This week concluded the semi-annual presentation of the Value Investing Congress in New York City. The event is a two-day gathering of investors who eagerly hear presentations by notable investors. Greenlight Capital manager David Einhorn was one presenter and he was touting his current bearish pick: Green Mountain Coffee Roasters (Nasdaq:GMCR). (To learn more, check out Profiting From Stock Declines: Bear Put Spread Vs. Long Put.)
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Roasting Profits ...
While I lack the details, Einhorn is far too savvy an investor to bet against a stock merely on valuation purposes. GMCR currently trades at around $69 a share, or 67 times trailing earnings and about 6 times book value. Green Mountain is the main company behind the increasingly popular Keurig single-cup coffee machines. These machines require users to purchase K-cups, which are the single serve cups that allow people to brew a single cup of coffee without measuring coffee or using a filter. To be sure, GMCR has experienced rapid growth over the past several years. From fiscal 2008 to fiscal 2010, sales have grown from just under $500 million to over $1.3 billion while profits have surged from $22 million to nearly $80 million. That growth is expected to continue, with profits expected to almost double in fiscal 2011 and excitement about a deal signed with coffee giant Starbucks (Nasdaq:SBUX) earlier this year.
... or Brewing Shenanigans
Einhorn's case doesn't hinge on valuation alone but rather accounting and other issues about the future growth of this company. Despite earning more and more profits, GMCR is not generating any free cash flows as the company continues to invest heavily in cap ex. Einhorn is also concerned about patent expiration of the company's cash cow, the high margin K-cups. Absent a patent, GMCR will face enormous competition from large food business like Kraft (NYSE:KFT) who would enter to market to bolster its own coffee sales. In addition to patent loss, Einhorn also cited accounting issues. Einhorn's approach and detail is very similar to his previous bet against Florida landowner St. Joe (NYSE:JOE). So far, Einhorn has been right on both fronts. St. Joe trades for under $15 a share, well below the mid $20s price that Einhorn placed his bet. GMCR shares have responded quickly as well. At the beginning of the week, the stock traded above $90 a share. Today, shares trade for $67, giving Einhorn a tidy quick return on paper.
The Bottom Line
Whether Einhorn's ultimate thesis proves right or wrong, his trade has worked. He may be slowly closing out his trade given the share decline and the nearly 50% gain he's sitting on. To be sure, some analysts are disputing his rationale and see significant growth ahead for GMCR, which in the short run could cause the shares to pop up again. Don't attempt to try this at home without understanding the consequences first. (For more on shorting a stock, read When To Short A Stock.)
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