Why Carson Block is shorting cosmetics company ELF Beauty

Carson Block is the founder of the short-seller Muddy Waters Capital.

The notorious short-seller Carson Block has a new target: the discount cosmetics company ELF Beauty.

The California-based beauty company “seems to sell product it does not have,” Block, the founder of Muddy Waters, said in his report, presented at the Sohn Conference in London on Wednesday.

Using import data and referring to conversations Block and his team had with ELF’s global shipping partners, the report said Block believed the company had “materially overstated revenue over the past three quarters — possibly by ~$135 million to ~$190 million.” Muddy Waters is short the stock, though the size of the position is unclear.

Block’s report said the firm believed that at the end of last year “ELF management realized its growth narrative was in trouble as its inventory built.”

“It appears that ELF then began reporting inflated revenue and profits,” the report said. “Its reported inventory also appears materially inflated as a result — i.e., to account for cash that has not really come in.”

Block and his firm have been a thorn in the side of plenty of companies big and small. Last year at the Sohn Conference, he identified a Blackstone REIT he believed was ripe for a “liquidity crisis.” The trust has fallen by nearly 17% since his presentation last December.

Block made his name by uncovering accounting fraud at public Chinese companies and remains a skeptic of the market. His latest position has many ties to the country, given that much of ELF’s inventory comes from China.

Block’s presentation described how revenue and inventory grew in tandem with inventory imported — until ELF reported earnings in May, when the “correlation broke.”

The company said part of the inventory change came from taking the title of its goods in China instead of waiting for it to be shipped to the US to take ownership. But Block said he found in conversations with China-based shippers ELF used that this policy had always been in place.

“ELF’s reported inventory build was seemingly due to insufficient sales — not a change in buying practices,” the report said. “This also strongly indicates that ELF was deceiving its auditor at that point (if not earlier), which is a major red flag.”

ELF did not respond to a request for comment from B-17.

Trading under the ticker ELF, the company’s stock had fallen by more than 9% by late Wednesday morning.