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Sino-forest operations in China.

The Globe and Mail

Embattled Sino-Forest Corp. faces a new threat after investors and two credit rating agencies sounded the alarm about the company's ability to repay its nearly $1.9-billion in debts.

In an unusually harsh report, Standard & Poor's warned that the company's prospects are "extremely weak and likely to rapidly deteriorate" in the wake of fresh allegations of fraud at the forestry company, which has executive offices in Hong Kong and is listed on the Toronto Stock Exchange. The allegations levelled by the Ontario Securities Commission last week, and the departure of top executives, including chairman and chief executive officer Allen Chan, raise the possibility that bondholders could legally demand early repayment of its debts, S&P said.

Both S&P and rival Moody's Investors Service downgraded the company's credit rating. Moody's cited the company's lack of ability to raise new capital in light of the "serious" accusations against the company. Its stock has been halted for trading in Toronto since Friday morning after the OSC said there was evidence that the company had misstated its revenue and exaggerated the value of its timber holdings.

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If Sino-Forest were forced to repay a large amount of its debts early, it has the potential to cause a serious problem. The company has less than $900-million of cash on hand, according to its most recent financial statements.

According to one person familiar with the matter, a group of Sino-Forest bondholders are in the preliminary stages of organizing themselves into a group to review their rights and enter discussions with the company. This person said the investors have not demanded repayment of the debt, but after several discussions with management "they are growing more concerned with every day that goes by."

Sino-Forest has been a publicly traded company in Canada since the mid-1990s. It owns, manages and sells forestland in mainland China, and until recently, its growth had encouraged investors to invest billions of dollars into the company's shares and debt. At one time, its stock market value was more than $6-billion, making it the largest publicly-traded forestry company on the TSX.

But the company has been under siege since early June, when a short-selling analyst named Carson Block called the company a "multibillion-dollar Ponzi scheme" that was engaged in "substantial theft." Sino-Forest set up a special committee of independent directors, assisted by accounting firm PricewaterhouseCoopers, to investigate allegations that Sino-Forest had inflated the size and value of its Chinese timber assets.

It is understood that some Canadian and European mutual funds and insurers continue to hold the notes. Many of the securities have been acquired in recent weeks by so-called vulture funds, which specialize in acquiring distressed securities and teaming up with other investors to push for repayments or other terms.

A spokesman for Sino-Forest declined to comment on the credit report. On Sunday, Sino-Forest said that it does not believe that any of the recent events have triggered a default on its bonds.

Investors, however, are already pricing those bonds as if the company is near a default. Two issues of Sino-Forest bonds, due in 2014 and 2017, traded at about 33 cents on the dollar on Monday, according to Bloomberg data, a steep fall from Thursday, when the bonds were trading above 50 cents.

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According to bond indenture documents filed with regulators, some of the company's bonds could be declared in default if the company suffers "a material adverse effect." The definition of such an event can be often hotly debated between company and its investors, leading in some cases to prolonged and messy lawsuits.

Legal experts who are not affiliated with the company or its investors said the combination of the OSC's fraud allegations and the exodus of the CEO and most of the company's financial executives would likely meet the material adverse test.

If a so-called default event is triggered on one of the bonds, it could have a domino effect on other notes, some of which allow investors to accelerate repayments when other debts are declared in default.

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About the Author
Asia-Pacific Reporter

An award-winning journalist, Andy Hoffman is the Asia-Pacific Reporter for Canada's national newspaper, The Globe and Mail. More

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