Short seller Carson Block says he has a Hong Kong stock in sight

Carson Block, founder of Muddy Waters Research Group, says Hong Kong’s minimum public float of 25 per cent makes it easy for market manipulation as US firm looks to launch an attack in weeks to come

PUBLISHED : Monday, 27 March, 2017, 8:01am
UPDATED : Monday, 27 March, 2017, 8:01am

Muddy Waters Research Group, which has gained notoriety for exposing accounting frauds at publicly traded companies and subsequently profiting from their plunging stock prices, said it is taking aim at another Hong Kong company and is poised to launch an attack in the coming weeks.

“We have been doing a lot of work on Hong Kong-listed companies, and there might be a big call in the coming weeks,” Carson Block, founder of the California-based firm, said in a phone interview with the South China Morning Post.

Short sellers profit by selling high and buying low, in that order, betting that certain stock prices will tumble. Muddy Waters gives its shorts an additional nudge by releasing reports that allege fraud or other financial misdeeds that could cause prices to fall.

The company’s previous shorts included Toronto-listed plantations operator Sino-Forest Corp, Hong Kong-listed Superb Summit International Group and Noble Group.

Four months ago, it released a report claiming China Huishan Dairy Holdings, the country’s biggest operator of dairy farms, had inflated expenditure on its dairy farms by as much as 1.6 billion yuan (US$232.27 million), saying the company’s business was “worth close to zero”.

Huishan, based in the northeastern city of Shenyang, said the report contained misrepresentation and was “groundless”. Chairman Yang Kai swiftly accumulated more shares to build his defences.

Cash-strapped Chinese dairies are selling and then renting back their cows

The cash-strapped dairy giant is one of the biggest employers in Liaoning province, an area suffering an economic malaise with rapidly deteriorating credit. On Thursday, its representatives were called by the local government into a meeting with scores of lenders including Bank of China to discuss issues over its troubled credit profile, the Post learned.

As of December, the company had 1.38 billion yuan of debt maturing in October 2018, according to Bloomberg data.

Shares in Huishan plunged 91 per cent on Friday, losing US$4.1 billion in market value in hours.

“I felt bad for the shareholders,” Block said. “[But] they had three months to sell.”

A Huishan spokesperson said the company would issue a statement on the Hong Kong stock exchange, without elaborating on the timing. Multiple attempts by the Post to contact its representatives through phone calls and emails went unanswered.

China Huishan Dairy shares plunge as much as 91 per cent

Muddy Waters first rose to notoriety for a bearish report exposing financial malfeasance at Sino-Forest, labelling the plantations operator as a Ponzi scheme. The company’s US$6 billion market value was decimated after its accounting was questioned in 2011, and less than a year into the release of the report, it filed for bankruptcy protection.

Another company that was targeted was Superb Summit, which had its shares suspended by regulators in 2015. In its defence, the firm said Muddy Waters’ report was misleading and contained fabrications.

Market manipulation could be aided by a rule in Hong Kong that required companies to maintain a minimum float – the number of shares that must be freely tradable on a stock exchange – of only 25 per cent, smaller than many Asian bourses, Block said. That makes the tradable shares vulnerable to price and volume movements, which can be exacerbated by shocking revelations.

“The biggest single issue with market function in Hong Kong is that so many companies exist with so small floats,” Block said. “Many companies may look like they have 25 per cent of free float. But if you take out the stakes associated with the chairmen and their related parties, it’s probably only 15 per cent.”

To be sure, Hong Kong may not be the happiest hunting ground for short sellers.

Citron Research, a US short-selling firm, was found guilty by the Securities and Futures Commission for publishing a false report on Evergrande Real Estate Group in 2012.

Citron’s founder Andrew Left was ordered to repay HK$1.6 million in trading profits and HK$4 million in legal expenses, with a five-year ban on trading in the Hong Kong market. The short-selling firm’s appeal was dismissed in January by Hong Kong’s Court of Appeal.