China Gaoxian

Business Times - 25 Mar 2011

Yet another S-chip bites audit dust

Auditors of China Gaoxian unable to verify bank balances at its China units

By LYNETTE KHOO

(SINGAPORE) Accounting irregularities have surfaced in yet another S-chip - China Gaoxian, confirming investors' fears over what triggered its trading halt.

The latest development comes barely a month after two other S-chips or Chinese companies listed here, China Hongxing and Hongwei Technologies, also flagged similar accounting problems.

In its disclosure yesterday, China Gaoxian said that its auditors Ernst & Young could not verify or confirm the bank balances for two Chinese subsidiaries for the fiscal year ended Dec 31, 2010.

'The audit committee (AC) has instructed the auditors to carry out an expanded scope of its audit,' said the group's audit committee chairman, Chan Kam Loon.

Mr Chan, a former head of listings at the Singapore Exchange, said that the AC has also met executive chairman and CEO Cao Xiangbin, who indicated that he would cooperate and instruct the management to do the same.

The group has requested a trading suspension of its shares here, following a trading halt since Tuesday and a trading halt of its Korean Depository Receipts (KDRs) since Wednesday.

Yesterday, SGX also directed Hongwei to appoint special auditors, given the group's inability to clarify its state of affairs 'despite the severity and urgency of the situation'.

Auditors at Hongwei and China Hongxing could not finalise their audit for the 2010 financial year as they could not confirm certain cash and bank balances.

Reflecting increased concern over accounting issues cropping up at some S-chips, SGX sent out reminders to ACs of all S-chips this week, instructing them to undertake an internal review and report to the exchange by May 31.

SGX also asked the ACs to make sure that the Articles of Association at key Chinese subsidiaries gives them the ability to hire or fire legal representatives.

While market watchers welcome the latest directives from SGX, some are circumspect about the effectiveness of these measures.

Securities Investors Association Singapore (SIAS) president David Gerald noted that these initiatives 'do not go far enough to meet the practical difficulties faced by directors and auditors to seek accountability and trace the funds parked in accounts outside Singapore'.

A classic case was Sino-Environment, which faced difficulties repatriating funds from a China bank account to Singapore, after questionable cash transactions were uncovered. Its judicial managers have since sought a court order to freeze the China account.

There must be the willingness on the part of the majority shareholder and senior management to cooperate with the Singapore authorities and the auditors, Mr Gerald said. He suggested that a mechanism be in place for at least one independent director to authorise any funds raised in Singapore to be transferred to an overseas account.

Then, there is the problem of uncooperative legal representatives, which reared its ugly head in recent times at companies such as Falmac, Tat Hong and Millennium & Copthorne.

In China, every registered company has a legal representative who holds the company seal that gives legal capacity to make and execute agreements, provide guarantees and transfer assets.

But problems arise when the legal representative abuses that power, refuses to step down or surrender the company seal.

While there is legal recourse that companies can seek in China, the actual implementation is unevenly applied across different local jurisdictions, said Lin Song, co-head of international China practice at KhattarWong.

To register a new legal representative, the company seal is still required and only the registered legal representative can apply for a new seal, though some courts may adopt a more flexible approach.

Still, it would be useful to review the whole constitution of the group of companies to identify areas that do not provide protection to shareholders and make amendments, he said.

'With the recent scandals, it has become more urgent for listed companies, especially for S-chips, to look at this issue,' Mr Lin added.

Chia Kim Huat, a partner at Rajah & Tann, pointed out that 'the right to remove legal representative is one thing but to implement it is another thing'.

But he is against the idea of parking working capital, other than surplus cash, outside China where the companies' key operations are, as that would be 'killing the business to catch the thief'.

E&Y seem to be good at detecting frauds, maybe they should audit every S Chip..

Mar 26, 2011
NEWS analYSIS
China Gaoxian scandal evokes chilling parallels
Similarities with FerroChina scandal in 2008 a scary reminder to stay vigilant
By Goh Eng Yeow, Senior Correspondent

China Gaoxian founder Cao Xiangbin sold 60 million shares at the point of listing.

IT MAY look like just another S-chip train wreck, but the accounting irregularities raised at textile maker China Gaoxian are far more worrying.

While China Hongxing Sports and Hongwei Technologies, which both reported accounting problems last month, listed more than five years ago, China Gaoxian made its debut only 18 months ago.

This makes this latest S-chip scandal all the more serious, because China Gaoxian listed six months after clean-up measures were implemented following a spate of earlier S-chip irregularities.

As one of the biggest IPOs of 2009, China Gaoxian was supposed to flag an all-clear signal to investors that it was back to business as usual for S-chips.

After all, its independent directors included Mr Philip Chan, a former listings head with the Singapore Exchange.

In January, China Gaoxian rode high on a strong vote of investor confidence to raise $240 million from South Korean investors after getting its stock sponsored as a depository receipt listing in Seoul.

So its trading suspension this week is a big blow to the already tarnished S-chip sector and may sound the death knell for similar fund-raising exercises by other S-chips in Seoul.

It is also worth noting the interesting parallels between China Gaoxian and steel-coil maker FerroChina, which was suspended from trading more than two years ago.

Just to jolt the memory, FerroChina was also riding high with investors when it suddenly closed shop in October 2008, purportedly because banks refused to roll-over its short-term loans.

But as some traders noted, the warning signals had been there for years, if anyone had cared to look.

Company insiders had been whittling down their stakes, selling about 155 million shares, or 18 per cent of the company, between 2005 and 2008.

And as a company purportedly sitting on a huge cash hoard, it had short-term debts of 2.33 billion yuan, with banks taking literally everything - bank deposits, inventories, buildings - as collateral for their loans.

Now take a look at China Gaoxian and one will notice more than a passing resemblance to FerroChina.

The company's 2009 prospectus showed that executive chairman and founder Cao Xiangbin sold 60 million shares at the IPO issue price of 26 cents apiece at the point of listing.

A year later when the lock-up period ended for major shareholders, Carry Luck, a company owned by one Mr Hong Rong Zhi, lost no time in selling out too.

In just two days last September, Carry Luck sold 53 million shares at 19.5 cents apiece and another 25.1 million shares at 19 cents each - both well below the 26-cent listing price.

The sales took Carry Luck's stake to 4.99 per cent from 10.42 per cent.

Another telling sign: the company had raised $78.2 million from its IPO here in 2009 and another $223.8 million from selling 600 million new shares in Seoul in January.

Yet, like FerroChina, it had behaved like a cash-strapped firm, asking customers to pay up in cash and drawing down on its bank credit lines.

It was this contradiction that prompted the SGX to put a query to the company.

In hindsight, investors should have asked why China Gaoxian needed to raise so much cash over such a short period if its growth was self-sustaining. And what happens to that huge sum now? Is it still in the company's coffers?

And shouldn't a question have been asked about the huge sales of China Gaoxian stock by a major shareholder last September, at below the IPO issue price?

It is strange that irregularities could surface at China Gaoxian with FerroChina scandal still fresh in investors' minds. And it is a chilling reminder to all investors to stay vigilant at all times.

engyeow@sph.com.sg

Hindsight is a wonderful and miraculous thing. It opened up the eyes of the blind!

Everything this is mentioned in the report; when taken in isolation does not really mean much at the pt in time when it happened.

I mean, is it really strange for a substantial shareholder to cash out at below its IPO price after the lock-up period is over? We see that happens all the time. The action itself does not and should not raise any red flags.

The part about behaving like a cash strap company would not be something that is easily substantiated or even be easily known to the minority shareholder. Or is it? Maybe through a detailed analysis of the TR/AR and AP/TP? I have to admit that I have never attempted to delve so deep into the company's accounts before.

(26-03-2011, 09:34 AM)lonewolf Wrote: Hindsight is a wonderful and miraculous thing. It opened up the eyes of the blind!

Haha, a lot of the reports written on suspended S-Chips are using hindsight to identify "red flags". This is where I think it's really hard to spot problems until it is too late.

Still. I do look out for certain "tell-tale" signs:-

1) Management exuberance at raising money even though they seem to have a decent cash balance.

2) Reluctance to pay out dividends even though they have a huge cash hoard, saying money is for "expansion".

3) Aggressively promoting the Company, with CEO going on road shows, engaging advisers for dual listing, appearing on TV etc. All stinks of them focusing more on the share price, rather than the business.

4) Industry characteristics - High gross and net margins sure do sound suspicious, especially for Gaoxian's case where I saw that the difference between gross and net margins was just about 9%!

5) Large fluctuations in AR/AP - This does raise red flags though taken by itself, it is not indication of any dishonesty.

Suffice to say that even with the above being ABSENT, a company could still be involved in fraud and dishonesty and be suspended. A good track record and reputation is thus very important (e.g. company has a long good history or been listed for some time without trouble).

Just my 2-cents.

remind me of the confession from a CEO of s-chip. really not surprising to see all the suspended s-chips are based in Fujian or have production in Fujian if the confession is true. He did mention that they tried to have more IPOs to get money to repay what they used for speculation of s-chips during 2008.

The behaviour of the personnels involved gives a clue too. We visited the intent of dual listings in January 2011.

Quote:I am not impressed by China Gaoxian's action either. IPO at Sep 2009, declare dividend at Nov 2009. It looks like someone is just raising funds and then distributing them again (original major shareholders stand to gain).

http://www.valuebuddies.com/thread-629-p...ht=gaoxian

It bothered me everytime they raised funds and redistributed it immediately.

Certain actions by S-Chip baffles me completely though. Hongwei's insider bought massive amounts of share prior to the suspension.

** I have a bit of money stuck in Hongwei.

The problem lies with our authorities, Why open our door for these companies to list here when they are not even qualify to list in Hongkong. The hard-earned monies of our citizens go right ino their pockets.

It is just sooooo easy to bash the authority and blame them for everything.

S-chips audit issues? Its SGX's fault. Why let in this questionable companies?

Property price too high? Blame Mah Bow Tan. Why did HDB not build enough flats?

Car prices too high? Blame LTA for the COE system. Blame MAS for allowing lapse limit on car loans.

ERP too high? Road too congested? Blame LTA for not building enough roads.

Lost yr underpants investing in the Lehman minibonds? Blame MAS for allowing the banks to promote the products.

Anything else? And you wonder why people still considers us a nanny state?

As far as investment is concerned. Anyone who want to put money in S-chips, minibonds, unit trusts, profitable plots, or any of the many other exotic investments that promised 1000% returns; and lost his money in the process - only has himself to blame.

I agreed on the S-Chip. Already given out so much warning. The probability of failure is so high.Yet people just cannot suppress their greed. If you know that your money is hard earned you should have avoided this class of stocks totally.

Is not like Lehman one time. There is easily a dozen cases on S-Chips.

Cory