My perspective on the Glaucus report

Hi fellow HC'ers.

Firstly, a golf clap for Glaucus. Well timed and executed short raid, generating a stock price decline from $1.41 to ~$1.10 today....a 22% gain in a day. As to the report...well, here is my stroll through the detail, noting that I am a shareholder and as would be expected do not have a valuation of $0.00

Page 1. Introduction. Yep, the Australian MIS industry went from many companies to...one? TFC. Yep, TFC does not generate significant cash from sales of sandalwood. FY16 cash EBITDA was $62.16m, net cash interest (from cashflow statement) was $27.59m so I would minorly quibble with the interest statements. Yep, total borrowings increased because the company refinanced and increased its $US notes issue.

Page 1, Paragraph 1. Yes sandalwood trees take a while to grow. Yes, TFC is reliant on capital markets. Yes, without capital markets TFC could not exist....um, but aren't most companies reliant on capital markets, like banks, property, technology...
Page 1, Paragraph 2. Who is this Jaederberg? Going way back in time (FY13....so many years ago) I recall TFC reclaimed 580ha from a Wholesale Investor who did not pony up the dough....wonder if it was them? Anyhow, if one wants marketing material why not look for the MIS and HNW Prospectuses on the TFC website? Yep, it is inexplicable how Jaederberg promote cash dividends within 2 years and a full payback after 7. Sounds big-time like a Ponzi scheme! Pity there is no comparison to official documents from TFC (apologies for no link as the QIN website doesn't have PDFs and I've only got a 2015 HNW offering in front of me) that indicate a 14-16 year harvest timeframe. Absolutely agree Jaederberg looks like a Ponzi

Page 2. Paragraph 3. I can't read 'Chinese'...I presume that the language is Mandarin? Anyhow, I agree that the thesis that Glaucus has laid out with respect to the Chinese Distributor does not look good for TFC. I understand that TFC's shipments are made monthly with $US 2.25m cash paid in advance (see ASX release 27 Sep 16) so if one wants to be charitable then maybe a small company could get some sort of credit to turnaround. Only I'm disappointed Glaucus didn't get any feedback from other contracted companies such as Lush, Young Living and Nestle. They probably speak English!
Page 2. Paragraph 4. Yep, valuation of sandalwood trees is very sensitive to a few key inputs. Funny thing about valuations, they usually are.
Page 2. Paragraph 4a. Yep, not a good look. But what the heck is a 'Capital Introduction'???...Incipient Capital was not "Lead Manager", it did "Capital Introductions". A minor quibble...let's move on

Page 3. Paragraph 4b.i. What species of Sandalwood was imported? Australian? Makes a big difference. Would like to know
Page 3. Paragraph 4b.ii. I'm annoyed at myself here as I can't find an old MIS prospectus. Maybe a reader can help out...isn't the agreement that a MIS investor will be delivered their cleaned logs at Kununurra if they want wood, otherwise TFC will sell off for a fee? So TFC has to both act for its MIS investors at arms length to the Sales arm that wants the raw material to onsell @ $US4,500/kg? Anyhow, to me it makes sense for TFC to arbitrage the raw wood price to oil price. It is not 'using funds raised from new investors to buy out previous investors', it is using funds from equity markets (i.e. superannuation funds, retail punters) to purchase the outcome of investments made by MIS investors 15 years before. It's like saying an apartment builder is using funds raised from new investors to buy out previous investors when a property is developed and sold. This just looks like a circular argument....why doesn't Glaucus just say that it believes all TFC's sales agreements for oil at $US4,500 are not valid which is essentially what this paragraph boils down to.
Page 3. Paragraph 4c.i. Academic studies can point out yields of 4.0-6.8kg....didn't TFC average 9.7kg in the harvest last year? Anyhow, going to my trusty 2015 HNW IM the heartwood production is forecast @ 22.5kg @ 25% moisture content, not 30kg. Didn't the moisture content standard change a while back?
Page 3, Paragraph 4c.ii. Yep, yields are much lower than initial forecasts. As TFC has previously indicated
Page 3, Paragraph 4c.iii. Dunno why they harp on about Academic Studies when TFC has already beaten them. I've got a suggestion why TFC is forecasting higher yields for newer plantations.....they actually go out and study their trees! Radical, I know. Perhaps their forestry staff monitor growth rates of each plantation, and using bore sampling and harvests they are able to assess and even model heartwood content to metrics like tree height and diameter? Maybe using seeds from the biggest trees and also working out which hosts are best also can be useful after 18 planting years? Sorry for the sarcasm readers.
Page 3, Paragraph 5. Companies not engaging in questionable behaviour also experience high turnover. Remember when TFC's share price was <$0.50 and investors were clamouring for board turnover??? Yep, it was a bit unusual that Patrick O'Connor resigned in Nov 14. Yep, two and a half years ago. How about we frame it differently and say that the current Chairman has been serving TFC since 16 Oct 2014? Personally I would be more worried about CFO turnover rather than the non-executive Chairman. But each to their own

Page 4. Paragraph 1. Dang I wish I had got my hands on that Taylor Collison report!
Paragraph 5. Yes, the company is heavily levered if one considers operating income to interest expense. But then again so is every company in development phase....I like to think of TFC as being like a new mining company developing a tenement. And it does 'burn cash'...my perspective (that is different to Glaucus) is that Mgt are still hell-bent on increasing TFC's owned plantations, and that has not come cheap. 2 sides of the coin.
Paragraph 7. Yep, discussed this. Leverage is high, and that is a risk for investors

Page 5. Paragraph 1. Don't think institutional investors get a MIS tax break????
Paragraph 2. Supply in India has been declining over the last 30 years....and so does Glaucus answer the Economics 101 question as to what price does when supply declines???????.....the suspense nearly killed me!
Paragraph 3. Sandalwood is difficult to grow....Economic 101 about barriers to entry and prices.....more deathly suspense!!!!
Paragraph 6. Any longer-term readers of this board will know how I whinge about 'cash' vs reported earnings. I hate accounting standards that require asset revaluations to be put though a P&L

Page 6. Um, see Page 5 Paragraph 1....insto's don't get a tax break. And yes, capital is required for investments. Any investment. Lots of companies are not viable if they don't get any capital from investors or equity markets.

Pages 7-10. I've gone through the Jaederberg stuff. Has anyone on this board done a MIS investment with TFC....feedback on their marketing materials would be nice? And another point: most of TFC's plantation funding comes from HNW and institutions. Anyone thinks Harvard Endowment Fund used Jaederberg's materials as their basis for investment? So I'm a little dubious having read MIS and HNW investment documents that TFC gets its plantation funding from Jaederberg-style marketing efforts

Pages 11-17. Yep, this whole Chinese customer thing looks weird. Would love to see a bit more forthcoming from TFC management on how their distribution works. But, offsetting this is that TFC gets cash before sending the wood off in a container each month, so $US in the bank account can atone for many website and SAIC filings.

Page 18. This is the crux of any investment in TFC. What will demand be for Indian Sandalwood when TFC's harvest start to ramp up in 2021-22? I'm not sure at several thousand $$/kg Indian Sandalwood oil can be referred to as a 'commodity' but there you go. I disagree with this Incipient Capital chart anyhow....why won't Fragrance demand increase with an increasing middle-class population worldwide? Same with Mouth Freshener....India's population is still growing. If the Pharmaceutical properties of IS are anywhere close to as advertised I would see massive demand......anyhow it is in the eye of the beholder.

Yes, the Incipient Capital relationship appears badly disclosed.

And I do see some validity in the idea that market demand can increase as supply comes. Fragrances will likely want to use Indian Sandalwood instead of artificial substances as it becomes available, etc, etc. How about this: the market for smartphones was pretty small before the iPhone came out...or is that too much of a stretch.

Page 20. Looks like Wise Owl is a bit lax with it's TFC price target of only $2.30....every other big-bank broker (Cannacord, Moelis) have +$3

Page 22. Hold on....on Page 5 Glaucus says supply in India has been declining, etc, etc, then it has a go at Dr Padmanabha's charts showing higher prices?

gosh I'm getting a bit tired

Page 23. Yep, TFC's filings use a $US2,800 forward price for IS oil vs $US4,500 mentioned in supply agreements. This $US2,800 then gives NTA/share of $1.25....whoa, the share price is at a discount to NTA I better start buying! I think Glaucus would have a better case for TFC if the company was using a $US4,500 price for NTA calculations

Also, India import data doesn't tell us what species the wood is. Is India importing Australian Sandalwood oil? Fijian? This is kind of important. I mean, TFC has indicated that Australian Sandalwood oil it harvests vis Mt Romance is sold into India (from the 19 Dec 2016 announcement). And from what I can guess Australian sandalwood sells for a bit less than Indian.

Page 25, Paragraph 4. Maybe TFC actually had a Chinese Wall that required a blind bid? I would have thought ASIC would look rather dimly on TFC if it failed to act in the best interests of MIS growers. And it actually isn't reminiscent of Great Southern as Great Southern never had a harvest if its MIS schemes whereas TFC has now done three.
Paragraph 6. We can't go on forever, with suspicious minds....

Page 26 Paragraph 1. Any guesses as to what the $A/$US was doing over this timeframe. If you guessed falling in a big hole, you are right! And what would that do to the $A price any overseas bidders would be paying. Did you guess increase?

oh gosh, I can't be bothered any more.

Anyhow, my conclusions are Glaucus have raised some worthwhile new points with regards to disclosure of previous relationships with external consultants and also the Chinese export customer. But other than that, if you expect the company will continue to attract new plantation investors (and I do given the company made it through the GFC and now has 3 completed harvests to show to new investors as proof), investment in TFC comes down to the price you think the company will get for its Indian Sandalwood oil and heartwood over the coming decades

Any following this shareprice fall, I'm upping my sentiment to Buy

thanks for reading if you've got this far! All spelling errors are my own laziness