Focus Media: 3 Interpretations - Which 1 Is Right
This weblog has demonstrated a bunch of bizarre transactions inwards Focus Media's accounts. In especial I take hold focussed on transactions during 2009 inwards which vast sums look to take hold been lost inwards businesses that were acquired from companies formed alone months earlier acquisition. In each of these cases the line of piece of work organization was sold or mostly given dorsum to the master copy owner.
Here is the disclosure I focussed on (but in that place are other foreign disclosures I could pick):
2009 Disposition
In 2009, nosotros aborted a contemplated initial world offering for its Internet advertising segment due to the economical recession inwards slowly 2008. As a result, betwixt August in addition to Dec 2009, nosotros disposed of half-dozen underperforming subsidiaries inwards that segment through a serial of private transactions amongst their respective master copy owners. Each of the subsidiaries was considered a factor of our company, in addition to their results take hold been included inwards discontinued operations inwards the consolidated statements of operations. The results of discontinued operations include cyberspace revenues in addition to pretax losses of $127.6 1 M m in addition to $45.4 million, respectively, related to these subsidiaries. We recorded a loss on disposal of $44.1 million.
The next tabular array summarizes the acquired subsidiaries inwards the mobile handset advertising services segment in addition to Internet advertising segment that were sold dorsum to their master copy owners inwards 2009:
Acquisitions | Date of acquisition | Business segment | Proceeds paid | Date of Disposal | Loss on disposal | |||||||||||||||
1. | Catchstone(1) | 2007-4-16 | Internet advertising | $ | 14,489,647 | 2009-12-22 | $ | 11,560,617 | ||||||||||||
2. | WonderAd(2) | 2007-9-15 | Internet advertising | $ | 14,926,003 | 2009-11-30 | $ | 14,926,003 | ||||||||||||
3. | Jiahua(3) | 2007-8-15 | Internet advertising | $ | 7,659,158 | 2009-12-1 | $ | 7,659,158 | ||||||||||||
4. | Wangmai(4) | 2007-9-1 | Internet advertising | $ | 2,749,158 | 2009-12-14 | $ | 2,749,158 | ||||||||||||
5. | Jichuang(5) | 2007-12-1 | Internet advertising | $ | 366,032 | 2009-8-24 | $ | 366,032 | ||||||||||||
6. | 1024(6) | 2008-3-1 | Internet advertising | $ | 3,397,124 | 2009-12-18 | $ | 3,397,124 | ||||||||||||
7. | Dongguan Yaya(7) | 2007-10-1 | Mobile handset advertising services | $ | 1,540,612 | 2009-2-28 | $ | 1,588,110 | ||||||||||||
| (1) | The master copy sellers which later repurchased Catchstone were Only Education Holding Limited in addition to Maxnew Holdings Limited, BVI companies owned yesteryear a unmarried PRC private unrelated to our company. |
| (2) | The master copy seller which later repurchased WonderAd was Megajoy Pacific Limited, a BVI fellowship ultimately owned yesteryear 7 PRC individuals unrelated to our company. |
| (3) | The master copy sellers which later repurchased Jiahua were 2 PRC individuals unrelated to our company. |
| (4) | The master copy seller which later repurchased Jichuang was Richcom International Limited, a BVI fellowship owned yesteryear a unmarried PRC private unrelated to our company. |
| (5) | The master copy sellers which later repurchased Keylink Global Limited were 4 PRC individuals unrelated to our company. |
| (6) | The master copy sellers which later repurchased 1024 were 2 PRC individuals unrelated to our company. |
| (7) | The master copy sellers which later repurchased Dongguan Yaya were Sinoalpha Limited in addition to Max Planet Limited, BVI companies each of which is owned yesteryear a divide unmarried PRC private unrelated to our company. |
The primary matter demonstrated was that all the British Virgin Island (BVI) companies above:
* had the same address despite beingness explicitly unrelated parties,
* had the same call upward bring out despite their non-related status,
* inwards all cases except 1 had been formed alone a few months earlier they sold a line of piece of work organization for millions of dollars to Focus Media
* inwards the exception had been formed after they sold the line of piece of work organization to Focus Media
* had inwards all but 1 illustration later been struck off the register for non-payment of a fee.
Moreover the companies given dorsum inwards 2009 were given dorsum amongst a lot of cash (some 27 1 M m dollars) embedded inwards the companies equally they were given away. Focus Media on the disclosed accounts look to take hold given away cash.
Three interpretations
I originally had 3 interpretations of this disclosure. These were
(a). The accounting statements absolutely straight, Focus Media genuinely did purchase all these businesses, lose a huge amount of coin on them in addition to gave them dorsum to their master copy owners,
(b). Focus Media used these transactions facilitate the volume looting of the company. That is the coin was non genuinely lost, but rather the line of piece of work organization were purchased in addition to given dorsum to their master copy possessor equally component of some system to steal from the company.
(c). That the losses were mistaken - a shape of turn a profit washing. In this interpretation Focus Media reports mistaken earnings (say inflated revenue or deflated cost, most probable inflated revenue) in addition to this loads the residue sail amongst mistaken cash. The mistaken cash needs to live on removed (or the auditors volition discovery it or shareholders demand it) so the mistaken cash gets removed from the residue sail amongst mistaken losses on rubbery transactions.
Two interpretations left
On the information equally discovered so far interpretation (a) higher upward requires 1 to believe that all these seemingly unrelated parties institute the same lawyer to register their BVI entities in addition to that these businesses generated millions of dollars inwards cyberspace worth inwards a few months earlier they were sold to Focus Media.
Indeed you lot take to believe that Richcom, which was non fifty-fifty inwards existence, had a line of piece of work organization that Focus Media was happy to purchase for millions of dollars.
There are scenarios where interpretation (a) remains possible. For illustration if all the Chinese entrepreneurs had the same lawyer in addition to thence all the addresses are the same, in addition to that lawyer was sloppy in addition to forgot to genuinely register Richcom. They mightiness take hold the same lawyer because they socialize at the same Karaoke bar.
However interpretation (a) requires this unlikely combination of circumstances.
This leaves 2 remaining interpretations (b) in addition to (c) above. Either the fellowship was beingness looted or in that place were mistaken profits in addition to the losses described higher upward were mistaken losses whose accounting business office was to brand the books residue when in that place were mistaken profits elsewhere.
These 2 interpretations take hold wildly different implications for the hereafter of Focus Media
The primary response to my posts is to say that all I take hold demonstrated was that Focus Media prior to 2009 was a really dodgy company. Bill Bishop - 1 of the more sophisticated Cathay watchers - tweeted equally much:
Indeed this was besides the response to Muddy Waters who alleged fraud at Focus Media most a twelvemonth ago. There were simply a bunch of dodgy transactions.
But my interpretations (b) in addition to (c) higher upward take hold wildly different outcomes for the stock.
If the fellowship was beingness looted - equally say Bill Bishop in addition to many others imply - in addition to then in that place was something in that place to loot.
Something in that place to loot suggests the fellowship genuinely is valuable.
Once the looting stops (and you lot would presume it would halt after beingness taken private) in addition to then the cash menstruation is existent in addition to tin service lots of debt in addition to brand the PE buyers rich.
If soundless (c) is truthful in addition to then the losses recorded inwards 2009 were mistaken losses - in addition to then the profits recorded were mistaken profits. If this is the illustration in addition to then the fellowship can't service lots of debt (the profits were mistaken in addition to you lot can't service existent debt amongst mistaken profits) in addition to the PE bargain volition collapse.
Indeed if the profits were non existent in addition to then in that place is null in that place to loot, null of whatever existent value - in addition to an cease value for the stock is below $2 (and I retrieve in all likelihood below $1).
The accounts since 2009
The accounts since 2009 take hold shown a fairly steady construct upward of cash in addition to fiscal assets. The 2 interpretations take hold something to say most that.
In interpretation (b) the fellowship was heavily looted inwards 2009. However it is a valuable fellowship in addition to since in addition to then that value has accumulated equally cash on the residue sheet. To believe this you lot take hold to assume that the management were evil but they somehow turned good.
In interpretation (c) the fellowship was non looted inwards 2009, simply a huge pile of accumulated mistaken cash was removed from the residue sail yesteryear having mistaken losses. Since 2009 the fellowship has continued to accumulate mistaken cash. Eventually that mistaken cash volition besides take to live on removed from the residue sheet. This province of affairs is simply similar at the cease of 2008 where this interpretation would imply the fellowship had besides accumulated a bunch of mistaken cash alone to take hold it removed yesteryear mistaken losses inwards 2009. To believe this you lot take hold to believe the fellowship is currently accumulating mistaken assets (including some mistaken cash).
It is of critical importance to the stock to run out which is true. If (b) is truthful this bargain volition unopen in addition to you lot volition larn $27 a share. If (c) is truthful the bargain is probable to neglect - in addition to the downside is to maybe a dollar or 2 a share. [There are reasonable scenarios where the downside is to zero...]
Indications that it mightiness live on C in addition to the shares are nearly worthless
There are several things that betoken that it is to a greater extent than probable to live on (c) than (b). Here are a few.
The fellowship had a Renminbi shortage inwards 2006
I know it is a long fourth dimension agone - but this is a startling disclosure:
In March 2006, Weiqiang Jiang, the manly individual parent of Jason Nanchun Jiang (the CEO/controller of Focus Media), provided a short-term loan to the Group of or so $2.5 million to salve a temporary shortage of Renminbi the Group experienced at that time. The loan is unsecured in addition to was provided to us at no interest. The loan volition popular off due in addition to payable inwards total on June 30, 2006.
The fellowship disclosed a "temporary shortage of Renminbi". At the fourth dimension the residue sail showed enough of cash in addition to cash generation. The alone way that in that place could take hold been a Renminbi shortage is if the cash was fake. And the cash was alone mistaken if the earnings were fake. Moreover a Renminbi shortage implies almost no cyberspace cash generation - consistent amongst a worthless or nearly worthless share.
The disclosure of a Renminbi shortage is consistent amongst interpretation C.
The fellowship appeared to pay cash to a fellowship that did non yet exist
In August 2007 Focus Media purchased a line of piece of work organization from Richcom International for over $2 million. The alone work is that Richcom International was non formed until Oct 2007. In other words it appeared to pay cash to a fellowship that did non exist.
Influenza A virus subtype H5N1 fellowship that does non be has a really hard fourth dimension opening a banking company line of piece of work organization human relationship in addition to thence has a hard fourth dimension receiving cash.
But it has no work receiving mistaken cash (you don't take a banking company line of piece of work organization human relationship for that).
This is consistent amongst interpretation C. Fake cash paid comes from mistaken profits.
In 2009 the fellowship essentially gave away almost all the subsidiaries it disposed of, but the accounts showed that those subsidiaries had 27 1 M m inwards embedded cash
Above in that place is a listing of companies disposed of inwards 2009. All of those were given dorsum to their master copy owners. In some cases a pocket-sized consideration was paid.
However the cash menstruation contention for the year shows that inwards excess of 27 1 M m dollars was embedded inwards the companies that were given dorsum to their owners inwards 2009.
This could live on looting - but is specially blatant - simply giving away cash.
The option hypothesis is that the cash embedded was fake. This appears to a greater extent than reasonable to me than genuinely blatantly simply giving away cash.
The fellowship used to overstate its bring out of moving-picture exhibit screens
Overstating things similar numbers of moving-picture exhibit screens is consistent amongst overstating revenue. Overstating revenue volition give you lot mistaken cash equally per (c) above.
The company used to say that it had 27,164 theatres on which it displayed averts. There were less than 1600 inwards all of Cathay at the time. This kind of overstatement leads 1 to enquiry whether other things are beingness overstated - in addition to thence mistaken cash is beingness produced.
That is supportive of interpretation (c) above.
The fellowship claims extremely high revenue per moving-picture exhibit screen
The fellowship later restated downwardly the bring out of moving-picture exhibit theatres it displayed inwards - but it never restated downwardly the revenue from those theatres. Revenue per theater ran at over $27 M average concluding twelvemonth - higher upward the average in addition to close the high-end of United States of America of America revenue per theatre.
Moreover it was running at roughly a $40 M per theater run-rate inwards the quaternary quarter of concluding year. That is higher upward the peak inwards the US.
Advertising rates inwards Cathay are substantially lower than the US. Moreover my independent inquiries propose the revenue per covert inwards Cathay is closer to $7,500 per year.
Overstated revenues agency mistaken earnings in addition to mistaken cash equally per interpretation (c) above.
The fellowship overstated in addition to restated downwardly the bring out of LCD screens it has
The fellowship late reclassified a whole lot of screens inwards the LCD line of piece of work organization to the poster-frame business. The argue given was that they were originated by the LCD line of piece of work organization in addition to thence counted equally LCDs. Perhaps plausible but besides consistent amongst to a greater extent than oftentimes than non overstating things in addition to thence overstating revenue.
Overstated revenue leads to mistaken cash equally per explanation (c) above.
The fellowship claims to brand huge margins from a line of piece of work organization that nobody finds profitable elsewhere inwards the world
How many 17 inch displays showing adverts take hold you lot seen inwards residential buildings inwards countries other than China? They hit non be inwards Australia. I take hold non seen them inwards New York. Sometimes inwards business office buildings or hotels (usually advertising the facilities of the hotel). Never inwards residential buildings.
That is because nobody tin brand them profitable inwards residential buildings exterior China.
However they claim over $3000 per covert of revenue inwards China. If you lot could larn that much revenue inwards Cathay (where advertising rates are low) you lot could larn to a greater extent than elsewhere in addition to the screens would grow similar mushrooms inwards nighttime parent lobbies all over the planet.
They are not.
Either Cathay is genuinely different or the revenue in addition to profits are overstated inwards Cathay equally per interpretation (c) above.
Summary
Most of the evidence is consistent amongst (c) above. The foreign transactions are non looting equally the bulls inwards the stock would suggest. Interpretation (c) is that these transactions are the washing of mistaken profits yesteryear producing offsetting mistaken losses.
In that illustration the line of piece of work organization earnings are non existent in addition to the line of piece of work organization cannot back upward all the debt that the PE firms volition laden it with. The private equity bargain volition neglect equally the debt defaults.
It is hard to tell what the stock is worth absent a PE bid. However equally nobody tin brand an LCD line of piece of work organization substantially profitable inwards (say) America what is it worth inwards Cathay where advertising rates are lower?
John
PS. There is someone associated amongst this bargain who has been arrogantly telling friends that they honey this blog. They say I am keeping the pricing line per unit of measurement area downwardly in addition to making this bargain easier.
If interpretation (c) is right this bargain volition collapse spectacularly after it closes (the debt volition default, the PE buyers volition larn nothing). And you lot were warned in addition to continued regardless.
The explanation for your recent arrogance is in all likelihood "deal fever". But equally I said at the kickoff of this sequence of posts private equity has the powerfulness to due diligence in addition to your express partners volition live on expecting rigour over hubris.
If you lot hit the bargain in addition to it fails spectacularly (despite ample warnings) your express partners in addition to the regulators volition believe something worse than hubris. Probably far worse.
My justice for what they volition believe: that you lot did this bargain knowing it to live on fraudulent in addition to that you lot got kick-backs for doing it. They volition believe you lot looted your ain funds. That belief may or may non live on truthful - but that is what they volition suspect.
If interpretation (c) proves right in addition to you lot unopen this bargain your career (and maybe your whole life) volition larn really hard indeed.
Of course of study if I am incorrect in addition to interpretation (a) or (b) is truthful this volition live on a keen deal. Go for it.
J
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