Asia: Introspection

Author: | Published: 24 Apr 2017
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On March 24, China's biggest operator of dairy farms, Huishan, saw its Hong Kong Stock Exchange-traded shares tumble by more than 990%, triggering an immediate delisting.

Considered one of the biggest-ever stock falls the former British colony has ever seen, the company, which went public in 2013, has claimed to be the victim of a short-selling attack inflicted by activist hedge fund Muddy Waters, resulting in nearly $4.1 billion worth of stocks being wiped off in a few hours. The hedge fund, set up by short-seller Carson Block, had previously released two reports openly questioning the company's financial well-being and claiming that the business was worth 'close to zero'.

The extensive muckraking launched by Muddy Waters, which is notorious for exposing accounting irregularities committed by listed companies and then profiting from their plunging stock prices, has also accused the dairy producer of inflating expenditure on its dairy farms by as much as RMB1.6 billion ($232 million), and delaying paying its lenders. This has prompted local officials in Liaoning, where the operator is headquartered, to force the company to convene a meeting of its creditors to discuss options on its loan repayment totaling some RMB11 billion, with all of the chairman's stockholding being reportedly pledged as collateral for loans.

While all the territory's media and regulator's attention has centered around the shockwaves of the sudden fall of Huishan's shares, the roots of the issue seem to have been overlooked. Instead of focusing on the Pandora effect of the exposé, one should study the situation from two perspectives: whether the current screening mechanism for prospective initial public offerings (IPOs), particularly when it comes to due diligence, is stringent enough and could cause post-IPO volatility with questionable stocks falling prey to activist short-sellers, and whether the territory's minimum public share float of 25% has made it easy for market manipulation by short-sellers, creating trading volatility.

Block has recently revealed that he has set his sights on another Hong Kong-traded company. But considering the collateral damage caused by such falls as experienced by creditors such as Minsheng Bank and Ping An bank, which have each extended loans worth RMB1 billion and HKD$2.1 billion ($275 million) repectively to the troubled Huishan, it is critically important for the territory's securities regulators to think long and hard about one thing: whether the territory's regulatory framework is contributing to creating the perfect environment for activist hedge funds looking for questionable companies to target.