Hedge Fund Prime Capital Cuts $93 Million Bet on 500.com

Prime Capital Management Co. is scaling back its wager on 500.com Ltd., underlining concern about the online bookmaker’s viability.

The hedge fund, overseen by Liu Yijun, cut its stake in the Shenzhen, China-based company to $27 million as of Oct. 29, from about $93 million a week earlier, regulatory filings show. Prime Capital now controls less than 5 percent of 500.com’s U.S.- traded shares, after previously being the largest stakeholder at 16 percent.

Investors are questioning the long-term potential of the sports-lottery service provider’s operations and the legitimacy of its licenses with the Chinese government. Carson Block, known for successfully betting against Chinese stocks, said in September his Muddy Waters LLC had a “modest short” position on the company due to “fundamental issues, red flags and potential risk of wrongdoing.” 500.com has refuted claims it’s mislead investors.

“The company is tiptoeing along a fine line and, at any point, the Chinese government could make radical changes that could either hurt or help this company,” Timothy Ghriskey, chief investment officer at Solaris Asset Management LLC in Bedford Hills, New York, said by phone Nov. 3. “I call it a very high risk investment.”

Dragon Billion

Prime Capital has more than $3 billion in assets and has returned almost 26 percent annually over the past decade wagering on Chinese companies, the Financial Times reported in February.

The hedge fund owns the stake through its Dragon Billion China Master Fund and two other managed accounts, according to a Securities and Exchange Commission filing.

A call to Prime Capital seeking comment on the reduced stake outside of normal business hours in Hong Kong yesterday wasn’t returned. Hedge funds are largely unregulated pools of capital that can bet on falling as well as rising asset prices.

Linda Bergkamp, a Phoenix-based external spokeswoman for 500.com, declined to comment on Prime Capital’s stake. Block of Muddy Waters declined to comment on whether he’s still shorting the stock.

500.com debuted in New York less than a year ago offering investors a chance to bet on the growing disposable income of China’s burgeoning middle class. The company, founded in 2001, lets customers buy tickets for government-authorized lotteries and bet on sports events through its website.

Shares more than tripled in their first three months of trading before slumping 42 percent since their March high through yesterday. 500.com fell 6.8 percent to $28.02 at 10:01 a.m. in New York as a Bloomberg index of the most-traded Chinese stocks in the U.S. slipped 0.6 percent.

‘Potential Risks’

In May, the Jinghua Times reported that China’s Sports Lottery Administration Center had not authorized any sports gambling websites and that online lottery sales are illegal without authorization.

“The company reiterates that it has obtained all relevant approvals to legitimately operate an online sports lottery service in China,” 500.com said in a May 8 filing.

Active users surged by 121 percent in the second quarter from three months earlier to 2.5 million, 500.com reported in August. Net revenue almost tripled to 156 million yuan ($25.2 million) from a year earlier. The company is expected to report third-quarter earnings later this month.

Block said Sept. 8 at the New York Value Investing Congress that 500.com’s licensing framework was unclear, according to the ValueWalk website. While he didn’t accuse the company of any specific wrongdoing, he said the share price didn’t reflect the potential risks.

Legitimacy Questioned

“It has almost become a right-of-passage for these companies, to withstand the test of time and questioning of different players in the market about the legitimacy of their operations,” Jeff Papp, a senior analyst at Oberweis Asset Management Inc., said by phone on Oct. 31. Oberweis manages about $1.5 billion including 500.com shares. “The ones that can do that will eventually become embraced because they have unique positions in the market where their businesses can be significantly more valuable.”

Sequoia Capital China became the largest holder of 500.com’s U.S. shares after scooping up a $118 million stake in the third quarter, according to a regulatory filing yesterday.

While 500.com presents an attractive investment opportunity, it is vulnerable to regulatory scrutiny from Chinese policy makers, Ghriskey of Solaris said.

“The Chinese government and rule makers have not totally addressed this issue yet,” he said. “The Chinese love to gamble and so I think from that standpoint, this is a very interesting longer-term play. In the short term, there is a lot of uncertainty.”

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