US-listed company slumped 34 % since March, stock hit 2-month low

NEW YORK / HONG KONG - Short sellers are preying on China's Harbin Electric Inc like never before, betting against a Morgan Stanley-backed hedge fund in a buyout that would generate the biggest windfall of any acquisition in the world.

Bearish bets against the US-traded maker of electric motors have almost tripled to a record 28 percent of shares since Chief Executive Officer Yang Tianfu offered to acquire Harbin Electric in a $541 million buyout in October, according to data compiled by Bloomberg and Data Explorers. Short interest increased even as Harbin Electric slumped 34 percent since March as concern grew about the accounting practices of some Chinese companies listed in the US.

Harbin Electric was forced to refute rumors that Yang had gone missing last month, and its stock dropped to an almost two-year low as Citron Research raised questions about the accuracy of its reported net income. While Abax Global Capital is betting it can profit from Harbin Electric, Chinese companies are facing increased scrutiny in the US after Rino International Corp said its financial statements weren't reliable and China MediaExpress Holdings Inc's auditor quit.

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"I'm very skeptical and have my doubts that Yang can pull this off," said Yemi Oshodi, managing director of mergers and acquisitions and special situations trading at New York-based WallachBeth Capital LLC. "If it seems too good to be true, it probably is."

Telephone calls to Yang at the company's headquarters in Harbin, China, went unanswered on Tuesday.

"The special committee is still evaluating the transaction and everyone is working efficiently," Christy Shue, Harbin Electric's spokeswoman, said in a telephone interview on Tuesday. "We are still waiting for the special committee to make their decision."

Harbin Electric said on Oct 11 that it received a non-binding proposal from Yang and Baring Private Equity Asia Group Ltd to acquire the company for $24 a share, 36 percent higher than its 20-day trading average, data compiled by Bloomberg show. A month later, Baring pulled back from the agreement.

On April 20, Yang and Abax, the manager of $900 million of hedge and private equity funds backed by Morgan Stanley and China Development Bank Corp, submitted an amended agreement to take Harbin Electric private at the same price, according to a filing with the US Securities and Exchange Commission.

Yang and Abax were Harbin Electric's two biggest shareholders as of May 1, data compiled by Bloomberg show. Yang owned 40.7 percent, while Abax held a 5.4 percent stake.

Shares of Harbin Electric have declined 31 percent since Yang first disclosed his proposal last year, a sign that traders have become more skeptical the deal will be completed.

Over the same span, the amount of short selling, or the practice of selling borrowed stock on the bet the price will decline, rose to 4.7 million shares on June 2, according to London-based research firm Data Explorers. That represented a record 28 percent of shares available for trading.

Harbin Electric's Shue said on the company's earnings conference call on May 11 its executives wouldn't be able to discuss the proposed takeover offer or provide any updates not already contained in publicly available releases.

"The lack of transparency is a big red flag," said Peter Lobravico, New York-based vice president of merger arbitrage trading and sales at Wall Street Access. "It's trading where it is because US investors are used to a much higher level of disclosure and trustworthiness of information released by companies. Sometimes radio silence alone can be enough to drive the stock lower."

The Securities and Exchange Commission (SEC) began an investigation last year into the use of reverse takeovers, in which a closely held firm becomes public by purchasing a shell company that already trades.

The Bloomberg Chinese Reverse Mergers Index of US-listed stocks slid 42 percent this year.

More than 24 Chinese firms have disclosed auditor resignations or accounting problems to the agency since March, SEC Chairman Mary Schapiro wrote in an April 27 letter.