Muddy Waters Reveals Chinese Companies’ Fraud

Screenshot of Muddy Waters homepage. Muddy Waters reveals frauds by Chinese companies.
Screenshot of Muddy Waters homepage. Muddy Waters reveals frauds by Chinese companies.

US-based Muddy Waters Research LLC (Muddy Waters), according to the Chinese Communist Party (CCP), is run by “a handful of anti-China activists”. If you asked Muddy Waters whether they are anti-China or not, they just might confirm it!

Is Muddy Waters Anti-China?

The home page of the Muddy Waters website quotes an ancient Chinese proverb: “Muddy waters make it easy to catch fish.” The company believes that Western investors and regulatory agencies are powerless when faced with the “muddy waters” in China. The website exposes the truth behind Chinese companies and their way of operating.

Carson Block, the company’s research director, is an entrepreneur who used to be a practising lawyer in China. The employees all have business experience in China. Their experiences have allowed them to master the skills of treading China’s muddy waters.

Sino-Forest Corporation delisted hmoepage

(Image: via Screen Shot of Sino-Forest Corporation homepage)

Warning from Muddy Waters

In the past few years, Muddy Waters has become the top assassin of Chinese companies that have gone public in the US and Canada using false accounting figures. In April, Muddy Waters warned the public to be wary of false accounting by Chinese companies listed in Hong Kong.

Muddy Waters accused Sino-Forest of fraud in 2011. Soon, the stock price of Sino-Forest on the Toronto Stock Exchange tumbled and the company was delisted. Hedge fund manager John Paulson lost nearly $500 million on Sino-Forest.

Other companies whose stock prices dived after Muddy Waters’ reports include Rino International, Focus Media and China Media Express. At the end of 2012, more serious news surfaced. Muddy Waters exposed more Chinese companies listed in the US. These companies now face bankruptcy and delisting.

Accusations from the SEC

U.S. Securities Exchange Commission SEC

U.S. Securities and Exchange Commission (SEC). (Image: via Wikipedia / CC0 1.0)

Robert Khuzami, Enforcement Director of the US Securities and Exchange Commission (SEC), said that the Chinese affiliates of five major US accounting firms violated securities laws because they would not provide audit materials of their Chinese clients that were under investigation for fraud.

The announcement caused much excitement in the US media because this;

The US media and public are interested in the possible sanctions for a reason. The deceptions from China – poisonous foods, toxic toys, dumping, intellectual property theft, business frauds – are becoming hard to swallow for the US.

Wall Street created a term, red-collar crime, to describe the model China-based companies use to defraud US investors. Many are enraged by the fact that the accounting firms, instead of being watchdogs for American investors, instead facilitate these crimes.

Toxic Bindeez Made in China

Toxic Bindeez, Made in China. (Image: via Wikipedia / CC0 1.0)

So far, the SEC has delisted 50 Chinese companies and accused 40 individuals and companies of fraud. American investors have lost $US34 billion. It looks like the Chinese regime is going to have a hard time keeping its assets in the US. The lawsuits, the compensation and the fines have added up to hundreds of billions of dollars.

When all of the companies involved are tried in court, the Chinese authorities and companies will learn what kind of serious price they will have to pay for failing to follow the rules and failing to be honest and transparent.

Listing and delisting

Before a company can be listed, the company must have established a certain level of credibility and must be able to provide earnings reports for prospective investors to review. When the company’s stock value or revenue falls below a critical level, the company has to be delisted.

Delisting means that a company’s stock is removed from the stock exchange and investors can no longer trade their shares. This normally happens when a company goes out of business, becomes insolvent or fails to meet the requirements for going public.

However, the delisting of Chinese companies is not a result of the reasons described above. It is a result of companies failing to tell the truth.

The stand-off between Washington and Beijing

The stand-off is clear. The SEC insists that it should see the audit documents from all foreign companies that are publicly listed in the US. Beijing, on the contrary, insists that auditors in China, including affiliates of foreign companies, should not work with foreign regulatory agencies or show them the audit materials.

What is Beijing afraid of? These are just accounting documents, not state secrets. To be honest, besides accounting professionals and financial analysts, who really wants to read those boring numbers and statements? What Beijing fears is that its bursting economic bubble will be revealed.

Sinopec

Sinopec logo. (Image: via Wikipedia / Fair use)

If the two nations refuse to compromise, Chinese companies may withdraw their listings from stock exchanges in the US. According to Reuters, the possibility of all publicly listed Chinese companies being delisted from the US is as high as 80 per cent!

If major Chinese enterprises, such as Sinopec, PetroChina, China Life, Sina and Baidu, were delisted, this would only be the beginning of the problems.

The downturn of these companies’ profitability would have a negative impact on their financing, lines of credit, corporate bond interest rates and liquidity. US investors would suffer so much loss that they would instigate a myriad of lawsuits.

PetroChina

(Image: via Screen shot of PetroChina homepage)

Beijing’s bans and international standards

The gap between the two countries’ accounting principles stems from their differences in philosophy, ideology and each nation’s founding principles. In the US, personal credit, credit history and credit score are as important as life itself. Compared to the Chinese government, the US government has more debt than its people.

Americans have higher expectations for their government and they demand more severe punishment for fraud. In China, deception is the social norm. The general society is not ashamed of cheating and the government has operated on the premise of suppressing truth and honesty.

The stand-off is a test to see whether Beijing is willing to follow international standards. If all the public Chinese companies were delisted, the world would be negating China’s economic and business models, and its role as the world’s factory.

Shanghai SSE Composite Index Chart

Shanghai (SSE) Composite Index Chart. (Heilme/Wikipedia)

Foreign countries have put up with Beijing because they still benefitted from doing business in China. Now, they won’t because China’s economy is denting their economic interests.

288 Children Die When Told Too 'Let The Officials Go First'
Chinese Official Goes on Rampage at Airport