INTERNET: Youku Joins Alibaba With SEC Probe
Bottom line: A new SEC probe into Youku Tudou’s accounting, following another probe into possible disclosure breaches by Alibaba, could undermine investor confidence in big Chinese Internet firms.
Just a month after e-commerce leader Alibaba (NYSE: BABA) said it was being probed for possible violations of US securities laws, former online video high-flyer Youku Tudou (NYSE: YOKU) revealed it is also being questioned by the US stock regulator for aggressive accounting practices that may have misled investors. The nature of the potential violations are quite different in each case, but both create a worrisome larger picture since they involve 2 of China’s biggest and most trusted Internet companies.
The companies themselves would be mostly to blame if found guilty of misleading investors, but their overseers should also take some responsibility. In both instances regulators and third-party auditors were privy to information that prompted the latest probes by the US Securities and Exchange Commission (SEC), and could have taken steps much earlier to force corrective actions.
All of these parties face big pressures and must make difficult choices every day. But failure to act quickly and responsibly could have huge consequences for some of China’s most trusted private companies, undermining broader investor confidence in names that are considered some of the country’s most financially responsible.
Last week was a turbulent time for Youku Tudou, which was once China’s most valuable online video company but lately has seen its share price sag as it fails to find a formula for profitability. The company’s stock was already down by nearly half over the last year, when it informed investors last week it would release its latest quarterly earnings just 2 days later. (previous post)
The short notice period set off alarm bells for investors, who had little time to prepare and speculated that bad news could be coming. Youku Tudou lived up to that expectation, reporting that its quarterly loss skyrocketed more than 10 fold to $51 million. (company announcement)
But equally worrisome was the company’s disclosure that it was being queried by the SEC about some of its accounting practices. Many money-losing US Internet companies faced similar scrutiny during the dot-com bubble of the 1990s, when they were accused of inflating their size by posting revenues that were backed by barter deals rather than actual money.
Youku Tudou’s stock tanked 15 percent during the week, including an 11 percent sell-off on the day it announced its results and the SEC probe, sending the shares to an all-time low. The company was once a sector leader and widely respected name, but the growing losses and now disclosure of the SEC probe are certain to undermine investor confidence in its future prospects.
Youku Tudou isn’t the only major Chinese Internet name to face such scrutiny. Alibaba, China’s most valuable Internet company, similarly announced it was being probed by the SEC about a month ago, following a high-profile scandal involving piracy on one of its main e-commerce sites.
In that instance, one of China’s top commerce regulators found nearly two-thirds of goods traded on Alibaba’s popular Taobao online marketplace were fakes. The regulator informed Alibaba of the findings last summer but didn’t make the report public until January. That led some to say that Alibaba should have disclosed the findings before its blockbuster IPO last September, since it should have known the situation could materially affect investor views of the company.
Alibaba’s shares also took a beating after the government report was publicly released, and are now down nearly 20 percent from their levels before the scandal.
This kind of behavior was quite common among smaller US-listed Chinese companies 4 years ago, and sparked a confidence crisis that ultimately saw many firms forced to de-list. That clean-up left only the largest, most trusted companies with US listings, allowing investors once again to focus on company financial results rather than the reliability of their accounting and timeliness of major news disclosures.
Alibaba and now Youku Tudou should take the largest responsibility for these 2 latest cases if they are found to be in violation of US securities rules. But a number of other parties also bear some responsibility for failing to force corrective action earlier, including the companies’ independent auditors, investment banks and the regulator involved in the Alibaba scandal.
In cases like these everyone needs to become more proactive about raising red flags when questionable practices occur, and taking quick action to correct those practices. Failure to do so could spark a new confidence crisis towards big names like Alibaba, which would have much bigger fallout than the earlier credibility crisis and would deal a huge setback to overseas listed Chinese firms.
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