BEIJING (TheStreet) -- Orient Paper (ONP) released the findings of an independent audit committee Monday, the summary of the findings was pretty much what I expected: The committee found no evidence of fraud or that Orient Paper's managers misappropriated money.
Shares of Orient Paper went on a tear and gained nearly 15% on the news and then sold off steadily during the rest of the session.
I thought I had missed my chance to buy in again, but by the end of the session the stock was at $7.24 -- up only 1.97%. When a stock is in steady decline, I never buy right at the close but wait for a few desperate sellers in after-hours trading. I picked up quite a few shares well below $7.24, which is a price I am pretty happy with.
People are asking why the stock sold off following the good news.
There are a few reasons. I believe many shorts may have started unwinding their positions when the press release came out, both during the unusually active premarket and then during normal trading hours.
In my mind, though, the main reason for the selloff is that anyone who has bought this stock recently has now made a 40%-50% return in less than a week, and that's pretty good. No one ever went broke taking profits, so I am assuming a number of investors hit the exits fast and locked in a nice profit. I, however, am buying not selling.
Click here to view a new video of a tour of Orient Paper's facilities.
Keep in mind that there are very few new institutional buyers in the stock. They are slower to act and are potentially waiting for Roth to reinitiate research coverage. Also, after calling a few brokers I found that as of Monday night the stock borrow is still fully maxed out, so the real short squeeze still hasn't happened yet. I believe the upside is yet to come.
On the other hand, maybe some people had second thoughts about the contents of the press release.
Bill Alpert, who writes for
, was certainly less satisfied with the press release. Bill has written a series of scathing articles on U.S.-listed China stocks lately, and they have had a material effect of the valuations of these stocks. He writes well and raises many very valid points, but he has never been to China seems he have taken a broad brush to the entire universe of U.S.-listed China stocks. In his view, they all seem to be frauds. After reading the press release,
that the balance sheet value of the company's existing production lines was not verified, nor was the production capacity of the existing production lines because the company is installing new boilers.
The Orient Paper press releases came out well before the market opened, so I had plenty of time to read and digest them before buying the stock on Monday. With all due respect to Alpert, the issues he raises are a bit silly from a financial standpoint. Deloitte and Loeb have spent months to verify the key points of the allegations made against ONP. The most important things (which I have asserted all along) are that the company is not a fraud and is not misappropriating funds.
Orient Paper's level of inventory on any given day changes, and frankly I don't care much about what it is on any given day. On my tours of the company I have seen days when there is a lot of inventory and days when there is less. As to the book value of the existing machinery, if anyone could explain to me why I should care about that, I would appreciate it.
To me, it all comes down to price. At the current price of $7.24, Orient Paper's shares give the company a market cap of $132 million.
has a market cap of $173 million (although I would speculate that it won't once its stock resumes trading).
Fraud makes for great news and splashy headlines. As I have said before, it is like shark attacks and plane crashes -- events that don't occur often but create panic when they do. It's true that there have been several high-profile Chinese frauds this year, but keep in mind there are also more than 500 Chinese stocks that trade in the U.S. (including listed and over-the-counter stocks). Fraud in China is a particularly fashionable topic these days, and once a company is smeared with the stink of fraud it is hard to scrub it off. I expect that many people, individuals and the media, will still enjoy speculating about ONP.
Following are the points to keep in mind with Orient Paper:
- The company's auditors (BDO) have now conducted audits of two consecutive quarters without any issues or restatements.
- Roth Capital never changed its rating on ONP, but simply suspended coverage pending the investigation.
- Despite a gut-wrenching plunge in its shares, ONP never halted trading in them and allowed them to recover on their own.
- The shorts have no more ammunition to play with the stock.
- Well after the fraud allegations were aired, investors such as Morgan Stanley (MS) - Get Report and Goldman Sachs (GS) - Get Reportbegan buying the stock.
- Lastly, Orient Paper has been cleared of the fraud allegations after a four-month investigation by Deloitte Touche and Loeb & Loeb.
When I first put out a video on Orient Paper, I thought it would be interesting for viewers to be able to do a walk-along on a site visit. I never had any idea how much attention it would attract, and frankly, I was not very thorough. As a result, I have dug up the video footage from my most recent visit to ONP, which was a very thorough tour of the company's facilities, inventory, trucks, largest supplier and largest customer. Viewers can judge for themselves.
I posted this video on TheStreet
I have massive amounts of video footage from companies all over China, but putting the videos together takes a surprisingly large amount of work, so I often don't bother. I also don't bother writing about companies that I think are underperformers or simply mediocre.
I have wasted many days doing factory tours only to come up with the conclusion that a stock is not worth buying or writing about. At one point, I was scheduled to tour RINO, but based on recommendations from friends I decided that there was no upside (and potentially a lot of downside) to doing so. I have also been to companies in China where things were clearly quite wrong in terms of production activity. I don't consider myself to be a short-seller or a fraudbuster, so with problem companies I simply try to cut the meeting short and move on.
Over the coming weeks I will dig through some of my video footage of other companies and see whether there is anything worth posting.
As a company, Orient Paper is nothing out of the ordinary: It makes paper. Obviously, it's not the next
or Facebook. But its share price is attractive. I expect to sell the stock at a price of around $10 -- about 40% above the current price.
I am confident that the fraud chatter on ONP will slowly dwindle away while the price will rise to its precrisis levels.
Separately, I am always on the hunt for the next underpriced stock with solid fundamentals. Any suggestions from readers are always appreciated.
At the time of publication, Pearson held a long position in ONP
This commentary comes from an independent investor or market observer as part of TheStreet guest contributor program. The views expressed are those of the author and do not necessarily represent the views of TheStreet or its management.
Rick Pearson is a Beijing-based private investor focusing on U.S.-listed China small-cap stocks. Until 2005, Pearson was a director at Deutsche Bank, spending nine years in equity capital markets in New York, Hong Kong and London. Previously, he spent time working in venture capital in Beijing. Mr. Pearson graduated magna cum laude with a degree in finance from the University of Southern California and studied Mandarin for six years. He has frequently lived, worked and traveled in China since 1992.