July 12, 2011 / 8:23 AM / 8 years ago

Moody's red flag report rocks Chinese companies

HONG KONG (Reuters) - Moody’s warnings about accounting and governance risks at dozens of small Chinese companies sparked a sell-off in their shares and bonds on Tuesday, as investors already unnerved by the recent accounting scandals involving U.S.-listed Chinese firms stampeded for the exits.

Brokers work next to their computers at the Shanghai Stock Exchange August 18, 2009. Moody's warnings about accounting and governance risks at dozens of small Chinese companies sparked a sell-off in their shares and bonds on Tuesday. REUTERS/Nir Elias/Files

“This, for sure, is a confidence crisis as it will be difficult for investors to distinguish which Chinese private company is good and which is bad, so they choose to avoid these companies,” said Ben Kwong, associate director of Hong Kong-based investment firm KGI Asia Ltd.

Moody’s Investors Service, responding to investor concerns, on Monday raised warnings about accounting and corporate governance risks at dozens of China-based companies.

The report comes as U.S. and Chinese officials meet in Beijing to discuss joint supervision of China-based audit firms that review U.S.-listed companies.

Accounting scandals at U.S.-listed companies based in China have been the subject of regulatory probes and dozens of investor lawsuits.

Moody’s said it screened 49 junk-rated companies and a few investment-grade firms in China against 20 red flags, grouped into five categories: weak corporate governance, risky business models, fast-growth strategies, poor earnings quality and audit concerns. The companies are mostly small ones and are mainly listed in Hong Kong.

Shares and bonds issued by the companies in the ratings agency’s list bore the brunt of selling on Tuesday. Some of the stocks tumbled more than 20 percent at one point, contributing to a more than 2 percent drop in the Hang Seng Chinese Enterprises Index which tracks major Hong Kong-listed Chinese shares.

Bonds of several Chinese companies mentioned in the list also tumbled even as analysts and investors maintained such issues are well known and do not bring to light any new credit concerns.


Most of the Chinese companies on Moody’s red flag list are non-state firms involved in resources or property sector. Their stocks nosedived on Tuesday to multi-month lows.

Moody’s said that the most common corporate governance weaknesses involved family ownership, which lead to decision-making processes that favoured the interests of some shareholders at the expense of bondholders and other creditors.

Longfor Properties Co Ltd, which is on the Moody’s list, fell as much as 16 percent to HK$11.54.

West China Cement Ltd, which received 12 red flags from Moody’s, plunged 26.5 percent at one point to its lowest level since August last year.

China Forestry Holdings Co Ltd received the same number of red flags. Its shares have been suspended from trading since January after Hong Kong’s securities regulator said it had started court proceedings against the chief executive of the company, which is backed by Carlyle Group.

Also on the Moody’s list are a several Chinese mining and chemical companies.

Shares of coking coal miner Hidili Industry International Development Ltd plunged 8.2 percent. Winsway Coking Coal Holdings Ltd fell 12.7 percent at one point to an all-time low of HK$2.81, while China Lumena New Materials Corp fell 13 percent to the lowest in four months.

It is not time for bargain-hunting yet, some analysts say.

“The issues raised in the report are not particularly surprising but at the moment who wants to catch a falling knife? Real money and long-only investors are cutting positions and looks like they want to sit on cash at this point,” said Tom Kaan, a director at Louis Capital.

Additional reporting by Umesh Desai and Alison Leung; Editing by Charlie Zhu and Muralikumar Anantharaman

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