On April 4, 2013, we released our initial report on SouFun Holdings Limited ("SFUN," "SouFun" or the "Company"), available here. In this follow-up report (available in full on our website here), we present smoking-gun evidence which, we believe, shows that SouFun Chairman Vincent Tianquan Mo ("Chairman Mo") orchestrated a series of undisclosed related party transactions to siphon $14 million out of SouFun, and in the process violated US and Hong Kong securities laws. Such concealed related party acquisitions are similar to the nefarious behavior we discovered at China Medical (OTCPK:CMEDQ), which collapsed spectacularly after we alerted investors to malfeasance by its management team.
I. Mo's Money; Your Problem
On March 15, 2012, SouFun purchased 44 hotel rooms at the Sanya Bay La Costa Hotel in Hainan (http://www.sanyalacostahotel.com) for $13 million, ostensibly to serve as a corporate office and for "internal training." In our original report, we expressed skepticism as to why an Internet Company would need 44 hotel rooms at a 5-star resort in one of China's most popular vacation destinations. The price of the acquisition was also highly suspicious: for $13 million, SouFun could have bought (at current prices) 113,322 nights at the hotel. In June 2012, the Company purchased three more hotel rooms for ~$900,000 (aggregate) from the same entity, bringing the total number of rooms purchased from the Sanya Property SPV to 47, for a total consideration of $14 million.
We believe that we have solved the mystery. The transaction appears designed to allow Chairman Mo and his nephew, CEO Richard Dai, to siphon money out of the Company without disclosing it to shareholders.
1) Concealed Related Party Transactions
SouFun's 2011 20-F stated that the Company purchased the Sanya property from "Beijing Hengxinjiahua Investment Consultancy Limited, an independent third-party" ("Sanya Property SPV"). This could not be further from the truth.
Publicly available SAIC files show that SouFun's Chairman Mo established the Sanya Property SPV in 2009, which at the time he called Beijing Dongfangximei Investment Consultancy. We have included an excerpt of the SAIC files below showing that Chairman Mo formed the Sanya Property SPV and served as the entity's controlling shareholder with 80% of its shares. SouFun CEO Richard Dai owned the remaining 20% of its shares.
If investors or regulators need any further proof, a SouFun employee and presumably an administrative assistant to Chairman Mo listed her SouFun email address as the contact address for the Sanya Property SPV: email@example.com (see excerpt of SAIC filing below).
In December 2011, three months before SouFun purchased the Sanya property, SAIC filings show that Chairman Mo and SouFun's CEO Richard Dai transferred all of their shares in the Sanya Property SPV to Dandong Yuanlong Villa Management Company ("Villa Management"), an entity under the control of Deng Wei. According to this article on SouFun's website, Deng Wei is Chairman Mo's friend from their time together at Tsinghua University.
Below is the share transfer agreement, dated December 19, 2011, with Chairman Mo's signature. This excerpt shows the share transfer to Villa Management.
SAIC filings show that upon the sale by Chairman Mo and Richard Dai of the Sanya Property SPV to Villa Management, Deng Wei became its registered representative.
In February 2012, one month after Chairman Mo transferred his shares in the Sanya Property SPV to Deng Wei's Villa Management and one month before SouFun bought the Sanya property, the Sanya Property SPV changed its name to Beijing Hengxinjiahua:
We believe that the conspirators changed the name of the Sanya Property SPV from Beijing Dongfang to Beijing Hengxinjiahua one month before the sale to SouFun because SouFun had already mentioned in its 2011 20-F that Beijing Dongfang (spelled Dong Fang in the SEC filings) was a related party under the control of the Chairman.
The fact that the name change occurred only one month before the sale of the Sanya property to SouFun strongly suggests that this was a premeditated deception. Chairman Mo would have surmised, correctly, that SouFun's shareholders would be up in arms if SouFun bought 47 hotel rooms in a vacation resort from an entity recently under his control without any disclosure on the matter. It appears as though Chairman Mo and CEO Richard Dai were just trying to cover their tracks so that no one would recognize the name of the seller when SouFun announced the purchase.
In March 2012, SouFun purchased the Sanya properties from the Sanya Property SPV, telling shareholders that it was buying the hotel rooms from an "independent third party" and that it planned to use the properties as "our local office in Hainan as well as for internal training purposes."
Yet SouFun never disclosed to investors that its Chairman and its CEO founded, owned and controlled the Sanya Property SPV, or that both men only transferred their shareholdings to Villa Management, an entity under the control Chairman Mo's university buddy, three months before the Company bought the Sanya property.
We believe that the sole purpose of transferring shares to Villa Management and changing the name of the entity of the Sanya Property SPV was to conceal Chairman Mo and Richard Dai's prior ownership and control of the Sanya properties. Such premeditated and deliberate deceptions are, in our opinion, far more sinister than simply an undisclosed related party transaction.
2) SouFun May Have Fronted the Money for Villa Management's Purchase
The rabbit hole goes even deeper. SouFun mysteriously loaned $15 million to Villa Management in Q4 2011, right around the time that Villa Management took ownership of the Sanya Property SPV from Chairman Mo and CEO Richard Dai. The loan was repaid three weeks after SouFun bought the Sanya properties from Villa Management.
SouFun's 2011 20-F contains the following statement:
"As of December 31, 2011, loans receivable represent the loans of US$11,109 and US$15,034 to Beijing Pujin and Dandong Yuanlong Villa Management Company [("Villa Management")], respectively. The loan to [Villa Management] has a term of six months with an interest rate of 10% per annum. [Villa Management] is an independent third party. The loan to [Villa Management] was guaranteed by a major shareholder of [Villa Management], and was subsequently collected in full on April 6, 2012."
Put simply, SouFun appears to have loaned the amount of the purchase price to Villa Management in late 2011, allowing Villa Management to pay Chairman Mo and CEO Richard Dai for the Sanya Property SPV in December 2011. Then, three months later, Villa Management used the Sanya Property SPV to sell the Sanya properties to SouFun for $14 million, and its $15 million debt to SouFun was repaid shortly thereafter.
We have included the following flow chart to serve as a visual aid in explaining what we believe were deliberately complicated machinations.
It appears to us that SouFun fronted the money to Deng Wei to allow him to purchase the hotel rooms from Chairman Mo and CEO Richard Dai, further supporting our theses that SouFun's purchase of the Sanya property was not an arm's length transaction and that the SouFun brain trust deliberately concealed its Chairman and CEO's involvement in the transaction.
3) Deng Wei's Reward?
The clever investor may ask: what did Deng Wei get out of the deal?
On March 23, 2011, eight days after SouFun bought the Sanya property from the Sanya Property SPV, Chairman Mo appointed Deng Wei to be an independent director of Shun Cheong (HKEX: 0650), a public company on the Hong Kong exchange in which Chairman Mo and his wife hold a majority stake. Deng Wei's independent directorship entitled him to an annual salary of HK$100,000.
We believe the evidence supports a simple narrative: Deng Wei's appointment, and his HK$100,000 per year salary, was a 'quid pro quo' for his help in concealing Chairman Mo's ownership in the Sanya properties.
Even more egregious, in the filing to the Hong Kong Stock Exchange and Shun Cheong's shareholders announcing Deng Wei's appointment to the board of directors, Shun Cheong stated that "Mr. Deng does not have any relationship with any directors, senior management, substantial shareholders or controlling shareholder of the Company and does not have any interest in the shares of the Company within the meaning of Part XV of the Securities and Futures Ordinance as at the date of this announcement." We believe this statement was a lie.
Under Rule 3.13 of the HKEX Listing Rules, Deng Wei would not be considered an independent director if he had "a material interest in any principal business activity of or is involved in any material business dealings with the listed issuer, its holding company or their respective subsidiaries or with any connected persons of the listed issuer…"
Deng Wei clearly was involved in "material business dealings" with SouFun's Chairman Mo, a connected person under Hong Kong rules. Deng Wei's Villa Management obtained a loan from SouFun four months prior to his appointment (a loan which was still outstanding at the time of his appointment as a supposedly independent director); Deng Wei bought the Sanya Property SPV from Chairman Mo three months prior to his appointment; and Deng Wei sold the Sanya hotel rooms to SouFun eight days prior to his appointment.
As if to underscore that Deng Wei is not an independent director, his company, Villa Management, sold three more hotel rooms for ~$900,000 through the Sanya Property SPV to SouFun in June 2012, which was over two months after he accepted his position as an 'independent' director. This is a clear violation of Hong Kong securities laws.
We suspect that the Hong Kong Stock Exchange will suspend trading of Shun Cheong's shares pending a full inquiry into the matter, which we are confident will reveal that Shun Cheong violated Hong Kong securities laws by holding Deng Wei out as an independent director when he was not, in fact, independent.
We believe that not only did SouFun make false statements in its SEC filings by characterizing the seller of the Sanya properties as an "independent third party," but that an acquisition from a business secretly owned/controlled by the Chairman and CEO only three months before the buyout (and paid for with cash possibly fronted by the Company) is a textbook securities violation. In our opinion, such premeditated and explicit lies should lead US and HK regulators and the NYSE to immediately launch a formal inquiry and suspend trading of SouFun's shares pending a full investigation.
We are short SFUN. THIS RESEARCH ARTICLE EXPRESSES OUR OPINIONS. Use Glaucus Research Group California, LLC's research opinions at your own risk. You should do your own research and due diligence before making any investment decision with respect to the securities covered herein. This is not investment advice nor should it be construed as such. We are short SFUN and therefore stand to realize significant gains in the event that the price of the stock declines. Please refer to our full disclaimer, which we hereby incorporate fully by reference, in our report at glaucusresearch.com.
Disclosure: I am short SFUN. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: We are short SFUN. THIS RESEARCH ARTICLE EXPRESSES OUR OPINIONS. Use Glaucus Research Group California, LLC’s research opinions at your own risk. You should do your own research and due diligence before making any investment decision with respect to the securities covered herein. This is not investment advice nor should it be construed as such. We are short SFUN and therefore stand to realize significant gains in the event that the price of the stock declines. Please refer to our full disclaimer, which we hereby incorporate fully by reference, in our report at glaucusresearch.com.