Muddy Water published an article today concerning YidaTong YDT. Unlike their other articles that raises many different red flags, this piece only focuses on NQ Mobile's (NQ) biggest Chinese service provider (NASDAQ:SP), YDT.
Much of MW's article is spent on conjecture. I will not go into too much detail regarding those points because I don't believe they affect NQ in any way shape or form. Certainly at this point, Miss Rong Xu's tenure with NQ from 2006-2008 does not need to be broken down to the day of employment.
The fact that YDT's office resides within 9H or that YDT has no name brand recognition is not important to investors of NQ. Neither do we need to concern ourselves about how much revenue can be generated from processing billings for e-readers and network clocks.
Most of their relevant argument hinges on the assumption that YDT reports gross revenue. Upon carefully reading the article, I've come to the conclusion that their argument has a very big hole.
I've collected the relevant numbers from MW's article.
1.NQ Revenue from YDT in 2012: 20.2M
2.YDT Revenue 2012: 2.9M
3.YDT Business tax 2012: 97,000
4.YDT pays 3.4% Business tax
5.NQ generates 60% of YDT's Revenue (1.74M)
Since NQ collects 20.2M revenue from YDT, we can deduce that YDT charges approximately an 8% fee for their services.
1.74M/(20.2M+1.74M) = 7.93% charge
Muddy Waters sites this example to explain the Chinese tax system
"China's tax system is voucher-based. If China Mobile pays out RMB 100 as cost of sales, it needs a voucher to evidence the expenditure. Without a voucher, the RMB 100 would fall to China Mobile's pretax income line, and it would be taxed on all RMB 100. Therefore, at the time China Mobile pays any vendor - especially a SP like YDT - it would require a voucher for all RMB 100.
When YDT generates a voucher, it must pay business tax on the entire amount of the voucher. In other words, when YDT generates the RMB 100 voucher for China Mobile, it must pay Business Tax of 3% to 5% of the RMB 100."
By their argument, YDT would have to pay 3.4% of 21.94M as business tax, or 745,960 rather than the 94,000 on their 2012 filing. This would mean that YDT would have to pay 42% of the revenue it received from NQ (8% or 1.74M) in business taxes. This result would be highly unlikely. We know that NQ also paid taxes on all of its net revenue, including the 20.2M received from YDT.
By Muddy Water's argument, the 20.2M that NQ received from YDT would be taxed twice!!
I don't know a single business that would agree to pay taxes on someone else's portion of the revenue. Why would YDT pay taxes on NQ's portion of the revenue? That is a giant hole in their argument. Even if YDT recognizes receiving the cash from China Mobile, it wouldn't pay taxes on the portion of the revenue that does not belong to it. This leads me to believe that either Muddy Water has forgotten how to do simple addition or is resorting to trickery...
I conclude that YDT does not report gross revenue, and nor does it even have to according to Toro Investment's article clarifying Chinese GAAP.
Disclosure: I am long NQ.