Reverse Mergers Gaining Headlines…and SEC Scrutiny

Reverse mergers, a means by which a private company can buy the shell of a defunct public company to gain quick access to public markets, have been all over the news lately, due largely to some questionable Chinese companies that have used these transactions. According to the Wall Street Journal, the Securities and Exchange Commission recently issued “an investor bulletin” warning of instances of fraud and abuse connected with many of these reverse merger companies (http://online.wsj.com/article/SB10001424052702304259304576375773471908358.html?KEYWORDS=michael+rapoport), not all of them Chinese.

The Journal notes accounting irregularities have prompted the SEC to begin an investigation targeting reverse mergers. At the same time, many of the trading markets have tightened listing requirements and major online brokerages have raised margin requirements for trading shares of companies that have gone public through reverse mergers.

Reverse mergers and Chinese stocks were also the focus of two stories in Barron’s this week. One of the stories covered New York Global, a company that promotes Chinese stocks, many of which have been created through reverse mergers. The writer, Leslie P. Norton, has written on the topic before and makes her conclusions clear: “Much of the universe of Chinese reverse mergers has become a swamp of revenue disappointments, earnings restatements and some outright frauds…” She adds that Bloomberg has a reverse merger index, which “has collapsed.”

No one is saying all companies that went public through a reverse merger are to be avoided. No doubt there are some upstanding reverse merger companies out there. But the gist of the recent articles seems to be–buyer beware.

Here are some of the Chinese stocks noted in the Barron’s article:

Bodisen Biotech (OTCBB:BBCZ, http://www.bodisen.com/), a tiny fertilizer and insecticide manufacturer (market cap about $8 million) that was delisted by the AMEX four years ago, according to TheStreet.com. The company, which was trading for $0.41 mid-day June 23, has been bashed by several journalists in the past few months but still managed to hit $0.90 in late April. It’s daily volume is about 19,000 shares a day.

SmartHeat Inc. (Nasdaq: HEAT, http://www.smartheatinc.com/)  manufacturers and sells plate heat exchangers used for heating and airconditioning and several industrial applications. Barron’s noted that its stock price is down 78 percent in the past year. At mid-day June 23 HEAT was trading at $1.37, down 6 cents for the day. But trading volume is typically heavy, averaging about 723,500 shares each day.

CleanTech Innovations (OTC: CTEK.PK, http://www.ctiproduct.com/) manufactures and sells towers for wind turbines. It is currently appealing its delisting by Nasdaq in March, according to Barron’s, and now seems to trade only by appointment. At mid-day June 23 it had not yet opened and its stock price remained $1.73. High for the year was $9 when times were apparently much better back in November.

Deer Consumer Products (Nasdaq: DEER, http://www.deerinc.com/) manufacturers small electronic kitchen appliances. While its stock price is down more than 50 percent this year, according to Barron’s, it trades strongly (nearly 520,000 shares a day) and actually puts out news from time to time. DEER stock was trading at $7.02 on June 23, off its 52-week low of $4.88 but way down from its high of last fall of $13.

Harbin Electric (Nasdaq: HRBN, http://www.harbinelectric.com/) manufactures electric motors and has a market cap of about $445 million. The stock has traded as high at $25.05 in the past year, and as low as $5.82. On June 23 it was up 6 cents to $14.23 with more than 1.3 million shares traded at mid-day. It averages about 1.6 million shares traded per day.

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