Horsehead Holding: How Mohnish Pabrai Lost $100 Million on a Stock Whose Bankruptcy Was Announced in Public Filings, Quarter After Quarter
The zinc company that announced its own bankruptcy for eighteen months straight.
In the summer of 2014, shares of Horsehead Holding traded above $20.
On February 2, 2016, the company filed for bankruptcy. The stock closed at 11 cents.
Somewhere between those two numbers, Mohnish Pabrai, the man who built his entire reputation on a checklist designed to catch other investors’ mistakes before he could repeat them, rode more than six million shares almost all the way to zero.
He lost roughly $100 million. His flagship fund finished 2015 down 30 percent. When he finally sold, he got 28 cents a share.
This was not a fraud. There was no hidden accounting scandal, no overnight collapse, no lie that only insiders knew. Horsehead told the public it was dying, in official filings, every single quarter, for eighteen months straight. Short sellers called the bankruptcy in writing, with a date on it, four months before it happened. The bond market priced it in October 2015.
So the question of this post is not “how could anyone have known.”
The question is how one of the most disciplined investors alive managed not to know. And what does that say about you and me?
Let me tell you the whole story. It’s the best investing lesson I have ever worked through, and by the end of it you will never look at a “great business with some debt” the same way again.
The most beautiful story on the market
To understand why smart money died here, you first need to feel why smart money showed up. Because the thesis wasn’t stupid.
The thesis was gorgeous.
When steel mills melt scrap, they produce a toxic dust that is about 20 percent zinc. By law, someone has to dispose of it. Horsehead was the biggest company in America doing exactly that. Steel mills paid Horsehead to haul the dust away, and Horsehead then extracted the zinc and sold it.
Every other zinc producer on the planet pays to dig its raw material out of the ground. Horsehead got paid to receive its raw material. A commodity producer with negative feedstock cost. A real moat in the most moatless industry that exists. Pabrai said it plainly in interviews:
“Commodity businesses are fine to own, as long as you own the lowest cost producer.“
He had first bought Horsehead back in 2008 as a classic Ben Graham cheap stock. It went up more than 400 percent in about a year. The stock had already made him look like a genius once.
Then came the part that turned a good story into an irresistible one. In 2011, Horsehead announced it would shut its ancient 80-year-old smelter and build a brand-new, state-of-the-art plant in North Carolina. Budget: around $350 to $375 million. Promised profit once running: $90 to $110 million of extra EBITDA per year. Projected return on the project: 45 to 50 percent.
New plant, half the production cost, lowest cost zinc producer in the world. Pabrai didn’t just buy it. By late 2013 his funds owned 11.5 percent of the entire company, one of the biggest positions in a portfolio of only six stocks. His close friend Guy Spier bought it too.
Here is what makes this story immortal, and I want you to hold this thought until the very last line of this post. The thesis was largely correct. The moat was real. Horsehead really did get paid to take the waste.
The company still went to zero.
How is that possible? The answer arrived one quarter at a time, in public, while everyone watched. On July 8, 2014, six weeks after the shiny new plant started up, Horsehead issued a press release admitting the plant had produced at about 23 percent of its designed capacity and had already been shut down once for repairs.
That was the first crack. Pabrai didn’t move. It was early, and every new plant has teething problems. Right?
What follows below the line is the full autopsy of what happened, quarter by quarter.
