China Herald: reversed mergers

Paul Gillis

Hundred of smaller Chinese firms entered the US stock markets through reversed mergers, looking for an easy way to get access to capital. But changed regulations and weary US investors have likely killed that market, tells accounting professor Paul Gillis in the South China Morning Post.

The South China Morning Post:

Successive allegations of fraud led to tighter rules in 2011, marking the beginning the end of the boom. The arrest last month of one of the prime movers behind the reverse mergers for Chinese firms, mainland-born Benjamin Wey, signalled the endgame.

"Benjamin Wey was legendary in the field … But the market is over and now they are just searching for the guilty," said Paul Gillis, an accounting expert and professor at Peking University's Guanghua School of Management.

He said the reverse merger was used primarily as a way to get around the processes involved in initial public offerings.

"So a company could come to market very quickly without audited financial statements and without the due diligence that lawyers and investment bankers would do in advance of an IPO."...

A lack of clarity over many of the companies, concerns about Chinese auditing practises, and critical analyst and media reports led US regulators to tighten reverse merger rules for foreign firms in November 2011.

Among the rule changes, overseas firms had to actively trade in the small-cap over-the-counter market for at least a year before advancing to one of the larger listing boards. That way, US regulators reasoned, investors and regulators could see how a firm's track record held up.

More than 100 Chinese reverse merger firms had been attacked by short sellers, said Gillis, referring to traders who take positions that pay out when a firm's share price tumbles.

From their peak until July 2011, the 122 Chinese reverse-merger stocks tracked in a Reuters' study cumulatively lost US$18 billion in market value...

"I blame everybody who was involved in these things. The promoters, the professionals brought with them, the investors who were stupid enough to buy into these things, and the companies that thought there was free money available," Gillis said.

More in the South China Morning Post.

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