Making sense of Sino-Forest

By Felix Salmon
June 4, 2011
39-page report claiming that Sino-Forest Corp is a Ponzi.

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If you want to move a stock with a research report, you can hardly hope to do better than Muddy Waters did with its 39-page report claiming that Sino-Forest Corp is a Ponzi. The report came out on Thursday afternoon; after falling to $14.46 and then being suspended on the Toronto Stock Exchange, it reopened Friday at just $5.

Muddy Waters, of course, reckons Sino-Forest is still a massive short at this levels, with the stock being worthless. But the market clearly thinks highly of the firm’s report, all the same.

I’ve spent a good chunk of this evening reading the report, or trying to — it’s not easy going. Muddy Waters has obviously done a great deal of research into Sino-Forest, and seems to have found some extremely suspicious activity. But there’s large chunks of the report I have a lot of difficulty understanding, and if I was a market participant trying to understand what was going on here, I’d certainly welcome some journalistic help in explaining what exactly Muddy Waters is saying and how credible they are.

In the immediate aftermath of the report’s release, on Thursday afternoon, Alphaville put out a detailed 1,500-word blog post which was further honed and updated over at FT Tilt. The post did a good job of laying out the allegations, and even dug up a juicy new nugget: one of Sino-Forest’s board members is Simon Murray, the chairman of Glencore.

Today, however, the follow-up has been extremely disappointing. Sure, there are lots of basic market reports, saying that the report came out and the stock went down, and giving the formal reaction of the company. Those are necessary. And there’s been a good amount of gloating that the biggest loser here appears to be John Paulson. That’s predictable. But what I haven’t seen is any further insight into the allegations themselves.

Alphaville, again, has been ahead of the curve, giving granular details of Sino-Forest’s response. And some of that response even makes a certain amount of sense: Sino-Forest buys and sells forests in China, so I can see how, in theory, it could sell an entire standing forest without having to cut down or log a single tree. (One section of the Muddy Waters report goes into a lot of detail about how Sino-Forest couldn’t make nearly as much money as it claimed in Yunnan province, since it was physically impossible for that many trees to be felled and transported.)

But is it plausible that Sino-Forest sold a huge forest in Yunnan for $230 million? And if so, who bought it? More generally, how much credibility does the company have, and how compelling is Muddy Waters’s report? Anybody trying to answer such questions is on their own: the press hasn’t helped them at all.

John Hempton, with four short words (“I am in awe”), at least manages to make a clear judgment on whether he thinks Muddy Waters is right that Sino-Forest is a Ponzi. (He does, but he doesn’t go into any detail.) Meanwhile, Reuters has found at least one person who thinks that it isn’t:

Dundee Capital Markets analyst Richard Kelertas put Sino-Forest “under review” pending more information, but said he did not believe the Muddy Water charges.

“To the best of our knowledge we believe that the allegations cited in the short-seller’s ‘research report’ are false and without merit,” he said, noting his conclusions were based on several years of conversations with management.

I’d love to see a lot more detail here. If Kelertas thinks that the Muddy Waters allegations are false, he must have some kind of rebuttal to them — something which at the very least could help frame the debate or raise questions for Muddy Waters to answer. On the Toronto Stock Exchange today, volume in Sino-Forest exceeded $200 million, which means that there’s real money out there buying the stock at these levels.

What’s certain is that in the wake of all this, either Sino-Forest or Muddy Waters is going to lose all credibility: one of them is a multi-million-dollar fraud. Muddy Waters is short Sino-Forest, of course. If Sino-Forest turns out to be a slightly dodgy Chinese forestry company and not a Ponzi scheme, you can be sure that Muddy Waters has been covering its short all day and has banked a huge amount of money by putting out extremely misleading material. On the other hand, if Muddy Waters is right, then Sino-Forest is toast.

Because both companies are talking their book here, there’s a clear need for impartial adjudication, even if it’s just a quick-and-dirty first take on whether the allegations seem plausible. Reuters alone had five reporters, one writer, and one editor working on its report — between them they must have formulated some kind of idea of what’s going on here and whether it makes sense to take Muddy Waters at its word. Because while the market has spoken, it’s not always easy to understand exactly what it’s saying, or whether it’s making any sense. If market reporting is to serve any use at all, it’s to help provide that translation service.


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It’s more than that one of them is going to lose credibility, though, right?

If Sino is a fraud, they’ve broken the law… and if Muddy is a fraud and was just covering their short into the reaction to their piece, they’ve broken the law (manipulation)

Posted by KidDynamite | Report as abusive

The 40mb of supporting documentation is pretty clear. The history of fake Chinese forestry assets (see China Forestry in Hong Kong) predisposes me to believing MW.

And MW has been right every other time – including on Orient Paper – the example where the company fought back.

I remain in awe.


PS. It is SO EASY to find Chinese frauds it is hard to see why you would make one up. But picking on this – that is big…

Posted by John_Hempton | Report as abusive

Felix as usual you point out to the important issues.
There are so many questions raised and few answers provided.
Analysts and current investors camp on their positions;Basing research opinions on management conversations is highly risky;management picks the points they want to answer,most if not all news reports just repeat the initial stories without any value added.On Wall Street there is a bias against short sellers.(bad for investment banking margins)Their motives are judged less acceptable than the ones of long buyers (99%).Hopefully the next few weeks will show us all the facts.

Posted by Traussnig | Report as abusive

There is a lot of manipulation and fraud in Chinese forestry, and China, and the Government seems to back it rather then care too much about controlling it. (Oh wait that sounds closer to home…) the Chinese are very good at putting on a show. (even if they are guilty as charged)

Posted by hsvkitty | Report as abusive

This company has long had an odious stench to it. The capex and sales levels are absurb on their face. Capex is greater than that in all of Latin American pulp&paper industry. Sales levels so high yet major consumers of fiber in China have no idea who this company is. Executives are a decidedly bush league bunch–though you gotta hand it them, they are champs at raising capital. Dundee and all the Canadian brokers will always praise TRE to the moon because they are such reliable capital raisers. Buying that much forest? Plausible, I guess. Selling sizable chunks of free-standing timber each year? Ridiculous, no one else in the world does it that way, it passes up on all scale benefits. They “sell” free standing timber because it is easier to hide related party transactions and to net out bogus “capex.”

Posted by PTScaevolae | Report as abusive

Felix, I recommend that you review Muddy Water’s history. They have released reports on ONP, RINO, CCME, DGW and now SNOFF. I’d say at least skim all of those reports, and review all of those historical charts, and you’ll get an idea of how accurate Carson Block’s work tends to be.

Disclosure: Short SNOFF

Posted by xisiqomelir | Report as abusive

I have read most of the reports with the supporting Chinese documents.However these so called documents with the reports are confusing & nothing conclusive….may be even are false documents ….I would say nothing is indicating any wrong doings by Sino…..
Mr.Block is very smart because he knows 90% of North America investors do not know Chinese or understand tree business in China.
Will anybody in the stock Exchanges verify all the documents he produced with the reports ????
Are they real ? Where they come from ? Translate them all to English & piece them together.
I think the tradings should be halted until the company finish its reviews.

Posted by MIKESP | Report as abusive

I’m thinking in investing in a precious metal broker. I found this in the prospectus: “My friend Bernie buys lead. He then turns it into gold. Bernie sells the gold and pays us the proceeds less the cost of the lead, the cost of the transmutation process, and applicable taxes. Profit!”

How much should I invest in this company?

Posted by Aaron_C | Report as abusive

Muddy Waters is creating fear,uncertainty,doubts with successful allegations for those low ball Chinese bad companies.Now Muddy Waters is successful again to create fear & uncertainty for Sino Forest’s investors .
Next targets will be big US and Canadian investment companies with major investments in China or other Asian Countries.These are very smart Strategies !
Just watch …..they are coming soon !

Posted by MIKESP | Report as abusive

As you say yourself Kelertas had “several years of conversations with management” – what more do you need?

Perhaps some lucrative underwriting contracts for your parent company? CAD$380m in May-09 (shared with ML, Scotia Capital and TD). CAD$367m in Dec-09 (shared with RBC, Scotia, CIBC, ML, Cannaccord and Maison).
Both according to the AIF for 2010. F10-Final.pdf
Search for “Dundee Securities Corporation”.

Both the Chinese Forests and the Chinese walls appear to be lacking…

Posted by TinyTim1 | Report as abusive

Curiouser and curiouser. This morning Sino-Forest has posted a blurb on its website that “Sino-Forest Releases Supporting Evidence against Allegations from Short Seller.” But they don’t seem to have done so. s.asp

The only clickable spot in connection with that blurb leads you to a press release that promises the documentation … some time soon. “The Company will be posting today the following initial support information….”

Posted by Christofurio | Report as abusive

They won’t post supporting evidence against Allegations from Short Seller because they don’t have any. As a foreigner with business in China, it is not possible to have any sales of any scale without issuing VAT invoices…..

China is an incredibly competitive market with incredibly tight margins for almost every industry, wood products in particular. Anyone that thinks a company “owning” forests can make huge margins is only fooling themselves.

Posted by mcjava | Report as abusive

Very suspicioous, I have a few reasons…

–500,000 shares sold by insider in the past 12 mo/none bought up. Perhaps the website is not up to date, however. _page=87444&qm_symbol=TRE:CA

–AR has more than doubled in the last year… It has gone up almost as much as net income fo 10′. t_2010_AR.pdf

–The Globe says they get 40-50% margins by simply holding forests for two years…

“Mr. Chan and Mr. Horsley denied all of these allegations. They said Mr. Block has “misunderstood” Sino-Forest’s current business, which involves buying plantations of trees in China, holding them for two or three years while they increase in value, and then selling them for a profit. Sino-Forest’s margin on such transactions has been between 40 per cent and 50 per cent.”

Those margins are ridiculous, I have a lot of trouble believing them. estor/sino-forest-angry-stunned-and-frus trated-at-allegations/article2050175/

Seems pretty funny. I can’t wait to fine out what happens, luckily I can poke at it from across the room.

Posted by MSwizzle | Report as abusive

Also, the analyst works for a firm that probably put a lot of client capital into TRE, he motives are just as questionable as Block’s.

Posted by MSwizzle | Report as abusive

Are there any lawyers willing to sue Muddy Waters on behalf of Sino shareholders for causing such misleading allegations without any real evidences .Muddy Waters may have hired a bunch of crooks to make them up knowing a lot of people are ignorant in how difficult in dealing with Chinese Gov’t

Posted by MIKESP | Report as abusive

17:00 EST Tuesday, Jun 07, 2011
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Carson Block, the now notorious author of the Muddy Waters report that aimed to take down Sino-Forest Corp. , held a conference call on Monday night to support his research. On Tuesday, Dundee Securities analyst Richard Kelertas, who vehemently disagrees with Mr. Block’s allegations, decided it was fitting to do just the same.

Mr. Kelertas didn’t mince his words. From the get-go his goal was to explain “why Muddy Waters’ research is a pile of crap” and he went about his attack by addressing specific issues that Mr. Block has raised.

The two key topics were Sino-Forest’s “authorized intermediaries” (AIs), and the documents that Mr. Carson allegedly uncovered from China’s State Administration for Industry and Commerce (SAIC).

Regarding the AIs, Mr. Block has said that they are used to concoct revenues and that they make it hard to track cash flows. In his rebuttal, Mr. Kelertas noted that AIs are common for companies that operate in China, and that Siemens has more than 2,000 of them. That still doesn’t answer why four of the AIs haven’t been named, but this wasn’t his point. Mr. Kelertas wants investors to know that AIs are nothing to be scared about and that they aren’t something the company created to conceal any wrongdoing.

As for the SAIC documents, Mr. Block refers to the ones he obtained in an attempt to prove that the company has lost money in certain areas and that many of its assets are overvalued. However, Mr. Kelertas noted that each of Sino-Forest’s subsidiaries must file a different SAIC, and that they must all be obtained in order paint a clear picture of the company because each report tells a different piece of the total story.

Mr. Block has also mentioned that the SAIC documents don’t match Securities and Exchange Commission documents. That happens, Mr. Kelertas said, because the SAIC files don’t aggregate all of the different holding companies like the SEC ones do. Mr. Kelertas was resolute in his support. “We’ve spoken to the company on about 20 occasions since this has broken,” he said.

And unlike Mr. Block, who only recently started looking at Sino-Forest, Mr. Kelertas said he has covered the name since 2004 and has known the company since 2000. Moreover, he noted that since David Horsley left the board of directors to become chief financial officer in 2003, Sino-Forest’s level of corporate governance has been very high.

“All indications are that there are no fraudulent activities, no overstatements. We believe in the company. We trust the company after they have come through with various disclosures,” Mr. Kelertas said.

Posted by MIKESP | Report as abusive

@KidDynamite: If we take it as granted that either one side or the other has broken the law, we might note that the relevant law is American (or Canadian?). The party who lives in Hong Kong but regularly travels to America would seem to be at risk of arrest. The party who lives in China would seem to have no such risk.

Posted by Foolish_Jordan | Report as abusive

onathan Ratner Jun 10, 2011 – 9:28 AM ET | Last Updated: Jun 10, 2011 10:30 AM ET

RBC Capital Markets analyst Paul Quinn expressed his support for Sino-Forest Corp. in a note to clients Friday morning, saying the stock offers a compelling valuation based on estimates for the company’s timber assets.

He left his Outperform rating and $27 price target on the TSX-listed commercial forest plantation operator unchanged. The stock has fallen approximately 70% since short seller Muddy Waters accused Sino of fraud in a June 2 report.

Mr. Quinn and associate Hamir Patel cited several reasons in favour of Sino’s business case.

First, they were able to confirm business registration records for the company’s Hong Kong-listed subsidiary (64% owned) Greenheart in Suriname. However, during Muddy Waters’ conference call on Monday, the research firm alleged that it was unable to find any such records in the South American company.

Muddy Waters’ report also alleged that Sino could not have harvested $231-million worth of fibre in China’s Yunnan province since 2.3 million cubic metres exceeded Lingcang city’s annual quota. Yet Mr. Quinn noted that Sino sold the trees as standing timber – as opposed to harvesting them – thereby not being limited by the quota.

Muddy Waters also suggested that Sino only has 20,000 hectares of timber in Lingcang. However, Sino’s data room shows purchases outside the city in Yunnan province and reported ownership on 186,700 hectares there at the end of 2010.

RBC also highlighted Muddy Waters’ dependence on 10,000 pages of documents from China’s State Administration for Industry & Commerce. Mr. Quinn said simply adding up the financials of each subsidiary does not equate to consolidated financials under International Financial Reporting Standards (IFRS) due to differences in accounting.

“In addition, it appears easy to miss subsidiaries in reconciling total timber holdings,” the analyst said.

Finally, RBC pointed to the estimated US$3.1-billion value of Sino’s timber assets at the end of 2010 from consulting firm Poyry. However, Mr. Quinn believes it penalizes the company’s valuation by using an unrealistically long 10-year period to harvest 93.2 million cubic metres of timber. He thinks a liquidation scenario would more likely see the timber harvested in a five-year period and puts a value of US$4.1-billion on the assets.

“We also note that our liquidation value does not account for the value of Sino’s manufacturing sites, Greenheart interest, and the value of further asset
acquisitions that could be realized just under existing master agreements,” the analyst said.

Posted by MIKESP | Report as abusive

The disclosures from all SHort Selling promoters such as Muddy Waters says pretty much all one needs to know, the motivation is to tank the stock and push it down regardless of how that is done. It is simply another form of manipulation comparable to insider trading on the up side. Below is the disclosure, pretty much says that none of the information can be taken as a implied warranty or with any concern as to correctness, basically it is a license to say whatever seems plausible with no regards to accountability.

Use of Muddy Waters LLC’s research is at your own risk. You should do your own research and due diligence before making any investment decision
with respect to securities covered herein. You should assume that as of the publication date of any report, Muddy Waters, LLC (possibly along with or
through our members, partners, affiliates, employees, and/or consultants) along with our clients and/or investors has a short position in the stock (and/or
options of the stock) covered herein, and therefore stands to realize significant gains in the event that the price of stock declines. Following publication
of any report, we intend to continue transacting in the securities covered therein, and we may be long, short, or neutral at any time hereafter regardless
of our initial recommendation. This is not an offer to sell or a solicitation of an offer to buy any security, nor shall any security be offered or sold to any
person, in any jurisdiction in which such offer would be unlawful under the securities laws of such jurisdiction. To the best of our ability and belief, all
information contained herein is accurate and reliable, and has been obtained from public sources we believe to be accurate and reliable, and who are
not insiders or connected persons of the stock covered herein or who may otherwise owe any fiduciary duty or duty of confidentiality to the issuer.
However, such information is presented “as is,” without warranty of any kind – whether express or implied. Muddy Waters, LLC makes no representation,
express or implied, as to the accuracy, timeliness, or completeness of any such information or with regard to the results to be obtained from its use.
All expressions of opinion are subject to change without notice, and Muddy Waters, LLC does not undertake to update or supplement this report or any
of the information contained herein.

Posted by advocacybz | Report as abusive

Wellington going in and now it may become a short squeeze, that would a pleasurable event to watch.

Posted by advocacybz | Report as abusive

Great article Felix. If anyone else wants to see the documents, the virtual data room can be accessed here:

Posted by WojKwasi | Report as abusive