WHATWALL STREET WON’TTELLYOU
stood up from his desk piled with financial statements that the rules of his trade had left him no choice but to mangle – and said, “ Enough is enough! ” Well, that’s basically what Litman did. After most of a decade on Wall Street, he’d developed an even greater distaste for the way capital markets are reported. He published a case study in the Harvard Business Review, “Give My Regrets to Wall Street,” about a company weighing whether to go public or stay private. Its assessment of the downsides of leaping into the wild (and, Litman emphasizes, meaningless) world of public valuations was uncomfortably honest. Two years later, he left to start Valens Research. Accountants are a put- upon people. They do the math. They follow the rules. Even when they know the rules are wrong, they still follow the rules. He recruited Rob Spivey, an old protégé from his days on Wall Street, and opened a small office in Cambridge, Massachusetts, which is still their stateside home base. Even as a 19-year-old intern at Credit Suisse, Spivey stood out to Litman. His grasp of Wall Street’s biases was surprisingly sophisticated: Reporting real values to the public would never be a true priority at an investment bank whose primary loyalty is to its clients’ earnings. “When it comes to reporting values, the question for Wall Street is always going to be, ‘ At what point do you become biased toward your clients? ’” Spivey says,
when I ask why he chose working with Litman over the Wall Street life favored by some of his business school classmates. When I ask whether he ever regrets it, he says life with Litman is more exciting: “You know you’ve got a little bit of an edge – and you know you’ve earned it.” The calls they’re most proud of at Valens are contrarian analyses they were able to make with confidence because they knew what was wrong with the rules. And because they’d done the tedious math. Facebook, for instance, is a favorite... When Facebook went public in 2012, the conventional outlook was “As reported, it looked like a terrible company,” Litman recalls. “But the reported values were wrong: They were pouring money into research and development, and paying employees with stock options” – both of which misleadingly undermined Facebook’s reported value at the time, because of the peculiarities of the accounting rules. And just as Valens predicted, Facebook rebounded. Their call on Planet Fitness, too: “A ton of people said the stock was a short,” Litman grins. “They said, ‘ I don’t know what these Valens guys are saying , this doesn’t make any sense .’” And they were right, it didn’t make sense. Planet Fitness looked like an absurdly bad call because its strip-mall storefronts are leased. The accounting rule for valuing leases – a rule which, Litman explains, was so flagrantly misleading that its reform finally took effect this year – and the rule for deferred tax liability, which remains in place, grossly exaggerated their losses. Based on Litman’s
American Consequences
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