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IF Insights: Jack Dorsey’s Block, Hindenburg Research & activist short-selling

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After accusing the Indian business magnate Gautam Adani of stock manipulation in January 2023 (an accusation which resulted in a market bloodbath of over USD 100 billion for the Adani Group and cost the businessman the tag of the world’s third richest), New York-based Hindenburg Research firm is back in action again, this time targeting Block, a payments firm led by former Twitter CEO Jack Dorsey.

“Block Inc., formerly known as Square Inc., is a USD 44 billion market cap company that claims to have developed a “frictionless” and “magical” financial technology with a mission to empower the “unbanked” and the “underbanked”,” Hindenburg said in a note published on its website.

“Our 2-year investigation has concluded that Block has systematically taken advantage of the demographics it claims to be helping,” it remarked further.

Decoding Hindenburg’s Allegations Against Block

“The magic behind Block’s business has not been disruptive innovation, but rather the company’s willingness to facilitate fraud against consumers and the government, avoid regulation, dress up predatory loans and fees as a revolutionary technology, and mislead investors with inflated metrics,” the research firm said.

Hindenburg further stated that its report had involved dozens of interviews with former employees, partners, and industry experts, extensive review of regulatory and litigation records, and US Freedom of Information Act (FOIA) and public records requests.

Shares of Block fell 18% in premarket trading after the publication of the report, which further noted that the payment firm’s “Wild West” approach to compliance made it easy for threat actors to “mass-create accounts for identity fraud and other scams, then extract stolen funds quickly.”

“Even when users were caught engaging in fraud or other prohibited activity, Block blacklisted the account without banning the user. A former customer service rep shared screenshots showing how blacklisted accounts were regularly associated with dozens or hundreds of other active accounts suspected of fraud,” Hindenburg remarked.

As per the research firm, Block fuelled its profitability by avoiding a key banking regulation meant to protect merchants. The law mentioned here is the one passed by the United States Congress which caps “Interchange fees” (money charged to merchants for accepting the use of payment cards) charged by lenders having over USD 10 billion in assets. Block had USD 31 billion in its assets base, but didn’t follow the banking regulation.

The Hindenburg report also accused the Jack Dorsey-led company of not revealing its business economics, despite a 2022 Credit Suisse study flagging the payment app’s trade practices.

“We also believe Jack Dorsey has built an empire—and amassed a USD 5 billion personal fortune—professing to care deeply about the demographics he is taking advantage of. With Jack Dorsey and top executives already having sold over USD 1 billion in equity on Block’s meteoric pandemic run higher, they have ensured they will be fine, regardless of the outcome for everyone else,” Hindenburg said.

Ever since the report’s publication, Jack Dorsey’s fortune plunged by USD 526 million. Not only had the former Twitter CEO faced his worst single-day decline since May 2022, but his current worth also stood at USD 4.4 billion after the 11% drop, according to the Bloomberg Billionaires Index.

What Is Hindenburg Research?

Hindenburg, founded by Nathan Anderson in 2017, focuses on activist short-selling. The organisation, named after the 1937 Hindenburg disaster, the firm generates public reports on alleged corporate frauds via its website. Companies targeted by Hindenburg include Adani Group, Nikola, Clover Health, Kandi and Lordstown Motors, with Jack Dorsey’s Block now entering the dreaded hit list.

Hindenburg generally gets involved in short-selling (buying back securities at a lower price after the drop in stock prices, then returning these securities to the lender, with the short-seller pocketing the difference amount between the purchase price and the selling price as a profit).

It prepares its investigation report on a target company in six/more months by going through its public records and internal corporate documents, apart from talking to the employees.

The report is then circulated to Hindenburg’s limited partners, who, together with Hindenburg, take a short position in the target company. Hindenburg also takes profits if the target company’s share price declines.

Hindenburg Vs Corporates

Hindenburg released a report in 2020 September titled “Nikola: How to Parlay An Ocean of Lies Into a Partnership With the Largest Auto OEM in America”.

The study called out the alleged malpractices by the heavy-duty commercial battery-electric vehicle maker leading up to its proposed partnership with General Motors.

After the report came out, Nikola Founder and Executive Chairman Trevor Milton resigned, and the report got traction across the global media. Nikola also faced probes after the study came out.

In June 2020, Hindenburg wrote about WINS Finance, whose Chinese subsidiary was subject to an asset freeze, which had not been disclosed to the US investors. It also pointed out that WINS’ parent, which owned 67.7% of WINS’ equity, had already been declared insolvent in China with no disclosure to its American investors. In October of that year, NASDAQ delisted WINS.

In the same year, Hindenburg reported about the corporate malpractices of US-based entertainment company Genius Brands, which was trading at about USD 6.86 per share in the first half of 2020. By the July end, the report resulted in the company’s shares trading at USD 1.50, a decline of almost 80%.

Throughout 2020, the research firm wrote about irregularities committed by China Metal Resources Utilization, SC Worx, Predictive Technology Group and HF Foods, resulting in these businesses facing regulatory heat, apart from taking massive market beatings.

From 2016 to 2019, Hindenburg also exposed malpractices of SmileDirectClub, Bloom Energy, Yangtze River Port & Logistics, Liberty Health Sciences, Aphria, Riot Blockchain, PolarityTE, Opko Health, Pershing Gold and hedge fund RD Legal, which opened hornet’s nests one after another in the corporate world.

Hindenburg Is Under Regulatory Lens Now

In 2022, the United States Department of Justice and other federal bodies initiated a probe against dozens of short-selling investment and research firms since 2021, with the focus being on the potentially illegal trading tactics applied by these ventures.

Since 2021, authorities have been collecting information on nearly 30 short-selling firms, as well as three dozen individuals. As per the Wall Street Journal, some of the alleged illegal trading tactics employed by these firms included “spoofing” (a method of flooding the market with fake orders to initiate stock price volatility) and “scalping” (where activist shareholders cash out positions without disclosing it).

Those being probed are Muddy Waters’ Carson Block, Andrew Left, the founder of Citron Research, Melvin Capital and founder Gabe Plotkin, Nate Anderson and Hindenburg Research, along with Sophos Capital Management and Jim Carruthers.

Image Credits: TED

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