Investor Relations: Lessons From an IPO Debacle

by Angie Mak, 18 November 2009

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China Zhongwang Holdings Citic Deloitte Ernst & Young IPO prospectus UBS

It wasn’t too long ago that Ernst & Young was in the news as it fought a lawsuit by the liquidator of bankrupt electronics company Akai. Today, the Big Four accounting firm is part of the headlines again – but thankfully not as the main protagonist. Ernst & Young has been asked by China Zhongwang Holdings to review the information and claims made in the aluminium-maker’s initial public offering (IPO) prospectus in April, when it raised a massive HK$9.8 billion (US$1.3 billion) in Hong Kong.

No one knows what Ernst & Young will say when it completes its review. But investors in Hong Kong and the U.S., regulators, analysts and the media will be closely parsing the report. A mainland newspaper has accused Zhongwang of misrepresenting its list of major clients in its IPO prospectus. The publication has since retracted the claim, but a new allegation has surfaced. One of Zhongwang’s customers, it is said, has links to the Chinese military, something that was not disclosed in the prospectus.

The whole thing may strike some observers as nothing more than a minor storm in a teacup. Aren’t investors over-reacting to what could well be an honest mistake, if indeed the list is not accurate, the result of an oversight or clerical error? It’s not as if Zhongwang is charged with falsifying its financial statements or making misleading statements about the prospects for its business going forward.

But this is the reality of the post-crisis world, which CFOs need to keep in mind particularly in overseeing investor relations. People are skittish and hypersensitive even to the appearance of deception or non-disclosure, no matter how minor, because they have become suspicious of business. Long-running pyramid schemes like Bernie Madoff’s, the demise of Lehman Brothers and other banks, the failings of regulators – all these have sapped confidence in the basic honesty of commerce.

Add to this the ease with which claims can be verified and disseminated through the Internet and other electronic means and you have an environment where the momentarily careless CFO can be tripped. The first lesson from the Zhongwang case is that a company must be very careful about each and every piece of information it puts into its IPO prospectus, or any other document, for that matter. The second lesson is that, if questions arise, executives must take swift action to clear things up.

The Zhongwang Saga

Earlier this year, China Zhongwang Holdings’ decision to do an IPO was a hot topic of debate. Many questioned the wisdom of going public in a recessionary environment, even by one of China’s largest aluminium manufacturers. Based in Liaoning province, Zhongwang claims total assets of RMB8.9 billion (US$1.3 billion), employs more than 3,200 workers and can produce 500,000 metric tons of aluminium a year.

Zhongwang went ahead anyway, guided by UBS as the leading advisor, flanked by Citic Securities and JPMorgan as sponsors, and supported by Deloitte as the reporting accountant.

The IPO was a success. It was the first IPO in nine months to tap over US$1 billion in capital on any global exchange and paved the way for other companies to go to market. The stock initially traded below its HK$7 IPO price in Hong Kong when trading started in May, but by June, it reached a high of HK$11.35, up 62%.

Then in mid-September, the mainland newspaper China Economic Observer alleged that Zhongwang had falsified IPO prospectus information regarding its customer base. It said that Shanghai-listed Baotou Beifang Chuangye, which makes railway carriages, was in fact not a major Zhongwang customer. Vincent Cheung Lap-kei, Zhongwang’s finance director, disputed the assertion.

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