Money Stuff: Netflix Producer Traded Instead

A fairly standard story of financial fraud goes like this:

1. A guy raises money from investors to do something, promising them a nice return on their money when the thing works out.
2. The thing doesn’t work as well as he expects, so he loses some of the money and can’t give investors the promised return.
3. He takes some of the money he has left and uses it to make more aggressive trades, hoping to make up the losses.
4. This goes poorly and he loses even more of the money, so he takes even more risks to make up for it.
5. Eventually he has lost, like, 95% of his investors’ money and there’s not much hope of recovery. So he goes to Vegas with the rest and puts it on one spin of the roulette wheel.
6. He loses, all the money is gone, and he gets arrested.

When you put it like that, though, it stands to reason that there would be exceptions: Surely some fraudsters must win their final desperate gamble. Not a lot, obviously; you’ve got a 1-in-38 chance of winning at roulette. But that’s not zero! 

There are examples! There was an alleged Ponzi schemer in France who literally won the lottery. My favorite example might be Martin Shkreli, who, among many other things, ran a hedge fund, lost 99.9% of his clients’ money, launched a second hedge fund, [1] put that hedge fund’s money into a speculative drug company he started, took the drug company public, and made piles of money that he used to pay back all of the disgruntled investors in the hedge funds. He went to prison for securities fraud anyway, but his investors really did make money. Sometimes, financially if not legally, gambling on redemption works.

But, again, the success rate should be low. In part this is a matter of risk and reward — if you need to 20x your money to pay back your investors, it stands to reason that you would only have about a 5% chance of success — and in part it is a matter of, you know, if you are the person who has already lost 95% of your investors’ money, probably there is something wrong with your decision-making process. (Another favorite example of mine is Sam Israel, who ran a hedge fund, lost most of his investors’ money, and tried to make it all back by getting fleeced in an insane “prime bank” scam. That will never work!) 

That said … blockchain solves this? I mean, not really, but I get the anecdotal impression that the rise of crypto has somewhat increased the rate of successful gambling on redemption. Like:

1. If you have lost 95% of your investors’ money and need a 20x return in a hurry, you will naturally be tempted by crypto, because it provides the most salient recent examples of people getting rich fast without much work.
2. The crypto market has grown rapidly from nothing to trillions of dollars of market value, so there are pretty strong tailwinds to whatever crypto thing you happen to be investing in.
3. If your decision-making process is generally poor, that is not necessarily a problem in crypto, where the rewards do not always go to diligent effort and penetrating analysis. If you’re like “I’m gonna put all my investors’ money into this joke coin about a dog,” that can work great!

One general feature of gambling on redemption is that, if it’s really successful, you never hear about it: Some fund manager loses 95% of his investors’ money, makes it all back on crypto speculation, and never bothers to tell anyone that there was a problem in the first place. So I can’t prove that there are dozens of important cases of this working in crypto.

But there are some suggestive examples. A few years ago, Tether took a bunch of depositor money and loaned it to its affiliated crypto exchange, Bitfinex, to cover some misplaced customers money; this got Tether in trouble with New York regulators, but ultimately it worked out fine for the depositors because, as crypto grew, Tether and Bitfinex made lots of money and could easily pay everyone back. [2] Or consider FTX, which lost much of its customers’ money but then sort of found it again when crypto prices rallied. [3]  Tether and FTX got in trouble anyway, but I assume there were quieter cases where rising crypto prices fully solved the problem. [4]

That said, most of the time, if your decision-making process was bad enough to lose most of your investors’ money in the first place, and then you make it all back in crypto, your decision-making process is probably bad enough that you won’t quit while you’re ahead and will find a way to lose it all again. [5]

Anyway here’s this guy:

The Justice Department on Tuesday charged Carl Erik Rinsch, whom Netflix hired to make a science-fiction series that was never completed, with an $11 million scheme to defraud the company.

According to the indictment, which was announced by prosecutors for the Southern District of New York and the Federal Bureau of Investigation’s New York Field Office, Mr. Rinsch secured funding from the streaming company from 2018 to early 2020. But he put the money in a personal brokerage account and ultimately used it to trade securities, instead of putting it toward the series, the indictment says. 

Okay sure, bad, standard. [6]  But here are the Justice Department press release and indictment, which tell a more complicated three-part story. First, Netflix gave him $11 million to finish a show called “White Horse,” he moved almost all of the money in his personal brokerage account, he “then made a number of extremely risky purchases of securities, including call options on a biopharmaceutical company,” and he quickly lost “more than half of those funds” while telling Netflix that the series was “awesome and moving forward really well.” There is absolutely no reason to expect a television producer to make a profit day-trading biopharma options, and he didn’t. 

But then, after losing most of the money, starting in 2021, he “transferred nearly all the remaining … funds to a cryptocurrency exchange account” and “used those funds to speculate on cryptocurrency — which eventually proved profitable.” There you go! There’s no reason to expect him to make money day-trading stock options, but everyone was making money on crypto in 2021; why shouldn’t he? He did. In fact, as far as I can tell, he made back approximately all of the money.

I can tell because the third step was that he allegedly stole it again:

Between in or about June 2021 and in or about November 2022, CARL ERIK RINSCH, the defendant, transferred [Netflix’s] funds from the cryptocurrency exchange to yet another personal bank account. RINSCH then spent approximately $10 million on personal expenses and luxury items, including but not limited to (i) approximately $1,787,000 on credit card bills; (ii) approximately $1,073,000 on lawyers to sue Streaming Company-I for even more money, and for lawyers related to his divorce; (iii) approximately $395,000 to stay at the Four Seasons hotel and at various luxury rental properties; (iv) approximately $3,787,000 on furniture and antiques, including approximately $638,000 to purchase two mattresses and approximately $295,000 on luxury bedding and linens; (v) approximately $2,417,000 to purchase five Rolls-Royces and one Ferrari; and (vi) approximately $652,000 on watches and clothing. 

Yes, right, if you lose all of your investors’ money day-trading stock options, and then you make it all back day-trading crypto, the rational thing to do is to hand the money back to the investors and say “sorry never mind, things didn’t work out but here’s your money back,” [7]  but you are not going to do the rational thing now are you? You’re going to sue your investors for more money.

The business of retail banking, to oversimplify only slightly, is about paying depositors less than the market rate of interest. The crucial asset of a bank is its “deposit franchise,” which means the bank’s ability “to pay a deposit rate that is low and insensitive to the market interest rate.” Right now, if you are in the US, you can put money in a high-yield savings account that pays about 4.5% interest, or a money market fund that pays about 4.3%. But lots of people don’t. They keep their money in an account at their long-time bank, where they get paid interest of, say, 0.01%. 

Why do banks have this franchise? Why can they pay customers less than the market rate? There are a few classical answers:

1. Historically there was one bank in your town, and you put your money there, and if a bank three towns over had higher rates you didn’t know or care: You banked where it was convenient. Now with the internet it is much easier to put your money in an online high-yield savings account, but (1) maybe you haven’t gotten around to that and (2) convenience still matters. 
2. Banks provide various services to depositors, which attract deposits even with low interest rates. Most straightforwardly, the bundle of services called “a checking account” usually comes with a zero-ish interest rate, but even a savings account might have a low rate and attract money anyway because depositors like the other stuff the bank does.
3. The same sorts of reason any company might have pricing power: branding, marketing, sponsoring the local Little League team, etc. [8]

We talked in January about another, worse (?), funnier answer. Capital One Financial Corp. did the following trade:

• It launched a high-yield savings account, “360 Savings,” and prominently (and correctly) advertised that 360 Savings accounts had some of the highest interest rates in the US.
• It attracted lots of deposits to 360 Savings accounts, and paid them competitive interest.
• But then it launched a new high-yield savings account, “360 Performance Savings.”
• As market interest rates went up, the rate on 360 Performance Savings went up, but the rate on 360 Savings did not.

The result is that Capital One could attract new customers by advertising (and paying) a high rate on 360 Performance Savings, but it could pay a low rate to its old customers, who had previously been attracted by the high rate on 360 Savings. Why didn’t those customers just switch to 360 Performance Savings, or for that matter to another bank? Well, because Capital One didn’t go around telling them this. If they weren’t paying attention, they got the low rate. If they were paying very close attention, they got the high rate. Banks love customers who don’t pay attention.

The US Consumer Financial Protection Bureau, in January, thought this was bad and sued Capital One “for cheating millions of consumers out of more than $2 billion in interest.” But that was in January, and since then the CFPB has dropped the suit and also vanished. So I guess this is fine now? (Not legal advice!) You can think of it as straightforward price discrimination: Capital One paid high interest rates to attract deposits from people who paid attention to interest rates, and low interest rates to people who didn’t.

This is a pretty natural and self-executing way to do the price discrimination, but I guess you could find more sophisticated approaches. “AI,” for instance? Bloomberg’s Georgia Hall reports:

Fifth Third Bancorp, Huntington Bancshares Inc. and Valley National Bancorp are among regional US lenders that use artificial-intelligence tools to scrape customer data, helping them personalize deposit offerings as competition for customers’ money intensifies.

Increasingly digital-savvy consumers are hunting for better online alternatives and higher interest rates, and banks, which use deposits as their main source of funding for loans, have had to adapt to win and retain customers who can easily make a switch.

“We have seen positive trends, especially in bringing new customers to the bank,” Valley National Chief Data and Analytics Officer Sanjay Sidhwani said in an interview. “Use AI models and see what customers might be in the market for.”

Valley National has used machine learning for about the past nine months to predict whether a customer would be a good target for a product, according to Sidhwani. The Morristown, New Jersey-based firm uses AI software to tailor online messaging for customers, and its data-analytics system flags customers who are deemed well-suited for certain accounts, he said.

“This is growing the depth of the relationships with the existing customers,” he said. …

Fifth Third’s offering personalizes product and service recommendations using more than 100 AI machine-learning models, and has increased customer engagement by 40%, according to Shawn Niehaus, executive vice president and head of consumer banking at the Cincinnati-based company.

What could it mean to personalize deposit rates? For all customers everywhere, getting paid more on deposits is better than getting paid less. [9]  But perhaps AI can tell you which customers will notice.

Four months ago, QXO Inc., Brad Jacobs’s vehicle for rolling up building products companies, formally offered to buy Beacon Roofing Supply Inc. for $124.25 per share. [10]  At the time, Beacon’s stock was trading in the $90s. Beacon’s board thought about it for a bit and then told QXO that its bid “was inadequate and would not be the basis for any further discussions.” QXO disagreed and, in January, launched a tender offer for Beacon, again at $124.25 per share. Beacon again objected, telling shareholders “that QXO’s offer to acquire Beacon for $124.25 per share significantly undervalues our Company and our future prospects for growth and value creation and is therefore not in the best interests of Beacon and our shareholders.” The debate continued for a while, and earlier this month Beacon put out another press release saying that QXO’s offer “represents an opportunistic attempt to take advantage of the current macro environment and acquire Beacon at a discount to its intrinsic value for the benefit of QXO but the detriment of Beacon’s shareholders.”

Today it put out another press release:

QXO, Inc. (NYSE: QXO) and Beacon Roofing Supply, Inc. (Nasdaq: BECN) today announced that they have entered into a definitive merger agreement under which QXO will acquire Beacon for $124.35 per share in cash. …

The boards of directors of both companies have unanimously approved the transaction, which values Beacon at approximately $11 billion, including all its outstanding debt. The transaction is expected to close by the end of April, subject to a majority of Beacon shares tendering in the offer and other customary closing conditions. Beacon’s board unanimously recommends that all shareholders tender their shares into the offer.

Well, $124.35 is more than $124.25. You could imagine that the intrinsic value of Beacon is, like, $124.31, so the previous offer was inadequate and this one is good. Seems unlikely. We talked about the 10-cent bump last week, and I suggested that Beacon might have tried its best to negotiate a better deal, and this is all it got. Today Beacon gives a better explanation:

Stuart Randle, Beacon’s chairman, said, “Since QXO made its initial offer last November, we have evaluated strategic alternatives to enhance value for all of our shareholders. Following our Board’s comprehensive review, we concluded that this transaction is in the best interests of Beacon and its shareholders given the immediate premium and certainty of value in cash it offers, particularly in an uncertain environment.”

Yep! Any time anyone comes to you and offers to buy your company for any price, probably your first response should be “this offer significantly undervalues our company and we’re offended that you would even suggest it, this conversation is over, get out of here you rascal.” Maybe they’ll come back with $20 more per share! “The essential lesson” of finance, I once wrote, is adverse selection: “If you are being offered a trade, that probably means it’s a bad trade.” If Brad Jacobs, who is good at business, wants to pay $124.25 for your company, it is reasonable to assume that he knows something that you don’t, and that your company is worth at least $150.

But then your second response should be to hire bankers and dig deep into your management’s projections and figure out what your company is actually worth. Quite plausibly you — or your managers and bankers — know more about what your company is worth than Jacobs does, but you have to confront the facts honestly. Also you should have your bankers shop the company real quick, to see if anyone else wants to pay $150.

And if your bankers and managers come back to you and say “$115 tops,” then you call Jacobs right back and say “hey buddy let’s talk.” (This is also the story of Twitter Inc.: Elon Musk, who is good at business, offered a somewhat random $54.20 per share to buy Twitter, and the board was like “no of course not, we need more, and we’re putting in a poison pill to prevent Elon Musk from stealing this company too cheap.” And then a few days later, after running the numbers and looking around for other buyers, it took Musk’s money.)

Obviously it’s awkward to spend a few months telling shareholders that $124.25 per share significantly undervalues their company and then pivot to saying $124.35 is a great deal, but I guess that’s what the 10 cents is for.

Bloomberg’s Anthony Lin and Todd Gillespie have a fun story about the Silverfern Equity Club, a … club? … where Citigroup Inc. private banking clients were offered the chance to invest in private-equity co-investments done by Silverfern Group, with Silverfern and Citi splitting the fees. “Citi signed up 39 of its richest clients as club members with commitments of $470 million,” focusing on “‘big boy’ clients who had their own due diligence capabilities,” because Citi’s bankers didn’t do any diligence on the deals and “frequently reminded clients that they weren’t in a position to opine on the transactions.” The big-boy clients “ultimately put only $220 million in Silverfern deals, less than half of their soft commitments, with a handful passing on all of them,” which I guess is what you should want: The clients made their own investment decisions, and they passed on deals they didn’t like. It wasn’t what Silverfern wanted, though, and Citi and Silverfern ended up in court.

It’s a strange situation: If you are a private banker you are supposed to try to act in your clients’ best interests, to bring them deals that you think are good, but at the high end your clients are probably more sophisticated than you are and can evaluate the deals themselves. Occasionally bringing them a deal where you’re like “I dunno about this one but you make your own decision” seems like good customer service in the abstract, though if they invest and the deal goes poorly they won’t be thrilled with you. (Despite the disclaimers, Citi’s bankers “nonetheless heard from clients disappointed by investments that didn’t go well.”)

Meanwhile, from Silverfern’s perspective the problem with this arrangement was that the clients often said no or, worse, “sure but only a little bit”:

Citi wanted to offer a pick-and-choose buffet of opportunities to its richest clients, who were also able to participate with relatively small commitments. That didn’t sit well with Silverfern, which was under constant pressure from deal sponsors to meet its allocations.

Early on, [Silverfern co-founder] Clive Holmes expressed annoyance that a club member described by a Citi banker as “worth 4x George Soros” was willing to put only $500,000 into the first Silverfern deal, a co-investment with Partners Group in oil-services firm O-Tex Holdings.

“My car cost more than this!” Holmes wrote in an August 2012 email to a Citi banker.

Just a wonderful, canonical, all-purpose line that I hope will be used widely. Any time you’re trying to get someone to push up their bid or commitment: “My car cost more than this!” Five hundred thousand dollars is the perfect amount for that line to be funny — your car could cost that much, but it’s obnoxious to say so — but really it works for any number. Brad Jacobs offers $11 billion for Beacon Roofing? “My car cost more than this!” 

When I was an investment banker at Goldman Sachs Group Inc., and the Mega Millions jackpot got big, our desk would pool our money to buy a bunch of tickets. This seemed very rational to me: We could afford to occasionally blow $20 on lottery tickets, we were pretty miserable much of the time, if we won the lottery we could stop being investment bankers, and it was nice to daydream.

My only concern was that obviously we couldn’t win, not only because the chances of anyone winning the Mega Millions are low, but because it is karmically impossible for a group of Goldman derivatives bankers to win the Mega Millions. Imagine the New York Post stories! Absolutely no chance. Obviously — because you are reading this — we never did.

Here’s this guy though:

A lucky former Royal Bank of Canada executive is taking home the top prize in an Ontario lottery.

Charles Coffey, 81, worked at Canada’s largest lender for over 44 years in banking and human resources, eventually rising to executive vice president of government affairs and business development.

Coffey’s initial reaction to seeing his winning ticket: “That’s interesting!” He believed he’d won C$25,000, according to a news release by the Ontario Lottery and Gaming Corp. But when Coffey grabbed his glasses for a closer look, he realized he’d missed three extra zeroes — in his hand was the ticket to the C$25 million ($17.4 million) jackpot.

His statement says that the money will go to philanthropy, though “first, he said, he’s going to take his family on vacation.” 

Factor investing in credit. Retail investors take on hedge funds in Europe’s answer to ‘meme stock’ mania. BlackRock Campaigns Soothe Tensions in Texas and Win Over GOP. Caterpillar hedging. AI-Cloud Firm CoreWeave Seeks $2.7 Billion in Dialed Back IPO. London Metal Exchange fined by UK regulator over 2022 chaos in nickel market. Solana ETFs Are Coming to Wall Street in Latest Crypto Push. Kraken to Acquire Futures Platform NinjaTrader for $1.5 Billion. Tesla falls after Commerce secretary recommends buying stock. Managers Have Won the War on Remote Work. But Where Does Everyone Sit? Beef-Loving Nation Rocked by $300 Million in Cattle Fraud Claims. Old-age verification. “… Until, eventually, they have gained enough followers to be able to quit the 9-to-5 that they made the basis of their persona, in order to pursue the new American Dream: becoming a full-time influencer.” 

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