Revisiting the Orient Paper Ordeal

By Eric Jackson
RealMoney Contributor
8/27/2010 7:47 AM EDT
Click here for more stories by Eric Jackson

There has been relatively little news out on Orient Paper (ONP - commentary - Trade Now) for the last month or so. This small China-based paper producer jumped into the spotlight at the end of June when a previously unheard-of research firm called Muddy Waters claimed the company had issued fraudulent financial releases. In the wake of the allegations, Orient Paper stock -- which previously had been trading 200,000 shares a day (and, on some days, far less) -- now experienced daily volume of more than 1 million shares.

Several investors with long positions spoke out in favor of the company, while others with short positions stood behind Muddy Waters' allegations. Orient Paper's stock has been unquestionably volatile since the ordeal began, and the action has ultimately brought the price sharply lower. Today, the stock trades in the mid-$4 range, compared with more than $8 earlier in June.

The stock is, of course, cheap on a number of metrics. The trailing price-to-earnings ratio comes to 4.3x, and the trailing enterprise value per earnings before interest, taxes, depreciation and amortization is at 3.9x. However, a cloud of potential impropriety continues to hang over the company. Muddy Waters' allegations were numerous, including the inflation of inventory numbers, issuance of false numbers and diversion of funds from two recent private placements. Like a number of others, I have countered these claims -- and, not surprisingly, the long investors tend to agree with these views, while the short investors do not.

Orient Paper has tried to respond aggressively to the accusations, as well, via press releases and other means. Of course, in its most noteworthy action, the company's board recently authorized law firm Loeb & Loeb to engage an outside Big Four auditor to conduct a full third-party audit of the company. Deloitte was subsequently hired as that auditor.

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Revisiting the Orient Paper Ordeal

By Eric Jackson
RealMoney Contributor
8/27/2010 7:47 AM EDT
Click here for more stories by Eric Jackson

There has been relatively little news out on Orient Paper (ONP - commentary - Trade Now) for the last month or so. This small China-based paper producer jumped into the spotlight at the end of June when a previously unheard-of research firm called Muddy Waters claimed the company had issued fraudulent financial releases. In the wake of the allegations, Orient Paper stock -- which previously had been trading 200,000 shares a day (and, on some days, far less) -- now experienced daily volume of more than 1 million shares.

Several investors with long positions spoke out in favor of the company, while others with short positions stood behind Muddy Waters' allegations. Orient Paper's stock has been unquestionably volatile since the ordeal began, and the action has ultimately brought the price sharply lower. Today, the stock trades in the mid-$4 range, compared with more than $8 earlier in June.

The stock is, of course, cheap on a number of metrics. The trailing price-to-earnings ratio comes to 4.3x, and the trailing enterprise value per earnings before interest, taxes, depreciation and amortization is at 3.9x. However, a cloud of potential impropriety continues to hang over the company. Muddy Waters' allegations were numerous, including the inflation of inventory numbers, issuance of false numbers and diversion of funds from two recent private placements. Like a number of others, I have countered these claims -- and, not surprisingly, the long investors tend to agree with these views, while the short investors do not.

Orient Paper has tried to respond aggressively to the accusations, as well, via press releases and other means. Of course, in its most noteworthy action, the company's board recently authorized law firm Loeb & Loeb to engage an outside Big Four auditor to conduct a full third-party audit of the company. Deloitte was subsequently hired as that auditor.

....

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ONP Is Doing All the Right Things

By Eric Jackson
RealMoney Contributor
7/23/2010 12:45 PM EDT
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Over the past five days, Orient Paper's (ONP - commentary - Trade Now) stock price has dropped 31%. Over the past month, the stock price has plunged 51%. Obviously, this has generated a lot of pain for long holders of the stock, including me.

Research organization Muddy Waters has made many allegations against the company. Based on ONP's response and my research, I do not believe these allegations to be true. ONP published a detailed response to Muddy Waters' allegations on July 6. In that response, ONP answered questions on: (1) its use of the proceeds from two prior placements, (2) its reasoning for purchasing a new 360,000-ton corrugating paper line, (3) the consistency of its SEC and Chinese securities filings, (4) its top 10 customers, (5) its transportation logistics, (6) its inventory turnover and (7) its gross margins. If you haven't read the response, I would urge you to do so and judge for yourselves which side has a more convincing argument.

After its written response, ONP held a conference call with investors to discuss its rebuttal of Muddy Waters' allegations. I dialed in and asked a question of management. Neither Muddy Waters nor any other critic of the company called in.

Furthermore, since the company's detailed response on July 6, Muddy Waters has only made two additional comments. On July 13, Muddy Waters asserted that the new production line being built by Qinyang for ONP was vastly overpriced. This new assumption was based on a phone call allegedly conducted by Muddy Waters with a Mr. Zhang, who is the head of sales for Qinyang.

Muddy Waters had speculated in its original June 28 allegations that Qinyang might not be building a machine at all. It based this assumption on previous phone calls to Qinyang, in which it claimed to have spoken with someone there and discovered that most machines built by Qinyang cost less than the $27 million being paid by ONP.

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Update on Orient Paper

By Eric Jackson
RealMoney Contributor
7/8/2010 3:15 PM EDT
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I wanted to provide an update on the further research and due diligence I've been doing intoOrient Paper (ONP - commentary - Trade Now) over the last week.

Three weeks ago, few investors had heard of this stock. On some trading days, ONP traded only 20,000 shares.

Yet, last week, a newly created website for a company called Muddy Waters published its first-ever report, suggesting that ONP was a fraud. Last Thursday, the stock lost 38% of its value in the first hour of trading. A couple of readers sent me emails describing how their brokers sold all ONP stock on Thursday, because they were purchased on margin. This accelerated the rapid price drop.

However, on Friday, 6 million shares were traded and the stock gained over 50% after a number of articles (including one by Rick Pearson and one by me, both published on TheStreet) questioning the validity of Muddy Waters' claims.

On Tuesday morning this week, ONP released a comprehensive press release, rebutting the vast majority of Muddy Waters' allegations. The response was far-reaching and detailed. Since then, Muddy Waters' website(the company published its last comment on Tuesday, ahead of the ONP release), which had been giving daily updates since it first lobbed its accusations against ONP, has been silent.

I, along with several colleagues in China, have been heavily researching ONP and the Muddy Waters allegations since they first broke last week. Although we were surprised and found that the original allegations did not jibe with our prior research on the company (which is why I bought ONP several months ago and have discussed openly why I like the company), we wouldn't be responsible investors if we didn't thoroughly examine all criticisms leveled at any of our long investments. In China especially, most Western investors have deep-seated fears of fraud going on at their expense. Even though we questioned the credibility of the people making the claims, we had to treat the allegations seriously.

ONP's new corrugating line at Qinyang No. 1
Source: Ironfire Capital

Another view of ONP's new corrugating line
Source: Ironfire Capital

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