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Advanced Battery Technologies (OTCPK:ABAT) is one of the latest Chinese reverse merger listing companies to be questioned about its US filings.

An article last week by Variant View Research alleged, among other things, that Advanced Battery Technologies had lied to US investors by hiding the fact that a Shenzhen company it reported as acquiring in December 2010 for $20 million in SEC filings had actually already been acquired by its management in 2008 for $1 million. As evidence, Variant View showed both printouts from the Chinese regulator's online database and US federal court documents filed by ABAT itself, confirming that the Shenzhen company had been purchased in 2008.

I have since obtained, through a local agent, ABAT's filings with the main Chinese corporate regulator, the State Administration of Industry and Commerce (SAIC). These filings confirm that ABAT's CEO, Fu Zhiguo, had indeed gained control of the Shenzhen company and become its sole director and legal representative in 2008.

Furthermore, the SAIC filings raise serious questions about the accuracy of ABAT's financial reporting to US investors. The differences between the financials reported in the Chinese SAIC filings and the SEC filings are dramatic.

According to the SAIC filings, ABAT's China entities lost money every year from 2006 to 2009, in contrast to the rising profits claimed in SEC filings.

For 2006, the SAIC filings show approximately $1.1 million in losses vs. $8 million in profits claimed in SEC filings.

For 2007, the SAIC filings show approximately $1.1 million in losses vs. $10.2 million in profits claimed in SEC filings.

For 2008, the SAIC filings show approximately $0.93 million in losses vs. $16.1 million in profits claimed in SEC filings.

And for 2009, the SAIC filings show approximately $3.9 million in losses vs. $21.3 million claimed in SEC filings.

1. Shenzhen Acquisition: 2008 vs 2010

ABAT's SEC filings in December 2010 clearly reported that ABAT signed an agreement in December 2010 to acquire the Shenzhen company in question, Shenzhen Zhongqiang, for $20 million.

On December 20, 2010 Harbin Zhongqiang Power-Tech Co., Ltd. (“Harbin Zhongqiang”), which is a subsidiary of the Registrant, entered into an Acquisition Agreement with Shenzhen Zhongqiang New Energy Science & Technology Co., Ltd. (“Shenzhen Zhongqiang”). The Acquisition Agreement provides that on January 1, 2011 Harbin Zhongqiang will acquire all of the assets of Shenzhen Zhongqiang. In exchange for the assets of Shenzhen Zhongqiang, Harbin Zhongqiang will pay to Shenzhen Zhongqiang 135,000,000 Renminbi (approximately $20 million), of which 91,250,000 Renminbi will be used to satisfy the liabilities of Shenzhen Zhongqiang. The initial payment of 67,500,000 Renminbi is due three days after the agreement was signed. The balance (net of the deposit of 10 million Renminbi previously paid) is due thirty working days after the transfer of assets.

In response to Variant View's allegation that ABAT had actually already acquired the Shenzhen company in 2008 for $1 million, ABAT's management responded as follows on April 8, 2011:

Until we acquired it in January 2011, the registered owner of the registered equity of Shenzhen ZQ was Wang Changhe. He is the person to whom the purchase price for Shenzhen ZQ was paid.

The Variant View report notes that our Chairman, Fu Zhiguo, is identified as an officer and legal representative of Shenzhen ZQ in that company's government registration. That is correct. In order to register the acquisition of Shenzhen ZQ by Harbin ZQPT with the provincial government, Mr. Wang, the seller, gave Mr. Fu a power of attorney to represent the company before the government. This was solely an administrative convenience, as the purchase of Chinese companies cannot be completed without government registration performed in person.

Not explained is why ABAT's CEO, Fu Zhiguo, became the sole director and legal representative of the Shenzhen company as an administrative convenience in 2008 when the SEC filings claimed that ABAT only signed a contract to acquire the Shenzhen company in December 2010.

The Chinese SAIC filings confirm that the change of control happened in 2008. A shareholder resolution dated September 9, 2008 show the Shenzhen company appointing Fu Zhiguo as its legal representative and sole director was filed with the Shenzhen SAIC and is included in the SAIC files (see here).

Further, as pointed out by Variant View, ABAT itself acknowledged the 2008 purchase in documents filed with the US federal court in a lawsuit by the seller of the Shenzhen company filed in 2009.

Those US court filings are available from PACER, a database system maintained by the federal courts. It takes only a few minutes to sign up for a PACER account, and documents can be downloaded for 8 cents per page.

Among the documents filed in US federal court is the August 31, 2008 contract signed by CEO Fu Zhiguo for the purchase of the Shenzhen company for $1 million (Document 38-1 in the case file on PACER).

Also in the US federal court filings is an affidavit by CEO Fu Zhiguo dated December 4, 2009, in which he discusses the 2008 acquisition of the Shenzhen company from the plaintiff (Document 9 in the case file on PACER).

There can be little further doubt that the company ABAT claimed in SEC filings to have purchased for $20 million in December 2010 was actually purchased in 2008 for $1 million.

The only question left is, where did the money go?

2. China SAIC Financial Filings vs. SEC Financial Filings

A number of Chinese companies listed in the US through reverse mergers have already been revealed as making questionable US filings by comparing their filings made with the Chinese State Administration of Industry and Commerce with their SEC filings.

Some have tried to belittle the importance of SAIC filings by claiming that they are entirely voluntary and do not matter. But that is based on a misunderstanding of the purpose and administrative power of the SAIC. It helps to understand that the SAIC has two main functions.

One function is to administer the establishment and closing of companies, as well as to record corporate changes, such as a change in shareholders, capital amount and directors. This function is similar to that of a company registrar in other jurisdictions.

SAIC's other function, which is much broader than the role of a typical company registrar, is to monitor compliance by companies with China's company laws and regulations. Under this regulatory power, the SAIC conducts an annual examination of companies, usually in March and April of every year. Some of the things it looks for in the annual examination are compliance by companies with their government-licensed business scope (special licenses are required for many types of business activities) and examine whether there are financial irregularities, such as the unauthorized withdrawal of capital or lending of money.

Companies are required to file financial statements with the SAIC as part of the annual examination.

Foreign-invested companies are required to file financial statements audited by a licensed Chinese accounting firm. Domestically-owned companies may or may not be required to file audited financial statements, depending on the local SAIC rules.

SAIC filings, including those for corporate changes and the annual examinations, are maintained by the local SAIC and are available for public inspection. Copies can be obtained through a local credit report company, such as Inter-Credit or Joyi. The files are typically available for about RMB 1000 per company.

There were three Chinese companies within the ABAT group during this period: Harbin ZQ, Wuxi ZQ, and Heilongjiang ZQ.

Harbin ZQ and Wuxi ZQ (acquired in 2009) are both owned via equity interest by the offshore listed company. Heilongjiang ZQ, on the other hand, is owned entirely by Chinese nationals, including the CEO and other members of the management. Though its equity interest is not owned by the listed company, it has assigned the rights and benefits to its operations to Harbin ZQ via contracts, thereby allowing its financial results to be consolidated with ABAT.

As can be seen in the SAIC filings linked to further below, the SAIC financial statements of all three ABAT entities were audited by local Chinese accounting firm.

The financial statements filed with the SAIC by Harbin ZQ are audited by the firm of Heilongjiang Jinyuda Accountants

(黑龙江金誉达会计事物所).

The financial statements filed by Wuxi ZQ (previously known as Wuxi Angell) are audited by the accounting firm of Wuxi Donghua Certified Public Accountants (无锡东华会计事务所).

The SAIC financial statements filed by Heilongjiang ZQ (the domestically-owned entity) are audited by the same firm as Harbin ZQ, the local accounting firm of Heilongjiang Jinyuda Accountants.

As a reference, here again is the corporate structure of ABAT as shown in Variant View's article.

click to enlarge

The table below summarizes the revenue and income figures reported in ABAT's filings with the Chinese SAIC.

The SAIC filings reveal a dramatically different picture of ABAT's financial performance from the SEC filings.

2006

2007

2008

2009

SAIC Filings (RMB)

Heilongjiang ZQ Revenue

2,112,494

1,102,879

6,492,023

8,135,924

Heilongjiang ZQ Net Income

(7,091,333)

(7,093,395)

(5,732,486)

(14,351,053)

Harbin ZQ Revenue

0

0

0

0

Harbin ZQ Net Income

(553,907)

(554,253)

(579,735)

(306,650)

Wuxi ZQ / Angell Revenue

4,786,274

Wuxi ZQ / Angell Net Income

(12,245,125)

Total Net Income (SAIC Filings)

RMB

(7,645,240)

(7,647,648)

(6,312,221)

(26,902,828)

US$ Equivalent

(1,124,300)

(1,124,654)

(928,268)

(3,956,298)

(add 2009 non-cash gain on bargain purchase claimed in 2009 SEC filings)

9,909,320

5,953,022

Total Net Income (SEC Filings)

US$

8,040,752

10,205,406

16,096,120

21,359,637

* Assuming an exchange rate of RMB 6.8 yuan per US$

The SAIC filings show that ABAT lost money every year from 2006 to 2009, in dramatic contrast to consistently growing profits claimed in its SEC filings:

For 2006, the SAIC filings show approximately $1.1 million in losses vs. $8 million in profits claimed in SEC filings.

For 2007, the SAIC filings show approximately $1.1 million in losses vs. $10.2 million in profits claimed in SEC filings.

For 2008, the SAIC filings show approximately $0.93 million in losses vs. $16.1 million in profits claimed in SEC filings.

And for 2009, the SAIC filings show approximately $3.9 million in losses vs. $21.3 million claimed in SEC filings.

Even if we add in a US$9.9 million non-cash accounting gain ABAT immediately booked in 2009 on the Wuxi acquisition on the ground that the Wuxi company's assets were worth much more than what ABAT paid for, ABAT's total net income for 2009 would still only be US$5.9 million, as opposed to the US$21.3 million claimed in its SEC filings.

The following SAIC annual examination files have been uploaded for the reader's reference

No Chinese Taxes Paid in 2007 and 2008

According to ABAT’s 10-K filed in March 2010, ABAT paid no taxes in 2006 and 2007, even though the same SEC filing claimed that ABAT earned net income of US$8 million in 2006 and US$10.2 million in 2007.

The reason given in the 10-K for paying no taxes is that Heilongjiang ZQ (referred to as “ZQ Power-Tech” in the 10-K) was exempt from taxes as a foreign-invested company.

The Company’s revenue less expenses produced a pre-tax income of $18,818,527 for 2008 and a pre-tax income of $10,205,406 in 2007. As a result of Chinese tax laws that reward foreign investment in China, ZQ Power-Tech was entitled to exemption from income taxes during 2006 and 2007. So for 2007, the Company’s pre-tax income was identical to its net income, representing $.25 basic earnings per share and $.21 per share fully diluted. Currently and through 2010, ZQ Power-Tech is entitled to a 50% tax abatement, which results in an effective corporate tax rate of approximately 12.5%.

Yet, according to ABAT's April 6, 2011 press release, made in response to Variant View's article, Heilongjiang ZQ was owned by the CEO and the other members of the management, that is, it is owned by Chinese national and not a foreign-invested company eligible for tax exemption. In accounting terminology, it is a VIE (variable interest entity) only contractually controlled by the listed company, not through share ownership.

Allegation 1: The Chairman appears to have transferred ownership of ABAT's key subsidiary to himself without explanation or compensation.

The Facts: Heilongjiang ZQPT, the referenced subsidiary, has been owned by 16 investors, including Chairman Fu, since it was organized in 2002. In 2004 the owners of Heilongjiang ZQPT transferred all of the benefits and obligations of ownership of Heilongjiang ZQPT to Harbin ZQPT, a subsidiary of ABAT. Under U.S. GAAP, the transfer of those benefits and obligations meant that the balance sheet and financial results of Heilongjiang ZQPT must be consolidated with those of ABAT as if it were a subsidiary. Thus, for accounting purposes, ABAT reported in its SEC filings from 2004 to 2009 that it "owned" Heilongjiang ZQPT. In 2009 ABAT decided that it would be more appropriate to explain the relationship in detail, which accounts for what Variant View mistakenly refers to what "appears" to it to be a transfer of ownership.

Companies owned by Chinese nationals are not eligible for these special tax exemptions provided to foreign-owned companies to attract foreign investments.

In ABAT's case, Harbin ZQ and Wuxi ZQ, as entities owned by foreign shareholders, would be eligible for tax benefits for foreign invested companies. Heilongjiang ZQ, on the other hand, as an entity owned entirely by Chinese nationals and only controlled by Harbin ZQ through contracts, would not be eligible for any foreign investor tax benefits.

Since Harbin ZQ is a shell with no operation of its own and all of ABAT's business was conducted by Heilongjiang ZQ in 2006 and 2007, Heilongjiang ZQ, and therefore ABAT, clearly should have been paying taxes if it had been making profits.

That Heilongjiang ZQPT is a domestically-owned company and not a foreign-invested company is further demonstrated by its SAIC records (a summary of the shareholder information provided by the SAIC is shown below). They confirm that it is a domestic company owned by the CEO and several other Chinese nationals.

So how did ABAT pay no taxes in China in 2006 and 2007 while making a total of $18 million in profits?

In light of these new findings, ABAT must provide clearer answers than it has given so far.

Disclosure: I am short OTCPK:ABAT.

Source: Advanced Battery Technologies: Wide Discrepancies in Chinese Filings Raise Further Questions