Morgan Stanley agreed to invest $50 million in Yongye International Inc. (YONG), the U.S.-traded producer of plant nutrients in China that is the target of a short seller who says the company has misrepresented its business.
Yongye shares surged 42 percent, the most in more than two years, to $5.33 as of 4 p.m. New York time after Morgan Stanley, the sixth-largest U.S. bank by assets, said it will invest in Beijing-based Yongye through its Asian private equity unit. The stock, which began trading on the Nasdaq Stock Market in 2009 following a 2008 takeover of a U.S. company, is down 37 percent this year.
“After extensive due diligence, we believe Yongye to be an exceptional company that has built significant brand recognition in China’s agriculture industry,” said Homer Sun, managing director of Morgan Stanley (MS) Private Equity Asia, according to a statement released by Yongye. Sun will join the Chinese company’s board of directors, the statement said.
Morgan Stanley is offering a vote of confidence to a company whose stock was down 55 percent in 2011 through last week amid a hedge fund’s accusation that it manipulated earnings. Morgan Stanley will purchase $50 million of preferred shares, which are convertible into common stock at an initial conversion price of $8.80 a share, Yongye said. That amount may increase to $15 a share if the company reaches certain undisclosed profit targets.
Proceeds from the investment will be used to expand capacity, repay debt, add to working capital and for general corporate purposes, the company said.
Yongye fell 19 percent on May 19 after Absaroka Capital Management LLC, a Wyoming-based hedge fund, called the company “a fraud” in a report that claimed it has manipulated its earnings and the stock should be at $1. Yongye defended itself against the charges, saying Absaroka’s accusations are false and based on “unwarranted inferences from documents that were filed by third parties with the Chinese government,” according to a statement.
Chinese companies trading in the U.S. through takeovers have come under growing scrutiny by regulators and investors amid speculation financial statements from companies such as China MediaExpress Holdings Inc. (CCME) can’t be trusted. Transactions called reverse mergers have given hundreds of Chinese corporations access to the world’s largest capital market, avoiding the inspection of initial public offerings as hunger grows for investments in an economy that became larger than Japan’s last year.
“Absaroka Capital Management firmly stands behind the conclusions of its May 18, 2011, Yongye International report,” said Kevin Barnes, an equity analyst at Absaroka, which holds a short position against the company.
Short selling, or selling borrowed shares with the hope of profiting when they fall, accounts for 5.1 percent of Yongye’s outstanding shares, according to Data Explorers, a New York- based research firm. That compares with a record of 9.4 percent at the beginning of April and 6.4 percent at the end of 2010. The average short interest for stocks in the Standard & Poor’s 500 Index is 2.7 percent.
Yongye is among the most expensive U.S. equities to short. The cost to borrow the stock to short is rated a 10 by Data Explorers, the most-expensive level on the research firm’s scale.
Jim Chanos, the hedge-fund manager known for predicting Enron Corp.’s 2001 collapse, said last week he’d short sell Chinese companies listed in the U.S. if it were feasible to borrow shares to open the bearish positions. The Securities and Exchange Commission began an investigation last year into the use of reverse takeovers, in which a closely held firm becomes public by purchasing a shell company that already trades.
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