This article talks about a report publicized by Muddy Waters LLC which raised doubt on accounting practices of China’s NQ Mobile Inc. When a product is sold, it can be bought by a consumer in cash or credit. Companies will offer credit sales to allow consumers extra time to pay for goods which they might not want to or couldn’t pay for in the present. This strategy can give a firm an advantage over a company which doesn’t offer credit sales or requires an earlier collection period. On average NQ’s customers take 6months to pay off the credit purchases. This in itself is not suspicious, but when compared with 22.4 days outstanding of the 2nd largest competitor to NQ it raises some doubt. If a consumer ends up not being able to pay the company needs to realize that loss of revenue on its books. One worry that has arisen out of this is that NQ Mobile might have falsified the number of transactions and simply increased accounts payable to meet a government, management, or stockholder quota. Falsifying such reports can lead to criminal charges and ultimately put the company out of business.
After Muddy Water published the report the stock price of NQ Mobile declined by 60% in the first 3 days and remains at 44% the prior value as of Nov 1st. If the rumors are unfounded Muddy Waters would loose confidence of investors and NQ would hopefully rebound but if NQ has been falsifying its reports investors may loose more on their investment. Transparency in the investment market is essential for investors to adequately gauge the value of a company. Several articles I have reviewed have shown China to have poor investor transparency and the view of foreign investors could sower towards Chinese Companies if proper oversight is not implemented.
2 Responses to Accounts Payable Fraud?
This is an interesting piece. Muddy Waters is a well-known firm that has had variety of successes in pointing out fraudulent accounting practices before market analysts realize the errors in the past. A lot of uncertainty has historically surrounded Chinese firms and their use of accepted accounting principles. This uncertainty has hindered potential foreign investment over the years. The practice highlighted by Muddy waters is not uncommon. The firm’s manipulation of its accounts receivable can be indicating two fraudulent practices: first, the low receivable turnover rate relative to peers might be an attempt to mask the amount of “Bad Debt Expense” the firm records, or NQ could be increasing the revenue it records for the period—referred to as channel stuffing. If either fraudulent practice proves to be true, the firm will have to report material revisions, revising down previous net incomes and reducing its shareholder’s equity, unsurprisingly, scaring investors and producing the negative catalyst that drove the equity down 60% on speculation over Muddy Waters’ accuracy.
If they are innocent of bad intent, an accounts payable audit should be fairly definitive…even in China.