David Bryant is still grappling with an event that blindsided him 16 months ago and wreaked havoc on his company, ASX-listed agricultural investment firm Rural Funds Group.
“Everyone gives you a funny look of what have you been doing? You are completely friendless in a matter of minutes… Even your mother doubts you,” he said.
It was 10.37 am on August 6, 2019 – only a few minutes after the market had opened – when Texas-based Bonitas Research, an activist short selling operator, tweeted: “We are short Rural Funds Group … and believe it is a fraud. Expect [the company] to ultimately be worthless. New Fraud Report just released on our website …”
Within 30 minutes Rural Funds’ share price had plunged 42 per cent, wiping hundreds of millions of dollars off its market value as shareholders panicked and dumped the stock.
Bryant was dumbfounded by the intensity of the attack, spearheaded by a report alleging his company’s profit was built on fabricated rental income, the value of its $1.2 billion worth of agricultural assets had been artificially inflated and if it restated its accounts to their true value it would be in breach of its loan covenants. “My wife was in hospital, it was a terrible time,” he says.
“I had 80 year old shareholders calling us in distress. They sold in a panic,” (Rural Funds has more than 15,000 shareholders aged over 70).
Bryant put Rural Funds’ shares into a trading halt, hired global auditing and consulting giant EY to conduct an investigation into the allegations and asked the corporate regulator for help.
“Long term shareholders were selling because other people were selling. We were in a bear trap. The negativity was so significant it began to take on a life of its own.”
Short selling – the practise of betting against a share price by borrowing a stock, selling it on the open market with the view of buying it back at a lower price for a profit – is a legitimate investment practice that supports price discovery and liquidity. Some hedge funds engaging in it have built a reputation akin to the police of the marketplace after exposing problems at listed law firm Slater & Gordon, funds manager Blue Sky, sandalwood grower Quintis and others.
But a new, more aggressive form of short-selling has emerged in recent years that critics say is damaging market integrity by exploiting weaknesses in Australian regulation.
Dubbed the “short and distort” gang, a group of largely foreign-based research houses issue highly damaging reports, designed to cause maximum damage to the companies they target.
The reports are typically released just before – or during – ASX trading hours and are promoted via social media including on Twitter and YouTube to inflict maximum damage. They are also amplified by leaks to traditional media outlets. An initial report is often followed up with another report, to continue to put downward pressure on the share price.
Some of the attack reports viewed by the Herald and The Age adopt highly inflammatory language including “fraud,” “misleading,” “overstating profit,” “Smoke and mirrors,” fabricated rental income and “worthless.”
Analysis compiled by Sydney University Business School and German-based researcher Breakout Point and obtained by the Herald and The Age shows the frequency of these attacks in Australia is rising, and the collective cost to investors is in the billions of dollars.
The study looked at 18 ASX listed companies and reveals that 16 activist short research firms issued 50 reports between January 2015 and August 2020 on companies including Rural Funds Group, WiseTech Global, Treasury Wine Estates, construction giant Cimic, Corporate Travel Management, Harvey Norman, Westpac and Woolworths.
Sydney University calculated the economic loss stemming from the research reports at $15.7 billion one month after their release and a $4.1 billion loss on the first day of the short selling attack. The short sellers were estimated to have pocketed $462 million over one month of the attack.
“For short sellers to gain a short term return of roughly 7 per cent per month on their positions, economic value of $15.7 billion is destroyed of which approximately $1.95 billion affects individual investors and superannuation fund savings,” according to the authors of the report associate professor Joakim Westerholm and Dr Vycke Zheng Wu.
But the impact of the losses extends far beyond the hit to listed company market values, with reputations damaged, staff morale affected and extra resourcing needed to deal with the distraction of the attacks.
Weak regulation makes Australia a paradise
Critics fear that weak market surveillance and the slowness of the regulator to act has turned Australia into a paradise for these “short and distort” attacks.
Between June 2016 and 2017 six reports targeted Australian firms, compared with 24 reports issued between June 2019 and June 2020, Sydney University research shows.
Bryant describes it as organised crime. “They are making money from criminal activity,” he said. Gerry Harvey, the executive chairman of Harvey Norman says some of the short sellers should be in jail. “They’ve been attacking us for years,” he said. “They have been getting away with it because ASIC refuses to do anything.”
Harvey said he has given copious material to the authorities but he was still waiting. “It needs a white knight to blow it up,” he said.
He said there’s nothing wrong with short selling but this was something different. The firms peddle false information on a company in a deliberate attempt to drive down the share price, he argues.
Fortescue Metals requested ASIC to “pursue a detailed investigation” into two J Capital reports in May and September 2014. Treasury Estate Wines lodged a complaint after reports issued by Bayberry Capital Partners in May 2019.
Freedom of Information requests into the outcome of the complaints were unsuccessful.
Explainer – Short & Distort Process
Renowned American short activist Bill Ackman recently highlighted the darker aspect to the practices of some short research firms. “There are cases where companies are materially harmed and it turns out the short sellers are wrong”, he told Australian media.
“Sometimes the authors are quietly backed by hedge funds who have put on a trade or compensate research firms for their work. Hedge funds also hand off their own work to others to publish anonymously.”
How to fix it
Graeme Samuel, a former competition regulator and professorial fellow in the Monash Business School, says the problem is not short selling per se. He is most concerned about false and misleading conduct and the issuing of false statements, which has always been illegal.
Samuel says there are three steps to cleaning it up. The first is to bolster market surveillance. Second is for the regulator to take quick action on false information.
Thirdly the regulators must have the power to take appropriate remedial action either through an ex parte court order for an injunction to stop trading in shares or to issue stop orders to gain access to cash sitting in banks or broker accounts, similar to a garnishee order. “If you stop the shorting transaction you have stopped the reason for the issue of the false report,” he said.
Short selling reports typically include disclaimers to cover the firms issuing them.
For instance, Hong Kong-based Bucephalus says in its disclaimer: “for regulatory reasons, we can’t release our research to the public. To ensure investors are not ill-informed we have recorded a summary video and we suggest you ponder the following.”
US-based J Capital says “If you are an Australian resident, please do not read this report.”
Some of the attackers retweet their competitor’s research and include it on their websites. Some also follow up with their own research, which makes the target company feel under siege and facing an orchestrated attack.
Bonitas says in its reports “We are short sellers. We are biased. This report and all statements contained herein are the opinion of Bonitas and are not statements of fact. As of the publication date of this report Bonitas … along with our clients and/or investors has a director or indirect short position in the stock… and therefore stands to realise significant gains if the price of such instrument declines.”
J Capital says “Be warned, we are short sellers. We are biased … we will profit if these stocks decline in value. We do not offer advice. We present our views.”
WiseTech founder and CEO Richard White said his software company has been the target of 13 activist reports in 13 months, wiping billions of dollars off the market value.
The first report appeared on October 17, 2019, with US-based J Capital accusing WiseTech of overstating its profits by $116 million over three years.
That report triggered a 27 per cent fall in the share price. The second, issued three days later, slashed another 18 per cent from the shares.
GMT issued its own scathing report on October 24. Two days later Bucephalus tweeted “read JCap report this am. Read the accounts after. $WTC [Wisetech] is outstanding creative accounting.”
“The third attack happened when we were on stage at our annual general meeting and so we couldn’t respond,” he said.
By March 2020 the shares had fallen to $12, compared with $37.52 before the attacks.
The pile on continued during COVID-19, with reports including “WiseTech may be the 1st corporate death from COVID-19” and “Corona ate my homework.”
It was only after the release of WiseTech’s full-year results, which were in line with guidance and showed revenue growth, that the share price rebounded 35 per cent.
White said the real victims were the unsuspecting shareholders, specifically mum and dad shareholders who suffer real monetary loss as a result of the illegal activity.
“Unfortunately legal action by the company would not effectively address the actual damage suffered by retail shareholders,” he said.
On Friday the stock closed at $30.77, valuing WiseTech at just shy of $10 billion.
A series of questions were sent to some of the research houses, only GMT and J Cap responded.
GMT’s founder said the firm was an accounting research firm, not a short seller and did not work to coordinate its research efforts with short sellers.
“We have no financial interest in the share price of any company we issue a recommendation on. That is, we are not a short-seller. As such, we have no interest in distorting the facts,” he said.
He said he disagreed with most of J Cap’s conclusions. “They are too quick to allege fraud when there is normally some form of accounting explanation. We have never collaborated with them,” he said.
GMT retweets some short seller reports, including on Rural Funds Group, but he said “retweeting is not an endorsement”.
J Cap denied it was part of a short and distort group. “We believe acting in “synchronicity”, your term, or coordinating markets as we refer to it, is illegal in some jurisdictions. We have never engaged in such activity.”
It said it has dialogues with regulators to ensure its research was compliant and was proud of its research on companies like Germany’s fintech group Wirecard where regulators had failed to identify fraud over a long period of time.
Leon Zwier, a partner at law firm Arnold Bloch Leibler, who has represented a number of Australian companies attacked by overseas research houses and is familiar with the patterns of behaviour, believes the short sellers cultivate the financial media to run their reports.
He said the dissemination of false and misleading information to drive down the share price for profit wasn’t ethical and contravened Australian law.
“If it were a pump and dump strategy the regulators would react speedily. For the short and distort market the playing field is currently tilted in their favour,” he said.
Zwier believes the regulatory gaps need to be closed through legislative amendment or a regulatory policy statement that ASIC will treat all reports published on the internet concerning ASX listed companies as a publication in Australia, governed by Australian law including regulatory powers.
He says this would represent fair warning that the regulator won’t countenance false and misleading reports being published for profit. ASIC then needed to hold illegal short sellers and their officers personally liable for contraventions of the law.
Tracing powers must be expanded to better track the short selling activity, he said. “The regulator should then exercise statutory powers to obtain books and records and conduct examinations,” he said.
He also suggests large institutional shareholders be required to disclose if they make stock available to any other party on an aggregated basis with a minimum threshold of 0.1 per cent or more of a company’s capital.
No legal remedy
For Rural Funds’ Bryant, the only option was taking Bonitas to court, alleging malicious and deceptive conduct in the Supreme Court of NSW.
Bonitas chose not to defend the proceedings, instead writing a letter to Rural Funds’ lawyers on October 1, 2019 stating “Australian courts have no jurisdiction over us.”
“In light of the recent affirmation of our opinions regarding Rural Fund’s financial precariousness by a reputable and totally independent research firm, Bucephalus Research, we are considering a defamation action in the US against your client,” it warned.
In his judgment released in February 2020, Justice David Hammerschlag concluded that Bonitas engaged in conduct in contravention of the Australian Corporations Act and the ASIC Act. He said the statements made were false and misleading and “they did not care that they were false.”
Rural Funds was awarded $900,000 in damages but Bonitas is refusing to pay.
Bryant says he has offered the regulator access to the lawyers who ran the case but he was unclear what they were doing.
“The laws are there and available for the corporate policeman to do its job and it’s not. They leave it up to the company to deal with the criminal, which is wrong,” he says
ASIC declined to comment on whether it was pursuing the findings of the Rural Funds judgment.
It said activist short selling was a focus area for ASIC and work had recently recommenced following a pause during COVID.
It said it was open to companies that felt they had been unfairly attacked to seek a temporary trading halt while they prepared a response. “But we do encourage companies to take advantage of the position they have, including the company announcements platform, to address the issues raised as specifically as necessary and demonstrate to the short-seller, their own shareholders and the wider market as to the truth of the matter.”
While ASIC in certain circumstances might be able to apply to the court to freeze assets, including money in bank accounts, it said this would generally need to be in situations where it was investigating a likely contravention of the Corporations Act, and certain other preconditions were met.
For companies like Rural Funds, it’s too little too late. The share price has slowly recovered, and touched fresh highs last month. But the company and Bryant were accused of major crimes, of running a Ponzi scheme, and being a fraud.
“People can be forgiven for doubting us because of the volume of carefully planned lies but it is an embarrassment to our country that the regulators are failing in this regard,” Bryant said.
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Source: Thanks smh.com