Barrons Article- Autograph Authenticators

MONDAY, FEBRUARY 27, 2006

Kinda Sorta Genuine
Here is an article about PSA/DNA, Jimmy Spence and problems with authenticators in general. This article is from Barrons magazine online.

By NEIL A. MARTIN

SOMETIMES, EVEN THE EXPERTS CAN BE FOOLED.

Take James Spence, one of the country's foremost sports-autograph experts. When a Fox-television news affiliate in Philadelphia asked him to verify the signatures on six baseballs signed by sports greats, he gave a firm thumbs-up to one apparently signed by former Phillies third-baseman Mike Schmidt. "Very, very typical of the way he would sign," he told the station's reporter. "Good speed, good letter formation, and reflects authority and spontaneity." Informed that the station's resident graphic artist had forged Schmidt's signature the day before, Spence could only reply: "He did a fine job."

That awkward episode unfolded a few years ago, when Spence headed up an autograph-authentication unit of Collectors Universe, a big player in collectibles whose stock is traded on Nasdaq (ticker: CLCT). Though Spence has since moved on, forming his own firm, the credibility of the unit, PSA/DNA, has increasingly drawn scrutiny. It is now battling two lawsuits challenging the integrity of certain authentications it made. And the company has taken an unusual flogging in the publications of two prestigious collectors' organizations.

"It's not uncommon to see a PSA/DNA [expert] 'authenticating' an autograph that is certainly not authentic," says a scathing article in the current issue of Pen and Quill, a magazine of the Universal Autograph Collectors' Club. It cited more than a dozen cases of what it called authentication foul-ups, including validation of a preprinted signature of Franklin D. Roosevelt, two Neil Armstrong forgeries and "autopen," or machine-signed, signatures of George H.W. Bush, Bill Clinton, Ronald Reagan and Bruce Springsteen.

Collectors Universe stands by its work and says the Pen and Quill article has many factual errors. "Credibility is our biggest asset and our reputation is the core of our business," Michael Haynes, chief executive of Collectors Universe, told a group of institutional investors at a recent corporate seminar in New York. The company's autograph unit sometimes gives the OK to rubber-stamped and machine-made signatures, says a prestigious collectors' magazine. Collectors Universe has sought to discredit the report.

Still, the lengthening list of allegations, along with the effects of an eroding collectible-coin business, could start to weigh on the shares of Collectors Universe, which has a modest market capitalization of $130 million. At 15, the stock is down from 20.60 about a year ago, in part because of disappointing coin sales, and some bears see it falling another 20% to 25%.

COLLECTORS UNIVERSE, BASED IN NEWPORT BEACH, Calif., is one of the largest players in its field. It provides services and products to dealers and collectors of coins, sports cards, stamps, autographs, sports memorabilia and more. In all, some $1.3 billion of collectibles come under its review in the course of a year, and annual revenues are running at $33 million. The stock has been publicly traded since 1999.

The PSA/DNA autograph unit, which, as its name suggests, counts DNA analysis among its tools, contributes less than 5% of revenues. But its verification services have been a model for the rest of the company, so the controversies involving the unit could have broad implications for the company's image.

The sparring began last year when William Daniels, a long-time collector and dealer of sports memorabilia in Lebanon, Ind., filed a suit against PSA/DNA and online auctioneer MastroNet. The suit, now in the discovery phase in Boone County (Indiana) Superior Court, accuses PSA/DNA of fraud in connection with verifying the authenticity of some 2,000 autographed glossy color photographs of sports figures that Daniels purchased for nearly $20,000 in a catalog auction from MastroNet in December 2004.

Each photo came with a letter of authenticity from PSA/DNA. But, Daniels claims, some 65% of the photos turned out to be damaged, tattered, torn and creased, with signatures smeared or otherwise illegible. When he asked PSA/DNA about this, he claims, he was told by one of its authenticators that the firm had never actually reviewed the photos. Instead, according to Daniels, PSA/DNA had supplied MastroNet with blank letters of authenticity, leaving it to the auctioneers to fill in the details.
"This business is based on trust and faith and PSA/DNA is supposed to be a reliable third-party verifier," Daniels said in an interview. "But how can they verify something they don't look at? "

MastroNet president Doug Allen says the claim that PSA/DNA didn't review the items is "a total fabrication." He said MastroNet records show that PSA/DNA authenticators were on the premises. He added that his firm had offered early on to reimburse Daniels if he would identify and return damaged photos, but that Daniels refused. Haynes, the Collectors Universe CEO, says his firm has no control of "the care and handling of items by the auction house or by the common carrier that may have delivered the items."

Meanwhile, Collectors Universe was sued by a former employee, William Miller, for millions of dollars for issuing more than 14,000 certificates of authenticity bearing his name that were used without his permission to verify the legitimacy of various sports memorabilia. The company essentially blames an administrative glitch.

This past November, a jury in Superior Court of California found in Miller's favor on the unauthorized use of his name, but the judge refused to rule on a damages claim, leaving it up to appeals court to settle the matter. The judge did award Miller $14,060, $1 per signature, representing Collector's Universe's profits on the autographs. Miller is appealing and asking for $750 per signature, or more than $10 million.

Senior Vice President of Finance Mike Lewis says the company "failed to adequately stop the flow" of the certificates after Miller said he no longer wanted his names on them. However, the firm believes that Miller suffered no damages and therefore there is "nothing to rectify," Lewis says.
A $10 million award would be a considerable hit for Collectors Universe, given that it earned just $4.8 million for the fiscal year ended last June. The company acknowledges that a damages award could be "material," but also points out that it has a $55 million cash cushion and no debt.
Some analysts dismiss the potential impact of the lawsuits on the company's profitability and stock price.

Dalton Chandler, who follows the company for Needham & Co., which underwrote Collectors Universe's initial public offering, maintains that the stock could top 19 in 12 months. That would leave the shares trading at lofty 30 times his estimated 2007 earnings of 65 cents a share.

That's probably an optimistic valuation for a company facing some serious business challenges. The collector coin business, which accounts for 61% of total revenues, is being hurt this year by a sharp drop in orders from a key customer, the company has acknowledged. The customer accounted for 11% of the company's coin-grading revenues. As a result, the consensus among analysts is for net earnings to fall 25% this year, to 3.56 million, or 40 cents per share.

Chandler is unfazed, saying the coin business "is in better shape than the evidence of the past few quarters suggest. We also think the company's new diamond business has the potential of meaningful growth while increasing the company's overall growth." Late last year, the company entered diamond grading through two acquisitions.

Still, Russell Hoss, an analyst at investment bank Roth Capital Partners, recently downgraded his earnings estimate for the company -- to 35 cents a share for the fiscal year ending in June from 51 cents a share -- in part because of rising costs throughout the company. Hoss kept a Neutral rating on the stock, but lowered his target price to $11.50 from $14. That would be a drop of more than 25% from the current levels.

THE RECENT ARTICLES IN THE TWO collectors' magazines have only added to the questions about the company. The bi-monthly Pen and Quill, put out by the oldest autograph collectors' club in the world, has published what amounts to a five-page indictment of PSA/DNA's authentication process, entitled "Who's Watching the Watchmen."

"It has become apparent that PSA/DNA has some weakness in authenticating autographs outside the sports field -- as well as some glaring oversights from within the sports area," writes author Steve Zarelli, a member of the collectors club. "It's not uncommon to see a PSA/DNA [expert] 'authenticating' an autograph that is certainly not authentic."

The Bottom Line:

The stock, which has fallen 26% from its 52-week high, could drop another 25% amid questions of credibility, the loss of a big coin customer and high costs in a diamond business.

Zarelli told of a collector who successfully bid for a game-used bat belonging to Ernie Banks, complete with a certificate of authentication from PSA/DNA. "What autograph?" Zarelli writes, "The bat isn't signed by anyone." Similarly, a "signed" Mark McGwire baseball card, authenticated and graded by PSA/DNA, turned out to be a rubber-stamped signature rather than hand-written, he writes.

In keeping with the club's policies, a draft of the article was sent to Joe Orlando, president of PSA/DNA, for review before publication. But according to club president Michael Hecht, a Pasadena, Calif.-based Smith Barney stock broker by trade and longtime autograph collector by avocation, Orlando provided only a general response. "He sent me an e-mail saying they didn't believe what we wrote was true but to go ahead and publish it and be damned," Hecht says.

"Some dealers said it was finally about time that someone said what we wrote," Hecht added.

Lewis of Collectors Universe said Orlando told the club the article was "filled with factual errors and opinions stated as fact." The company declined to discuss the supposed errors in detail, either for Penn and Quill or for Barron's.

Shortly after the Pen and Quill article came out, another collectors organization weighed in. The Manuscript Society, an elite New York-based organization of collectors of historical documents and manuscripts, reported on the Miller case in its Manuscript Society News, quoting Miller as saying Collectors Universe used him "as a pawn to deceive or even defraud the public. For the rest of my life, I will live with the uncomfortable feeling that at anytime I might be held responsible for someone who authenticated an autograph I never looked at."

The controversy surrounding Collectors Universe hasn't received much attention beyond the narrow audience for Pen and Quill and the Manuscript Society News. But that could change soon. Says Ken Lawrence, a stamp expert with the nonprofit American Philatelic Society's expertizing service and a member of the organizations that published both articles, "For both these groups to be warning their members about Collectors Universe at the same time is very unusual and very serious."