Chinese solar panel companies financed by U.S. investment banks
By Lou Kilzer
Published: Sunday, Dec. 11, 2011
China's major solar panel companies — whose low-cost products led some American factories to close, helped create the Solyndra controversy and spawned talk of a trade war — were bankrolled in the United States by the world's largest investment banks.
Goldman Sachs, Morgan Stanley, Citigroup, Lehman Brothers, Merrill Lynch, USB Investment Bank and others raised $6.5 billion for seven young Chinese solar panel makers in the mid-2000s by underwriting their securities on the New York Stock Exchange and Nasdaq, a Tribune-Review investigation has found.
Documents show the process involved two steps. First, the Chinese companies were folded into holding company shells in the Cayman Islands. That allowed them to take the next step, which was selling specialty securities called American Depository Shares on the exchanges.
Shares in the companies, initially darlings of Wall Street, have plummeted because of an oversupply of solar panels, leaving investors with few alternatives.
"If you're trying to get at assets that are in China, you're going to be screwed," said Thomas Shoesmith, a Silicon Valley attorney who establishes Cayman Island companies. "Any court decision in the U.S. is not enforceable in China."
Worse, said Washington attorney Herbert Milstein, once chief corporate enforcement attorney at the Securities and Exchange Commission, China's auditing rules are such that investors cannot always determine whether a company's books are legitimate.
He led a class-action lawsuit against one of the big Chinese solar companies, LDK Solar Co. Ltd., after a company controller blew the whistle on potential fraud. But Milstein said he could not access company records after LDK's audit firm, a Chinese branch of auditing giant KPMG, said Chinese law forbids it from disclosing internal documents.
That some Chinese companies trading on U.S. stock exchanges contend their auditors do not have to provide documentation for their securities as other companies do is the focus of a showdown between the SEC and Chinese regulators.
At the center of the dispute is Longtop Financial Technologies Ltd., the first Chinese software company to be listed on the NYSE by registering itself in the Cayman Islands. Deloitte Touche Tohmatsu of Shanghai said it could not disclose client Longtop's supporting documentation for securities reports, even after a Deloitte auditor suspected fraud.
The wall protecting Chinese companies' documentation will play a key role in a trade complaint that several U.S. solar companies have filed with the Commerce Department and the International Trade Commission, said Timothy Brightbill, a Washington lawyer leading the fight.
If the plaintiffs can show that the financial reports cannot be trusted, "it could greatly undermine" claims by Chinese companies that they abide by trade laws, he said.
It's not clear how the idea of using offshore tax havens to get listed on U.S. exchanges developed. But the Trib learned through SEC reports how Chinese solar companies grabbed onto the idea.
The first was Suntech Power Holdings Co. Ltd., now the world's largest solar company. It began operating as a Chinese company in May 2002, and by 2004 reported sales of $85.3 million.
In January 2005, the firm reinvented itself as Suntech BVI in the British Virgin Islands. Then, "in anticipation of our initial public offering, we incorporated Suntech Power Holdings Co., Ltd., or Suntech, in the Cayman Islands as a listing vehicle on Aug. 8, 2005," Suntech's prospectus stated.
Goldman Sachs (Asia) was with Suntech all along. A branch of the investment bank bought 10.8 million shares of Suntech BVI for $2.31 a share. When Suntech switched to the Cayman Islands to go public, Goldman Sachs (Asia) followed, grabbing an 8.66 percent ownership share of the solar company.
In December 2005, Morgan Stanley and Credit Suisse First Boston brought Suntech public at $15 a share. As with other Cayman-based Chinese solar companies, the stock went wild, closing its first day of trading at $21.20 — an increase of 41 percent — and raising $320 million.
Suntech later raised $1.3 billion in secondary offerings and convertible debt. Shares reached $88 in December 2007 before clouds settled over the solar panel industry. Suntech shares closed on Friday at $2.72.
Suntech's original stock registration statement spelled out warnings about the risks: "We are a Cayman Islands company and, because judicial precedent regarding the rights of shareholders is more limited under Cayman Islands law than that under U.S. law, you may have less protection for your shareholder rights than you would under U.S. law. ... It may also be difficult for you to enforce in U.S. courts judgments obtained in U.S. courts based on the civil liability provisions of the U.S. federal securities laws against us and our officers and directors, most of whom are not residents in the United States and the substantial majority of whose assets are located outside of the United States.
"In addition, there is uncertainty as to whether the courts of the Cayman Islands or the (People's Republic of China) would recognize or enforce judgments."
The Trib found similar language in stock statements of six other Chinese solar companies: LDK Solar, JA Solar Holdings Co. Ltd., Trina Solar Ltd., Yingli Green Energy Holdings Co. Ltd, Hanwah SolarOne Co. Ltd. and JinkoSolar Holding Co. Ltd.
Plethora of panels
As the solar panel industry burgeoned in the late 2000s, the Chinese government and state-run banks jumped in, offering $47 billion in lines of credit and tax inducements for alternative energy companies.
So much money flowing into the industry resulted in a flood of solar panel production, and prices dramatically dropped, said Shayle Kann, managing director of solar for Boston-based GMT Research.
"There has been a 40 percent decline in panel prices this year, and the least well-positioned will fall by the wayside," Kann said. Three American solar companies declared bankruptcy and three plants closed, he said.
LDK Solar garnered about $1.6 billion by selling American Depository Shares and senior convertible debt on American exchanges. The short-term debt LDK owed to Chinese banks increased from $57 million in 2006, the year it formed in the Caymans, to $666 million in 2008. By June, the company's debt was $2.2 billion.
"If we do not successfully execute our liquidity plan," LDK warned shareholders in its annual report issued in May, "we face the risk of not being able to continue as a going concern."
LDK said it hoped to avoid bankruptcy by seeking more short-term financing, selling more shares on the NYSE and obtaining a five-year line of credit worth as much as $8.9 billion with the state-owned China Development Bank. That's more than 16 times the loan guarantee that Solyndra got from the Department of Energy before the American solar panel maker closed its doors.
"There are so many (Chinese) subsidies that we can't track them all," said Ben Santarris, spokesman for SolarWorld USA, one of the American companies that filed unfair trade complaints against China.
Santarris said labor costs, usually cited as a reason for lower-priced Chinese products, account for 10 percent of the cost of a solar panel. He said the real reason Chinese products are cheap is unbound subsidies and dumping in the United States and elsewhere.
Chinese companies deny allegations of dumping and in recent weeks have talked about asking the People's Republic to impose tariffs on American solar goods in retaliation.
"The idea that we should not act for fear that China might bully us is untenable," Santarris said. "What industry would you defend• Is the feeling that you don't interfere with the schoolyard bully because he might pick on another victim?"
The International Trade Commission voted unanimously on Dec. 2 to investigate complaints about Chinese dumping.
'A giant loophole'
Attorney Thomas Shoesmith, a Silicon Valley expert on Cayman Islands companies, said the reason Chinese solar companies registered there seems simple.
"They set up the company in the Cayman Islands so they can raise money in the United States," he explained. "In the mid-2000s, there wasn't much money in China. ...There was money outside of China, but they couldn't access it. You can set up a holding company outside of China, almost anywhere, but for tax reasons, the British Virgin Islands and the Caymans were favored."
Shoesmith said Chinese companies can trade on U.S. exchanges only through foreign entities. While some large companies set up subsidiaries outside of China that are then traded on American exchanges, smaller ones -- such as the seven Chinese solar firms -- establish a foreign holding company that, on paper, holds assets in China. They then can sell American Depository Shares through designated depository banks on U.S. markets.
The setup can be problematic if shareholders believe fraud occurred, Shoesmith said, and can lead unhappy shareholders to consider suing accountants, law firms and insurance companies. Milstein, who led the LDK litigation, agrees.
Charles Situ, LDK's financial controller, began warning company officials in 2007 about problems with inventory reported in financial reports.
"In many cases data is just a paper number and there are no items physically existing or just some unusable items," he reported.
Situ reported his concerns to the SEC in September 2007 and left the firm.
The next month, the American investment bank Piper Jaffray made note of Situ's exit and mentioned a 250-metric ton "inventory discrepancy." The stock immediately dropped 24.4 percent.
Milstein said he thought he had a good case for 2,409 claimants who lost more than $300 million almost overnight.
Then he learned that LDK's accounting firm would not turn over supporting financial documents. Milstein said he exchanged e-mails with Situ and flew to Hong Kong to meet him, but Situ never showed, and no one has located him.
The lawsuit against LDK settled out-of-court for $16 million, of which $6 million was paid by an insurance company.
U.S. District Judge William Alsup in the Northern District of California expressed outrage during the June 17, 2010, settlement conference with what he called "a giant loophole" that would allow Chinese firms to trade on American stock markets but not be subject to disclosing support documentation for annual stock market reports.
"(The) SEC ought to say that if somebody is not going to make their work papers available, they cannot trade on the national exchanges," Alsup said.
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