NQ Mobile Inc., ensnared in allegations of fraud, employs a company that has 15 workers sitting in the corner of a suburban Beijing office registered in the name of another business.
Whether that arrangement contributed to “massive fraud,” as research firm Muddy Waters LLC has asserted, or simply illustrates the local idiosyncrasies of young tech companies doing business in China is at the heart of a dispute that has tanked the fast-growing maker of mobile-phone security software. The stock fell 62 percent in the three days after the fraud allegations emerged last month and was down 44 percent through Nov. 1.
As both sides dig in their heels, outsiders are trying to square the allegations with what they know about NQ, until now a high-flier that has flourished under its Massachusetts Institute of Technology-educated co-Chief Executive Officer Omar Khan.
Tianjin Yidatong Technology Development Co., the company at the core of Muddy Waters allegations against NQ, runs a mobile-payments service, collecting revenue for NQ from corporate customers and consumers. It shares office space with another company, said Xu Rong, who owns both businesses. Yidatong provided at least 21 percent of NQ Mobile’s revenue in each of the past three years, its largest source of business, according to NQ Mobile filings.
In an Oct. 24 report accusing NQ Mobile of fraud, research firm Muddy Waters called Yidatong “an empty shell with no discernible operation” and “clearly a company trying not to be found.” Muddy Waters said it reached that conclusion after visiting 10 addresses registered to Yidatong that turned out to be empty or non-existent. The building with Xu’s two companies wasn’t on that list.
Yidatong says Muddy Waters never contacted the company to ask for Yidatong’s address before issuing its report. Xu explained that the 10 addresses were “virtual offices” to comply with Chinese regulations that companies have a registered address in each region where it processes payments.
“The report is not correct, it’s not accurate,” Xu said in an interview at the office building, situated across from the Fairyland Hotel. “I don’t think it’s difficult to find me.”
NQ Mobile supplied the address to Bloomberg after Muddy Waters went public with its allegations. The 15-story building in a business park 21 kilometers (13 miles) southwest of Beijing is Yidatong’s “main operating facility,” NQ Mobile said.
About 15 of Yidatong’s workers sit on the third-floor, sharing space with nearly 200 workers for the second company, Jiuhe Tianxia Beijing Technology Co., which operates an online gaming site called 9hgame.com. Xu described the effort to lower costs by locating the sister companies together as a “Chinese characteristic.”
“It’s a way of reducing costs,” Xu said. “I’m the boss of 9H and I’m also the boss of Yidatong. If you cannot find Yidatong, you can find me at 9H. I’m here.”
The building directory contains no listing for Yidatong, and two guards at the first-floor security desk said they’d never heard of the company. When asked about the discrepancy, Michelle Ma, director of investor relations for NQ Mobile, said Yidatong’s third-floor office is under the name of Jiuhe.
Yidatong’s business is collecting payments from buyers of wireless content and passing those payments on to content creators, whether makers of mobile games or, in NQ’s case, anti-hacking software. About 60 percent of Yidatong’s sales come from NQ, with the rest coming from developers and game content providers that Xu declined to identify.
Muddy Waters called Yidatong “a sham counter-party” that is secretly controlled by NQ for the purpose of inflating its own sales figures.
“There’s no way to falsify the revenue,” Xu said. “I’m not NQ Mobile’s customer, so it’s not like he can sell me something for 100 yuan and say he charged me 200 yuan. It’s not possible. My function is a channel.”
Carson Block, the Muddy Waters founder whose short call prompted NQ to sink more than 60 percent in a span of about 54 minutes on Oct. 24, said in a Bloomberg Television interview on Nov. 1 the stock will be delisted within a year. “Over 90 percent of the revenue doesn’t exist,” he said.
The Muddy Waters research reports contends Yidatong is “incapable of processing meaningful amounts of payments on behalf of NQ because it does not have even one employee regularly present” to carry out such basic responsibilities as turning on the lights, answering phones or ordering office supplies, according to Muddy Waters.
Co-CEO Khan said Block’s prediction of delisting is “absolutely absurd” in a separate Bloomberg Television interview on the same day.
Even if NQ succeeds in fending off the allegations, Khan, a former Samsung Electronics Co. rising star, may have a tough time pulling his company out of its tailspin. The result may be NQ becoming an acquisition target. “If they are able to prove they are not culpable, but they are damaged stock, someone could get them on the cheap,” said Michael Mahoney, senior managing director at Falcon Point Capital LLC in San Francisco.
Muddy Waters also cited that Xu Rong is a former NQ employee, as well as having business dealings with NQ Mobile co-founder Xu Zhou, as evidence NQ actually controls Yidatong.
Xu said Yidatong is independent of NQ and there is no relationship besides the contract for mobile payment support. She said she worked for NQ for seven months in 2008.
She added that she has been friends with Xu Zhou, one of NQ’s three co-founders, since 2003, when they worked together at Wanxiang Communications Co. She confirmed that he’s an “angel investor” in Jiuhe Tianxia, whose office houses Yidatong. She declined to disclose the size of Xu Zhou’s Jiuhe Tianxia stake and said it was personal and separate from NQ.
“They made a simple thing complex,” she said of Muddy Waters. “All of our cooperation has been disclosed by NQ.”