Short Sellers: Are They Keeping Companies Honest?

A September 10 research report by Hindenburg Research has trashed the stock of Nikola Corp, an electric truck manufacturing firm headquartered in Phoenix which went public only in June.  The stock is down 50% this week and the Executive Chairman, Trevor Milton, has resigned.

Nathan Anderson, who founded Hindenburg, has for more than six years been engaged in identifying misbehavior and profiting from it.  Hindenburg bet heavily against Nikola before releasing its report and Anderson confirms that short-selling Nikola has been a “big win” for him.   Anderson had earlier sought to capitalize on misconduct by filing whistleblower reports but decided revealing misconduct after selling a stock short could be more lucrative.  He is not the first investor to trod this path.  Harry Markopolos, an investigator who tried to warn authorities about Bernie Madoff’s Ponzi scheme, is today following the whistleblower strategy. 

The merits of Hindenburg’s claims - that the company faked a video of its truck driving along a highway and falsely claimed the company made its own batteries - are to be further investigated and litigated, but the damage to Nikola’s stock price has been significant.  The feeble company responses (“we never said explicitly that the truck was operating under its own power”) and the resignation of its founder suggests there is something to the accusations. 

But is the emergence of Hindenburg and similar short-sellers who then release claims of misconduct are a good thing or not?  There are overwhelming temptations to make accusations on the flimsiest of evidence.  These investors can make money in the short term on the accusation and stock crash, whether the claims are later proved or not.  And surely stories like this “big win” of Hindenberg will lure less disciplined firms into the market.

If its report is proven correct, Nikola becomes one more example of hype and what in Silicon Valley is called “vaporware” (hardware or software that does not actually exist).  Such falsehoods and exaggerations are sometimes obvious from the start, but at other times take a very long time to emerge.  Entrepreneurs such as Milton are, typically, optimistic can-do types, but too many slip over the line into believing their own hype.  The most egregious case in Silicon Valley in recent years was blood-testing company Theranos.  The founder, Elizabeth Holmes, thought the firm could achieve a major technological breakthrough if she just put enough pressure on the engineering staff.  When the breakthrough did not occur - despite her assurances to the stock market that it had already happened - she lied to her board, shareholders, and business partners to cover up the failure and her own mistakes.  Most of her staff went along with elaborate deceptions staged to fool others.

The quality of due diligence done by GM, Bosch, and other Nikola partners is certainly in question in this case.  Sadly, firms doing due diligence increasingly must contend with outright deception as well as mild exaggeration.  Their due diligence must be more thorough and they must challenge even the most fundamental claims.  Nikola clarified this week that when Milton stated in June that “we do our own batteries,” he actually meant that the company tries to control the design of the battery pack in which the cells are housed, but does buy the batteries from others. 

Relevant articles:

Head of Nikola, a G.M. Electric Truck Partner, Quits Amid Fraud Claims

How Nikola Stock Got Torched by a Short Seller

Nikola’s Finance Chief Defends Business Model

Nikola founder Trevor Milton steps down after fraud allegations