Corporate governance and a lack of confidence in companies' financial statements threatens China's future growth. Their government must move quickly to clean things up.
Read the full post here at Forbes.
By Eric Jackson, Senior Contributor
NEW YORK (TheStreet) -- The Securities and Exchange Commission took a step in the right direction this week by punishing a small U.S. audit firm for work it had done for a Chinese company.
[** This post is an excerpt of the full article, which is available on TheStreet.com by clicking here. Free Site.**]
Sphere: Related ContentBy Eric Jackson In a telephone conversation on November 16, 2010, Mr. Zou Dejun, the Chief Executive Officer of the Company, informed Ms. Susan Woo of our firm, in substance, that as to the six RINO customer contracts discussed in the recent report of Muddy Waters LLC, the Company did not in fact enter into two of the six purported contracts, and a third contract among the six was explainable. When Ms. Woo inquired about the Company's other contracts, Mr. Zou said he was not sure, but there might be problems with 20 - 40% of them. Assuming that these statements were reasonably accurate, it appears that our reports would have been affected if this information had been known to us at the date of our reports, although the effect on the financial statements is currently unknown and cannot be quantified without a thorough investigation. We further note that in a conversation the following day, November 17, 2010, involving Ms. Woo, several directors of the Company, Company counsel, and Mr. Zou, Mr. Zou stated that he was not sure the day before and went back to look into some things, and found that apart from the two problematic contracts, all other contracts are legitimate and can be verified. The auditing standards of the Public Company Accounting Oversight Board provide procedures to be followed by an auditor to prevent continued reliance on audit reports in such circumstances. In view of the information provided by Mr. Zou Dejun, we hereby advise the Company to promptly notify any person or entity that is known to be relying upon or is likely to rely upon our audit report(s) for the periods ended December 31, 2008 and December 31, 2009 and reviewed quarterly financial statements for periods between March 31, 2008 to September 30, 2010 that they should no longer be relied upon, and that revised financial statements and revised auditor's report(s) will be issued upon completion of an investigation. Obviously, RINO's management deserves condemnation and criticism. Hopefully, the rapid disintegration of a company that came into this month with a market capitalization of nearly half a billion dollars will serve as a cautionary tale to other Chinese small-caps that think they can pull one over on U.S. investors with the help of complicit U.S. pre-IPO investors, law firms, auditors and IR firms. As you might expect, since the RINO scandal unraveled (the stock has now been halted for a week, and there's no word on when the Nasdaq will see it resume trading), many investors have paid attention to RINO's auditor, Frazer Frost. Citron Research published a great post yesterday titled "Dude, Where's My Auditor? The Curious Case of Frazer Frost," outlining the many questions surrounding what this firm actually did as an auditor to deserve its fee. In my experience meeting with China-based, U.S.-listed companies and investors, Frazer Frost is a very lax audit firm. As many people have pointed out, since RINO admitted fabricating customers, Frazer Frost announced it would not proceed with its previously announced merger with another audit firm called Moore Stephens Wurth Frazer & Torbet. If anyone thinks this is a coincidence, I have some swampland in Florida to sell you. I fully expect there are more bodies buried under the offices of both these firms and others like them. Some investors, in RINO's wake, have speculated that Frazer Frost's other clients, such as Harbin Electric(HRBN - commentary - Trade Now), Fushi Copperweld (FSIN - commentary - Trade Now) and China Valves (CVVT - commentary - Trade Now), are good possible shorts. "If Frazer signed off on one fraud, why not another?" the thinking goes.
RealMoney Contributor
11/29/2010 2:30 PM EST
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Over the last two weeks, a huge drama has been playing out with a small-cap China stock called RINO International (RINO - commentary - Trade Now). The wastewater filtration equipment provider to the Chinese steel industry was accused by Muddy Waters LLC of fraud earlier this month. RINO said nothing in response, dragged its feet and then released the following baffling 8-K last week:On November 17, 2010 Frazer Frost, LLP, the independent auditors of RINO International Corporation (the "Registrant"), delivered a letter (the "Auditor's Letter") to the Registrant and each of its directors. The Auditor's Letter states in part:
The plaintiffs argue that the PCAOB's board is not accountable enough and must allow for the president to appoint members to the board. Because this is currently not allowed, they argue the whole Sarbanes-Oxley law must be struck down.
Ironically, many companies who support this effort to strike down Sarbanes-Oxley (due to the higher costs of internal accounting oversight), also support blocking their own shareholders from having more of a say on who gets appointed to their own board of directors. What's good for the goose is apparently not good for the gander.
Sarbanes-Oxley's legislation, especially section 404, has been a bugaboo of business -- especially small business -- since its inception. Recall that the law was passed in the wake of the major scandals like Enron, Tyco, Worldcom, Parmalat, and others during the dot-com bubble.
At the time, President Bush and other politicians expressed outrage that so many large and well-known companies could have so easily perpetuated accounting fraud for so long, with no consequences -- until they were forced into the light. Most of these companies went under and, with them, the pensions and 401Ks of many hard-working and innocent executives and employees.
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