Contents Foreword Who’s Who Introduction to This Edition Introduction: The Spark of a Speech Part One: A Charity Case and Greenlight Capital Chapter 1: Before Greenlight Chapter 2: Getting the “Greenlight” Chapter 3: Greenlight’s Early Successes Chapter 4: Value Investing through the Internet Bubble Chapter 5: Dissecting Allied Capital Part Two: Spinning So Fast Leaves Most People Dizzy Chapter 6: Allied Talks Back Chapter 7: Wall Street Analysts Chapter 8: The You-Have-Got-to-Be-Kidding-Me Method of Accounting Chapter 9: Fact—or Maybe Not Chapter 10: Business Loan Express Chapter 11: Disengaging and Re-engaging Chapter 12: Me or Your Lyin’ Eyes? Chapter 13: Debates and Manipulations Chapter 14: Rewarding Shareholders Chapter 15: BLX Is Worth What, Exactly? Part Three: Would Somebody, Anybody, Wake Up? Chapter 16: The Government Investigates Chapter 17: A Tough Morning Chapter 18: A Spinner, a Scribe, and a Scholar Chapter 19: Kroll Digs Deeper Chapter 20: Rousing the Authorities Chapter 21: A $9 Million Game of Three-Card Monte Part Four: How the System Works (and Doesn’t) Chapter 22: Hello, Who’s There? Chapter 23: Whistle-Blower Chapter 24: A Naked Attack Chapter 25: Another Loan Program, Another Fraud Chapter 26: The Smell of Politics Chapter 27: Insiders Getting the Money Out Part Five: Greenlight Was Right Carry On Chapter 28: Charges and Denials Chapter 29: Charges and Admissions Chapter 30: Late Innings Chapter 31: The SEC Finds a Spot under the Rug Chapter 32: A Garden of Weeds Chapter 33: A Conviction, a Hearing, and a Dismissal Chapter 34: Blind Men, Elephants, Möbius Strips, and Moral Hazards Part Six: Epilogue Chapter 35: Looking Back: As the Story Continued Chapter 36: The Lehman Brothers Saga Chapter 37: If They Asked Me, I Could Write a Book Chapter 38: Just Put Your Lips Together and Blow Chapter 39: Some Final Words to and from the SEC Chapter 40: The Last Word Glossary Acknowledgments About the Author Index Fooling Some of the People All of the Time Copyright © 2008, 2011 by David Einhorn All rights reserved Published by John Wiley & Sons, Inc., Hoboken, New Jersey 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Wiley products, visit our Web site at www.wiley.com Library of Congress Cataloging-in-Publication Data Einhorn, David Fooling some of the people all of the time : a long, short (and now complete) story/David Einhorn; foreword by Joel Greenblatt p cm Includes index ISBN 978-0-470-07394-0 (cloth); ISBN 978-0-470-48154-7 (paper); ISBN 978-0-470-37149-7 (ebk); ISBN 978-0-470-37158-9 (ebk); ISBN 978-0-470-89329-6 (ebk) Allied Capital—Management—Evaluation Allied Capital—Accounting—Evaluation Small business investment companies—United States—Management—Evaluation I Title HG3729.U5E44 2008 332.6'20973—dc22 2008011992 In honor of my parents, Stephen and Nancy Einhorn, who demonstrated business success while maintaining high standards of personal integrity and good humor revalue write-downs Investment Company Act Investment-grade bonds Investors “absolute-return” analysis of market by long-only private-equity value Ira Sohn conference J Jaffray, Piper Jenkins Jr., Holman W Jennings, Alexandra Johnson & Johnson John Wiley & Sons Journalists, list of Junior loan Justice Department K Kantrow, Yvette Kerry, John fundraising and Keswin, Jeff Keynes, John Maynard Kilroy, Kelly Kinsey, Walter Knight, Jerry Kozlowski, Dennis Kroll gas station and motel frauds and investigation of Kudlow, Larry Kupperbusch, Kevin L Lawsuits class-action malpractice whistle-blower Lay, Ken Lehman Brothers Lender oversight, rules for Lending conventional small business programs, SBA regulations, of SBA Liberty Mutual Licensing Limited Partnership Interests Lin, James Liquidation net value property Liquidity of BLX crisis Litigation Loan-parking arrangement Loans by Allied Capital Lending Business and Industry carrying commercial mortgage conventional defaulted delinquency reports and delinquent disqualified fraudulent Grade after Hurricane Katrina junior mezzanine motel origination performance piggyback private finance purchasing the guarantee rejected risky Small Business Administration (SBA) subordinated substandard write-downs on Loan sharks Lobbying Lokey, Houlihan Long, Robert D Long-only investors Long-Term Capital Management Long-term shareholders Long-term value Loss analysis Losses M Madoff, Bernie Mason, Greg Magnet Properties, LLC Mail fraud Malpractice lawsuit Management BLX companies concepts credibility of fees role of Management concept Six Sigma Six Sigma Black Belts Market Asian bear bull crash extremes failing manipulation manipulation activity value Market values debt McGee, Matthew McLucas, Bill MDC Holdings Media Allied Capital and hedge funds and Medicare, false claims involving Mergers and acquisitions (M&A) Merrill Lynch Allied Capital stock offering analysts Mezzanine investments Mezzanine loans Miscreant hedge funds Misinformation campaign Money laundering Monkey Business (Rolfe and Troob) Morgan Keegan Morgan Stanley Internet and Mortgage, fraudulent transactions Morton Grove Pharmaceuticals Mosaic Theory, of valuation Motel loans Multiyear treatment cycle Mutual funds trade “Mutuals” N Naked shorting defined “Napoleon complex” Napoli, Robert Nasdaq implosion of National Association of Securities Dealers National Marine Fisheries Service Negative stock research Negotiation Net asset value (NAV) See also Book value Net capital gains Net income Net investment Net investment income Net operating income (NOI) NETtel “New economy” stocks New York Stock Exchange (NYSE) The New York Times Nguyen, Hoa “No comment” policy Noncash revenue Non-performing assets Norwesco O Off-balance-sheet Office of Compliance Inspections and Examinations (OCIE) Office of Inspector General (OIG) Off Wall Street (Roberts) O’Hara, Terrence OnSite Operating companies Option cancellation payment (OCP) Oral business agreements Orthodontic Centers of America (OCA) Overstock “Oversubscription” rights P Painter, Ed Pair trades Patel, Mangu Payment-in-kind (PIK) income Pearlstein, Steven Perold, André Phone records, theft of Phycor Piggyback loans Pinnacle Systems Piper Jaffray Political action committee (PAC) Politics Portfolio company Portfolios analysis capital in commercial mortgage backed securities concentrated construction of growth lending accounting losses and gains in mark-ups and mark-downs in performance progress of quality real estate recession and securitized Small Business Administration (SBA) valuation Portfolio valuation methodology Positive stock research Preferred lender providers status Preferred lender status, of BLX Preferred lending program (PLP) status Preferred stock Pretax profits Pretexting Hewlett Packard scandal as invasion of privacy Prices bond decline in exercise fire sale guaranteed stock unguaranteed volatility of Price-to-earnings (P/E) multiple Private companies Private-equity investments Private-equity investors Private finance loans Product revenue Professional investors, list of Profits pretax pro forma reporting Project on Government Oversight (POGO) Property liquidation Provident Bank Proxy Put agreement disclosure of Pyramid-scheme accounting Q Qui tam case against Allied Capital and BLX R Ralston Purina Raptor, partnership with Enron Real estate portfolios ventures Real estate investment trust (REIT) Recession portfolios and Rechler, Scott Reckson Associates Recurring earnings Redox Brands Regulatory guidelines Reinsurance companies Related-party fees Reliance Acceptance Reporting, profits Residual interests Resolution Trust Corporation Retail shareholders Returns absolute blended investment risk-adjusted Revenue recognition policy, of Allied Capital Revenues noncash product Risk analysis of Risk-adjusted returns Robertson, Julian Rogue employees Roll, Penni Rural Business Service (RBS) Rural Telephone Finance Cooperative (RTFC) S Sachs, Gerald Sales of Farmer Mac of securities of shares Samsonite collapse of Sarbanes-Oxley Act Savings-and-loan crisis SBA see Small Business Administration (SBA) SBAExpress Scheidt, Doug Scrushy, Richard Seabrooks, Robert Securities corporate debt depressed fraud offering sales of Securities and Exchange Commission (SEC) accounting rules Allied Capital investigation as civil regulatory agency current-sale test Enforcement division fair-value accounting and filings Greenlight Capital investigation investigation by short selling ban testimony at Securities Exchange Act Securitizations Securitized portfolios Security analysis Seeking Alpha Seitel Senior debt September 11, 2001 terrorist attacks Sham company Share-clearing system Shareholders CRM as Allied’s largest long-term long-term capital gains and retail rewarding tax shield for Shares borrowable cost per counterfeit sale of Short-sellers author as borrowing stock profit-motivated SEC and Shrimp-boat loans SBA and Siegler, Collery & Company (SC) Sirrom Capital analysis of success of Six Sigma, management concept Six Sigma Black Belts, management concept Small Business Act Small Business Administration (SBA) BLX and criticism of defrauding of lending programs lending regulations Loan Programs Division loans loss claims policy of portfolio “pushback” qui tam case against Allied Capital and BLX shrimp-boat loans and standard for valuation standard operating procedures of Small business investment company (SBIC) Small Business Investment Incentive Act Snowe, Olympia Sohn conference S&P 500 Sparrow, Suzanne Spear, Leeds & Kellogg (SLK) Special-purpose entities Spillover distribution Spin-offs defined Spitzer, Eliot Startec bonds and Startec Global Communication bankruptcy of Statistical analysis Stein, Ben Stewart, Sam Stifel Nicolaus Stilmar, John Stock market Stock ownership initiative Allied Capital Stocks common as compensation dividends economy employee options growth high-yielding “new economy” options preferred prices purchasing splits weakness of prices Story, Louise Subordinated debt Subordinated loans Substandard loans Summit Holdings Southeast (SHSE) Surplus, of capital Swartz, Mark Sweeney, Joan Sweet Traditions, bankruptcy of Sydran Foods bankruptcy of debt and equity investments T Tannenhauser, Robert Tasker, Janet Taxable earnings Taxable income Tax code Taxes corporate distribution income shield for shareholders Technical accounting Technology companies Tenet Healthcare TheStreet.com Third-party valuation assistance, Allied Capital and Third Point Partners Tiger Fund Tilson, Whitney Tilson Capital Partners Tomorrows Children’s Fund Total enterprise value calculation Trades, pair Trading, insider Transparency Treasury bonds Triad Hospitals Trilogy Conifer bankruptcy Triview Investments Inc Trone, David “Turnaround memos,” Conseco and Tyco Tylan General U Underwriting practices, fraudulent Unguaranteed pieces Unicover U.S Department of Agriculture (USDA) Bill Russell Oil fraud and Business and Industry loans by USA Today V Valuation assistance of BLX collateral company policy current-sale indefensible methodology metrics Mosaic Theory of nosebleed portfolio processes SBA standard for strategy traditional measures workout Value fair long-term market Value investing, Internet bubble and Value Investing Congress Value investors Velocita Ventro Venture-capital company Venture funds Ventures, real estate Volatility, of stock price W Wachovia Wall Street Wall Street analysts list of The Wall Street Journal Walton, Bill Warrants Wasatch Advisors The Washington Post Wells notice Wendt, Gary Whistle-blowers law lawsuit shrimp boat loans and White-Sun Cleaners Wichmann, Todd Wiley Williams, George C Woods, Mark R Workout valuations WorldCom bankruptcy of fraud Write-downs by Allied Capital of investments on loans Write-ups offsetting Written summary Y Yield-to-maturity basis Yogi Hospitality Z Zabel, Rich Zion’s Bank ... that follow the rules Allied’s management has had unending opportunities to answer my allegations, and I have not seen them once address the actual facts that form the basis of my allegations They... Library of Congress Cataloging-in-Publication Data Einhorn, David Fooling some of the people all of the time : a long, short (and now complete) story/ David Einhorn; foreword by Joel Greenblatt... wrong some of the time At SC, the principals were smart and believed the firm was smart It is hard for smart people to admit a mistake As a research analyst at SC, if I recommended a long idea at