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Chopping Block

Renowned for targeting fraudulent companies in corporate China, Carson Block is about to swap being chased by triads for the patter of a different type of feet, at least for a while, writes Alex Frew McMillan

 

Short seller Carson Block, thorn in the side of numerous Chinese companies listed in North America, is in a reflective mood. He and his wife are expecting their first child, and the prospect of fatherhood seems to have tamed him.

"There are no great stories of kite surfing off the Maldives," Block, 37, says with a laugh about his recent activity. "I'm keeping up with friends and family. And of course I'm also running a business - that takes time."

Impending fatherhood or not, when it comes to business, the entrepreneur, self-storage company founder and sole full-time employee of Muddy Waters Research still has his prickly side. He continues to have barbed words for what he feels are questionable companies in this part of the world. And he's expanding his focus into emerging markets in general, taking on companies like Singapore-based commodity trader Olam International over its operations in Africa, in particular.

His most recent target is American Tower (AMT), which he slammed with a "strong sell" vote on July 17, alleging there's a US$250 million discrepancy between what AMT said it paid for cell-phone towers in Brazil and the actual sale price, complete with photos of the less-than-salubrious São Paulo residence that houses the accounting firm that made the valuation.

Block also takes issue with AMT's stated revenue numbers, and says the firm faces asset impairment of US$272 million on cell-phone towers in Ghana.

Africa is a new focus thanks to what Block sees as a cluster of unwise developed-world companies flashing wads of cash in a continent they don't understand.

"Western companies that go into emerging and frontier markets often have very poorly managed operations, and investors are not really clear on the impact of these operations," he said. "It's a larger scale of what I've seen in China, where the multinationals had China operations that were leaking quite a bit of money."

Block hasn't forgotten about the Middle Kingdom - and Chinese software designer Qihoo 360 Technology, for instance. Unlike his previous targets, he says he has no position in the stock, but he has been reading fellow short-sale specialist Andrew Left's research from his company, California-based Citron Research.

Block disputes the stated financials of the listed Qihoo 360, which trades in New York, and has a market capitalisation of about US$8.6 billion. "The stock is extremely valuable," Block says.

Block's repeated allegations of fraud in corporate China forced him to flee the mainland and Hong Kong back to more familiar grounds on the West Coast of the United States. He's still operating full-time from there, though he notes he'll be making a quick trip to Hong Kong this autumn.

Block says he left China because he was receiving death threats after issuing brutally negative reports on companies such as China MediaExpress (in 2011) and RINO International (in 2010). But he undoubtedly had an impact. China MediaExpress chief financial officer Jacky Lam and auditor Deloitte Touche Tohmatsu resigned, and Nasdaq delisted the stock. A Hong Kong arbitration panel ruled the enterprise "fraudulent".

Duoyuan Global Water CFO Stephen Park left the day Muddy Waters issued a scathing report on the firm. It also delisted, as did the Dalian-based RINO International, which was also investigated by Block. The firm had failed to tell investors that its accountant and law firm had resigned after investigating allegations of fraud, and that all independent directors had quit, said the Securities and Exchange Commission.

Toronto-listed forestry giant Sino-Forest was the biggest tree to fall, its shares plummeting more than 80 per cent, shaving billions off its value, after Block called it a "Ponzi scheme" and accused it of overstating its forest holdings. Hedge fund legend John Paulson subsequently sold out of the firm, taking a US$720 million loss. Sino-Forest was forced into bankruptcy, and has subsequently converted into a pared-down, fresh-sounding entity, Emerald Plantation, under reorganisation.

Block has frequently drawn threats of lawsuits. One or two has been filed but none has gone very far. Olam International dropped a defamation suit against him in April, after investors told Olam management to get back to business and focus on the company.

Block had claimed the company's core trading business was faltering and it was burning through cash on speculative projects like a fertiliser project in Gabon. Those comments drew fiery denials from a clearly irked Olam chief executive Sunny Verghese. Still, after Block's initial salvo on November 19, 2012, the shares fell 14 per cent in eight days.

With the heat having died down somewhat, Block, a business school graduate and trained lawyer, is opening up.

"Previously I had very little contact with the hedge-fund community - I was quite well hidden," he says. "I'm starting to engage more, and be a little bit easier to contact."

Block happened into short-sale research back in 2010, when his father - who writes research coverage at W.A.B. Capital on smaller stocks in exchange for a stake in the company - asked him to write a positive report on a Chinese micro-cap company, Orient Paper. But after visiting the company and vetting it heavily, he issued research stating the stock was a "strong sell".

In fact, Block and fellow researcher Sean Regan were confident it "is a fraud", they stated. The company had misappropriated "most to all" of the US$31.5 million it had raised, overstated revenue by 40 times in 2009 and was "the factory equivalent of a Potemkin village," the report said.

Tough words from a restless job hopper who admits he has a problem with authority. The New York City native grew up in Summit, New Jersey, where he scraped through high school, with a 1.4 grade-point average in his senior year. He recalls he did, though, rank "first or second in my senior year in terms of parties that I hosted".

One high school experience stuck. Block headed to Japan to a homestay in Toyama, in 1991, when he was 15, something he credits with giving him the flexibility to withstand life in China later on. After graduating in business at the University of Southern California, Block again came to Asia, looking to set up a business in Shanghai. He also visited manufacturers in Dongguan for his father, visiting companies such as Radica Games and Nantai Electronics.

"I did a little bit of work, met with some B-share companies and did some mini-write-ups on them, but nobody I knew was interested in reading them," he says.

He returned to the United States for a brief spell at CIBC World Markets, an investment bank, but found the world of major investment banks wasn't for him. He went back to work for his father, Bill Block, in Los Angeles, reviewing small-cap stocks, something that made him jaded about US corporate culture - he felt management was often talking a company up while selling their own shares.

Block went back to school and got a law degree at the Chicago-Kent College of Law, the law school of the Illinois Institute of Technology - never intending to practice. But the legal experience helped him get a job in Shanghai, at the law firm Jones Day, where he had spent part of a summer in law school. He stayed there from the autumn of 2005 until the end of 2006, leaving to write a book that he co-authored with Robert Collins, Doing Business in China for Dummies.

A contact wanted to set up a self-storage business, and he ultimately ended up taking over management and ownership of the company that came out of that, Love Box Self Storage.

Then he fell into the short selling that made him a household name on Wall Street. And although his profile is now lower, he insists he's going to take his ire and his private-detective-like style of analysis to the rest of the world.

"The kinds of companies that we rode on out of China are definitely the most egregious conduct in the capital markets, but it really is a microcosm of what's going on in global capital markets. Companies in Europe don't have to commit fraud, they can just be clever in accounting and not forthcoming in disclosures. And management is paying itself a lot of comp."

It seemed at one point that Block was turning softer. Given the difficulty and expense in shorting companies, he started sniffing around for long-only investments in China. He liked City Telecom. But after the Hong Kong-based firm sold its telecommunications unit to private-equity investor CVC Capital Partners, he backed off. He's not looking for long positions anymore.

So, new dad or not, Block has returned to his darker side, blood-hounding for companies making missteps.

"We have a negative macro view on China, so how do you recommend this?" he asks, underlining his ambivalence about traditional, buy-and-hold investing.

 

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