On Monday I attended a presentation by SilverCorp Metals (SVM) at AJ Maxwell’s on 48th street. My fund had been looking at SVM for the past month or so, debating whether or not to take a position in the company. The stock looked fairly valued, and given its low cost structure, the company appeared to be an attractive investment opportunity.
However, the recent fraud allegations and volatility spooked us a bit, so we decided to take a deeper look and when the opportunity to meet the chairman Rui and hear responses to recent allegations came along, we felt it was a good idea to follow up.
During the meeting I noted that Rui appeared quite passionate about his company and determined to respond to the allegations (See company response (.pdf) update). I found it to be an encouraging sign because I haven’t seen the same passion from leaders of other companies such as Sino-Forrest (OTC:SNOFF) or China Media (OTCPK:CCME). It felt like he had taken these allegations as a personal attack on his character.
At the meeting he held up a copy of the letter and went through each of the allegations line item by line item. Some of these allegations were:
· Profits: The letter alleged that the profits, as detailed in SEC filings, didn’t match that of SAIC fillings. See here for the company’s Sedar fillings. Click on Sep 2, 2011 and see the company and response and links to the actual SAIC fillings as listed on official government website. Their stance was simple that the short sellers may have forged the documents as they clearly don’t match the ones on government website.
· Related Party Transaction: The company acquired Yangtze gold from relatives of the Chairman Rui in 2008, a related party transaction. The only problem is that the transaction was disclosed by the company on time and appropriately in 2008.
· Taxes: The letter alleged that the company hasn’t paid any taxes. In response the company released a certificate from the government stating it is one of the top 30 tax payers in the province. They also provided a breakdown on income and VAT taxes for the past few years. (See the presentation on their website here (.pdf) and the actual tax fillings here (.pdf)).
· Cash Balance: There was also an allegation that the cash held by the company was not in-line with its fillings. In response the company released its bank statements and cash reconciliations on Sep 2. See here (.pdf) for the actual bank statements, detailing the cash balance of the company.
· Grade of deposits: It also alleged that the deposits at the company are too good to be true and not verified by anyone since 2008, however when I checked the Sedar fillings I was able to get the latest (.pdf) NI 43-101 Technical Reports on Ying SGX mine done by a 3rd party done in May 2011. In addition, the company has announced an investor tour of the mine in Sep 2011 to calm any fears. The credentials of the independent authors of the NI 43-101 reports also check out, as even accepted by the short selling website making the allegations).
· Valuation: The last allegation was related to the sale of stake in one of the JV’s of the company by the JV partner for a mere U.S $7 million, implying a value of $140 million. However, the allegations didn’t mention that the JV partner was a state owned enterprise and the transfer was to an affiliate in line with the articles of association of the JV.
The same allegation appeared recently on an anonymous website, throwing the stock price in a tail spin, even though there was little new in the allegations that weren’t already responded (.pdf) to by the company on Sep 2. Based on my reading of the allegations, the responses to these allegations and my meeting with the chairman, I feel confident that these may just be a case of hit and run. I am not the only one in the investment community that feels that way. Others have done research and were convinced of the legitimacy of the company (although I am sure they are also scratching their heads, when the same allegations came up again and caused such a drop in the stock price).
The company has been actively buying back shares and, as per mandate could purchase up to 10 million shares (see here and here). This, combined with the fact that the company declared (.pdf) a dividend, is a sign that it is a legit operation.
The company CEO, Rui Feng, in fact took a bold step to show his confidence in the company by buying 100k shares at $7.87 during the week of Sep 5, 2011, increasing his direct ownership to 3.85 million shares. This is a good sign that he feels that at $7.87 a share, the company is under valued. In fact, he is one of the largest shareholders of the company, along with some institutional investors.
This, along with the prompt response from the company, about rumors that started on Sep 12-13 is a good sign, especially when we consider the fact that these allegations are coming from anonymous sources and even muddywaters.com was relying on information from these anonymous sources.
Lastly, the fact that the company established an independent investigating committee that hired a big four firm, KPMG LLC, to look into these allegation (see paragraph 3 here and here), is a step that I wouldn’t expect a company to take that is committing fraud.
BMO Capital Markets analyst Andrew Kaip, on Thursday Sept 16, gave his vote of confidence for the company and lauded the company’s quick response and disclosures to the fraud allegations. He rates the stock as an outperform, with a price target of $17.5 and noted that the company is trading at a significant discount to its peers.
UBS also re-iterated their faith in the company when (See at the bottom of this article), when analyst Chris Lichtenheldt, released a report on Monday indicating that UBS has no reason to believe the company is a fraud, which may help the company respond and establish its credibility.
Management fears that it may be a target of hostile takeover due to its low valuation, which is one of the reasons it is aggressively buying back shares. This may be a good thing for the shareholders as such an attempt would propel the share prices at least through its recent highs. If over the next few days/weeks such an offers is made, it is likely to cause a short squeeze, which would be a boon for longs. I for one am betting on the long side as the resilience of the company, along with its quick responses, give me confidence to its legitimacy.