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Chinese stock scams latest U.S. import Add to ...

Winston Yen, CFO of Orient Paper, which is based in the city of Baoding in China’s Hebei province, said his company and investors “feel totally victimized” by the negative research published by Mr. Block in 2010, which caused a sharp decline in that company’s stock.

Shares in the company closed at $8.33 before Mr. Block’s first report published on June 28, 2010. They fell precipitously in the next session and have never fully recovered, currently trading at around $4 a share.

Orient’s audit firm, Davis Accounting Group, also known as Etania Audit Group P.C., was not correctly licensed, forcing the paper maker to hire new auditors.

Mr. Bernstein, the accountant with Marcum Bernstein & Pinchuk, is chairman of Orient Paper’s audit committee. He said Orient was by now perhaps the most vetted company in China.

Speaking on the sidelines of a China investment conference in New York, he said he saw the battle between Mr. Block and Orient as “a war of credibility.”

Mr. Bernstein said the Muddy Waters report was full of “enormous allegations” that were untrue and that he is now “highly confident that the financials of the company materially represent what they say.” He added that a lawsuit against the research firm is probably justified.

“I don’t think they were right on anything, to be honest with you,” Mr. Bernstein said, explaining that Orient Paper hired 15 to 20 professional services firms to investigate.

Because investors don’t have the ability to conduct similar due diligence, they “tend to panic” when negative research appears, Mr. Yen said.

“It has not been difficult for the shorts to make wild allegations of fraud and profit handsomely from their pre-established short positions,” he said.

Orient Paper defended itself, saying an internal investigation found no evidence of problems.

“When you put a company under an enormous amount of scrutiny, as we did, you find imperfections. We did find areas that we can improve upon, but none that misrepresented the financial statements,” Mr. Bernstein said.

However on March 23 the company said it would have to re-audit results from 2008 though it maintained that doing so would not impact financial statements for fiscal years 2009 and 2010. The re-audit results are expected at the start of the third quarter of 2011.

Mr. Block isn’t buying the company’s view.

“It is not surprising that a probe conducted by the company on itself, under the umbrella of the attorney-client privilege conferred by having the inquiry managed by one of the most prolific issuer’s counsel of Chinese RTO (reverse takeover) companies, enabled the company to issue a press release stating that it determined it wasn’t defrauding investors,” Mr. Block said.

Claiming security concerns, Muddy Waters removed the firm’s phone number from its website, along with a phony mailing address that had created controversy about the location of the firm’s headquarters. “I felt that the sort of attention I was getting wasn’t the kind we wanted,” Block said.

Thefinancialinvestigator.com’s Boyd, who does not short shares he is writing about, has some reservations himself about shorts.

The reports “were brilliantly reported and laid out, but you can never get past the fact that they’re doing this for money,” he said. “If something doesn’t work out - and I’m not just talking about (Muddy Waters) - these guys could have a situation where they went after a company and made money but couldn’t substantiate their claims.”

Until the auditing problems are cleaned up and greater responsibilities are shared by U.S. and Chinese regulators, however, folks such as Mr. Block and Mr. Left will have ample opportunity in their chosen business.

“Just because it is China doesn’t mean it is a path to riches,” Mr. Left said.

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