by Brian Mahany
Hundreds of small Chinese companies have figured out a way to enter the U.S. stock market. Their secret? Reverse mergers. Are these companies scams? Many seem to think so.
Chinese companies looking for a quick way to raise capital merge with a defunct or nearly defunct U.S. public company. For all practical purposes, these companies are mere shells, but shells authorized to trade their shares publicly.
At any given time there are dozens of thinly traded penny stocks on the market.By merging with the American shell, the Chinese company is instantly public.
There are usual some audits performed by underwriters before the two companies merge but thus far, many of those audits are about as reliable as the income figures claimed by the Chinese company. In other words, not very reliable.
Auditing a business in China has its own unique set of rules. Rules shrouded in secrecy, language barriers and vast cultural differences. The bottom line is that American auditors have a tough time verifying the financials claimed by the new merged company.
China has its own stock exchanges leading many people to wonder why these companies don’t just list on the Shanghai exchange. The reason is surprising. The regulatory requirements to register in China are more onerous than in the U.S.! What could take a year or more in China takes only a few weeks here.
Are all these Chinese reverse mergers scams? Of course not but many are. Invariably, plenty of people invest based on phony financials and the desire to cash in on China’s booming economy.
What does this mean for investors who lose money in one of these companies? If a broker recommended the company you probably have a good case against the broker. Just a little bit of due diligence exposes most of these “opportunities” as mere scams. Brokers have a responsibility to their clients to recommend suitable investments. While no broker can guarantee that every trade will be profitable, brokers have a duty to perform some due diligence before recommending equities to their customers.
Investors may also a good claim against the auditor, assuming the auditor has insurance or assets. These so called gatekeeper suits are increasing in frequency.
Ideally, before you invest in one of the Chinese companies, do a little due diligence yourself. If the financials of the company are simply to good to be true, the company is probably a scam.
Another suggestion is to not only examine the financials but the company auditing those financials. If the audits were performed by a large or reputable firm, you may have recourse if the investment collapses. If the auditing “firm” is just one person, watch out.
Remember the Madoff auditors? Hundreds of people relied on the tiny firm of Friehling & Horowitz who claimed to have audited Madoff’s books and provided a clean bill of health. Only there was one problem, the same firm had been telling the American Institute of Certified Public Accountants (the body that sets auditing standards) that it stopped performing audits some 15 years earlier.
If you are the victim of an investment fraud, Ponzi scheme, securities fraud, invested in a bad or phony welfare benefit plan (419 plan) or simply received bad advice from a bad lawyer, accountant or stock broker; contact the asset recovery and fraud recovery lawyers at Mahany & Ertl, LLC. We have helped people across the United States recover their hard earned money. For a no obligation, no nonsense review of your case, contact Brian Mahany today, (414) 704-6731 (direct dial).