If Chinese IPO Booms, This Is a Bubble

Jonathan Weil joined Bloomberg News as a columnist in 2007, and his columns on finance and accounting won Best in the Business awards from the Society of American Business Editors and Writers in 2009 and 2010.
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There's something familiar about the Beijing-based online retailer LightInTheBox Holding Co., which plans to price its initial public offering this week on the New York Stock Exchange. Looking at the company's website reminds me of an old spoof in the Onion about a Chinese factory worker who can't believe the sheer amount of cheap junk Americans will buy.

"Why the demand for so many kitchen gadgets?" the fictional worker was quoted as saying in a 2005 article for the satirical newspaper. "Where do the Americans put them? How many times will you use a taco-shell holder? 'Oh, I really need this silverware-drawer sorter or I will have fits.' Shut up, stupid American." Many of the items break after a few uses, he noted.

On the list of "best deals" on LightInTheBox: a "capless short bob high quality synthetic dark brown straight hair wig" for $27.99, and a "cast iron revolver design tattoo gun kit" for $109.99. Kitchen items include a "cool steamship and iceberg shaped ice tray mold" for $3.79. There's also free shipping on many items of the 220,000 products offered (even the ice tray), but no recognizable brand names -- just a lot of knockoffs.

LightInTheBox would be the first Chinese company to list in the U.S. since YY Inc., a Guangzhou company that runs an online social network, in November 2012. Last year there were only three Chinese IPOs in the U.S., compared with 42 in 2010. A big reason for the drop-off is that a lot of Chinese companies with North American stock listings have turned out to be frauds. (For what it's worth, YY shares have been on a tear, up 163 percent from their offering price.)

LightInTheBox has some of the same red flags as other Chinese companies that blew up, with or without accounting irregularities. While its executive offices are in Beijing, the company that's actually going public is a Cayman Islands corporation.

Its business relies on contracts with so-called variable-interest entities. The VIE structure, common among Chinese companies with foreign listings, means "Western shareholders risk finding themselves owning shares in a shell company with no assets and no business if the contracts fall apart," as Paul Gillis, a professor at Peking University's Guanghua School of Management wrote in a Wall Street Journal op-ed last December.

LightInTheBox has reported $63.5 million of cumulative losses since it was founded in 2007, although it said it made a $2.6 million profit during this year's first quarter. The company said in its registration statement that it expects to raise about $70 million through the IPO. That assumes an offering price of $9.50 per depositary share, which would give it a market value of about $416 million. The company reported a $4.2 million net loss on $200 million of revenue for 2012.

Risk-factor disclosures like this one foretell problems with quality control: "We source our products from over 2,300 selected active suppliers in China. Some of the products provided by our suppliers may be defective or of inferior quality. Such products may also infringe on the intellectual property rights of third parties."

Others suggest that the company's numbers might not be reliable: "In the course of preparing our consolidated financial statements, we have identified a material weakness and other control deficiencies in our internal control over financial reporting." The weakness "relates to the lack of sufficient accounting personnel for financial information processing and reporting and with appropriate U.S. GAAP knowledge."

If U.S. investors have an appetite for this IPO, it could be as strong an indicator as any that the stock market is approaching a bubble.

This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.

To contact the author on this story:
Jonathan Weil at jweil16@bloomberg.net