Too Late to Short Green Mountain?

T2 PARTNERSWhitney Tilson founded his firm T2 Partners with Glenn Tongue in 1999. Since then, it has returned 177% cumulative since its inception compared to just over 36% for the market at large. Last year, T2 Partners lost around 25% (read more about hedge fund returns in 2011 but that trend appears to be reversing. In the 1st quarter this year, Tilson’s top picks were up almost 20% (read more about first-quarter performance here).

Business Insider recently named Whitney Tilson the hedge fund manager of the week after he scored three investing home runs in the week of April 30 to May 4. On Wednesday, Tilson issued a letter to investors saying, “Our gains for the month came entirely on the short side thanks to Nokia (NOK, -33.5%), First Solar (FSLR, -26.5%), and Tesla (-11.0%).” Also on Wednesday, appeared on CNBC and recommended investors short Green Mountain Coffee Roasters (GMCR) – a position he has been advocating for months.

According to CNBC, “He thinks the company is facing both competitive problems and accounting problems.” Green Mountain will be coming off patent later this year. This is a big issue. While Green Mountain does sell coffee and have a few stand-alone retail locations, the company’s main business is its single serve coffees, called K-cups for their use in Keurig coffee machines. Once the patent expires, other companies will be able to make K-Cups without cutting Green Mountain in on the profits.

Aside from the issue of other companies cashing in on the K-Cup technology, there is also an issue relating to the system that brews the coffee. Starbucks (SBUX) has already announced that it will be launching its own single serve coffee machine and pods this fall. The new at-home coffee system will be called Verismo (read more about it here).

Starbucks has said that its new offering is geared more towards espresso specialty coffee drinks than simple brewed coffee and, as a result, it will not compete directly with Green Mountain. However, I think it’s a fair assumption that many coffee drinkers will end up opting for Starbucks Verismo, if for no other reason than that the Starbucks machine has the ability to make a coffee drink with milk or cream using single serve pods, which is sure to appeal to both those that enjoy specialty coffee drinks and those that prefer milk or cream in their coffees.  Further, while the pricing of its Verismo pods or machine has not been announced, Starbucks’ coffee is priced less per pound than Green Mountain’s coffee. This factor could also attract consumers to the Starbucks’ Verismo.

On October 26, 2011, Tilson said that there could be potential accounting fraud at Green Mountain and said of the SEC probe against the company that he thought they were going to find something. His comments came just weeks after popular hedge fund manager Dave Einhorn gave a speech denouncing the coffee company on October 17Einhorn had criticized GMCR for its “poor transparency,” “accounting discrepancies,” confusing quarterly financial presentations, quarterly results that look “too good to be true” and capital spending that was growing much faster than the business. Green Mountain’s stock plummeted, going from $92.94 on October 1 to just $65.44 on October 27. In January 2012, Tilson said in a letter to investors that he would short Green Mountain this year as well. The stock was trading at $48.52 a share. Today, that figure is roughly $27 – clearly Tilson made the right call, but how low can Green Mountain go?

If Tilson right, it could go much much lower. He is still saying that Green Mountain’s accounting was misleading.  “Although I can’t prove it, I believe they were stealing sales from futures [sic] quarters to make their numbers look extra good. But when you do that, those future quarters eventually catch up,” said Tilson. “I think we’ll see a series of big misses by the company. I’ve been short since the high 80’s but I’m not interested in covering a single share.” Tilson is also short Ethan Allen (ETH), Garmin (GRMN) and Lululemon Athletica (LULU).