October 27, 1996
COVERING SHORT OF
Type: Buzzard-Bait Short
HQ: Marina Del Rey, CA
Closing prices: $5 15/16 bid, $6 1/16 ask
Trailing 12-month sales: $114.4 million
Trailing 12-month earnings per share: -$1.49
Last quarter reported:4Q Fiscal '96 (September)
Next quarter reported: 1Q '97 (December), around January 27th
Consensus EPS for quarter: -$0.01 (this would be miraculous)
Fool Ratio: N/A
Trade: BUY BACK 890 shares to cover short
A model short sale comes to an end.
"As Fools who always like to have a bit of our money 'on the other side of the table,' we are going short Quarterdeck, underneath the buzzards' lazy circles." So we wrote in our initial short report in late September.
Quarterdeck was a very good short for the Fool Portfolio.
Almost from the get-go, this stock dropped and kept dropping. Already on a crash course from $39 1/2, Quarterdeck was fearlessly shorted by the Foolfolio on September 27th. The day we wrote it up, the stock was bidding $7 3/4, asking $7 7/8. The next morning, as stocks have been wont to do, this one moved against us following the national exposure that our recommendations have attracted. That was OK with us; we're used to it by now. Penalized as much as any of our readers, we initiated our short position later that morning at $7 1/8, already down 8% from our hoped-for price.
As it turned out, this gap down didn't really matter. Take a look at the performance graph since and you'll see that amid a failing business, with few useful products and no CEO, the company was unable to right its boat. Fourth-quarter earnings came in on Monday, and looked predictably bad... way down (at minus 73 cents) from the analysts' consensus estimates for that quarter, which at the time we shorted the stock sat at $0.00 (that's right, flat).
In fact, that was one of our primary motivations for shorting in the first place. Wall Street was missing this boat.
We'll cover in the next few days with a gain of about 20% over a two-month holding period.
GETTIN' OUR 20%
Our aims with a short sale are very, very simple.
Yep, twenty percent. That's really all we want or expect from each of our short sales. If we can make 20% inside of three months on any short sale, those compounded returns on an annual basis would be (get out yer calculators, people)... um... 107.36%. Not bad! Not realistic, of course, since life rarely works out so perfectly, but you get our overall drift. A 20% return on a short sale is a fine achievement, and we'll take it.
We did hold this investment beyond our 20% goal, however, and for a while it was really paying off. At one point (its low), Quarterdeck was making us slightly over 40% on our money, though that very same day it snapped back following a brokerage firm's issuance of a neutral rating. Why did we keep holding? We were getting greedy. We believed this stock could go down below $4, and might never come back. While we were since proved wrong (it is back), we are not necessarily convinced Quarterdeck may not go lower from here. In fact, if it rose significantly again on no material change in future prospects, you might see us step back into the batter's box against this pitcher.
In the end, though, we decided that greed just shouldn't be part of the holiday spirit, so we're cashing out.
This new Foolish strategy for shorting looks like a keeper.
Our buzzard bait technique was hatched in our Fool HQ laboratories, first written about in our erstwhile SmartMoney magazine column, and summarized in the initial Quarterdeck short report (cf. the "Buzzard Bait" section). It really does appear to work, and we'll be drawing off this strategy for future shorts.
To summarize, we're looking for beaten down stocks that have further room to fall. We search Investor's Business Daily for stocks with relative strengths of 5 or lower, then select those with negative earnings per share and the most hideous balance sheets we can find (we look for companies whose current assets are less than their current liabilities plus long-term debt). The idea is to find moribund businesses racking up losses which also happen to have very little ability to "fund" themselves out of their quagmire.
What's interesting is that in using this strategy, we're often perceived as coming late to the dance. "Hey, this dog has already dropped from $39 1/2 to $7," we'll hear someone say on our message boards. "The Fools are way late on this one, and you won't make money." Well, certainly we've been wrong before, and not every investment will work out. But at the same time, please note that this one did. So listen up: It really doesn't matter where a stock has been... what matters is where it's going. We would all be much better investors if we could make this principle commonplace in our thinking.
Sure, it would've been brilliant to short the stock over $30 and hold it down to $5. How utterly... perfect. We're not looking for perfection; we're looking for 20%. That's our typical stated aim when we short a stock. Anything more? Just gravy.
Quarterdeck could turn it around. We doubt it, but the possibility certainly exists. And we wish them the best.
The game isn't over till the clock runs out. The clock has not yet run out on Quarterdeck. The guys in Marina Del Rey are still looking for a corporate manager (the company was CEOless throughout our holding period), it needs more compelling products, and it needs to continue to cut overhead. But none of these is impossible. It just takes vision, hard work, and guts.
We wish this company the best of luck. When our money's riding against something, it's because we believe that thing overvalued. We have no wish to see anything fail that doesn't deserve to. Capitalism is designed as the ultimate meritocracy. "Show us what you've got," our economy says to any entrepreneur, any business, "and your merit will be your reward." Great companies reward those who create them with untold riches; poor companies fail (and fail a lot -- the majority of new businesses started every year in the US will fail within the next five).
But for every company that does succeed, the world is a better place. Companies succeed because they're meeting societal needs, whether that be transportation, computer networks, scrumptious chocolate-chip cookies, or clean jiffy-johns. When successful companies compete against each other, the winners are almost always you and me. We're always served by the computer industry, for instance, when competitors butt heads. What's happening out there? They're reducing prices, improving quality and reliability, innovating, and improving service. All good things! It's capitalism, baby.
If Quarterdeck can bring in the right people, conduct market research that reveals an unmet need, create software products at the right price to meet that need, and get the word out, it will succeed. And the U.S. of A. will be a slightly better place for that. We wish them well.
We don't expect much problem exiting this position at a fair price. If we do have problems, though, we'll stand pat for a few days.
When we shorted this stock initially, it traded as low as $6 3/8 that morning, following a close the previous night at $7 3/4. In other words, the market had moved 17.7% against us in just minutes. We don't expect that to happen on the cash-out side of this trade, since our exits are never so interesting to most people as our entrances. In fact, many people may have already covered this short sale, at prices better than what we'll get!
But if Quarterdeck does bounce up on the open Friday morning, we may just hold out for a few days. We've done this before, when we've felt that the market is reacting primarily to our silly buy or sell reports, and not to anything material to the business. Comes with the territory, we know, but that doesn't make us like the situation any more. Suffice to say that if QDEK gaps up or anything like that on Friday, we'll sit tight. You see, our buys and sells are immaterial to the company, and only serve to show how inefficient the markets really are.