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The war between NQ Mobile (NYSE:NQ) and Muddy Waters continues with the latest battle taking place on Bloomberg TV. Carson Block of Muddy Waters went on Bloomberg on November 1, 2013 claiming that over 90% of NQ's revenue is fraudulent and the stock will be delisted within a year. NQ Mobile's Co-Ceo, Omar Khan fired back and stated those claims were absurd. Meanwhile the two sides has been releasing new information trying to support their arguments since the fraud allegations first started on October 24, 2013.

While on the surface it may appear to some that NQ Mobile has taken a lot of actions to defend themselves, most are the same actions taken by known fraudulent Chinese companies in the past. There are still many serious questions and doubts that exist which have not been properly addressed. Given how severe the fraud allegations are for NQ, much of the evidence they offered so far are weak or inconclusive.

In addition there is also talk from the Chinese media that currently NQ Mobile may be asking hedge funds and friends to help manipulate their stock price. Furthermore results from a poll on a leading Chinese news portal shows that a staggering 85% of participants believe NQ Mobile is not being falsely accused by Muddy Waters. We will share these items at the end.

Verifying Their Cash Position

Currently NQ Mobile is in the process of transfering about $100 million of cash into a Standard Charted Bank account and allowing independent parties to verify the cash. However based on what a contact have told me, the cash isn't going into a Standard Charted account in Hong Kong, where the company's cash from their recent $172.5 million convertible offering is being held and where society is deemed much less corrupt than China. Rather the money is going into a Standard Charted account in Beijing, China.

As I have mentioned in one of my prior articles, even having independent auditors and other credible outside parties verify cash balances in Chinese bank accounts still might not be enough to prove that the cash is actually real. In the case of Longtop Financial, the company had inside help from their banks in creating fake accounts which showed cash balances that didn't even exist. This is what fooled their auditor, analysts, and many other parties into believing Longtop was a legitimate company when in fact it was a fraud. Carson Block stated in his recent interview on Bloomberg that Chinese bank employees can easily be bribed with relatively minor amounts of money since they face no legal repercussion when it comes to aiding fraud in the US markets. He also seems to suggest this might be the case with NQ.

Seeing how NQ is slowly transferring the cash in chunks rather than all of $100 million at once also raises some questions. In fact in his November 1st interview on Bloomberg, NQ Co-Ceo Omar Khan was asked why the money was being transferred in portions and not the entire amount at once. Khan answer is they are "doing it smartly" and "not making irresponsible decisions from a capital allocation perspective." They are being transferred from a "term deposit perspective, as they make sense from a capital management perspective."

However in our perspective this is an extremely vague response with no real definitive answer and is not very reassuring. As you may recall on the October 25, 2013 conference call NQ held to defend themselves, the company claimed that their cash is being held in term deposits which can easily be moved out within one day if needed.

It is also prudent to question even if the cash is real, how do we really know the money being transferred in chunks to the Standard Charter account really belongs to NQ Mobile? How could we be sure the money isn't being temporarily borrowed off the books from the shadow banking industry in China or other parties for the sole purpose of allowing auditors to "verify" it? When it comes to trying to prove non-existent assets, many fraudulent Chinese companies have gotten very creative in the past.

Omar Khan's Latest Interview Raises Some Concerns

In Omar Khan's most recent interview on Bloomberg (linked to in beginning of article), NQ Mobile investors may have further cause for concern. This is in addition to not really explaining why the cash was being moved in chunks instead of all at once. When Omar Khan was asked by Emily Chang who are NQ's top three customers excluding service providers, Khan responded by saying they don't disclose that information because it is common policy not to comment on customers. Chang stated this sounds suspicious since it isn't possible to verify NQ's top customers if they don't disclose them. Khan then does name some customers afterwards but didn't disclose their top ones. Without knowing their major customers though, it is extremely difficult if not impossible to verify that the majority of their revenue is in fact real.

Also when asked where are the top cities or provinces in China for NQ Mobile users, Khan was able to name just one and then said he wasn't able to remember the others. This also seems somewhat concerning. In our previous article on NQ, we questioned how much Omar Khan really knows about the China portion of NQ's business where most of the fraud allegations were concerning the company. As previously explained NQ Mobile has two global offices with one in Beijing and one in Dallas. Omar Khan works from the Dallas office with a very small number of employees and is in charge of NQ's operations in the United States and other international markets outside of Asia. Most of NQ's revenue though is derived from China, which is managed by the Chinese executives. Given the response by Khan, it seems he may not know as much about the China portion of the business as some investors would hope.

In addition, Carson Black claimed in his interview that soon enough the US executives of NQ Mobile like Khan would be lawyered up and would claim "How could we have known".

Preload Deals

There are also still many question marks and conflicting reports regarding the preload deals with smartphone manufacturers that NQ Mobile claims to have. NQ has announced they have pre-installation agreements with many top Chinese smartphone makers such as ZTE, Huawei, and Lenovo.

However many Chinese news reports such as this one are stating that after interviewing ZTE, Huawei, and Lenovo, they all stated they do not have any pre-installation deals or business with NQ Mobile. NQ later released a statement to the Chinese media stating that all the preloaded deals they announced were in fact real. According to a report on Bloomberg, Lenovo said NQ was a supplier but Huawei and ZTE declined to comment at all on NQ Mobile.

Although even if the preload agreements NQ claims to have is real, it still doesn't really legitimize the company as being a valued partner of some of the top smartphone makers in China. Some may not know this but aside from the extremely popular apps (such as Facebook or Twitter and the stock Google apps in the US), most other app developers or publishers generally pay to have their apps preloaded. If you ever bought an Android phone and wondered why there are so many useless apps already on it you can't uninstall (without rooting), it is often because the phone manufacturer or your wireless carrier were paid to have those apps pre-installed.

It should be no different with NQ Mobile. Therefore if a NQ Mobile security app is found on a phone pre-installed, it is more than likely they paid the manufacturer or whoever selling the phone to have the NQ app preloaded. So it is unlikely that any preload partners of NQ would carefully vet the company to see if their entire business operation and reported financial statements were legitimate as long as NQ Mobile's payments clear.

Given the recent fraud allegations though, one does have to wonder if the phone makers and wireless carriers that do have actual preload agreements with NQ are questioning whether or not they should continue their relationship. Is the revenue stream worth possibly damaging their own brand by continuing to preload NQ apps? Or will they look to partner with other mobile antivirus providers who aren't being accused of fraud and having unsafe products?

With supposed partners denying in the Chinese media they have any relationship with NQ, this may be a possibility. In fact an article found on China.org.cn, an authorized portal site established by the Chinese government known as China Internet Information Center, stated that "ZTE Corp reportedly is ending its links with NQ Mobile and Apple Inc has suspended downloads of NQ Mobile applications".

No Proof to Support Stated Number of Users Are Real

One main reason why many online users in China and the Chinese media are highly suspicious of NQ Mobile being a legitimate company after being accused by Muddy Waters of fraud is because of the number of users they claim to have. Given the low level of brand recognition for NQ and how so many haven't ever seen or used their apps, many are questioning where all their users are if they were real. To date NQ has not really answered these doubts.

In their Q2 of 2013 Earning Release, NQ claimed to have 372.2 million cumulative registered user accounts and 122.2 million active monthly users for their mobile security products. The 372.2 million cumulative users increased from a reported 326.6 million in Q1. So they apparently added 45.6 million new registered users of their mobile security products in Q2 of 2013.

Assuming around half of their users are in China as NQ claims would mean they have added over 20 million registered new users in China for Q2. In addition NQ claims a large part of their new users comes from preload deals. The total number of smartphones sold in China in Q2 of 2013 is somewhere around 80 million. Therefore a very large percentage of new smartphones sold in China in Q2 of 2013 would need to have an NQ mobile security app preloaded in order for the numbers to even add up.

There's also the case of what constitutes as a "new registered user" for NQ Mobile. If the company is simply counting every new smartphone preloaded with their app as a new registered user then that would seem very misleading. An individual that purchased a phone preloaded with NQ software may never even open their app or have any intention of ever using it.

Based on the NQ Mobile Security & Antivirus app, it seems a user would have to open NQ's app and click a "Start Using" button (pictured below) before the mobile antivirus service is started. Therefore we are assuming this action is what leads to a registered user.

(click to enlarge)

So assuming even as high as 50% actually register the app and preloads accounted for between 50% to 75% of new users in China, NQ Mobile would need around 20 to 30 million preloaded smartphones to be sold in Q2 of 2013 for the numbers to make sense. This would mean around 25% to 40% of the 80 million smartphones sold in China in Q2 of 2013 would need to have an NQ security app pre-installed.

Now NQ does state that when multiple NQ apps are registered on a single phone, it still counts as multiple registered users. So a single phone with 2 NQ apps registered would be counted as 2 registered users. This actually seems like another method for NQ Mobile to exaggerate their total number of users.

If NQ did actually count every single preloaded phone sold as a new registered user and a phone was preloaded with 2 or 3 NQ apps then a single preloaded phone sold would count as adding 2 or 3 registered users. This would be even more misleading since their reported number of registered users would be inflated by multiples under this method.

But let us set that fact aside for now and ignore it. Let's assume that NQ would only counts a user as registered when they open up one of their apps and agrees to use their service. Lets also assume that the registered NQ app per phone is between 1.25 to 1.50. This would still require 13 million to 24 million preloaded smartphones sold in China for Q2 of 2013 for the numbers to add up, figures still too high to be believable.

Also NQ Mobile claims aside from preloads, network downloads is another major source for new users. But where are these so called network downloads coming from in China? It certainly doesn't appear to be from the most popular Chinese Android app stores where NQ apps often make up less than 5% of security app downloads.

And no the Google Play store is not the answer because it market share for app downloads is only around 5.6% in China. This is because Google Play is largely blocked in China and the majority of smartphone manufacturers that sell in China actually remove Google Play from their Android phones and install Chinese app stores instead.

So NQ far has provided no real concrete evidence to prove the number of users they claim to have is real. Also if the company is reporting preloaded phones sold as a registered new user and count multiple NQ apps on a single phone as multiple users, then they are greatly exaggerating their user numbers.

Yidatong Relationship Still Very Suspicious

According to Muddy Waters, Yidatong who NQ Mobile claims is their largest customer is nothing more than a shell company controlled by NQ so they can fraudulently inflate their revenue. As clarification Yidatong according to NQ is a service provider (NASDAQ:SP) which the company uses for carrier billing. So when a mobile network operator like China Mobile bills an NQ customer, they keep a portion of the money before sending it to Yidatong. Yidatong then keeps a portion, before sending it to NQ Mobile.

NQ Mobile explained the reason why there were no actual offices or business operations in over 10 business addresses for Yidatong which Muddy Waters visited was because they were registered simply so the company can conduct business in those provinces. The claim is that in China a service provider needed a business address in each province which they wanted to collect mobile payments from. Given that was true it still does not explain why over half of those addresses visited by Muddy Waters weren't even real locations. Even if you were to just rent a PO Box for use as a business address, there would still at least be a PO Box somewhere in a building.

For a company which is suppose to collect tens of millions of dollars in mobile payments a year (with around 60% supposedly going to NQ Mobile), you would assume Yidatong can at the very least afford to rent real locations, even if it is just a single tiny room or a PO Box, in all the provinces instead of making up what Muddy Water claims are fake addresses.

In addition, till now many might have just assumed that NQ was only using Yidatong as a service provider in China. However according to Yidatong's website (pictured below) they claim they are an international service provider that covers "China, Southeast Asia, Middle East, Europe, North America, and more than 30 countries."

(click to enlarge)Yidatong Website

So it is prudent to question if NQ Mobile is also supposedly using Yidatong in the international markets for carrier billing as well? NQ claims they are using Yidatong because they charge a lower rate than other SPs. Going by that logic wouldn't they use Yidatong in other countries outside of China too?

To add to these concerns and others, the majority of Yidatong is owned by a former employee of NQ Mobile named Xu Rong. She may or may not have been the employed by NQ Mobile while also being owner of their largest customer/service provider depending on who you choose to believe.

In addition another company which Xu Rong owns called Jiuhe, a Chinese gaming company, is reportedly also partially owned by NQ Mobile co-founder and current director Xu Zhou, who still holds a large stake in NQ. Futhermore Yidatong also happens to share the same office space as Jiuhe.

On top of this, a recent report from ifeng.com (Phoenix New Media's news portal) claims they discovered Xu Zhou is the real owner behind Yidatong. Those that can't read Chinese can use Google Translate and similar tools to get a general sense of what the article is saying.

The article seems to suggest that Zhou may be the puppet master pulling all the strings in the background at NQ and Yidatong even though he has no official executive position at either company. It is also metioned in the article that Xu Rong used to work for Xu Zhou at another company in the past which Xu Rong choose to omit from her resume.

The article also mentions how Xu Zhou was instrumental in helping NQ Mobile go public in 2011. The article said that in 2007 NQ had almost no revenue, no real products, and was very close to bankruptcy a few times already. But after Xu Zhou invested in NQ in June of 2007, NQ was able to go public in the US in just less than 4 years later and Zhou saw his personal wealth increase greatly at a result.

Given these facts you can't help but be suspicious and ask it is possible that Xu Zhou used Yidatong to help inflate NQ's revenue so they can go public in the US? Did Zhou assign Xu Rong as owner of Yidatong because Zhou himself owned a large stake of NQ Mobile and would be a huge red flag? Is Zhou planning to repeat this process again and take the Jiuhe gaming company public eventually?

Given all the controversy surrounding Yidatong and interconnected relationships, even if the revenue reportedly collected through Yidatong isn't all fraudulent as Muddy Waters claims, NQ Mobile still has a lot of prove. They haven't yet clearly shown the two entities are completely independent of each other and that any business dealings are really arm's length transactions.

Partners Doesn't Appear To Be Behind NQ

When Omar Khan gave his first interviews defending NQ Mobile against the fraud allegations on October 25 and then again recently on November 2, he claimed NQ's partners were behind the company. However this doesn't appear to be the case. To date we haven't really found one of their so called partners supporting the company in public. Not in the US media and not in the Chinese media.

As we've seen from ZTE and Huawei, they are either denying that they have any business relationships with NQ Mobile or saying they have no comment on NQ Mobile when asked by the media. China Mobile (NYSE:CHL) has also declined to comment or discus any relationship with NQ Mobile even though they are often cited as a partner in press releases by NQ. This includes one just as recently as October 29, 2013 saying China Mobile is licensing music search technology from NQ.

There was one public comment we found from Kris Snyder, CEO of Vox Mobile (a US partner of NQ) on Bloomberg. He said that they are "keeping close tabs on the developments (regarding NQ)." The reason is because he has "a financial and fiduciary responsibility to look at the business relationship."

So it would seem Omar Khan may have greatly embellished the fact that NQ's partners are standing behind them. If they are doing so, it certainly isn't in public or in front of the media.

Chinese News Report says NQ May Be Asking Hedge Funds to Help Manipulate Stock Price

I have asked a Chinese contact of mine to continue keeping an eye out and to see if there was any interesting news regarding NQ Mobile in the Chinese media, which often doesn't make it to the US. One of them is an article we found from the Economic Observer, a Chinese newspaper that provides news on finance, economics, politics and other areas. The article itself is somewhat long and most of it talks about the many doubts of NQ Mobile actually having 370 million registered users as they claim.

We are providing a translation of the title and one key paragraph. The title of article roughly translates to: "NetQin's (NQ Mobile) Explanation Not Clear - Share Price Rebound Suspected of Manipulation"

The third paragraph from the bottom roughly translates to: "Many hedge funds have told the Economic Observer they have heard that NQ Mobile is asking hedge funds they are close with and personal friends to help bring up their stock price. The reason is quite simple. NQ just had a convertible bond offering of over $150 million, right before the fraud allegations from Muddy Waters. NQ management and the investment banks who underwrote the offering are now facing tremendous pressure. The allegations from Muddy Waters are extremely fatal and the market isn't buying NQ's explanation. The only solution is to use money to purchase shares, bring up the stock, and squeeze out shorts. However the company can only repurchase shares after announcing earnings. So they are asking investors to move the stock price up and hold it there. After the earnings period, NQ can repurchase shares, getting the best of both worlds."

If this is true there are some ethical implications not to mention possibly legal implications from NQ Mobile executives asking personal friends to help manipulate their stock price up because they can't convince the market they are a legitimate company themselves.

Chinese Media Polls Shows Overwhelming Support for Muddy Waters over NQ

The results from an online poll dated October 31, 2013 from Phoenix New Media's (NYSE:FENG) website would suggest there is overwhelming believe in China that Muddy Waters is right in accusing NQ Mobile of fraud.

The title of the article translates to: "85% of Online Users Believe NetQin (NQ Mobile) Is Not Being Falsely Accused"

The first question in the poll conducted was: "Do you believe NQ Mobile is being falsely accused (by Muddy Waters)?"

Over 85% responded they do not believe NQ Mobile is being falsely accused. Around 6% believed they are being falsely accused while 9% responded they are not sure. 1,665 users participated in this poll.

The second question and third question in the poll asked "Why do you believe Muddy Water targets Chinese stocks?" and "How do feel you feel about shorting stocks?" So they are not directly related to NQ.

However there were also results from an earlier poll from Phoenix New Media's dated October 29, 2013. The title says: "55% of Online Users Believe There Is a Problem with NetQin (NQ Mobile)"

The one question in the poll roughly translates to: "How do you feel about Muddy Water's shorting NQ Mobile?"

Around 55% of participants in the poll answered there is a problem with NQ Mobile. 4% responded it is just malicious shorting from Muddy Waters. 41% said they are not sure. 7,805 users participated in the poll.

Once again these polls coincides with a significant amount of other data and information we have gathered online that shows a very large percentage of online users in China are extremely doubtful of NQ Mobile.

Conclusion

It seems recently NQ Mobile is very fond of claiming they are now a "mobile platform" company. However from where we are standing it seems the company is closer to being a platform of red flags.

There are currently still too many question and too many issues regarding NQ Mobile that hasn't been clearly answered or addressed. This makes NQ Mobile a highly suspicious company at best.

The stock should not be considered by investors as anything more than an extremely speculative investment. However there are much better speculative investments out there which doesn't have the same risk level of being halted, delisted, and ending up entirely worthless.

Source: NQ Mobile: Still Too Many Red Flags, Remains Highly Suspicious At Best

Additional disclosure: While I hold a short position on NQ at the time this article was submitted, I have been actively trading NQ both long and short the past week. I may continue to do so in the near future.