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TheStreet Open House

China-Biotics: Latest RTO Trading Halt

Stocks in this article: CHBTLFTCCME.PK

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NEW YORK ( TheStreet) -- China-Biotics (CHBT) became the latest Chinese small-cap company to have trading in its shares halted by a U.S. exchange as the fraud scandal surrounding the sector continues to widen.

The halt came after the Shanghai probiotics maker, long accused by skeptics and short-sellers of fraud, disclosed Wednesday evening that its auditor had refused to sign off on its 10-K annual report. The company's deadline to file the 10-K with the Securities and Exchange Commission was Tuesday.

Investigating Chinese Reverse Mergers

The accounting firm, BDO Limited of Hong Kong, told China-Biotics in a June 10 letter that it had "identified certain serious issues as part of its ongoing audit work," according to China-Biotics in its Wednesday filing. Unlike many other cases this year of a Chinese company failing to file its annual report, BDO apparently hasn't resigned as the company's auditor.

BDO Limited gave a clean audit to the numbers reported last June by China-Biotics in its 2009 10-K.

China-Biotics, which has denied charges of wrongdoing made both by short-sellers as well as reports in the Chinese business media, said its audit committee is "investigating the issues" raised by BDO this time around and is "working to take all of the actions and to provide the requested information to BDO as promptly as reasonably practicable."

Short-sellers first became interested in China-Biotics as early as 2009, their interests raised by the company's uncommonly wide profit margins and large discrepancies between its financial reports filed with the SEC in the U.S. and those submitted to government authorities in China -- two metrics that have proved accurate as warning signs when it comes to potential fraud.

China-Biotics was among the highest-flying of the Chinese companies that gained access to U.S. capital markets through a controversial method called a reverse merger, rather than an initial public offering. China-Biotics conducted its reverse merger in 2006. It was uplisted to the Nasdaq in October 2008, and climbed above $19 for a period in March last year. It has since cratered, closing at $3.46 before Nasdaq's halt.

The reverse merger process -- sometimes called a reverse takeover, or RTO -- has long been criticized as merely a way to skirt the tougher scrutiny given by regulators to companies selling stock through IPOs; just last week, the SEC issued an investor bulletin warning about the heightened risk of fraud among companies that have gone through reverse mergers.

Still, several Chinese companies that did IPOs have been accused of falsifying financial results in recent weeks, including the Toronto-listed timber company Sino-Forest and the New York Stock Exchange-listed Longtop Financial (LFT), both of which had received backing from blue-chip Wall Street banks and money managers.

The SEC last year began an investigation into allegations of ubiquitious fraud among U.S.-listed Chinese small-caps, particularly reverse-merger companies.

Thirteen Chinese stocks listed on major U.S. exchanges are now halted, some for nearly three months as exchange officials sort through allegations of accounting chicanery, mostly lodged by audit firms that abrupty resign. The odds of maintaining a listing in the wake of a halt apprear increasingly poor. Of the halts since the beginning of the year, exchanges have booted nine companies' equities to the over-the-counter markets, where values are typically and predictably decimated.

This includes stocks that had drawn interest from sophisticated U.S. institutional investors. China MediaExpress had an anchor investment from the fund of former AIG (AIG) CEO Hank Greenberg. On the Pink Sheets, MediaExpress stock now trades at $1.85.

China Integrated Energy, halted in April at $1.84 after having spent 2011 in collapse (it reached $7.60 on Jan. 3), began trading again earlier this week after a nearly two-months halt. It changed hands recently at 70 cents.

Douyuan Printing, whose big holders included Calpers, was summarily delisted by the NYSE without a halt first taking place. Its stock last traded on June 15 at 45 cents, also quoted on the Pink Sheets.

-- Written by Scott Eden in New York

>To contact the writer of this article, click here: Scott Eden.

>To follow the writer on Twitter, go to http://twitter.com/ScottEden.

>To submit a news tip, send an email to: tips@thestreet.com.

Disclosure: TheStreet's editorial policy prohibits staff editors and reporters from holding positions in any individual stocks.

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