Securities Law Prof Blog

Editor: Eric C. Chaffee
Univ. of Toledo College of Law

Monday, April 4, 2011

SEC Commissioner Aguilar Addresses Reverse Mergers by Chinese Companies

In a speech before the Council of Institutional Investors Annual Conference, SEC Commissioner Luis Aguilar addressed the investor protection problems presented by the recent trend of foreign private issuers going public in the U.S. market through the "back door" of a reverse merger.  As explained  by Commissioner Aguilar:

In recent years, we have seen a spike in private companies merging with a public shell company as a way of going public. While it is Chinese companies that have grabbed recent headlines, the problems coming to the forefront would not necessarily be limited to companies based in China.


A common but lesser known way of accessing the public markets is the reverse merger into a public shell, or where a public shell merges into a private company, a so-called “backdoor registration.” For those of you not familiar with these types of mergers, what typically happens is a private company seeking to go public merges with a public shell company. Before the transaction, the public shell company no longer has substantive operations, but its public company registration remains in effect. The transaction gives the formerly private company the credibility and access to capital of being registered as a public company, without any of the vetting from underwriters and investors that companies undergo when they perform a traditional IPO.

Since January of 2007, there have been over 600 backdoor registrations. Over 150 of these have been by companies from China and the China region. Notwithstanding the SEC rulemaking of a few years ago to respond to abuses involving shell companies, we are seeing increasing problems. While the vast majority of these Chinese companies may be legitimate businesses, a growing number of them are proving to have significant accounting deficiencies or being vessels of outright fraud.

As just one example of this phenomenon, two companies that were numbers 1 and 2 on the Investor’s Business Daily 100 have now been shown to have significant issues. One of these companies had to restate its earnings and was delisted just last week. The other has admitted that at the very least that two of its manufacturing contracts didn’t actually exist. Just last Friday, the SEC suspended trading in another Chinese company that became public in the United States through a shell. This was the second SEC trading suspension imposed on Chinese companies in this situation in the month of March alone. Additionally, NASDAQ and NYSE Amex have recently suspended trading in several of these companies.

Commissioner Aguilar went on to discuss recent findings by the PCAOB on audit concerns involving companies from the China region.

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Syntax Brillian’s Business Model
I state without reservation that Syntax Brillian was formed as a result of a Taiwanese conspiracy to defraud the investors of the company. This is a tale of a Taiwanese conspiracy that used the US equities market to bilk investors. They filled the tub here and drained it in Taiwan. Vince Solitto, as CEO, proclaimed: “and I think they looked at that and said 'this could be one of those phony Chinese companies' like a Vizio or like Mag or Princeton Graphics or eMachines which are private companies in the US that basically move the profits back to Taiwan, go bankrupt and start over.” In My opinion I delclare: This is worse, this was a public company! The crime has gotten bolder!

The sad part was that, in order to do what they did, the Taiwanese conspirators needed help (and got it) from entities and persons here in the US. Not only did the Taiwanese conspirators expect to bilk investors and make much more money than they ever would running a legitimate business, once this round was over they planned on coming back for more (the OIG stalking horse buyer). The goodwill and brand penetration of Olevia products (financed by shareholders) was to be swindled back to Taiwan. This left shareholders no chance to participate in or realize any profit. For the record, the OIG stalking horse buyer, pulled out of the deal which led to a harsh judgment for damages against them. In my opinion, the delicate and suspect alliance fell apart because it could not withstand the scrutiny of an examiner investigation. There was a selfish motive for submitting the bankruptcy petition in the manner in which it was filed.

The latest on Chinese Reverse Mergers:
All you have to do these days is type “Chinese Reverse Merger Fraud” into Google and you will be amazed at the quantity of companies coming out of the woodwork that are experiencing financial allegations of fraud – Syntax Brillian – is larger than 99% of the companies in terms of this method.
Maybe it was before the SEC radar was up but SB has not gotten the notoriety that it deserves

Posted by: Charles Cerny | Apr 7, 2011 8:46:15 AM

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