Sino-Forest Sees Paulson & Co Sell Out As Fraud Allegations Linger

June 21, 2011 Posted by China Briefing Reading Time: 3 minutes

Sino-Forest Corp.’s recent troubles a prime example of fraudulent reporting allegations negatively impacting on Chinese companies listed overseas

By Kaitlin Shung

Jun. 21 – Sino-Forest Corporation, a forestry company based in Mainland China and managed from Hong Kong, faced another setback this week when its largest shareholder dumped the entirety of its 34.7 million shares (a 14 percent stake in the company) back into the market.

“Due to the uncertainty over Sino-Forest’s public disclosures and financial statements, we have sold our stock and await the results of the independent committee’s investigation,” the former shareholder Paulson & Co., an investment firm led by famous investor John Paulson, said in a statement released through a PR agency.

Listed on the Toronto Stock Exchange since the mid-1990s, Sino-Forest Corp. had developed a long-standing and good reputation among analysts. However, earlier this month the company faced allegations of fraud and mismanagement from Muddy Waters Research which sent investors running the other way. The allegations were questionable, but prompted a new and critical look at the company’s accounting books and assets. Sino-Forest responded by assembling a task force with the intention of regaining investor confidence, but despite this, and its rejection of the claims against it, Sino-Forest has seen its share-price fall more than 70 percent since the beginning of this month.

Recent results in overseas trading suggest that Sino-Forest’s recent struggles aren’t singular or unprecedented. The Globe and Mail reported this week that its own investigation revealed extremely high investment risk among all 60 Chinese companies listed in Canada. Similarly, in the United States, high risk has been manifesting itself in plummeting prices among Chinese stocks. Of the 12 Chinese companies that have debuted on U.S. bourses this year, only two are trading above their IPO prices, according to data from the investment research company Morningstar.

Sino-Forest is perhaps the poster child for one of the most pressing issues facing Chinese companies going public in a foreign market: a sense of mistrust. That, accompanied by a lack of transparency, information and accounting clarity, has led many analysts and investors to classify Chinese companies as “high risk” options.

“The drumbeat out of China right now is that certainly there’s an air of fraud and of different sets of numbers for Chinese reporting versus U.S. reporting,” said Bill Burh, an analyst with Morningstar.

Foreign investors face numerous challenges when they consider Chinese companies, including language and culture barriers. On a deeper level, despite communication aides like the Internet, accessing information on Chinese companies is no easy feat. Information isn’t always easy to find or confirm, and non-transparent as well as potentially unreliable accounting data turn investors away.

Inability to easily access information affects a wider audience through hindering auditors and regulators. The Wall Street Journal reported that the U.S. government’s accounting regulator, the Public Company Accounting Oversight Board, had no agreement in place to audit financial statements of their Chinese counterparts. This undoubtedly leaves a gap for American investors who rely on this data to make investment decisions.

A study by Wei Wang and Kee-Hong Bae found that in 2007, when Chinese stocks were on the rise, a notable part of success for Chinese firms in foreign markets was simply having the name “China” in their stock titles. Today, this clearly isn’t the case as investors scrutinize their options in an increasingly reserved market. Sino-Forest’s challenges have highlighted that a lack of transparency and standardization of accounting practices is making North American stock markets a difficult place for Chinese companies to survive.

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