MEDIA: Exaggeration Claims Teach LeTV Lesson of Gravity

Bottom line: LeTV’s shares are probably overvalued despite a recent sell-off, but the company still looks like a good long-term bet despite allegations that it may overstate some of its sales and financial data.

LeTV shares hit turbulence

Online video superstar LeTV (Shenzhen: 300104) is quickly learning the lessons of gravity, as its formerly surging shares have suddenly shifted into reverse amid claims of unusual accounting and a big share sale by its CEO. Anyone who has owned the stock over the last 52 weeks is still doing quite nicely, with the shares more than double from a year ago at their current price level.

But anyone who bought LeTV shares amid a wave of euphoria that began in April might be doing less well. That wave saw the shares more than double in just a month’s time, making the company the undisputed leader in China’s online video space, well ahead of former leader Youku Tudou (NYSE: YOKU). But since reaching a peak in May the shares have lost about a third of their value, and it’s quite possible we could see quite a bit of downside ahead for this overinflated stock.

Anyone really serious about LeTV shouldn’t be too worried, as the company certainly seems to have a solid business model that has helped it challenge China’s traditional TV operators by offering subscription video services over subsidized TVs and smartphones. But like many Chinese firms, the company is now finding itself being accused of creative accounting by a number of observers. The fact that its charismatic CEO Jia Yueting recently announced a plan to sell a major portion of his stock isn’t helping either, implying he thinks the shares may be overinflated at current levels. (previous post)

I’ll review some of the latest allegations shortly, but first I should start by saying this campaign against LeTV looks suspiciously coordinated due to the sudden emergence of similar allegations from different sources. Such smear campaigns are quite common in China, and Jia himself has engaged in a recent war of words with the equally charismatic Lei Jun, CEO of smartphone superstar Xiaomi.

All that said, Chinese companies like LeTV are certainly prone to the kinds of creative accounting that it’s now being accused of, as they try to make their financial statements more attractive to investors. One of the latest reports says LeTV has demanded an apology from a Shanghai-based analyst who questioned the accuracy of company claims about sales for its newly released smartphones. That analyst had cast doubt on LeTV’s proclamation that it logged preorders for a massive 10 million of the new smartphones in the first 10 days after it began accepting orders. (English article) The analyst later said on his microblog his comments only represented his personal opinion.

Another new report cites a university-based researcher questioning an unusual discrepancy between LeTV’s total profits, and the profits attributable to ordinary shareholders on its 2014 financial statement. That report says that LeTV declared profits attributable to ordinary shareholders of 364 million yuan ($56 million) for the year 2014. But it also notes that the company’s actual net profit totaled a smaller 129 million yuan, and that the much large profit attributable to ordinary shareholders was due to a loss of 235 million yuan incurred by a small group of other shareholders. (Chinese article)

The report cites the researcher saying this kind of big discrepancy between different profits is quite rare for publicly traded companies, and as a longtime financial reporter I can say that it’s relatively uncommon to see such a big gap.

In yet another piece of potentially related news, media are saying that Jia Yueting has signed an agreement to lend his company 2.5 billion yuan or more for at least 10 years, with no requirements for interest payments. (Chinese article) The reports say only that LeTV will use the money to replenish its working capital.

That’s certainly not a surprise, since LeTV has embarked on a number of major new forays recently, including campaigns into smartphones and new energy vehicles. It has also embarked on a fledgling overseas expansion that saw LeTV recently declare that it is aiming to become the second largest provider of paid video services in Hong Kong, behind only current market leader PCCW (HKEx: 8). (previous post)

So, what should investors make of all this? The bottom line is that LeTV and Jia Yueting are both quite aggressive, which means the company may be prone to exaggerating things like its sales figures. But at the same time LeTV does seem to have a good product and business model, even if some of its new campaigns like new energy cars look a bit dubious to me. I personally think the stock is probably a bit overvalued at current levels, but that LeTV looks like a good bet to emerge as a leading contender in China’s video services space over the next 3-5 years and could even become a global contender.

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