Ignorant Non-Sequitur of the Day: China MediaExpress Holdings Edition

11 Mar

The most popular day on this site was when I tore apart a post from an aspiring “investor” named Glen Bradford, who clearly has very little – if any – knowledge of business history, wherein he listed several reasons he’s long China MediaExpress Holdings. I strongly suggest you go back and read that post, entitled “Fuzzy Logic, or: Those Who Fail to Learn From History…” where I showed how NOT to go about building an investment thesis.

Mr. Bradford does not seem to know what auditors actually do or how they go about doing it.  Nor is he apparently aware of the oodles and oodles of times auditors have not just failed to uncover/report fraud, but were actually complicit therein.  This week, he claims – in his apparently infinite experience and wisdom – that not only would Deloitte step down if they thought CCME was a fraud, but that Deloitte is THE best auditor out there, so clearly, if they sign-off on the co’s financials, there can’t possibly be any fraud.

This is a massive, ignorant, and lazy non-sequitur of impressive proportions, to the point that I’m tempted to put the preceding clause in all caps and bold font.

Deloitte was the auditor of record at Bear Stearns, where they’re accused of effectively “performing no audit at all,” at Adelphia during the Rigas scandal that drove the firm into bankruptcy, at Merrill Lynch during the Blodget/conflict of interest years, at a number of Energy companies who engaged in “round-trip trading” to boost volumes/revenue, and a number of other companies embroiled in accounting scandals.  The California Board of Accountancy also reports that Deloitte is responsible for more restatements than any other CPA firm (23% of total from 2003-2009)!

From what experience and/or personal knowledge does Bradford get his nonsensical views about auditors?  Serious question.

I have received tons of messages that can be summarized by the belief that auditors do not look for fraud and that all they do is make sure things line up in the reports. I can say that this is not true simply by being practical. If we didn’t have auditors to verify the claims that companies make, then companies could claim whatever they want to. The purpose of auditors is completely, entirely, and wholly to look for indications of fraudulant activity — and to do their best to remove all possible doubt that the company is misrepresenting itself on its financial statements.

Then, if things are OK, they sign off on them. Some auditors are better than others. Deloitte is the best. Period. End of Statement.

I suggest Glen start reading Francine McKenna at Forbes and at her site, Re: The Auditors ASAP.  At the very-least, he really should read a few books or do a google search about accounting scandals and auditors’ role therein.

You’d be hard-pressed to find a management team that consistently uses conservative accounting assumptions and treatments even here in the U.S. Why, then, would anyone expect a potentially shady Chinese company with a former Chinese auditor among its senior ranks to be any better?  I’d be very, very surprised if CCME’s management is being appropriately up-front with their Auditors, despite the public scrutiny Bradford believes will incentivize Deloitte to be fantastically diligent lest their reputation take a hit.  I also doubt Deloitte’s ability and inclination to do the type of thorough audit that would definitively prove or disprove whether there’s any fraud at CCME.

Large-company audit is an oligopoly business.  These guys pay fines all the time, but the big 4 still continue to dominate the market.  Do you really think Deloitte is that worried about their reputation/business taking a hit because they were “duped” by management at a small Chinese mid-cap?  I hope and wish the answer is “yes,” but history suggests otherwise.

More often than not, auditors pull the “we were duped by management/there was no way for us to know” excuse and walk-away with a veritable slap on the wrist, at most paying a relatively small fine without admitting guilt, although with Bear Stearns, Deloitte may suffer a far-greater punishment (see link above “performing no audit at all”).

I’m neither long nor short CCME (never have been, either), but Bradford’s long rationale continue to be out-of-touch with reality.  As I said in my prior response, it’s like he’s been living in a cave for the past 10+ years, like he’s never heard of an accounting scandal before or never took a financial analysis or accounting class where even the worst professors and textbooks mention the myriad ways that management can mislead auditors/investors several dozen times.  Deloitte can conduct a full audit, up to standards and all, and there can still be Fraud.

Let’s be clear, though: I am not supporting Muddy Waters’ (etc) short rationale, but rather critiquing how weak Bradford’s is.

Maybe CCME is legit, maybe they’re not, but if I’m even considering getting long, you bet your ass my investment thesis is going to be ALOT stronger than Bradford’s!


8 Responses to “Ignorant Non-Sequitur of the Day: China MediaExpress Holdings Edition”

  1. zjin March 11, 2011 at 1:30 pm #

    I like your blog. Sorry this is maybe off-topic. But do you have any comment on Pimco’s selling all of its holdings of US Treasury bonds?

  2. Me March 11, 2011 at 3:48 pm #

    “Do you really think Deloitte is that worried about their reputation/business taking a hit because they were “duped” by management at a small Chinese mid-cap? I hope and wish the answer is “yes,” but history suggests otherwise.”

    I hope you realize that no Chinese company with a top-four auditor has ever been found to have commited fraud of any kind. Not one, ever.

    If Deloitte does get “duped” by CCME, it will make them the first. I don’t think that is the kind of notoriety they are looking for.

    • The Analyst March 11, 2011 at 3:58 pm #

      Assuming for a moment that statement is correct (which I find hard to believe), have you every asked why that is? We have a massive regulatory/enforcement regime in the U.S. yet there’s fraud all the time (relatively speaking), but apparently in China, without this regime, there’s no fraud? Hm, sounds fishy, no?

  3. Otto Tomasch March 11, 2011 at 7:58 pm #

    What if nothing less but the long-awaited and expected positive CCME 2010 year-end report will come out in the next few hours or days? I wonder why nobody mentions this possibiity? Are catastrophy and calamity the only two possible reasons for the halting of CCME?


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