case, the individuals above were smart and wealthy. They were also very experienced in their own respective industries. But when they sat down to play the new game, they were the sucker and they were quickly taken by those with experience.

With Nymox, effectively, a few seasoned players sat down for a friendly game of poker. But they game wasn’t “Texas hold ’em”, it was “microcap stock promotion”.

For a time, the key players were as follows:

Nymox CEO, Paul Averback – Experienced stock promoter who reaped tens of millions from a company which is out of cash and which has failed to sell products for 30 years.

Auditor, Thayer O’Neal – Penny stock “auditor” who was formed by simply renaming itself as a spinoff from LL Bradford which had been shut down by the PCAOB. Very experienced with the books of tiny reverse mergers, which have imploded to just pennies.

Legal Counsel, Luke Zouvas – Experienced attorney for dozens of imploded micro cap stock promotions, which also imploded to the pennies. Recently charged by the SEC with securities fraud for an imploded penny stock promotion fraud.

Banker, Chardan Captial / Propper family – Experienced fund raisers for numerous imploded penny stock promotions, including imploded Chinese reverse merger frauds. Decades long history of securities law violations and fraud run ins.

And then….

And then at some point, up to this poker game walks an extremely wealthy 81 year old film producer. Unlike the others, the film producer has ZERO EXPERIENCE in biotech or small cap stocks.

The four experienced players are thrilled (absolutely THRILLED) to welcome the wealthy 81 year old film producer (and his money) to the poker game. Not only is he putting millions of his own money into the stock, but the attention is attracting small retail investors who also put money into the stock. Nymox share price (and VOLUME) rises accordingly.

Again, attracting wealthy and successful “board members” is a standard play out of the stock promotion hand book. It happens all the time. Despite the hype from the press releases and the monetary investments, these individuals often know far too little about the companies they are getting involved with. Even though their investments appear large, they are in fact small relative to their total net worth. The time commitment of a board member is often just a few days a year, such that it does not justify doing a “forensic level” of research on the company or its partners.

Not only do such individuals quickly lose millions of dollars, but they also endure very public embarrassment, especially due to the association with people who have ties to fraud.

Conclusion

In the past, I have written about many biotech stocks which were highly problematic, but I refrain from predicting that they will go to “zero”. Many of these biotechs quickly imploded by 80% or more. Nymox is even worse, because it is truly a zero and is likely to go there quite fast.

Nymox is an offshore stock promotion with reported institutional interest of just 1% and no research coverage. Yet the history of using a pre-constructed anonymous Panamanian offshore financing vehicle to issue piles of unregistered stock makes me believe that there are undisclosed pockets of offshore ownership. In the case of Forcefield Energy, this is what ultimately caused the stock to implode to the pennies (99%) within just a few trading days of my article exposing it. The people who held the stock offshore knew without question that it was a fraud and a zero. As a result, they continued to dump millions of shares even when the stock was below 50 cents.

Nymox clearly had in its possession the full data that NX-1207 had failed Phase 3 clinical trials, yet it continued for 6-12 months to put out bullish press releases while management continued to secretly dump millions worth of stock without making timely SEC disclosures.

After the implosion, Nymox re-domiciled to the Bahamas and restarted the promotion with a new string of misleading press releases. The stock price has subsequently soared by as much as 10x.

The press releases are easily debunked and the doctor behind the most recent press release did not disclose direct funding from Nymox or ownership of shares.

Following 30 years of various failures, Nymox is now down to just $800,000 of cash and continues to generate no material revenues. The company has a “going concern” warning and its internal controls have been deemed ineffective for over 2 years now.

Nymox’s legal counsel was just charged by the SEC for securities fraud and has a long history with imploded penny stock promotions, very similar to Nymox. At one time, these stocks (like Nymox) had soared on promotion, they now trade for just pennies.

Nymox’s auditor Thayer O’Neal is simply a renamed “spin off” from LL Bradford which was shut down by the PCAOB for gross audit deficiencies. Thayer has since just picked up all of the old LL Bradford clients, which happen to also be imploded penny stock promotions that trade for just a few cents.

Nymox’s banker has a decades long history of run ins with regulators for stock manipulation as well as a very visible history of financing fraudulent companies which quickly go to zero.

Recent share purchases by James Robinson have boosted the share price and attracted small retail investors into the stock.

Mr. Robinson is an 81 year old film director who is based in California. He is very wealthy but has no experience in biotech or small cap stocks. Nymox is based in the Bahamas.

Targeting such individuals by offering easy board appointments is a truly standard tactic of many stock promotions which I have exposed in the past. These board positions typically require just a few days per year and do not involve in depth background research by the new board member.

Disclosure: I am/we are short NYMX.

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

Additional disclosure: The author was previously an investment banker for a major global investment bank and was engaged in investment banking transactions with a wide range of healthcare companies including medical device, pharmaceutical, genomics and biotech companies. The author has not been engaged in any investment banking transactions with US listed companies during the past 5 years. The author is not a registered financial advisor and does not purport to provide investment advice regarding decisions to buy, sell or hold any security. The author currently holds a short interest in NYMX and during the past 12 months has shared his fundamental and/or technical research with investors who hold a short position in the stock. The author may choose to transact in securities of one or more companies mentioned within this article within the next 72 hours. Before making any decision to buy, sell or hold any security mentioned in this article, investors should consult with their financial adviser. The author has relied upon publicly available information gathered from sources, which are believed to be reliable and has included links to various sources of information within this article. However, while the author believes these sources to be reliable, the author provides no guarantee either expressly or implied

Bristow Group (BRS): Near term catalyst for 45% drop

  • Bristow is down by 80% since mid 2015 as bankruptcy fears continue to slowly play out. The moderate recovery in oil prices has been unable to help Bristow recover.
  • Bristow has just suffered a massive impact due to excess unhedged currency exposure to the British Pound (quite bad) and the imploding Nigerian Naira (even worse).
  • Accelerating resignations from various management and board members. Key replacement director notably has highlighted specific expertise in bankruptcy.
  • In a best case, BRS delivers very outsized losses going forward. In a worst case, BRS violates debt covenants and faces default.
  • Recent statements by management are blatantly at odds with previous SEC disclosure. SEC inquiries into the use of offshore tax havens may have a separate impact on the stock.

This report is comprised of 3 sections.

SECTION I details a string of recent critical problems hitting Bristow just ahead of earnings. Numerous issues do not appear to have been disseminated to or digested by the investing public at all. The fact is that Bristow has massive unhedged currency exposures to both the British Pound (down by nearly 15% in 3 weeks) and the Nigerian Naira (down by 40% in 3 weeks). However, numerous other issues are detailed, including concerns over UK Search and Rescue. In just 9 trading days, Bristow is set to host its quarterly earnings call and will be forced to disclose these impacts. I expect a nearer term decline of 40-50% on the stock (share price down to around $6-8). However, as with its recently bankrupted competitors, the prospects for an actual default within 9-12 months remains moderate to high (share price to below $1). This is precisely what we have seen with Erickson Air Crane (NASDAQ:EAC), CHC (HELIQ) and other helicopter operators, which imploded by 99% as their credit situations unraveled.

SECTION II primarily focuses on a line of SEC inquiries into Bristow. In early 2015, (when Bristow was still profitable and supposed to pay taxes) the SEC began inquiring into certain offshore tax strategies being used by Bristow. Bristow first attempted to give limited, partial responses, but the SEC persisted with further inquires and demanded details of Cayman Islands and other offshore entities. It was eventually revealed that these entities accounted for nearly half of pre-tax net income. In the midst of the inquiry, Bristow’s then-CFO John Briscoe abruptly resigned prior to completing the response to the SEC. The company stated that he was looking to “pursue other business opportunities”, however he never ended up moving elsewhere. He simply quit. The CFO spot was then filled by an internal appointment, Don Miller, who had previously been in charge of Bristow’s M&A. Presumably Mr. Miller would have had little exposure to Bristow’s offshore tax operations. However, within just 9 business days, Miller then completed the final response to the SEC. Prior to running M&A at Bristow, Miller had spent 9 years with Enron North America. Prior to Enron, Miller had advised Enron from his prior position at Citigroup.

Shorting a stock based on expectations for an SEC action can take great patience. So instead, my focus of interest is how formerly utilized tax strategies may have allowed Bristow to underbid on projects such as the UK Search and Rescue operations. Even prior to any SEC action, to the extent that Bristow is unable to maintain such a competitive advantage, it would have a further negative impact on profitability for things such as UK Search and Rescue (among others). As of now, UK Search and Rescue, while only 11% of revenues, remains the one bright spot for Bristow, amidst sharply declining revenues elsewhere. Details of UK Search and Rescue are included in Section I. With nearly 50% of pre-tax income being parked in offshore tax havens, there is also the possibility that Bristow will have to repay substantial back tax liabilities at a time when it can no longer afford to do so. The actual prospect for an outright SEC action remains as a “put option” on the price of the stock.

SECTION III highlights the consistent failures of sell side research in covering Bristow. Recent reports by Cowen, Barclays and Credit Suisse have consistently downplayed or disregarded the recent negative developments and maintained lofty share price targets. In each instance, sell side analysts ignore obvious problems and simply echo the hyped up optimism of management. These reports have served to drive money into the stock, visibly propping up the share price. The sell side has consistently pumped the stock since it was trading at $60, and continues to pump it all the way down. Not surprisingly, these analysts generally come from the banks who have run Bristow’s past debt and occasional equity offerings over the years. Given Bristow’s constrained finances, the company is now a high priority investment banking client as it needs to raise money in the near term. More importantly, a number of the banks have served as lenders to Bristow. As a result, they are virtually certain to NOT issue anything that looks like concern over solvency.

In Section III below, I highlight the repeated examples from their research reports where they have ignored obvious problems which then quickly materialized and pummeled the share price. I also show how despite the ongoing implosion in the share price, these banks continued to pump the stock by simply quoting and echoing incorrect statements from Bristow management.

Section I – Bristow Group headed for a 45% decline

When I look for compelling shorts, I generally look for stocks which have at least 30-50% downside. And that is what I usually predict when I write about them in public.

But I have consistently found that these troubled stocks end up falling much more than 50% once their problems are exposed. Many of the stocks I have exposed quickly fell by 75-99%.

Examples include: Revance Therapeutics (NASDAQ:RVNC), SunCoke (NYSE:SXC), ForceField Energy (NASDAQ:FNRG), Regulus (NASDAQ:RGLS), Aemetis (NASDAQ:AMTX), Biolase (NASDAQ:BIOL), TearLab (NASDAQ:TEAR), CytRx (NASDAQ:CYTR),, Galena (NASDAQ:GALE), Northwest Bio (NASDAQ:NWBO), Ignite Restaurants (NASDAQ:IRG), among others.

The mot important factor with each of those stocks above was to identify a near term catalyst.

In particular, readers should refer to my article on helicopter operator Erickson Air Crane which subsequently declined by 98%, now trading at around 60 cents down from $25. According to the subsequent lawsuits, the concerns I highlighted were the precise primary cause for the collapse in the share price.

As with Erickson, Bristow Group (NYSE:BRS) is set for a very substantial decline and there is also a near term catalyst.

To paraphrase an old joke:

Q: What’s the best way to become a millionaire ?

A: Start with a BILLION and run helicopter company.

I can’t decide whether I think that management at Bristow are truly bad actors (dishonest) or whether they are just incompetent bunglers. In reality, it doesn’t much matter because the effect has been the same. Yes, I get it, times have been tough for anyone servicing the oil and gas industry. The offshore helicopter industry has been hit particularly hard, as evidenced by multiple recent bankruptcies.

But the point is that management has continuously and repeatedly given dramatically incorrect reassurances to shareholders about Bristow’s performance and prospects. These guys have repeatedly demonstrated that they will say ANYTHING in an attempt to keep the stock up.

With each quarter comes a new set of excuses for the past, as well as promises for the future. But in each case, when the actual results do come out, management is somehow “surprised” by new negative factors. I will demonstrate this in great detail below.

In each of the past 3 quarters, the share price quickly fell by at least 20-30%following management’s earnings call due to disappointing “surprises” from management.

The upcoming quarter, to be announced in 9 trading days is going to contain some shocking new disclosures for investors. The share price will once again take a significant dive.

As we have seen repeatedly in the past, currency “headwinds” (historically from less significant regions for Bristow such as Asia and Brazil) have been a consistent theme in Bristow’s large miscalculations, leading to significant losses and drops in the share price.

In fact, the impact of massive unhedged currency exposures is about to get much worse.

But doesn’t Bristow hedge its currency exposure ? (No, they don’t)

I find it downright bizarre that a company with such tremendous currency exposure around the world does not even bother to hedge its exposure with futures or other contracts.

But this is indeed the case. Bristow does not hedge its currency exposure.

On page 21 of the 10K, Bristow notes that:

Generally, we do not enter into hedging transactions to protect against foreign exchange risks related to our revenue or operating expense.

In a subsequent presentation, Bristow addressed the question by stating that they simply “naturally hedge our currency exposure through client contracts when possible“. But this has clearly and consistently not worked at all, as demonstrated in recent quarters.

In the previous year, currency moves were not nearly as extreme as recent moves, yet “surprise” currency moves saw Bristow operating revenue decline by $98.6 million year-over-year. The hit to net income was $30 million. And again, these were not drastic currency moves.

In order to avoid breaching loan covenants, Bristow has been forced to cut its dividend by 80%, slash cap ex and eliminate cash bonuses for employees. The loan covenants were renegotiated in May. But in fact, all of this was BEFORE the new and negative currency developments occurred.

As we will see, due to recent extreme currency moves, things are about to get quite substantially worse for Bristow and so far management has clearly failed to disclose the full impact to investors.

Currency impact mostly affects revenues and earnings (as opposed to balance sheet)

Over just the past few weeks, Bristow has clearly been heavily impacted by due to the 15% fall in the British Pound (approaching 20% decline since last year). European (primarily North Sea) revenues comprise fully 50% of Bristow’s total.

I am primarily focused on the significant revenue / net income impact of the currency plunge. But given that Bristow has historically kept nearly half of its earnings “indefinitely reinvested abroad”, there could also be a negative balance sheet impact it the tens of millions of dollars.

Nigerian revenues are around 15% of total, which doesn’t seem overly large. But in June, the Nigerian Naira dropped by a massive 40% when the government stopped defending its historical peg to the dollar. Bristow had previously disclosed the potential for very substantial exposure to moves in the Naira. But because the currency has historically been pegged, no one has paid much attention to this. Following the move in the Naira, Bristow has disclosed nothing to the general public.

Note that I expect very little near term impact on the balance sheet from the Naira. In fact, Bristow may even be slightly net short the Naira (with more Naira liabilities than assets), however this likely amounts to less than $1 million. So the balance sheet impact is likely immaterial in either direction. Instead, the main impact from the Naira will be a plunge in revenues and sharp increase in Bristow’s ongoing losses.

Disclosure shortcomings – past and present

Just prior to Brexit, management insisted in SEC filings that it had absolutely no material exposure to any fall in the Pound. This limited the damage to the share price during the Brexit days. But shortly after Brexit,management quietly admitted that the exposure could in fact equate to tens of millions vs. 2016 operating income. In fact, I now think it could be much more.

Following the collapse of the Naira, management has made no disclosure of the actual impact. On its Nigerian operations. But as we will see below, at a minimum it is likely to equate to 22% of Bristow’s entire 2016 global operating income. This will soon need to be disclosed in the upcoming earnings call. And, as with the Pound, I suspect that the actual number could be much greater.

Despite the enormity of its impact, the crashing Naira has not even been noticed by Bristow investors or reflected in the share price. The share price did dip briefly on Brexit, but has since recovered much of those losses.

As it has repeatedly done in the past, Bristow management has continued to publicly put on a positive spin to support the weak share price. As expected, sell side analysts simply echo the positive statements from management.

These statements will be dissected in detail below.

When times were good, Bristow refused to issue much stock at share prices over $60 and instead continued to lever up substantially with debt. The share price has since fallen to as low as $10.80. Debt load now exceeds $1.1 billion vs. a market cap of around $450 million. Multiple competitors have recently already gone bankrupt but are still operating. They are undercutting Bristow and price and flooding the market with used helicopters, eliminating Bristow’s ability to monetize their own.

Earlier in 2016, bottom feeding “value hunters” might have been tempted to think that Bristow trades at a discount to book value.

But in terms of “asset recovery” in a bankruptcy situation, Bristow’s helicopter assets are now worth far less than the book value stated on the balance sheet. Just in May2016, following the bankruptcy of competitor CHC, Oil and Gas People noted that:

With the market conditions for helicopters so poor there is a lot of idle aircraft around, if CHC have 100 or so that they want to get rid of, then how many do the other big players in the market have? The leasing companies of course won’t want these aircraft back but under Chapter 11, they have no choice. With regards to buy back, the market is flooded with unused helicopters with supply far outstripping demand. The leasing companies have a couple of choices, receive the airframes back under chapter 11 and receive no payment at all or sell the airframe at a discounted market value price and get shot of it?

search in the 10K for the word “impair” turns up 175 hits.

For 2016, Bristow already recorded a loss on impairment of $55 million and an additional loss on disposal of assets of $30 million.

Because the assets are so heavily impaired, and because of the heavy debt load, the downside in the share price remains quite large.

The point of this article will be that when details of massive exposures incurred in recent weeks becomes public, the stock will quickly fall by 40-50%. It may take more than one day, but I expect it to settle at around $6-8.

We have seen this repeatedly in the past. In each of the past 3 quarters, the share price quickly plunged by at least 20-30% due to new surprises disclosed at the last minute by management.

Anyone foolish enough to see this information and still hold through another disastrous upcoming earnings call certainly deserves the losses they have coming.

Yet despite an almost inevitable plunge in the Bristow share price going forward,short interestin Bristow Group remains below 10% of the float and the borrow is cheap at around 1%.

Company overview and investment summary

Headquartered in Houston Texas, Bristow Group is an operator of helicopter services in various locations around the world. The majority of its consolidated operating revenues (76% of total) come from providing flight services to oil the offshore oil and gas industry, with heavy exposure to the North Sea (Britain and Norway). Operating income is also heavily exposed to operations run in Nigeria. The firm also provides Search and Rescue services as an adjunct to various governments as well as running a helicopter training school in Florida. However, both of these segments account for much smaller portions of revenue.

Bristow has plunged by 80% since mid 2015, largely due to the plunging price of oil. The stock was hit again on the Brexit vote in June due to Bristow’s heavy exposure to the UK, but since the stock has regained much of the brief Brexit losses.

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Bristow Group has been around in one form or another for decades. Like other helicopter operators, the company has massive cap ex requirements and also needs to make use of massive leverage (debt).

Over the past 3-4 years, the company has been forced to spend $2.5 billionon cap ex. This was achievable when markets were strong. Now, it is not.

Bristow could have easily issued tremendous amounts of stock at prices in the $60’s in previous years (when its market cap was close to $3 billion), but instead the company largely chose to lever up and continue raising debt. It now sits under a pile of $1.1 billion in debt with a market cap of only $450 million.

Over the past year, operating cash flow was just $116 million, which was not nearly enough to support the $372 million in required cap ex. To investors, Bristow continues to state that it has “liquidity” of $360 million. But in fact it only has cash of $104 million, down from $130 million last quarter.

When times were good (think oil at $100), Bristow was actually able to turn a decent profit. But as the price of oil plunged, revenues have fallen. Margins have been hit hard. Multiple competitors have filed for bankruptcy such that they are flooding the market with their unused equipment and lower priced services.

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The effect on Bristow’s financials has been dire.

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Things did appear to have bottomed starting in May/early June when several things happened at once. These factors had tempted a number of investors back into the stock, preventing it from collapsing altogether.

First. The price of oil rebounded sharply from lows of around $25 per barrel in February to as high as $52 per barrel in June.

Second, management was able to renegotiate covenants on its debt agreements with banks, to avoid otherwise going into default.

Third, in June (when oil peaked at $52) several members of management made a few purchases of stock near its multi decade lows. However, total purchases amounted to just $464,000, the majority of which came from the CEO. But in general, it was starting to appear that things might get better for Bristow.

But late June was extremely unkind to Bristow.

The surprise Brexit vote caused the British Pound to plunge by nearly 15% from its recent levels. That takes the decline to well over 20% since mid 2015.

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Like many stocks, Bristow’s share price took a hit on Brexit. It fell to a new multi decade low of $10.80 (intraday). But then, along with the rest of the market, Bristow stock rebounded, returning to current levels.

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Contradictions vs. SEC disclosures – a quick “about face”

(Note: information in this section is separate from the information in Section II, which details the SEC’s inquiry into offshore tax havens.)

Part of the rebound in Bristow’s shares price was likely due to the fact that in original disclosures (from the 10K in May), Bristow has disclosed that its exposure to the Pound was “not meaningful”. At the time of the disclosure, the Pound was at $1.55-1.58.

Investors were clearly soothed by management’s existing disclosure.

Yet two weeks AFTER the Brexit vote and the Pound collapse to around $1.30, management gave a presentation in London (Evercore) where it quietlyestimated that each 10% drop in the Pound would end up equating to a $10-12 million drop in operating income. So we should likely expect the real impact to be at $20 million or more (up from a previous statement of zero in the 10K).

So within just a few weeks, their estimate of currency exposure went from zero to potentially over $20 million.

This alone equates to a 50% increase vs. the operating loss just reported. From this, it quickly becomes clear that management has zero clue what is going on with its currency exposures.

In fact, if past earnings calls are any guide, we should expect the impact to be even bigger.

The situation in Nigeria looks like it could ultimately have a far greater impact. Yet (true to historical form) management has so far publicly disclosed nothing about the impact of the Naira.

Nearly all of Bristow’s African revenues come from the oil producing country of Nigeria. For the past year these African revenues comprised fully $255 million of total revenues.

Little noticed disclosure previously noted that Bristow’s exposure to the Naira was significantly greater than exposure to the Pound. Based on their original forecasts, a 10% change in the Nigerian Naira would equate to a 5.6% drop in operating income. So the estimated impact was already for a 22% drop in operating income (or rather a further 22% increase in operating loss).

But again, given that management grossly underestimated its exposure to the Pound, I believe that Bristow could actually be far more exposed to the Nigerian Naira.

Because of the long standing fixed peg 200:1, most would have assumed that there would be no need (and no ability) to effectively hedge the Naira.

But in late June, the Naira was unexpectedly unpegged from the dollar and it immediatelyplunged by 40%. It has remained at these new levels.

On June 20, the Wall Street Journal noted that:

Nigeria’s currency plummeted more than 40% against the dollar on Monday, the latest sign that low crude-oil prices continue to disrupt the economies of some major oil-producing nations.

Anyone with exposure to Nigeria (ie. Bristow in particular) should have seen this coming for some time. Even back in February, US News reported that:

…Money changers sit idle, with no dollars or euros to sell.

“We’ve run out of foreign exchange,” says Shehu Mahmud, the acting chairman of an association of money changers in the capital Abuja…. Already, the currency [Naira] has lost more than 50 percent of its value on the black market.

As we have seen in Venezuela, the plunge in oil prices has led to dramatically lower production as well as increased political unrest. The 40% plunge in the Naira is certainly going to contribute to further instability in Nigeria.

There are two realities that need to be faced with respect to this $255 million in historical Nigerian revenues.

First, even if revenue were to remain unchanged in Africa, profitability on these revenues will now drop to near zero because much of the cost basis (including fuel, offshore pilot and mechanic costs etc.) will be in dollars while the revenues coming in will be denominated in now-devalued Naira.

But based on this, the second reality is that it will likely make very little business sense to continue operating in Nigeria with the now devalued currency. As a result, up to $255 million in historical revenues is now likely now in question.

You don’t need to take my word for it, just ask the Nigerians.

Just on July 12th, one Nigerian Naira news service noted that:

There is double-digit inflation, a lack of dollars (which prevents investors easily repatriating profits) and domestic terrorism, including bombing of oil pipelines, putting a further dent in government coffers.

“The naira is going to sink further, and it’s a formula for a disaster,” says Steve Hanke, professor of applied economics at The Johns Hopkins University. “Capital flight will accelerate so disrupting foreign direct investment.”

The weak currency, which looks set to get even weaker, will likely scare new investors away and current investors will be increasingly likely to pull their money out of the country. And the country’s growth will slow without the investment dollars.

As we will see below, losses from the Naira implosion could well have significant implications for Bristow’s massive debt situation and new covenants.

But what about UK Search and Rescue

While in London, and while ignoring the problems in Nigeria, management clearly attempted to over-emphasize its one bright spot: that UK Search and Rescue operations would see little impact from Brexit. Yes, this stability would be a mild positive. However, such revenues accounted for just 11% of revenues in 2016 vs. 76% for oil and gas operations.

To put this in perspective, revenues from Nigeria were 40% more than revenues from Search and Rescue.

In fact, Bristow won this contract way back in 2013 on a competitive bid vs. now bankrupted CHC Helicopter Group. At the time, Bristow was a $3.5 billion company with a $70 stock price and could afford to take chances on the bid. At the time, CHC was also very healthy and was preparing for a $530 million IPO which would value CHC at over $3 billion. Yet even then CHC refused to bid anywhere near as low as Bristow.

CHC’s COO Peter Barlotta leaked an email to the press about the low ball bidthat Bristow used to win the contract.

In the email, Bartolotta also reveals that one of the other bidders has tendered a bid some 20% lower than that of CHC’s, adding: “We don’t have insight to the financial or other motivations of competitors. But we know that the economics at a price 20 percent lower than our interim bid simply aren’t right for CHC.”

The winner of the contract in 2013 turned out to be Bristow.

Despite undercutting CHC by 20%, to a level which apparently makes no economic sense, Bristow still described its Search and Rescue operations as being among its most profitable. It is entirely unclear to me how this could be the case.

However, as mentioned above, in 2015, the SEC began inquiring about Bristow’s use of offshore tax havens to minimize taxes paid on overseas income. Specifically, the use of Cayman Islands entities was a point of focus.

The SEC and tax angles here are an entirely different component of the short thesis. As a result, I have included a detailed Section II which lays out this information. There are two key points: First, to the extent that Bristow was using an unsustainable tax advantage to compete on UK SAR, the end of this advantage will soon hit profits. Second, to the extent that Bristow improperly evaded US taxes, it would need to repay those taxes NOW – at a time when it certainly cannot afford to do so. The information is well worth reading and has likely not been read by most investors in Bristow, so I would strongly encourage readers to go through it.

The revenue value of the 10 year Search and Rescue contract , which began in 2015, was originally disclosed specifically as £1.6 billion (Pounds) when the exchange rate was close to 1.6 GBP/USD. That would have equated to around USD$2.5 billion, or roughly $250 million per year in revenues.

Yet despite the 20% drop in the British Pound since then, management continues to use the original translated value of the contract in presentations, including the presentation in London. As always, despite past experiences, Bristow describes the Search and Rescue revenues as being “naturally hedged“, rather than actually hedging the revenues financially. In other words, Bristow continues to not hedge currency exposure.

Management’s discrepancy here amounts to nearly $500 million over the life of the 10 year contract.

In any event, even assuming the highest possible estimated contract value over 10 years, Search and Rescue revenues remain small, amounting to less revenue than Africa (or even Asia for that matter).

And keep in mind that competitor CHC had its own Search and Rescueoperations, which also accounted for around 10% of revenues. Shortly before filing for bankruptcy, CHC’s CEO had a conference call with analysts and investors to stress the “stability” provided by these Search and Rescue revenues.

But again, somehow Search and Rescue is where management chooses to direct our attention ahead of the upcoming earnings call. It is really the only positive factor than can be discussed, amongst many larger negatives.

As an aside, little impact expected from Norwegian Krone

It should be noted that previous disclosures also indicated a heavy exposure to the Norwegian Krone. However, the Krone has not been particularly volatile. I expect little impact from anything relating to the Krone.

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Insiders are already fleeing the sinking ship, as management continues to publicly reassure

In a June 8K filing, Bristow announced that it was terminating cash bonuses for employees. It did note that it was handing out a few million shares in bonuses to top management, but these are most likely not highly prized by employees who have seen their existing equity awards plunge by 80% in the past year. The value of their past bonuses has quite literally evaporated, such that getting new shares of the rapidly plunging stock likely means little.

We are already seeing multiple recent management departures, including Chief Admin Officer Hillary Ware, as well as Jeremy Akel (Chief Operating Officer), Mike Imlach (VP of Global Ops), and Mike Sim (VP of Business Development)

On June 13th, two directors resigned after being with Bristow for over a decade. The director who replaced them is notably known to have specific expertise in bankruptcy.

On June 27th (just after the Brexit vote), Bristow appointed William Higgins as a new director. The Heli Hub industry journal was notably focused on Mr. Higgins past bankruptcy experience with Leslie controls in a headline:

Bristow Group adds new Board director with particular experience

Heli Hub noted that:

We are not clear on why Mr Higgins’ skills in bankruptcy protection have been noted, whether that is something Bristow feel they might need, or whether it is an SEC requirement to provide those details in this sort of statement.

Getting a clearer picture of default risk

I have previously expressed my concerns about helicopter operator Erickson Air Crane, which then declined from $25 to just 60 cents. But that company never formally filed for bankruptcy.

But anyone involved in the helicopter industry should be very familiar with bankruptcy.

In the 1980s and 1990’s, Bristow was fully owned by British and Commonwealth Holdings, which went bankrupt during that time.

Bristow was then acquired by Offshore Logistics, which itself had gone bustduring the prior oil price downturn.

When competitor CHC filed for bankruptcy in May of 2016, it seemed that the last straw was a fatal flight accident that grounded much of its fleet. Likewise, in June of 2016, Bristow announced that it was grounding most of its Airbus EC225 helicopters following that crash.

This follows two serious helicopter crashes by Bristow itself near Lagos, Nigeria. In the first crash, 6 of the 12 passengers were killed.

An article from Bloomberg is now raising the issue that the most recent crash in Norway “has sparked a debate over whether the industry’s deepest cost cuts in 15 years are imperiling safety.”

Bristow continues to struggle under over $1.1 billion in debt and must meet heavy cap ex requirements if it wishes to stay business. In London, Bristow now noted that it would be attempting to defer capex in order to preserve cash.

The effect of the currency implosions is that Bristow will now likely be running up against its loan covenants AGAIN, just a few weeks after revising them with banks.

Again, it is important to remember that the currency implosions above have occurred just within the past few weeks, and subsequent to the prior loan negotiations which just took place.

Making matters worse, Bristow’s ability to generate cash from asset sales and returns now appears to be under pressure as well.

In the 10K, Bristow had as a risk factor that:

In May 2015, a global competitor filed for Chapter 11 bankruptcy protection and announced its intention to reject leases resulting in the return of approximately 90 leased helicopters to lessors. This significant return of aircraft into an already oversupplied market could undermine our ability to dispose of our aircraft and could have a material adverse effect on our business, financial condition and results of operations.

Keep in mind that this was one year before the additional bankruptcy of Bristow’s largest competitor, CHC.

From bankruptcy, CHC had noted that:

The reorganization is expected to strengthen CHC’s financial position by reducing long-term debt and enhancing financial flexibility while allowing the Company to manage and operate its fleet of aircraft. CHC expects day-to-day operations to continue without interruption throughout the court-supervised restructuring process.

Under the bankruptcy, CHC is flooding the market with excess, unused helicopters as well as potentially undercutting Bristow on price. This should be obvious, CHC will now be free of much of its long term debt obligations, but will certainly need to cut price in order to attract customers during its bankruptcy.

Such cost cutting and emphasis on low pricing was significant enough to be disclosed as a separate risk factor in the recent 10K.

A focus by our clients on cost-saving measures rather than quality of service, which is how we differentiate ourselves from competition, could reduce the demand for our services.

The bankruptcy filing from CHC just happened in May, such that we have only begun to see the impact of the increased pressures on Bristow.

Yet, as described below, various sell side analysts seem to suggest that bankruptcy means that CHC will no longer even be in business or competing with Bristow. These sell side analysts are merely echoing inaccurate statements from Bristow management.

Are Bristow bankruptcy concerns overblown ?

When defaults happen, they often happen in a various abrupt stages.

CHC Group filed for bankruptcy in May, but it had “decided not to make” an interest payment as early as April 15th.

But keep in mind that just 3 weeks before the default, Moody’s had still been rating CHC Group as a B2 credit.

Just 3 weeks later, when the bond payment was missed, Moody’s suddenly downgraded CHC by 5 notches to “D” (for Default). It was very abrupt.

Bristow currently has over $1.1 billion of debt and just $104 million in cash. Cap ex requirements still greatly exceed operating cash flow. And Bristow’s market cap is down to less than $500 million.

As of its most recent review. Moody’s was rating Bristow as Ba3just 1 notch above where it was rating CHC immediately before its default. But this was well before the recent currency implosions.

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But wait, it gets better.

A few weeks before defaulting on its debt and filing for bankruptcy, CHC had put out a press release touting its Q1 financial results.

The results appear surprisingly similar to what we see from Bristow.

CHC noted the following:

· Improvements in cash flow

· decrease in aircraft related capital expenditures

· cost control initiatives progressing according to plan

But the biggest item was that CHC noted that

We exited the fiscal 2016 third quarter with liquidity of $377 million and we are focused on strengthening and increasing the quality of our liquidity.

Despite the assurances, within just a few weeks, CHC Group had defaulted on its debt payments and filed for bankruptcy.

We should remember that Bristow also boasts of having recent “liquidity” of $360 million. But also remember that only $104 million of this is cash. The remaining $256 is just more debt. Even though cash had actually fallen by $28 million, the company stated that “liquidity had increased by 20%”. And again, these figures are all prior to the recent currency implosions.

The relentless “optimism” of Bristow management

The point of this section is as follows:

As the share price was plunging to multi decade lows, management gave a presentation in London which then boosted the stock price by 10% that day. The presentation was typical for Bristow and outlined how everything was going great and that bankruptcy was not a risk. Yet statements in the presentation clearly contradict recent SEC disclosures.

Investors should note that management has been delivering the same optimistic pitch over and over again since mid 2015, during which time financial results have continuously plunged and the stock has dropped by 80%.

Management will (and does) say just about anything, even when it is downright silly.

Following the sequential resignations of multiple members of senior management in recent months, Bristow tried to spin these departures as a positive with a press release entitled.

Bristow Group Strengthens Operational and Leadership Structure

Prior to the release of earnings for the September quarter (released in November), Bristow’s share price sat at $37 (already cut nearly in half since January). Management’s positive spin on earnings consisted of its usual delusional optimism.

I am proud of our team’s progress during the quarter in implementing our economic restructuring initiatives designed to enhance Bristow’s leading competitive position and financial strength,” said Jonathan Baliff, President and Chief Executive Officer of Bristow Group. “We have been successful in reinforcing our financial flexibility through an expected deferral of approximately $100 million of capital expenditures out of fiscal 2016 with further deferrals expected over the next five years. We also are announcing a new two year $200 million term loan which will provide additional liquidity in light of this downturn.

In particular, management simply blamed the effect of a strong dollar for additional losses of $22 million. But if we could just ignore that….then things would look great.

Our results for the September 2015 quarter included a number of negative items, including the impact of the strong U.S. dollar, which detracted from our underlying performance where our regional operations delivered respectable results led by Europe Caspian and Asia Pacific. Excluding the impact of the foreign exchange losseswe would have reportedadjusted EBITDAR of $122.7 million, in line with the prior year quarter with an improved adjusted EBITDAR margin of 28.9%.

And with the stock in the $30’s management disclosed that it had even approved a $150 million stock buyback program. (With cash getting more and more scarce for Bristow, this ruse clearly has had little effect on the share price. )

Management noted that it was lowering guidance for the full fiscal year(ending March 2016) from $3.10 – $3.75 to an EPS of $1.80 to $2.40.

So management’s original estimate was initially wrong by around 40%. (Hint: it then gets worse).

THE POINT IS THIS:

INVESTORS HATE SURPRISES.

THE STOCK BRIEFLY ROSE BY 15% PRIOR TO THE EARNINGS RELEASE IN NOVEMBER.

FOLLOWING THE RELEASE OF EARNINGS AND THE CONFERENCE CALL IN NOVEMBER, BRISTOW’S STOCK QUICKLY DROPPED BY 20% (TO BELOW $30), HITTING NEW LOWS FOR THE YEAR.

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So then in February, Bristow released earnings for the December quarter. By this time the share price had now fallen to $20-25 (prior to earnings).

Not only did Bristow reaffirm guidance of positive EPS for the year of $1.80 to $2.40, but the press release was again filled with reassuring language:

Our third quarter results demonstrate the success of our diversified business development and economic restructuring efforts in the face of unprecedented challenges for our oil and gas clients. These initiatives demonstrably improved our third quarter margins while improving our competitive position and financial flexibility,” said Jonathan Baliff, President and Chief Executive Officer of Bristow Group

The company went on to tout:

  • Search and rescue strength
  • Cap ex cuts
  • “Improved liquidity”
  • More loans
  • Financial flexibility

Sound familiar ?

But the reality was that (surprise) revenues had declined by 21.2%. (Surprise) Currency exposure hit revenues by $14.9 million. (Surprise) Bristow’s dividend was cut by 80%. (Surprise) a steep drop in the Aussie Dollar caused additional losses.

THE POINT IS THIS (ONCE AGAIN):

INVESTORS HATE SURPRISES.

FOLLOWING THE RELEASE OF EARNINGS AND THE CONFERENCE CALL IN FEBRUARY THE STOCK IMMEDIATELY DROPPED BY 30%, HITTING NEW MULTI DECADE LOWS OF $11.90.

(click to enlarge)

That takes us to May.

By the time full year earnings were released in May, the stock had slowly recovered to around $15 again, supported largely by a 60% rise in oil prices off of the February lows.

Then, (surprise) rather than a $2.00 PROFIT (as announced in both November and February), management announced a LOSS of $2.12. So once again, even the revised-lower numbers were off by a very long shot.

In May, management’s new spin now turned to soothing investor fears over looming bankruptcy.

CEO Baliff highlighted “the success of our cost reduction and diversification efforts” and emphasized a “20% increase in liquidity“.

In fact, in reality, cash had DECLINED by $30 million since December. All Bristow had really done was increased its borrowing ability by altering loan covenants. Surprise !

Once again, Bristow was unpleasantly surprised by the impact of foreign exchange on its results and had not given investors any warning. Surprise !

Additionally, changes in foreign exchange rates during fiscal year 2016 decreased operating revenue by $14.7 million and $98.6 million quarter-over-quarter and year-over-year, respectively.

THE POINT IS THIS (FOR A THIRD TIME):

INVESTORS HATE SURPRISES.

FOLLOWING THE RELEASE OF EARNINGS AND THE CONFERENCE CALL IN MAY THE STOCK IMMEDIATELY DROPPED AGAIN BY 25%, FROM $15.50 to $11.50, AGAIN TESTING MULTI DECADE LOWS.

(click to enlarge)

As Bristow’s stock was fighting further declines, it was supported by a 20% spike in oil prices. Oil prices quickly jumped from $43 to almost $52.

(click to enlarge)

But in fact, this was all BEFORE the Brexit crash, the Pound slump and the surprise Naira implosion.

In May, the situation was looking grim for Bristow. Hence the new multi decade lows for the share price.

But since that time, things have actually gotten much, much worse.

The Pound has dropped 15%, exposing Bristow to tens of millions in further losses.

The Naira has imploded, affecting $255 million in African revenues, and (supposedly) equating to “only” a 22% further increase in net operating losses. (Again, given the sheer size of the devaluation, I suspect the impact could be much greater).

Likewise, the price of oil has now declined by 10-15% from June highs.

This has all happened in just a few weeks.

(click to enlarge)

(click to enlarge)

Yet rather than showing further decline, the share price has now stabilized at around $13.

Management’s Evercore presentation in London on July 12th caused the stock to rally 10% in a single day. However, it is notable that volume was light.

THE POINT is that we have seen repeatedly seen this game from Bristow management in the past.

Once again, Bristow management has failed to disclose the massive impact of recent currency swings and attempts to divert attention to things like the tiny Search and Rescue business and its bogus “increased liquidity” from simply adding more debt capacity in the face of dwindling cash.

All of this calamity has happened just a few weeks after Bristow renegotiated its loan covenants with lenders as part of its $1.1 billion in outstanding debt.

The near term catalyst will be the new disclosures (surprises) raised on the upcoming conference call. Bristow will then yet again set new multi decade lows, which I expect at around $6-8.

Helicopter operators – past experience

A while back, I highlighted my concerns about helicopter operator Erickson Air Crane , including the fact that insiders and board members were set to dump large amounts of stock. The stock immediately plunged by 30%. A number of analysts and bloggers were quick to defend the stock even in the face of the inevitable. Jim Cramer even touted the stock on Mad Money. But as investors looked more deeply into the equity and credit fundamentals, the ongoing deterioration became clear and the stock continued its descent.

Erickson had been trading at around $25 at the time I wrote about it. It now trades for 60 cents.

(click to enlarge)

My article was explicit and clear. There should have been little doubt about what to expect. Yet articles quickly surfaced from those determined to catch the falling knife.

Positive articles that came out AFTER my analysis included the following:

– Erickson Air-Crane Set Up Nicely For Short Squeeze

– Erickson Air-Crane: Big Risk, Big Reward

– Erickson Air-Crane: Acquisitions Will Reward Patient Shareholders

– Erickson Inc. – Contemporary Value Investing Valuation And Hidden Value Of Assets Point To 200%+ Upside

– Erickson Inc – The Fall And New Potential

A separate helicopter operator, CHC Group (OTCQX:HELIF), came public in 2014, only to go bankrupt in 2016. As before, we can see that “bargain hunters” failed to spot the obvious on the way down.

– CHC Group Is A Value Investment

– CHC Group: More Than Just A Contrarian Play On Oil

– CHC Group: Down But Not Out

– CHC now trades for just 40 cents (even adjusted for its reveres split) following bankruptcy.CHC had just field for bankruptcy earlier this year and the Wall Street Journal noted that:

CHC is now asking the U.S. Bankruptcy Court in Dallas, to let it drop at least 90 aircraft from its fleet of about 230 helicopters, most of which are leased, as part of a broader restructuring that will target more than $2 billion in debt. The Canadian company said it can “no longer bear the weight” of its burdensome debt structure and expensive fleet amid declining oil prices and the resulting drop in demand for its services…. CHC is one of two global companies alongside Houston-basedBristow GroupInc. that dominate the business of ferrying workers and cargo offshore for energy companies and have been forced to shrink and cut costs.

The hype on Bristow

As with Erickson and CHC, there has been no shortage of “value hunters” being burned on the way down during Bristow’s straight-line descent from $60 to as low as $10.80.

– Market’s Overreaction Has Undervalued Bristow

– Bristow Group Inc. – Strong Insider Action Lifts Helicopter Stock

– Bristow Group Has Become Too Cheap To Ignore

– Bristow Group’s Overlooked Strength

– Bristow Group Is Worth Accumulating

– Brisow Group: This Former Highflier Is Too Cheap To Ignore At Just $14

Section II – details of the 2015 SEC inquires into offshore tax jurisdictions

On March 2nd, 2015, when Bristow was still profitable and supposed to be paying taxes, the company received a letter from the SEC inquiring into “foreign jurisdictions, the effective tax rates in those jurisdictions, and the amount of pre- tax profit in those jurisdictions”. The SEC also wanted to know more about “Foreign earnings indefinitely reinvested abroad” – which is a corporate code name for earnings on which the company hopes it will never have to pay US taxes at all.

In the prior year, Bristow had reported paying a US effective corporate tax rateof 23.4%. However, this was actually the result of a number of special one time items. Without the benefit of those items, Bristow’s effective tax rate in the US was reported as just 13.7%.

Bristow’s CFO (at the time) John Briscoe, compiled the information and responded to the SEC on March 13th, 2015, including the following table:

(click to enlarge)

There are a few things to notice in Briscoe’s response:

1. In March, CFO Briscoe only responded to the SEC with 5 overseas jurisdictions: The UK, Nigeria, Norway, Australia and Trinidad.

2. The overwhelming amount of pre-tax net income comes from the UK, then Nigeria. The other areas showed net losses (not net income).

3. For the UK, Bristow reported a tax rate of just 10.9%.

4. For Nigeria, the tax rate was reported as 89.4%. But this was explained as follows: “For example, in Nigeria, we accrue and pay taxes based on our gross income by applying a deemed profit margin of 20%. Therefore, a year of poor financial performance resulting in low or negative pre-tax earnings does not translate to significant tax expense reduction in Nigeria.”

On May 4th, 2015, the SEC wrote another letter to Bristow in which it made clear that Bristow had not responded fully to the previous letter, and in fact had omittedoverseas jurisdictions amounting to 48% of its pre-tax income, which should amount to to $259 million.

Among other various items, the SEC stated that:

you have detailed the pre-tax income for your primary foreign jurisdictions, which represents 52% of total net pre-tax foreign income… Please explain to us the nature of the remaining amount of pre-tax income from foreign jurisdictionsthat are not included in your response to prior comment 2 of $259.3 million

The SEC also requested that Bristow identify the foreign subs whose earnings were indefinitely reinvested.

The SEC had instructed Bristow to respond to this request within 10 business days. However, Bristow responded back that it needed until June 1st to get the required information.

On June 1st, Bristow responded, including the two tables below.(click to enlarge)The key points to notice from the 1st table above are as follows:

1. In the new response, Bristow now included 11 jurisdictions rather than just 5. The newly included jurisdictions suddenly includes offshore tax havens such as Guernsey, Panama, Cayman Islands and the Netherlands, which Bristow had previously omitted.

2. Suddenly we see the Cayman Islands account for $112 million in Pre-tax incomesecond only to the UK.

3. Of course, the Cayman’s have a tax rate of just 0.7%. That is to be expected.

4. But we now see that US pre-tax income has been fixed at negative$14.5 million.

(click to enlarge)

The key points to notice from the 2nd table above are as follows:

1. The largest foreign sub is BL Holdings II CV, which is based in the Netherlandsand is responsible for just under $100 million in Pre-tax income (roughly 40% of pre-tax income for the year).

2. For the Netherlands, the tax rate is just 0.8%

3. Including the other foreign subsidiaries amounts to a total of $124 million in pre-tax income, nearly one half of total pre-tax income for the year being “indefinitely” re-invested abroad

4. Bristow did NOT disclose conducting substantial operations in the Netherlands

The SEC once again responded with further questions on July 31st, again asking for a response within 10 business days.

Once again, Bristow replied that it needed more time to address these issues, and stated that it would reply by August 28th 2015.

Just two weeks later, and prior to responding to the SECCFO John Briscoe abruptly resigned from Bristow at the age of 57.

In a press release put out by Bristow, the company noted that:

John Briscoe, who will be leaving his current position as Chief Financial Officer to pursue other business opportunities.

In fact, it is now almost 1 year later. According to Bloomberg, he former CFO has not been employed elsewhere. According to LinkedIn, the former CFO lists himself as being “retired” and offers his services as an energy consultant.

In other words, CFO Briscoe simply quit Bristow with no other job lined up and so far has not found any other employment. Contrary to the company press release, he was certainly not “pursuing other business opportunities”.

This seems quite unusual. Bristow’s choice of a replacement was equally unusual.

Bristow appointed Don Miller as the new CFO. It is noteworthy prior to his time at Bristow, Miller had spent 9 years at Enron North America. Prior to his time at Enron, Miller was one of Enron’s bankers. Miller had spent 12 years as a an energy corporate banker at Citicorp. Most will remember that Citigroup had a very intimate relationship with Enron during its spectacular rise, and ultimately paid over $1.6 billion to settled claims that Citi helped Enron defraud investors. The New York Times reported that:

Citigroup Resolves Claims That It Helped Enron Deceive Investors

Within just 9 business days, new CFO Miller was up to speed and had a complete response to the SEC.

The SEC responded with its standard boilerplate letter stating that it had no more questions.

Here is a screenshot of the final letter.

(click to enlarge)

I understand that many (perhaps most) investors do not read SEC correspondence at all. As a result, many investors may interpret the letter above to be an “all clear” from the SEC. This is clearly not the case.

Just to demonstrate this, I am including an identical boilerplate letter received by MDC Partners (NASDAQ:MDCA) following its own correspondence with the SEC.

The SEC had been inquiring into a wide variety of accounting issues at MDC for a number of months. As with Bristow, there were multiple rounds of correspondence back and forth. The correspondence ended with the following letter, which is (quite obviously) identical, verbatim to the one received by Bristow.

(click to enlarge)

After receiving the above letter from the SEC, MDC subsequently disclosed that it had then received a subpoena from the SEC regarding the exact issues which had been addressed in the correspondence. The share price immediately plunged by 33% and the CEO was forced to resign.

At the time, I had been preparing a lengthy bearish article on MDC, but the subpoena came out first and the share price tanked before I could publish.

THE POINT:

My point is that investors simply don’t read SEC correspondence. And even when they do, they seldom understand what they are reading.

How are the SEC inquiries related to the current situation at Bristow ?

When oil prices were higher and Bristow was reporting profits, it was doing so while reporting a very low corporate tax rate. During the SEC inquiries, Bristow previously reported a rate which appeared to be 23%. But excluding special items, this rate was just 13.7%.

However, it remains the case that various divisions within Bristow are taxed independently of the corporate parent due to use of offshore jurisdictions. So even when the parent appears to be losing money, various divisions SHOULD likely be subject to taxes. The most obvious candidate for this would be the UK Search and Rescue operations. Although UK Search and Rescue comprises just 11% of revenues and is relatively fixed (not growing), Bristow management continues to highlight them due to their supposed stability and profitability.

Yet we saw above that somehow Bristow was able to undercut competitor CHC by at least 20% on this contract, to a point where CHC said it did not make sense financially.

We have also seen from SEC disclosure that Bristow’s UK’s corporate tax rate is less than half of the listed corporate tax rate for that year.

We also saw from the SEC disclosure that nearly half of Bristow’s pre-tax net income was being posted in offshore tax jurisdictions, mostly in domiciles where it conducted no operations, and mostly in jurisdictions where it paid virtually no taxes.

There are two potential scenarios here. We could end up seeing one, both or neither of them, depending on how the SEC shakes out.

First, as it applies to current financials, to the extent that Bristow is found to be inappropriately evading taxes via offshore entities, it could still have a financial impact on current financials – even when the corporate parent appears to be losing money and not liable for taxes. This would presumably happen at the division level.

Second, to the extent that there have been taxes avoiding in past years, when Bristow was profitable, it would create a large tax liability payable now – when Bristow can least afford it.

Section III – Sell side coverage of Bristow has been consistently misleading and flawed

As my regular readers know, I frequently watch for sell side BUY recommendations and take the opposite side of the trade when such recommendations are deeply flawed. A few weeks ago, several sell side shops were busy hyping shares of OraSure Technologies (NASDAQ:OSUR). The hype was that OraSure was set to continue with a lucrative contract with drug giant AbbVie (NYSE:ABBV). The result of the sell side hype was that OraSure was rising sharply on strong volume.

When I wrote about OraSure, I performed far deeper research than the shallow analysis of the sell side. I demonstrated that (contrary to sell side research) OraSure was “virtually guaranteed” to lose this contract, which would cost the company $40 million straight to the bottom line. OraSure shares quickly tanked by as much as 20%.

Within 24 hours, OraSure announced that it had indeed lost the lucrative AbbVie contract.

With Bristow, the key movers of the stock include Cowen & Co, Barclays and Credit Suisse, as shown below. A closer look reveals that all of them have touted or supported the stock, and all of them have been 100% wrong in every instance going back well into 2015. Yet they persist in touting and supporting the stock even now. (Hint: Bristow is in deep need of raising money and is therefore a high priority investment banking client).

The graphic below shows the dismal ratings history for each of these three investment banks.

(click to enlarge)

Cowen & Co. Research

One of my favorite sell side shops to get short on is Cowen & Co. It seems that whenever a company is in obvious need of raising large amounts of money, investment banker Cowen is there with an “Outperform” rating and a lofty share price target. As a result, I have often gotten short Cowen research names.

Most recently, when I wrote about Revance Therapeutics (RVNC) the stock had just soared 50% to over $40 based on hype from Cowen that the company was likely to be a “buyout target”. Cowen placed a $55 target on Revance. The evidence was transparently obvious that Revance’s data was deeply flawed. Not only would there be no buyout, but I predicted that Revance’s share price would be cut in half. Revance’s data was indeed highly problematic and the stock has since plunged to just $13. Despite the obvious problems, Cowen simply maintains a $55 target on the stock.

With Bristow, Cowen’s July 18th outperform rating saw the shares climb by nearly 7% on substantial volume for the day. Within 2 days, nearly all of those gains had already faded.

Be it equity or debt, Bristow is an obvious investment banking client because the company is in dire need of money to offset falling revenues and service its $1.1 billion in debt. Cowen has a far weaker investment baking franchise than some of the “bigger boys” on Wall Street. As a result, the firm appears to have consistently higher share price targets which curries favor with investment banking clients. This is why I end up doing so well shorting Cowen research names.

Just as Bristow’s earnings were announced in November (as highlighted in Section I above), Cowen came out with a research note in which it made a number of supportive statements, all of which echoed the statements of Bristow management. Despite the obvious disappointments and the plunge in the share price, Cowen noted:

We believe Bristow’s business diversification (UK SAR, fixed wing, leverage to offshore production) translates to relative earnings stability during the downturn.

Clearly this was preposterous. Cowen went on to parrot management’sassertions on CapEx deferrals, cost savings and the strength of UK SAR.

The firm maintained a huge $41 target on the stock even when the share price plunged to $30 and below.

Then, as we saw above, earnings in February were a disaster that should have been easily predictable. Even as the business environment deteriorated substantially, Cowen maintained its Outperform rating and $41 target into February even as oil was approaching new lows of $25.

In fact, Cowen even reiterated this rating immediately before earnings were announced on February 8th. As we saw, results were an absolute disaster and the share price plunged to new multi decade lows of around $11.

So the next week, Cowen did cut its target from $41 all the way down to $16. But it has continued to maintain its “Outperform” rating ever since.

As part of its report, Cowen described an “attractive risk / reward” and noted that “we see concerns over covenants in the credit facility to be overdone”. As we know, the stock continued to decline and Bristow was forced to renegotiatecovenants – just a few weeks later.

Back in June, Cowen actually re-upped its target price to $18 based on rising oil prices and the newly revised covenants. But since that time, oil prices have resumed their decline, currency “headwinds” have created very obvious near term problems and the CHC bankruptcy is flooding the market with cheap helicopters and underpriced competition.

Barclays Research

Barclays has been covering Bristow since the middle of 2015. Barclays has consistently rated the stock an “Equal Weight” (NYSEARCA:HOLD), and simply lowers its target price each time the stock plunges.

When the stock was in the $50s, Barclays told us it was worth $58.

When the stock was in the $30s, Barclays told us it was worth $40.

When the stock was in the $20s, Barclays told us it was worth $38.

And now that the stock is in the teens, Barclays tells us it is worth $20-22.

When the stock (soon) gets into the single digits, I expect that Barclays will once again downgrade the stock to around $10.

Barclays has been a member of Bristow’s banking syndicate, such that despite the continuously falling share price, Barclays has consistently told investors to continue holding the stock. And in June, they even upgraded the stock to an “Overweight”.

Most recently, Barclay’s noted:

We believe BRS’s first order of business, before any need to tap the capital markets, is to pursue sale leasebacks of up to $340 million of UK SAR aircraft, which may prove attractive sale leaseback candidates despite our cautious view of the leasing market, as well as asset-based financingfor up to $125 million of UK SAR bases and infrastructure,

Quite obviously this simply ignores the impact of the CHC bankruptcy under which we are now seeing the market floodedwith unused helicopters. It is an obvious point that no serious analyst should miss.

The recent reports from Barclays seem to quote management almost verbatim in touting the importance of UK Search and Rescue, Capex deferrals and the “advantages” of the CHC bankruptcy for Bristow. (See above on the impact on pricing).

Credit Suisse Research

Like Barclays, Credit Suisse has continuously told investors to keep holding Bristow (a “Neutral’ rating), despite a relentless 80% decline in the share price. And just like Barclays, each time the share price plunges, Credit Suisse waits until AFTER the fact to lower its share price targets.

As the share price declined since last year, Credit Suisse went from a target of $65 to $50 to $35 to $20 and now most recently to just $15. At no time has Credit Suisse ever called Bristow a sell. Like Barclays, Credit Suisse is also one of Bristow’s lenders, so this should be expected.

So Credit Suisse has been telling us to hold the stock all throughout this 80% decline. But lately, this recommendation gets even harder to understand.

The most recent report from CS describes the “industry in a tail spin” as customers are doing more with less. CS then lowered its estimates, forecasting ongoing losses into FY17/18, with below consensus estimates. CS describes the market as being “oversupplied”. Regarding the recently grounded H225’s, CS notes that “we could see a scenario where demand from the O&G business for the H225 never returns to its previous level”.

But in order to justify not moving to a sell recommendation, CS describes Bristow as being “net short” the Naira but sees virtually no impact on the income statement. The implosion of the British Pound was not even addressed.

In the same report, CS discloses that 90% of its recommendations are for Buy or Hold, while only 10% of its global ratings are listed as “Sell”.

From current prices, CS sees just 12% upside in the share price.

Conclusion

There are so many problems with Bristow that it is difficult to know where to start. However, I can safely say that I expect a steep plunge to $6-8 following new “surprise” disclosures on the upcoming conference call.

Further declines and ultimate bankruptcy risk are harder to handicap. But as with Erickson and CHC, there could be significantly greater downside over the next 9-12 months.

What investors DO KNOW is this:

Bristow’s shares have already declined by 80% over the past year, as its financial condition has deteriorated drastically. Cash balance has fallen. The dividend has been cut by 80% (so far). Revenues continue to drop and losses continue to mount. Multiple competitors have recently gone bankrupt and are now flooding the market with unused helicopters and underpriced competition. This heavily affects Bristow’s asset values as well as its revenue and income (losses).

Management and board members are resigning, and management specifically recruited a replacement board member with notable experience in bankruptcy

Bristow is sitting on over $1.1 billion in debt, and was forced to renegotiate debt covenants in May. At the time, the banks were most likely encouraged by a recent doubling of the price of oil off of its February lows, from $25 to over $50. However, its credit rating has already been downgraded to Ba3.

But with subsequent developments the banks are now likely sweating bullets.

What investors DO NOT KNOW is this:

There have been major negative developments for Bristow, many occurring in jut the past few weeks. Investors are totally in the dark.

Very shortly AFTER the new covenants were agreed, Bristow was hit hard by the 15% fall in the pound and the massive 40% drop in the Nigerian Naira. (At the same time, oil fell by 10-15% from its February highs.)

These huge impacts are the result of huge massive unhedged currency exposures.

Despite having tremendous exposures to various global currencies, Bristow does NOT engage in financial hedging.

As recently as May, management was saying that it had zero exposure to any move in the British Pound. Yet we are now finding out (just a few weeks later, post Brexit) that its real exposure could be in the tens of millions of dollars.

But the bigger surprise will be Nigeria. So far management has said nothing about the 40% drop in the Nigerian Naira, even though previous disclosures would indicate that operating income should plunge by 22% on this alone. African (mostly Nigerian) revenues amounted to $255 million in 2016. However, due to the plunge in the Naira, these revenues are most likely going to disappear due to the simple economics of the depreciated Naira.

(It should be noted that the soon-to-disappear Nigerian revenues are actually larger than all Search and Rescue revenues.)

In addition, we are also likely to hear about significant pressure being placed on asset values, revenues, profits (losses) and margins as a result of CHC filing for bankruptcy in May. CHC is now operating at a distinct advantage to Bristow. It can undercut Bristow on price and is flooding the market with unused helicopters.

The SEC inquiry

The full impact of the past SEC inquiries has yet to be determined. But there is no good outcome that can be expected from it. The SEC was specifically asking about Bristow’s use of offshore tax havens to protect nearly 50% of its pre-tax income from US taxes. Prior to completing a response to the SEC, the then-CFO resigned despite having no new employment lined up. Bristow then oddly replaced him with an M&A executive whose past experience was in working for and advising Enron for decades.

The impact of an SEC action (if any) could affect both current and future financials by eliminating offshore tax advantages for Bristow. This problem could arise at the division level, even when the parent is losing money for the time being. This would simply make ongoing losses even larger. Even worse, an SEC action (if any) could potentially result in the payment of back taxes owed, at a time when Bristow can least afford it.

As we clearly saw with MDC Partners, the conclusion of a detailed dialogue with the SEC is by no means an “all clear”. Following the similar conclusion of its dialogue, MDC disclosed an SEC subpoena. Its stock fell 33% and the CEO was forced to resign.

The catalyst for a 40-50% drop in the share price is the upcoming earnings call, with a number of new “surprise” disclosures.

Management has made its predicament far worse by repeatedly hitting investors with unexpected surprises, resulting in much larger losses than were originally expected.

Management repeatedly tries to focus investors attention on any minor positive development, while attempting to downplay major negative events. But in each case, the truth comes out at the end of each quarter.

In each of the past 3 earnings calls, we have seen the share price quickly drop by at least 20-30%.

We have seen nearly identical situations before with helicopter operator Erickson Air Crane, and we saw it before with direct competitor CHC Helicopter. Both of these companies were originally trading in the $20’s.

As they declined by more than 50% to the single digits, “value hunters” thought they could time the bottom in the stock. In each case they appeared to be “too cheap to ignore”. But with declining fundamentals and a heavy debt load, there simply was not bottom to be found. Both Erickson and CHC now trade for just pennies on the dollar.

The sell side research on Bristow is in fact worse than most. The various analysts have continually told investors to Hold or Buy the stock even as it plunges with each and every new earnings report or corporate development. It appears that the majority of the content from these reports consists of near-verbatim quotes from management, expressing their usual relentless optimism, while largely ignoring points of obvious concern. As is often the case, the majority of sell side analysts happen to have been involved as Bristow’s investment bankers and lenders.

Disclosure: The author was previously an investment banker for a major global investment bank and was engaged in investment banking transactions with a wide range of companies. The author has not been engaged in any investment banking transactions with US listed companies during the past 5 years. The author is not a registered financial advisor and does not purport to provide investment advice regarding decisions to buy, sell or hold any security. The author currently holds a short interest in BRS and during the past 12 months has shared his fundamental and/or technical research with investors who hold a short position in the stock. The author may choose to transact in securities of one or more companies mentioned within this article within the next 72 hours. Before making any decision to buy, sell or hold any security mentioned in this article, investors should consult with their financial adviser. The author has relied upon publicly available information gathered from sources, which are believed to be reliable and has included links to various sources of information within this article. However, while the author believes these sources to be reliable, the author provides no guarantee either expressly or implied

Expect OraSure To Drop 35% (Or More) Next Week

Summary

  • OraSure dipped just slightly from its 2016 highs on a recent report from Raymond James downgrading OraSure to a “Market Perform”.
  • The report completely dismissed significant near-term problems for OraSure. Another BTIG analyst has been quick to defend the stock.
  • As shown below, OraSure is virtually guaranteed to lose a very lucrative deal with AbbVie next week, costing it over $40 million.
  • As shown, OraSure will lose more than 100% of its annual profits and 90% of cash flow, revenue growth will be eliminated.
  • With OraSure trading at 3.5x sales, the stock will quickly lose around 35% as soon as an 8-K is released next week.

The perils of sell side research

Over the past year or so, I have written a number of articles highlighting short selling opportunities on overvalued healthcare stocks, which had near-term problems.

It is worth noting that in every single case, we saw uber bullish sell side analysts predicting that these troubled stocks would RISE, often by 50-100% (or even much more).

So how have our analysts done for us?

When I highlighted Revance Therapeutics as a short, the stock had recently surged from $26 to $40 with Cowen calling the stock a takeover target. Cowen pushed a $55 target price. Revance has since collapsed to $13 – down more than 60% and 75% below Cowen’s target.

When I highlighted Osiris Therapeutics (NASDAQ:OSIR), the stock was at around $9. Despite obvious signs of malfeasance, Piper Jaffrey was supporting the stock with a $28 target. It has since collapsed to $5 – down more than 40% – amid an SEC investigation (precisely in line with my warning to readers).

Keryx Biopharm (NASDAQ:KERX) is down by around 40% since I highlighted its obvious problems. The stock had been trading at around $10, but various analysts had just upgraded the stock with multiple targets as high as $32.

Omeros Corp. (NASDAQ:OMER) is down by 45% (and was previously down by almost 50%). The stock had been trading at around $18 before I had written on it, even as analysts were telling us that the stock was worth $30-38. It now trades for just $10.

Tokai Pharma (NASDAQ:TKAI) is down 40%, from $10 to around $6. But analysts had been telling us that the stock was going to as high as $38-44.

Likewise, both BTIG and Raymond James have supported OraSure with targets of $8-9. Today, I will show here that OraSure (NASDAQ:OSUR) is now headed for a very sharp decline of at least 35% (or more), driven by a catalyst which I expect in the next few days.

Sell side analysts have now steered investors wrong once again. We only need to wait a few more days for this to be proven out.

Note: OraSure is also a very attractive short because there are no visible catalysts on the horizon, which could cause any meaningful appreciation in the stock price.

Investment summary

On June 6th, shares of OraSure briefly hit a new intraday high for the year at $7.99. Shortly thereafter, a downgrade from Raymond James caused the stock to drop to below $7.00, a modest decline.

The cited reasons for the Raymond James downgrade were a) the stock had reached its target of $8.00, meaning that there was little additional upside and b) OraSure faced the simple possibility of losing a lucrative co-promotion deal with AbbVie (NYSE:ABBV).

However, Raymond James has substantially dismissed the real likelihood of losing the co-promotion deal. It has also dramatically downplayed the full impact to be felt on OraSure’s stock price.

As the stock price became even weaker in recent days, breaking below $6.50, sell side firm BTIG came out defending it with a $9.00 target.

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For the AbbVie deal, Raymond James noted that:

To be clear, our working thesis is that this relationship is sustained through 2019

The firm then notes that in the event OraSure does lose the relationship, then the stock probably goes to “near $6.00.” So they are suggesting downside of a mere 10-12%.

The report from BTIG was downright bizarre. The firm states that it “does not have a strong opinion” about the termination of the contract, but reiterates a $9.00 target.

The actual realities with OraSure are far more severe:

– OraSure is now virtually guaranteed to lose the AbbVie deal (as shown below)

– The six-month notice date is June 30, 2016 (i.e. today). The announcement could take place at any time on or after that date. OraSure will have 4 days to file an 8-K.

– The impact on OraSure will be very significant, and the stock should trade back to $4.50 or below (at least 35% downside)

– At current prices, OraSure is definitely a Strong Sell

Below, I will show where the analysts have it completely wrong.

Company overview

OraSure Technologies is a medical device company, which primarily makes a variety of healthcare diagnostic tests. The company is best known for its rapid point of care (“POC”) tests for HIV and Hep C. These are known as OraQuicktests and they provide test results within about 20 minutes. For 2015, sales of these two types of tests accounted for around 40% of revenues at OraSure.

The idea of a rapid oral HIV test was initially very promising. However, OraSure suffered from an unfavorable update to the CDC’s (Center for Disease Control) guidelines which recommend that laboratories conduct initial testing for HIV with an FDA approved antigen/antibody combination (4th generation) immunoassay that detects HIV-1 and HIV-2 antibodies and HIV-1 p24 antigen to screen for established infection with HIV-1 or HIV-2 and for acute HIV-1 infection and that none of the assays in the currently recommended algorithm are FDA-approved for use with oral fluid or dried blood spot specimens.

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As a result, the CDC update cramped much of the upside from OraSure’s HIV test. This greatly increases the reliance on its Hep C test.

OraSure also provides diagnostic tests for other infectious diseases (including flu, H1N1 and Ebola), but these account for less than 5% of revenue. Other products include substance abuse testing kits (9% of revenues) and cryosurgical systems (10%) of revenues.

The company also has a subsidiary, which sells genetic testing kits, which is responsible for around 20% of revenues.

Net revenues increased by 11% from 2014 to 2015, reaching $119 million. However, this growth was entirely due to the revenue boost from the co-promotion deal with AbbVie. Without that deal, OraSure is not really growing revenues at all.

Prior to the AbbVie deal, OraSure had lost money every single yearsince 2007.

In 2015, as a direct result of the AbbVie co-promotion deal, OraSure then reported its first profitable year, with a net income of just $8.1 million.

Profitability has continued into Q1, with net income of $2.5 million for the quarter.

But again, as we will see below, more than 100% of net income in each quarter is derived from the relationship with AbbVie. Without it, OraSure returns deep into continuous loss making territory.

(This is in stark contrast to the views expressed by the BTIG analyst).

The co-promotion deal with AbbVie

In June 2014, OraSure signed a co-promotion deal with AbbVie, which was reported to be worth up to $350 million if all milestones were met. AbbVie was to market its VieKira Hep C drug along with OraSure’s rapid point-of-care Hep C test and AbbVie was to have exclusive co-marketing rights.

The deal has two parts, both of which were enormous for OraSure.

The first part is up to $75 million exclusivity payments. These exclusivity payments will continue on for the life of the deal (5.5 years), or until it is terminated, regardless of performance. That equates to $13.6 million per year in guaranteed revenue for OraSure.

The second part is up to $55.5 million in milestone payments per year if certain annual targets are met. The actual payments are determined according to how many new patients are enrolled in the patient database above a certain threshold.

The enthusiasm for the deal was quickly reflected in the stock price, and OraSure soared from $6 in June to $10 by year-end 2014, An increase of around 65%.

It is now 2 years later and we are approaching AbbVie’s first “right to terminate” date. AbbVie has the right to cancel the deal as of December 31, 2016. But it is important to note that AbbVie must give 6 months notice in order to terminate.

That means that the termination can be announced at any time on or after June 30th. Given the huge impact on revenues and net income, this is most certainly a material event, requiring an 8-K to be put out. OraSure will have 4 days from the notice of termination to put out the 8-K.

The negative effect on the stock should be immediate and substantial as soon as the 8-K from OraSure is released.

There are three points to take away from this article.

The first point is that the termination of the deal by AbbVie is virtually certain (in contrast to the statements from analysts). And AbbVie is highly incentivized to make the termination happen at the earliest possible date.

The second point is that the effect on OraSure, both the company and the share price, will be very significant (again in contrast to the analyst assurances). I currently expect a share price decline of at least 35%.

The third point is that following its appreciation from $4.50 to current levels, OraSure is already dramatically overvalued vs. its med device peers.

Each of these points is detailed below.

POINT #1 – Termination of the deal is virtually certain

The problem here is that the entire deal has been an abject failure for both parties. Neither AbbVie nor OraSure are making any significant product sales off of the deal. Yet under the terms, if the deal is not terminated, AbbVie is still obligated to pay over $40 million in additional exclusivity payments. As we will see, AbbVie’s sales of its Hep C drug have been deeply below expectations for almost 2 years now. We will also see that performance (OraSure leads and sales) under the co-promotion deal has been dismal. As a result, AbbVie is virtually guaranteed to terminate the deal. To continue such a deal simply makes zero sense whatsoever for AbbVie.

AbbVie’s VieKira (Hep C) sales have been a massive disappointment

Back in 2014, AbbVie knew that it was a latecomer to the Hep C market. Gilead’s (NASDAQ:GILD) Sovaldi had already been approved in December 2013 and immediately began racking up blockbuster sales. Sales of Sovaldi in Gilead’s first quarter alone amounted to over $2 billion. Gilead’s second Hep C drug, Harvoni, launched not long thereafter and also hit immediate blockbuster status. The price tag on these drugs from Gilead is up to $120,000 for a 12-week treatment.

AbbVie’s Viekira Pak wasn’t approved until December 2014.

Clearly, AbbVie was looking for ways to compete with Gilead’s drug.

One tactic was to simply cut price. Another tactic was to cut a co-promotion deal with OraSure, which gave AbbVie exclusive rights to co-promote a Hep C drug with a rapid point-of-care diagnostic test.

As shown early on by Gilead, the international Hep C market is worth tens of billions of dollars. As a result, AbbVie was willing to spend big. The co-promotion deal with OraSure was reportedly worth up to $350 million to OraSure. Even with the price cuts on VieKira, AbbVie initially noted that it expected $3 billion in Hep C drug sales in its first year. In contrast to Gilead, AbbVie sells VieKira for around $80,000.

Following an initial expected launch with $3 billion in sales, there was expected to be a significant ramp up in subsequent periods as well.

Yet despite the discounts and the co-promotion deal, sales of AbbVie’s VieKira have been a deep disappointment. In its first full year, 2015, AbbVie pulled in sales of around $1.6 billion – about half of what it had expected. This is when the OraSure co-promotion deal would have been in full swing.

The weak sales then continued into 2016, with Q1 sales coming in at $414 million. So 2016 is on track to be in line with the dismal 2015.

Not only have absolute revenues been a deep disappointment, but there has been absolutely no ramp up in sales even after 6 quarters.

The first major problem was that not long after it was launched, VieKira was facing serious heat from the FDA.

The warning was described as follows:

The hepatitis C infection treatments Viekira Pak (AbbVie) and Technivie (AbbVie) may increase the risk for serious liver injury, particularly in those with underlying advanced liver disease …. The FDA will now require the company to add information about serious liver injury adverse events to the Contraindications, Warnings and Precautions, Postmarketing Experience, and Hepatic Impairment sections of the Viekira Pak and Technivie drug labels.

AbbVie’s stock quickly dove by around 15% on this news.

The second big problem for AbbVie and VieKira was the launch of a competing drug by Merck (NYSE:MRK) and the unexpectedly aggressive price-cutting by Merck. For example, as a result of the price cuts, AbbVie soon lost much of its business with Veteran’s Affairs.

But overall, it continues to be the case that Merck and AbbVie have failed to steal significant market share from Gilead, despite their price cuts and heavy marketing spend. Gilead has managed to hold on to a market share of about 85%, while Merck and AbbVie fight over the remaining 15%.

In fact, for AbbVie, the struggles appear to be getting worse. In January, AbbVie gave guidance of $2 billion in VieKira sales for all of 2016. But by April, that guidance had been slashed by 25% to $1.6 billion.

In short, even this long after launch, sales are low and stagnant. AbbVie’s VieKira has failed to become a successful drug, which largely eliminates the company’s motivation to spend big on the co-promotion agreement.

But more importantly…

How do we KNOW that AbbVie will cancel this contract ?

Against that backdrop of dismal sales with zero growth, AbbVie continues to make large guaranteed payments each year to OraSure. The total of these payments is up to $75 million, in increments of $13.6 million per year.

By canceling the deal, AbbVie can therefore save itself just over $40 million from a deal that clearly isn’t working. Given the ongoing weak sales of VieKira and the lack of performance from the co-promotion deal, continuing to pay over $40 million makes absolutely zero sense for AbbVie.

The other component of compensation under the deal takes the form of “milestone payments,” which are awarded if new patients enrolled in the patient database exceed certain thresholds. The other evidence of the failure of this deal is that nearly 2 years after the deal was signed, OraSure has not even received any milestone payments whatsoever.

The failure of the deal is equally visible from the OraSure side of the equation. By looking through the financials, we can see that there is virtually no activity being performed. OraSure discloses that it pays a fee to AbbVie for detailing the OraQuick test. This fee is classified under Sales and Marketing.

Under an agreement with AbbVie, we are co-promoting our OraQuick® HCV test in certain U.S. markets, including general practitioners and certain specialty physicians. Under this arrangement, AbbVie has agreed to detail our OraQuick® HCV test in the physician markets and we pay AbbVie a fee for these detailing services.

The way that this works is that each time AbbVie details the product to a physician, the physician is then provided as a “qualified lead” to OraSure and OraSure then pays a fee to AbbVie.

But despite a slight increase in HCV test sales, OraSure’s Sales and Marketing expense actually fell by 15% in 2015.

What this means is that AbbVie is not even bothering to detail the product to physicians under the co-promotion agreement. And as a result, OraSure is not paying them any meaningful fees.

There is quite literally no activity ongoing under the co-promotion agreement.

Yet we can see that BTIG takes a very contrived “glass is half full” view of this problem. BTIG notes that if OraSure loses the deal, then it would not be required to pay detailing fees. But with TOTAL Q1 Sales and Marketing Expense (across all products) of just $8.7 million, there is very little to be saved.

In reality, common sense (and the benefit of hindsight) now tells us that this was clearly a bad idea and a bad deal for AbbVie from the get go.

Co-promoting VieKira with an exclusive diagnostic device does nothing to ensure that doctors will actually end up using VieKira. They can just as easily start using the OraSure test while prescribing Gilead’s drugs. In addition, the revenue (and commissions) to be gained by the AbbVie sales rep for selling additional OraSure tests are so low by comparison that the AbbVie sales reps have zero incentive to even bother pushing the low-priced OraQuick devices. While a single course of AbbVie’s VieKira can run around $80,000 per patient, the OraQuick device costs just around $20. There is simply no upside for the sales reps to promote it in practice.

In other words, the co-promotion deal has failed and it was destined to fail from the very beginning. Combined with the ongoing dismal sales of VieKira, AbbVie is now virtually 100% certain to cancel its exclusive arrangement with OraSure, which would otherwise cost it over $40 million over the next few years.

As for timing, AbbVie will almost certainly cancel as soon as the notice date (June 30) arrives. OraSure will be required to release an 8-K announcing the termination within 4 days of receiving notice from AbbVie, which means the announcement can be expected as soon as next week.

POINT #2 – The effect on OraSure’s share price will be very significant

Despite its downgrade of the stock, Raymond James had expressed optimism that the relationship with AbbVie would remain intact. Clearly, we can see from the above that this is highly, highly unlikely.

Raymond James had also suggested that even if the deal was terminated, the stock price might trade to around $6.00 and not much lower. Again, this is far too optimistic.

OraSure has only recently swung to profitability, following 7 years of continuous losses. The deal with AbbVie accounts for more than 100% of all of OraSure’s profit in each of the past 5 quarters.

The boost from this deal is hard to overstate. The exclusivity payments to OraSure are just free money with a 100% gross margin. The payments therefore flow straight to the bottom line.

For full year 2015, OraSure earned $8.2 million. But the payments from AbbVie amounted to $13.5 million.

For 1Q 2016, OraSure earned $2.5 million. But the payments from AbbVieamounted to $3.4 million.

Here is where the BTIG report is the most flawed. BTIG attempts to state that these payments do not have a 100% margin impact because OraSure would have had to spend money in the past on customer training, etc.

The real fact is: once OraSure loses the co-promotion deal with AbbVie, it will need to BEGIN spending heavily on Sales and Marketing for the first time.

As a result, even though the loss of AbbVie will result in $13.6 million, the real effect on the bottom line will be noticeably GREATER than $13.6 million. So the net margin effect is, in fact, greater than 100%.

But to keep the analysis simple, I am just assuming that the impact on the bottom line is the full $13.6 million.

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Without the payments from AbbVie, OraSure immediately returns to a loss making status for the foreseeable future. As noted before, prior to the AbbVie deal, the last time OraSure turned any kind of a profit was in 2007.

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Not only are the payments from AbbVie 100% profit, but they are also 100% cash. For full year 2015, OraSure generated $15.8 million in operating cash flow. But $13.6 of this came from the AbbVie exclusivity payments. In Q1, OraSure reported $4.7 million in operating cash flow, but again, $3.4 million but straight from the AbbVie exclusivity payments.

The point is that roughly 90% of cash flow and more than 100% of net income are the direct result of the AbbVie deal. Without that deal, OraSure transforms into a money losing company, which generates virtually no cash.

So now, let’s look at the sky-high valuation of OraSure. The key problem is that in addition to losing money and not generating much cash, OraSure will be showing little to no growth.

POINT #3 – Even prior to the pending loss of AbbVie, OraSure was already dramatically overvalued vs. its peers.

When Raymond James downgraded OraSure from Overweight to Market Perform, its first reason was simply that the stock had reached its full value at $8.00 and there was no further upside to be had.

But we can also see that OraSure has dramatically outperformed all of its peers over the past 12 months.

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As shown above, Meridian Bio (NASDAQ:VIVO) and Alere (NYSE:ALR) are both down slightly and have never really been up over the past year. Trinity Biotech (NASDAQ:TRIB) is down by more than 40%.

Trinity is quite similar in size and business to OraSure. The company makes point-of-care diagnostic tests used to detect autoimmune, infectious and sexually transmitted diseases, diabetes, and disorders of the liver and intestine. Like OraSure, the company does around $100 million per year in revenue. It is also substantially more profitable than OraSure. Again, that stock is now down by 40% since last year. Trinity made a profit of around $20 million last year, putting it on a P/E ratio of about 10x and a Price to Sales ratio of around 2x.

The next best comp is Meridian, which is also very similar. The company sells clinical diagnostic test kits, for certain gastrointestinal, viral, respiratory and parasitic infectious diseases as well as bulk antigens and reagents. Last year, the company did $194 million in revenues and was more profitable than OraSure. Meridian is also down by around 30% from last year. Like Trinity, Meridian is profitable and trades on a P/E of around 20x.

The point to be made is that OraSure has continued to stay noticeably elevated simply as a result of the benefits it has enjoyed from the AbbVie deal.

So the question then becomes: without AbbVie, what are we left with at OraSure ?

We can now see that without AbbVie, OraSure is a money-losing business across the board. It is also one that generates virtually no cash.

The problem gets worse as we look for growth.

OraSure’s largest business segment is Infectious Disease Testing, responsible for around 40% of revenues. However, that segment (even with the AbbVie promotion going on) grew just 3% last year. OraSure is a no growth business.

Cryosurgical systems, the 2nd largest segment actually shrunk by 23%.

In fact, the only segment to show any appreciable growth was Substance Abuse Testing. However, that accounted for just 10% of total revenues.

(Note that “Other” revenues of $15.2 million included $13.6 million from AbbVie)

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The above numbers are for OraSure’s main business segment. OraSure has a second business segment, the DNAG segment, which sells genetic testing kits. Sales here increased from $23.8 million to $29.9 million.

Overall revenues at OraSure increased from $106.5 to $119.7, an increase of $13.2 millon. However, $13.6 million of revenues came from AbbVie. OraSure is therefore shrinking, not growing.

The valuation crisis at OraSure

Despite the fact that OraSure will be losing money every quarter, and despite the fact that OraSure will be generating virtually no cash, and despite the fact that the business is slightly shrinking (not growing), OraSure continues to be valued at more than 3.5x sales

Conclusion

Back in 2014, AbbVie was willing to do whatever it took to crack the Hep C market from first mover Gilead. It was willing to discount prices and spend big on a co-promotion deal with OraSure. That deal was potentially worth up to $350 million, showing just how ambitious and optimistic AbbVie was at the time.

Two years later, the deal has revealed itself to have been poorly thought out and a complete failure.

Sales of AbbVie’s VieKira have been dismal and continue to disappoint. Sales are low and there is no growth.

Nearly two years after the deal was signed, OraSure has received no milestone payments whatsoever. But more importantly, we can tell by looking at OraSure’s financial statements (in particular Sales and Marketing expense) that activity under the co-promotion agreement appears to be truly nil. There is quite literally nothing going on under the co-promotion agreement at all.

And yet AbbVie continues to pay $13.6 million per year in guaranteed exclusivity payments to OraSure for doing absolutely nothing. These remaining payments would total over $40 million if the deal were not cancelled.

As a result of these factors, AbbVie is now virtually guaranteed to cancel this failed deal as soon as the termination date allows on December 31, 2016. AbbVie is required to give 6 months’ notice, meaning that OraSure should be notified right around June 30th. OraSure will be required to put out an 8-K announcing the termination within 4 days.

Without the $13.6 million per year in easy revenues from AbbVie, OraSure is in big trouble. Very big trouble.

The revenues from AbbVie are 100% margin, such that they flow straight to the bottom line. They are also 100% cash. This comprises more than 100% of OraSure’s annual profit and around 90% of OraSure’s cash flow. It also made up all of the “growth” that OraSure saw in 2015.

Without these payments, OraSure is a money losing company, which generates virtually no cash and which is not growing. Yet it is currently trading at 3.5x Sales. OraSure is therefore grossly overvalued on an absolute basis, as well as vs. its med device/diagnostic peers.

As soon as the 8-K is released, most likely within the next few trading days, OraSure should be expected to fall by at least 35% to around $4.50 or below. Note that in late 2015, OraSure had been trading as low as $4.50, even with the AbbVie deal in place. So there may be substantially more downside below that level.

Disclosure: I am/we are short OSUR.

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

Additional disclosure: The author was previously an investment banker for a major global investment bank and was engaged in investment banking transactions with a wide range of healthcare companies including medical device, pharmaceutical, genomics and biotech companies. The author has not been engaged in any investment banking transactions with US listed companies during the past 5 years. The author is not a registered financial advisor and does not purport to provide investment advice regarding decisions to buy, sell or hold any security. The author currently holds a short interest in OSUR and during the past 12 months has shared his fundamental and/or technical research with investors who hold a short position in the stock. The author may choose to transact in securities of one or more companies mentioned within this article within the next 72 hours. Before making any decision to buy, sell or hold any security mentioned in this article, investors should consult with their financial adviser. The author has relied upon publicly available information gathered from sources, which are believed to be reliable and has included links to various sources of information within this article. However, while the author believes these sources to be reliable, the author provides no guarantee either expressly or implied

Behind the Scenes with Proactive, Inovio and Unilife

Note #1: Prior to publishing this article, the author filed detailed complaints with the US Securities and Exchange Commission regarding the parties and activities described herein.

Note #2: Due to the large volume of documentation obtained by the author, only a small portion is included in this article. However, the author has made efforts to ensure that the SEC and Seeking Alpha are aware of all findings, including those not detailed in this article.

Note #3: Many of the suspect articles referred to below have already been removed by Seeking Alpha. This can be seen by scrolling through Yahoo Finance, where the headlines still remain. However, the author had previously preserved electronic copies wherever possible in order facilitate ongoing investigation of the authors involved.

Investment overview

Following my recent article describing undisclosed stock promotions at CytRx Corp (CYTR) and Galena (GALE), using controversial IR firm The Dream Team Group.

These stocks have quickly fallen by 20-30%. Shares of InterCloud (ICLD) next fell by 30% on Friday following class action lawsuits and from concerns regarding paid promotions there by Dream Team writers Tom Meyer and John Mylant. The issues at InterCloud were also uncovered in the wake of my last article. All of these stocks are now down by at least 50% from their recent promotional highs.

Continue reading…

Behind the scenes with Dream Team, CytRx and Galena

Note: At least 13 recent articles covering CytRx have been removed from circulation at Seeking Alpha, the Wall Street Cheat Sheet, Motley Fool and Forbes. Many were removed in just the past two days. A list of these removed articles is shown at the bottom of this article. The author has preserved PDF copies of these articles at MoxReports.com.

In total, more than 100 articles tied to The Dream Team have now been removed from circulation in just the past two days.

Overview

A few weeks ago I received a surprising email asking me to be a paid stock tout for IR firm “The Dream Team Group”. I was asked to write paid promotional articles on Galena Biopharma (GALE) and CytRx Corp (CYTR), without disclosing payment. Rather than refuse outright, I decided to investigate. I began submitting dummy articles to the Dream Team rep (with no intention of ever publishing them). My goal was to determine how involved management from these two companies were in this undisclosed paid promotion scheme. Below I will provide detailed documentation (emails and attachments) which indicate that management from both Galena and CytRx were intimately involved in reviewing and editing the paid articles on their own stock at precisely the time they were looking to sell / issue shares.

Continue reading…

Links to pulled articles on CYTR

The following is a partial list of archived articles on CytRx which have been removed from circulation.  I expect to continue uploading additional articles on CytRx and other Dream Team clients going forward.

sa_cytr_2013_12_12_JohnMylant

sa_cytr_2013_11_19_JohnMlyant

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wscs_cytr_2014_02_03_JamesRatz

wscs_cytr_2014_01_22_JamesRatz

wscs_cytr_2013_12_18_TomMeyer

wscs_cytr_2013_12_16_JamesRatz

wscs_cytr_2013_12_13_JamesRatz

wscs_cytr_2013_12_11_TomMeyer

wscs_cytr_2013_12_05_TomMeyer

wscs_cytr_2013_10_01_TomMeyer

Sungy Mobile Set To Burn US Investors

Company overview

Sungy Mobile (GOMO) is a US listed Chinese ADR. The company’s main product is a downloadable “app” for Android phones which allows users to customize their icons and wallpaper. The company currently has a market cap of approximately $900 million and trades on a PE ratio of over 100x. The stock is very liquid and trades $10-15 million (over 400,000 shares) per day. Short interest in the stock is negligible at just 282,483 shares (less than 1% of outstanding).

Investment summary

Sungy represents a compelling short sale opportunity in the near term. At prices above $24, the stock has near term downside of at least 50%, which would still leave it trading above its recent IPO price of $11.22.

Continue reading…

MiMedx set to fall further

My last short article discussed Farmer Brothers Coffee (FARM) and since that time, the stock has come off by nearly 20% without much of a bounce. Prior to that, I discussed Unilife (UNIS), which is now down by 15-20% for largely the reasons I predicted. Before that, I highlighted unacknowledged and low-priced product competition for Organovo Holdings (ONVO). At the time, the stock had been trading around $13.00, and now it has fallen to $9.00. Prior to that, my earnings call on Ignite Restaurant Group (IRG) correctly predicted a fall of around 30% in that stock.

But for today, I am focused on an even better near-term short opportunity in MiMedx Group (MDXG).

Continue reading…

Trouble Brewing at Farmer Bros Coffee (FARM)

Background

Farmer Brothers coffee (FARM) was founded in 1912 by Roy E Farmer. The company is headquartered in Torrance, CA, which location also serves as a manufacturing and distribution hub.

The company became publicly traded in 1951 and for a while was profitable and paid a dividend. Yet the company has now failed to generate any annual profit since 2007. In 2011, the company cancelled its dividend, citing ongoing financial circumstances.

The company is not widely covered on the research side, while much of the institutional holdings consist of passive index funds. As a result, the share price has gradually crept up from a low of around $7 in 2012 to over $24 by late 2013. Much is this has been due to strong performance by other stocks in the coffee space such as Starbucks (SBUX) and Green Mountain Coffee (GMCR).

Continue reading…