The War Over Chinese Stocks in North America

Chinese stocks trading in the U.S. and Canada have become a prime target for short sellers who sniff out suspicious financial statements--and hope to profit from declines in the companies' stock prices. Investors including John Paulson and Hank Greenberg have lost money on Chinese stocks that fell after questions were raised about them.

Carson C. Block, 35, who says he passed his broker's exam when he was 19 and moved to Shanghai after graduating from the University of Southern California in 1998, founded Muddy Waters Research to scrutinize Chinese companies. He made a splash with a Feb. 3 report claiming that China MediaExpress Holdings (CCME), a Hong Kong-based provider of advertising on buses in China, manipulated financial statements. The company denies the allegations. C.V. Starr, run by former AIG (AIG) Chairman Greenberg, owned 8 percent of China MediaExpress shares, which slid 88 percent from Feb. 2 through June 14 and have been delisted from Nasdaq (NDAQ). C.V. Starr did not respond to requests for comment. Sino-Forest, an operator of timber plantations, plunged 71 percent after Muddy Waters called the company a "Ponzi scheme" in a June 2 report and said it was betting against the shares, which trade in Toronto. Hedge fund Paulson & Co. owns about 24.4 million Sino-Forest shares, according to Bloomberg calculations based on information from a June 3 Paulson investor letter and a person familiar with the fund. That means Paulson may have lost about $300 million on Sino-Forest from June 1, the day before the Muddy Waters report was released, to June 14. In the letter, Paulson & Co., which made $15 billion in 2007 betting against subprime mortgages, said it was investigating the charges.

Two other Chinese companies trading in the U.S., Deer Consumer Products (DEER) and Sino Clean Energy (SCEI), filed defamation lawsuits after their shares were battered by fraud allegations on The website is run by a group of mostly Chinese investors and researchers, according to an individual who identified himself in an e-mail as the managing editor but declined to give his name.

Most of the targets of Muddy Waters and are reverse merger companies. Since 2007 more than 150 closely held Chinese firms entered U.S. markets by buying a publicly traded shell company, avoiding customary scrutiny by regulators and investors. The U.S. Securities and Exchange Commission cautioned investors on June 9 about buying stakes in reverse merger companies, saying they may be prone to "fraud and other abuses." The Bloomberg Chinese Reverse Mergers Index of 78 companies listed in the U.S. has dropped 44 percent in 2011. Concerns about accounting have also affected Chinese companies that listed in the U.S. through initial public offerings. The SEC has revoked the registrations of at least eight China-based companies since December, and more than 24 companies have disclosed auditor resignations or accounting problems to the agency since March, SEC Chairman Mary L. Schapiro wrote in an Apr. 27 letter to Representative Patrick McHenry (R-N.C.)

Muddy Waters's June 2 report said public disclosures by Sino-Forest, based in Hong Kong and Mississauga, Ont., don't match Chinese city records and its production figures may not be accurate. Block says he will keep betting against the shares until they reach "zero."

Allen T.Y. Chan, Sino-Forest's chief executive officer, who has called the allegations "inaccurate and unfounded," said in a June 14 conference call that the controversy will slow the company's pace of timber acquisitions. In a June 6 statement, Sino-Forest said it is "considering its legal remedies" and that it has been "thoroughly scrutinized" by major underwriters and law firms inside and outside China in the course of seven public and private offerings over five years.

Deer, a Shenzhen-based maker of small kitchen appliances, was the subject of a Mar. 14 report on saying a survey of 60 stores that sell Deer products found evidence of "terrible sales volumes." Deer's shares have fallen 38 percent on the Nasdaq since a version of the report was posted on Mar. 17 on Seeking Alpha, an investing website. Deer filed suit in New York state court in Manhattan on Mar. 28 against and Seeking Alpha, saying they distributed "false and defamatory reports."

Sino Clean Energy, a Xi'an-based maker of coal-water-slurry fuel, was attacked in an Apr. 26 report by GeoInvesting, which invests in Chinese stocks and operates a website. It was followed two days later by postings on and Seeking Alpha titled "Sino Clean Energy Is a Complete Hoax and Its Shares Are Worthless." The stock has fallen 65 percent on Nasdaq since the GeoInvesting report. and GeoInvesting, based in Skippack, Pa., said in their reports that they sent investigators to Sino Clean Energy factories in China. said in an Apr. 28 post that four months of video surveillance of those plants revealed "no meaningful production."

Sino Clean Energy sued GeoInvesting,, and Seeking Alpha on May 9, also in New York state court, alleging fraud, defamation, and interference with its business. Dan David, vice-president of GeoInvesting, says his company hasn't been served a copy of the complaint and that he stands by the report. says it "expects to easily win any lawsuits." Seeking Alpha declined to comment.

"At this point the whole China space is being attacked," says Richard I. Anslow, a managing partner in New York-based law firm Anslow & Jaclin who works with Chinese companies on U.S. listings. "This isn't a bad thing if it flushes out the bad companies," he says. "This could ultimately help the industry," he says, "but only if the bloggers aren't committing fraud themselves."

The bottom line: Short sellers are targeting some of the more than 150 Chinese firms that have entered U.S. and Canadian markets via reverse mergers.

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