Kandi Technologies: When is an electric car not an electric car?

Last year, Sharesleuth.com published a story questioning whether Kandi Technologies Corp. (NASDAQ: KNDI) had truly sold more than 3,700 of its electric cars, as it reported in Securities and Exchange Commission filings.

Among other things, we wondered how Kandi managed to sell 1,618 of those vehicles in 2010, given that the United States was its main market, and that the federal government and some state governments had significantly reduced tax credits for buyers.

Kandi, a Chinese company that also makes go karts and all-terrain vehicles, said in a letter to shareholders after our story appeared that it stood by its sales numbers.

But the company’s latest annual filing with the SEC raises further questions. In a footnote to a chart detailing unit sales by product, Kandi said that 960 of the 1,618 mini-cars it reported selling in 2010 were, in fact, gas-powered rather than electric.

The distinction is notable because Kandi says its electric cars are one of the main drivers of its growth, and the breakdown in its latest annual report shows that sales of those vehicles actually plunged in 2010.

The company reported selling 1,892 electric vehicles in 2009, including nearly 1,000 in the final quarter of that year.

Kandi did not mention in its 2010 earning releases or quarterly SEC filings that the majority of the vehicles it was selling that year were conventional gas-powered models.

In announcing Kandi’s earnings for the first three months of 2010, Chairman Xiaoming Hu said that sales in the quarter had risen for its “COCO EV,’’ a clear reference to the company’s electric vehicles.

Kinda reported selling 372 Cocos in that quarter, up from 169 a year earlier. The Coco is a golf-cart like vehicle, approved for street use, with a top speed of around 35 miles an hour.

The release for the second quarter of 2010 said this: “The company reported that the top contributor to the revenue gains in the period was its all electric COCO LSV, with sales of 1,005 units, primarily in the U.S., generating $4,131,674 in revenues.’’

Kandi said in the release that it sold 1,377 mini cars in the first half of 2010, compared with 474 a year earlier. It said that revenue for the period was up 80 percent, and that profits were up 435 percent.

Given that Kandi reported selling just 241 mini cars in the second half of 2010, it is clear that most of the gas-powered units would have been sold in the first half of that year — at the time that the company was reporting higher electric vehicle sales.

And given that the company said in its latest annual filing that it sold only 658 electric mini-cars for all of 2010, it would have been impossible for the company to have sold 1,005 in the second quarter, as the earnings release for that period asserted.

Houston American Energy Corp. announces SEC investigation

Houston American Energy Corp. (AMEX: HUSA) has disclosed that it is the subject of formal investigation by the Securities and Exchange Commission.

Houston America, which was the subject of an earlier Sharesleuth investigation, said it had received three subpoenas from the SEC since February. The subpoenas called for testimony by the company’s chief executive officer, John F. Terwilliger and its chief financial officer, John J. Jacobs, as well as the delivery of certain documents.

Houston America said the SEC’s probe began as an informal inquiry in October 2010. The company said it was disclosing the investigation after determining that certain third parties had become aware of it.

Houston American also announced that the company and its partners were abandoning their initial well on a new Colombian oil prospect known as CPO-4. It had previously said that although the well, the Tamandua No.1, showed possible signs of oil or natural gas, the formation had become damaged during the drilling process.

Houston American said the partners in the well had reached the conclusion that continued investment in testing and completion of the well was inadvisable. It said the drilling rig would be moved to the next exploration site at CPO-4, with a start date for that well scheduled for May or June.

Houston American has a 37.5 percent interest in CPO-4, which is controlled by a Korean energy company called SK Innovation. Houston American has claimed in SEC filings that the prospect in Colombia’s Llanos Basin is estimated to hold anywhere from 1 billion to 4 billion barrels of “recoverable reserves.’’

Houston American’s stock fell by more than 40 percent after it announced the news about the unsuccessful well and the SEC investigation.

(Disclaimer: Mark Cuban, the majority owner of Sharesleuth.com LLC, has a short position in Houston American’s shares. Chris Carey, the editor of Sharesleuth, does not invest in individual stocks and has no position in Houston American’s shares. )

Houston American said it was uncertain of the scope of the SEC’s probe.

“The Company has cooperated fully, and is committed to continuing to cooperate fully, with the SEC in this matter,’’ it said in its release. “It is now possible at this time to preduct the timing our outcome of the SEC investigation, including whether or when any proceedings might be initiated, when these matters might be resolved or what, if any, penalties or other remedies would have a material adverse effect on the Company’s consolidated financial position, results of operations or cash flows.”

Houston American said the SEC began a nonpublic informal inquiry into activities involving the company in October 2010. It said the SEC ordered nonpublic formal investigation in March 2011.
Houston American said it received a copy of that order for a formal investigation in February of this year, in connection with the first subpoena from the agency.

Penny stock promoter gets DeepCapture.com shutdown

A Canadian judge has ordered DeepCapture.com, a U.S.-based “anti-naked shorting” web site, off the Internet after a penny stock promoter accused the site of defamation.

Altaf Nazerali, a penny-stock promoter in Victoria, British Columbia, claimed in a lawsuit that the site, edited by former Columbia Journalism Review columnist Mark Mitchell, falsely portrayed him as “a criminal, arms dealer, drug dealer, terrorist, Baud artist, gangster, mobster, member of the mafia, dishonest, dangerous and not to be trusted” in a recent story.
The defendants in the case also included Patrick Byrne, the chief executive of Overstock.com (Nasdaq: OSTK), and High Plains Investments LLC, a fund that Byrne controls. Nazerali alleged in his suit that Byrne owns Deep Capture LLC, the company behind DeepCapture.com).
Nazerali filed suit in Canada on Oct. 19 and an injunction was issued the same day, according to The Province. Nazerali also named Google Inc., as a defendant, for indexing and linking to the site, as well as GoDaddy.com, the site’s registrar.
Deepcapture.com’s content has been offline since the injunction was issued.
While DeepCapture.com is registered to a proxy, on an archived version of the site Byrne lists himself as a Deep Capture reporter and the source of its funding. The site described itself as “a new approach to journalism” and claimed that “that powerful actors have been able to influence or take control of not just the regulators, but also law enforcement, elected officials, national media, and the intellectual establishment. It is our mission to expose this ‘deep capture.’”
It’s unclear if an injunction was also issued against Google, named in the suit because it indexed and linked deepcapture.com. Searches on Google.com for “Altaf Nazerali” and “Ali Nazerali” still returns links to Deep Capture’s story.
On an investor’s forum, a post attributed to Byrne said: “Gosh, I go off-line for a few days of R&R and look what happens. It looks like Ali Nazerali wants to go a few rounds. Happy to oblige.”

Kandi Technologies responds to Sharesleuth story

Kandi Technologies Corp. said in a letter to shareholders that it stands by the revenue figures in its Securities and Exchange Commission filings. However, the Chinese maker of electric cars, go-karts and other vehicles acknowledged discrepancies in charts in those SEC filings that compared 2009 and 2010 unit sales for all of its product lines. It attributed the errors to “new accounting employees.”

Kandi did not directly address the question of how and where it sold the roughly 3,700 electric cars that it reported selling over the past two years. Sharesleuth’s investigation found that dealers in the United States — the company’s primary market — sold well under 1,000 of the vehicles..

Kandi said in its letter that it sells its vehicles to Chinese export agents, distributors and other middlemen, and that it had no knoweldge of — or relationship with — the dealers that market those vehicles to retail customers.

“To the best of our knowledge, these distributors through their dealer networks distribute our vehicles throughout the world,” the company said.


Shares of China Integrated Energy plunge after research report

Shares of China Integrated Energy Inc. (Nasdaq: CBEH) lost more than a third of their value in the wake of a research report alleging that the company was fabricating revenue and earnings, and that it had transferred tens of millions in cash to the son of its chief executive through questionable acquisitions.


The 44-page report and a shorter follow-up were posted by someone who used the alias Sinclair Upton and claimed to be an investment manager.


China Integrated Energy has yet to respond to the allegations. It filed its audited annual report with the Securities and Exchange Commission on Wednesday.


Sharesleuth previously raised questions about China Integrated Energy in 2008, when it was known as China Bio Energy Group Holding Co. It was one of four Chinese companies that went public through reverse mergers with shells controlled by a group that included Martin A. Sumichrast, a former brokerage executive whose publicly traded firm, Global Capital Securities Corp., was delisted by Nasdaq because of its ties to people with serious criminal or regulator histories.

Former Vicis Capital executive pleads guilty to conspiracy

Christopher D. Phillips, former managing director of Vicis Capital LLC, has pleaded guilty to conspiracy to commit wire fraud in connection with a scheme to collect on medical receivables that he and others knew to be fraudulent.

The hedge fund executive, who also was on the board of directors of two small public companies that had purchased the receivables, was sentenced to two years of probation and fined $250,000.

Vicis had invested millions of dollars in both of the companies that bought the receivables — Medical Solutions Management Inc. (Pink Sheets: MSMT.PK), and MDWerks Inc. (Pink Sheets: MDWK.PK).

The hedge fund’s activities, and its possible involvement with the insurance-fraud scheme, were the subject of a Sharesleuth investigation last year.

Phillips was sentenced Wednesday in federal court in New Hampshire, where a grand jury began hearing evidence in the fraud case after a tipster there reported the scheme to authorities.

Phillips’ plea agreement, the criminal information detailing the charges against him, and a statement of facts related to the scheme were filed under seal last January. They were made public for the first time last week, possibly because the government wanted to keep Phillip’s cooperation with prosecutors a secret from co-conspirators and others involved with Vicis.

Seth R. Aframe, the assistant United States attorney who prosecuted Phillips, said he could not comment “on any other investigations that may be ongoing as a result of any information Mr. Phillips may have provided.”

Phillips faced a maximum of five years in prison.

His plea agreement contained boilerplate language that said if he provided “substantial assistance” to the government in the prosecution or investigation of others, prosecutors would file a motion advising the court of his help and requesting a sentence reduction.

According to court documents, Vicis invested more than $7.5 million in Medical Supply Management so that it could buy receivables from a California company called Deutsche Medical Services Inc. Those receivables were connected to insurance claims for medicine-laden skin creams supposedly given to workers compensation patients in that state.

Vicis also provided MDWerks with roughly $790,000 to purchase additional receivables.

The two companies, however, had a hard time collecting on the $8.3 million in receivables. Medical Solutions Management hired a New Hampshire medical claims company to bill insurance companies, and put MDWerks in charge of filtering out bad claims.

In July 2008, according to court documents, the president of the New Hampshire billing company, Janine Boudreau, told the then-chairman and chief executive of MDWerks, Howard Katz, there were problems with the Deutsche Medical receivables and that many of the claims were probably fraudulent. Among other things, they listed incorrect dates of service, billed for charges on services that had never been provided and even claimed an expense for skin cream purportedly dispensed to a dead person.

Court documents say the Katz met with Phillips in August 2008 to tell him about what he’d been told by Boudreau. At some point, Boudreau contacted the FBI and they opened an investigation.

At the agency’s direction, Boudreau called Katz with a possible solution to their collections problem: they could backdate many of claims to obscure the problems with the dates of service. In late 2008, court documents say, Katz met with Philips at Vicis’ offices to get him to agree with the plan and to pay Boudreau’s expenses, which would ultimately amount to $260,000.

After that meeting, Phillips called Boudreau from New York and gave her the go ahead.

Eventually, the government says, Phillips wired Boudreau $260,000 for her expenses — an “overt act in furtherance of the conspiracy” that prosecutors would have proven at trial.

Katz pleaded guilty to one count of health care fraud in connection with the Duetsche scheme in May. Court documents show he started cooperating with the FBI in late 2008, shortly after he was indicted. Federal prosecutors described Katz’s assistance as “significant, useful, timely and reliable,” For his help, received three years of probation and 24 consecutive weeks of weekend prison time in addition to a $25,000 fine.

Vicis, which began 2009 with nearly $5 billion under management, received a wave of redemption requests after its performance faltered. It announced last year that it was winding down its funds.

Its most recent summary of its holdings, filed with the SEC in November, listed less than $25 million in assets.

S. Paul Kelley, the man on the podium


You won’t find S. Paul Kelley’s name in any Securities and Exchange Commission filings.

But the Canadian stock promoter pops up in photo after photo taken at the NASDAQ and American stock exchanges, usually smiling and surrounded by executives at Chinese companies that went public through reverse mergers.

A Sharesleuth investigation found that Kelley and several equally anonymous partners helped create a string of U.S.-listed Chinese companies, including Telestone Technologies Corp. (Nasdaq: TSTC) and Kandi Technologies Corp. (Nasdaq: KNDI).

Documents show that Kelley and his partners packaged the Chinese companies for reverse mergers with shell companies, paved the way for their listings on U.S. exchanges and promoted their stock afterward.

One of the partners even fronted the legal and accounting bills for some of the companies.

In return for their assistance, Kelley and the other participants in the venture got millions of shares of stock at low, pre-market prices. Their roles were not discussed in those companies’ SEC filings, nor were their share deals disclosed.

The SEC has taken the position in previous enforcement actions that anyone who is compensated for acting as a finder or facilitator in a reverse-merger transaction must be registered as a broker/dealer (see cases here, here and here).

Sharesleuth could not find anyone who participated in Kelley’s Chinese deals who met that requirement. In fact, one person who was involved in at least three of the reverse mergers was previously charged by the SEC with violating that rule.




One of Kelley’s partners was Jay Tien Chiang, a Canadian businessman who was found to have defrauded a computer company of nearly $10 million in the 1990s.

Chiang has spent more than 12 years trying to avoid the financial judgments against him. His personal bankruptcy case — which includes allegations that he stashed a small fortune with family and friends before claiming insolvency — ranks as one of the longest and most contentious in Canadian history.

Documents uncovered in case link Kelley and Chiang to a Hong Kong company called Winner International Group Ltd., which played a central role in the creation of Telestone, Kandi, New Oriental Energy & Chemical Corp. (Nasdaq: NOEC) and Orsus Xelenet Technologies Inc. (AMEX:ORS).

The documents show that Winner International may have reaped more than $20 million from those deals, without ever appearing on the radar screens of securities regulators or other investors.

The testimony and records assembled after the initial discovery by a private investigator offer a rare and revealing look into the often-opaque world of Chinese reverse mergers.

Sharesleuth stumbled onto the bankruptcy case while researching Kelley’s activities. We went to Toronto and reviewed thousands of pages of documents, including copies of brokerage statements, emails, depositions and other testimony.

We then compared that information against SEC filings, corporation filings and other records to piece together additional elements of the reverse-merger network.

Although most of the Chinese companies that Kelley and his associates brought to the United States saw brief spikes in their share prices, nearly all have become long-term losers.



Kelley has helped at least 11 Chinese companies go public through reverse mergers. They are:

  • Telestone (Nasdaq: TSTC). Telestone sells wireless communications equipment and network access packages, primarily to China’s three main mobile phone companies. The Beijing-based company went public in 2004 by merging with a U.S. shell that had just reorganized in bankruptcy court.
  • Orsus Xelent (AMEX: ORS). The company, which also has headquarters in Beijing, manufactures and distributes cellular telephones. Kelley helped the company gain a U.S. listing in 2005.
  • New Oriental Energy (Nasdaq: NOEC). The company is based in Xinyang and makes fertilizer and chemical products. It went public in 2006.
  • Kandi (Nasdaq: KNDI). The company, which currently has headquarters in Jinhua, makes all-terrain vehicles and go carts, and is developing its own line of electric cars. Kandi became a public company in 2007.
  • China INSOnline (Pink Sheets: CHIO.PK). The Beijing-based company once operated a web portal offering information on insurance services. Kelley helped bring the company public in 2007. Its shares were delisted from the Nasdaq in November and now trade on the Pink Sheets.
  • China Auto Logistics Inc. (Nasdaq: CALI). The company, which has headquarters in Tianjin, imports and sells cars. It went public through a reverse merger in 2008.
  • China Infrastructure Investment Corp. (Nasdaq: CIIC). The company has headquarters in Zhengzhou and owns and operates a toll road called the Pinglin Expressway. Kelley helped it get a U.S. listing in 2008.
  • Guanwei Recycling Corp. (Nasdaq: GPRC). Guanwei is based in Fuqing City and recycles plastic waste from Europe into polyethylene for use by Chinese manufacturers. It went public through a reverse merger last year.
  • Winland Online Shipping Holdings Corp. (OTCBB: WLOL.OB). The Hong Kong company operates a fleet of oceangoing vessels and offers shipping and logistics services. It became a public company in 2008.
  • CH Lighting International Corp. (Pink Sheets: CHHN.PK). CH Lighting is based in Shangyu City and makes fluorescent bulbs, lamps and other lighting products. The company, which once traded on the Over-the-Counter market, became public in 2008.
  • Chisen Electric Corp. (OTCBB: CIEC.OB). The Changxing-based company makes batteries for electric bicycles, motorcycles and cars. It became a public company in 2008.

Sharesleuth has identified a handful of additional Chinese reverse-merger companies that have connections to some of the players in the deals listed above. We’ll have more on them in part two of this story.


Although it’s not apparent from SEC filings, Winner International was the key financial middleman in the reverse mergers that turned Telestone, Kandi, New Oriental Energy and Orsus Xelent into public companies traded.

Court documents say that Winner International paid the legal, accounting and other compliance expenses for those four companies, in advance of their reverse mergers and for as many as two years afterward.

Those outlays totaled $2 million to $3 million per company, and were never listed as specific financial obligations in the companies’ SEC filings.

Kelley was vice president of Winner International from 2002 to 2009, and set up the U.S. brokerage accounts it used to sell much of the stock it received in the reverse-merger deals.

Winner said in a legal filing that it authorized Kelley or his employees to trade the shares on its behalf.

A financial summary prepared by a forensic accountant shows that at least $11.4 million in cash was transferred from those brokerage accounts, mostly to Winner International’s bank account in Hong Kong.

Because of the lack of public disclosure surrounding the share allotments in the reverse mergers, it was nearly impossible for ordinary investors to know when the people who had created — and touted — the Chinese companies were cashing out.


One of Winner International’s U.S. brokerage accounts, at E*Trade Securities, was frozen last year by a Canadian judge who concluded that Chiang secretly controlled it.  As of February, that account was worth an additional $9.4 million, much of it in the shares of Telestone, Kandi and New Oriental Energy.

Court records show that Winner International’s bank account in Hong Kong was emptied in February and March of 2009, while Chiang’s creditors were trying to get a court to enforce a freeze order there.

An admitted money launderer in Toronto testified that he had previously helped route money to Chiang from that account, at HSBC Bank, doing his best to ensure that the transfers went undocumented.

Kelley and Winner International were named as defendants in a California case related to the original judgment against Chiang. They weree alleged to have participated in the fraudulent conveyance of assets by helping him hide money.

The trustee overseeing Chiang’s bankruptcy also has named Winner International as a defendant in that case, again claiming fraudulent conveyance.

A trial is scheduled for next week in Toronto to determine the true owner of Winner International’s frozen E*Trade account. (editor’s note: this trial has been reset for Feb. 22)

Sharesleuth is not alleging that any of the companies that Kelley and Chiang helped take public were complicit in any of the above financial transactions.

But we think that people who have made, or are considering, investments in those companies might want to know more about their behind-the-scenes partners. We also think the failure of those companies and their top executives to disclose the connections to Kelley, Chiang and Winner International, and the compensation they received, raises questions about their credibility on other corporate issues.

The Street.com reported last month that the SEC was investigating allegations that a network of American firms and individuals had teamed up with Chinese partners on fraud schemes that have cost investors billions of dollars.

The site said the SEC was particularly interested in stock promoters, investment bankers, auditors and law firms that have helped Chinese companies gain listings on U.S. exchanges and sell additional share to American investors.

(Disclosure: Mark Cuban, majority owner of Sharesleuth.com LLC, has no position in the shares of any of the companies mentioned in this report. Chris Carey, editor of Sharesleuth.com, does not invest in individual stocks and has no position in any of the companies mentioned, nor does Justin McLachlan, co-author of this story.)



With the exception of Telestone, whose stock shot to nearly $25 last year, the shares of most of the Chinese companies that Kelley has brought to the United States have followed roughly the same trajectory.

They started out on the Over-the-Counter market and then moved to the AMEX or Nasdaq, rising to a range of $5 to $10 a share before entering prolonged declines.

Despite the surging Chinese economy, six of the 11 companies that Kelley and his associates helped to bring public reported revenue declines – or, in one case, no revenue at all — in their most recent quarterly financial filings.

Because the companies have rarely reached market capitalizations of more than $200 million, their activities have drawn little attention from securities analysts or others who might be inclined to dig more deeply into their structure or finances.



Kelley, who lives in the suburbs of Toronto, bills himself as a merchant banker and venture capitalist. He operates through MCC Group USA Inc. and a subsidiary, Asia First Financial Corp., both of which list headquarters in New York.

He previously worked for Medallion Capital Corp., an investor relations company headed by his father, Stafford Kelley.

In 2008, Stafford Kelley settled charges with the Ontario Securities Commission in connection with a stock-manipulation scheme involving a small minerals company called Hucamp Mines Ltd.

Regulators alleged that Stafford Kelley, who handled investor relations for Hucamp, traded in its stock to create the appearance of greater market activity, and made purchases that had the effect of boosting the company’s share price. He was fined $10,000 and agreed to a five-year ban on securities trading and a 10-year ban on serving as an officer or director of a public company.

Old press releases show that Paul Kelley also handled investor relations for Hucamp at the time the manipulation scheme was playing out. He was not accused of any wrongdoing. But Hucamp’s chief executive, a director and two other people faced charges along with Kelley’s father. All agreed to settlements with the OSC that included trading bans, officer and director bans and fines.

Sharesleuth noted that one of Stafford Kelley’s longtime associates, a Toronto accountant named Howard S. Barth, was appointed to the boards of directors of four of the Chinese reverse-merger companies — New Oriental Energy, Orsus Xelent, China Auto Logistics and Guanwei Recycling.



Chiang and his brother, Julius Chiang, operated Aamazing Technologies Corp., a California-based company that imported and distributed computer monitors.

In 1998, one of its main suppliers, Korea Data Systems Ltd., won a $9.7 million judgment against the Chiangs. The judge found that they not only failed to pay for monitors and parts, but engaged in fraud and breached their fiduciary duty.

Both Chiangs promptly filed for bankruptcy. Despite claiming to have no income or financial resources, Jay Chiang and his wife, Christina, continued to live a life of relative luxury, remaining in their 10,000-square-foot house in Richmond Hill, Ontario, driving expensive cars, taking international trips and sending their two sons to an expensive private school.

The Toronto Star, in its coverage, has referred to the couple as “mysteriously rich.” Jay and Christina Chiang were sentenced to jail terms in 2007 for failing to heed a judge’s order to answer specific questions about their finances. Jay Chiang served nearly eight months before an appeals court ordered him released.



Jay Chiang’s main adversary is Lap Shun “John” Hui, a Chinese-born entrepreneur who was part owner of Korea Data Systems. Hui sold another of his companies, eMachines Inc., to Gateway Inc. for cash and stock valued at $290 million.

Hui, who lives in California, has spent several million dollars pursuing the Chiangs on behalf of Korea Data Systems (USA) Inc. The legal fight extends beyond the United States and Canada, to Hong Kong and at least two other foreign jurisdictions.

Hui has been supported in that effort by the bankruptcy trustee in the Canadian case, who is attempting to find and liquidate assets so that all of Chiangs creditors can be paid.

Hui’s hunt for assets that he believes Chiang transferred to family and friends led to a private investigator’s discovery of a shredded brokerage statement in Chiang’s trash, which suggested he had access to Winner International’s E*Trade account.



Additional documents turned over by Kelley, Winner International and others involved in the case revealed common ties among a number of U.S.-listed Chinese companies – links that are not apparent from their SEC filings.

Copies of emails and brokerage statements show that Kelley, Chiang and others played significant, undisclosed roles at the companies after they went public. They reviewed business plans and press releases, worked on financing with investment bankers and even bought and sold stock to help spur or sustain the public market (Look for more details on these activities in part two of our story).

The court documents connect Winner International to Telestone, Kandi, New Oriental Energy and Orsus Xelent. Shares of a fifth company, Winland Online Shipping, also wound up in one of Winner International’s U.S. brokerage accounts.

Chiang’s creditors presented trading records that suggest he bought that stock in the open market to bid up the price, the same day a partner’s selling unexpectedly sent the company’s shares plummeting.

SEC filings show that certain participants in the reverse mergers that created Telestone and New Oriental Energy also were involved in some of the later deals.

Ten of the 11 companies that Kelley is known to have helped bring public currently use the same investor relations firm, DGI Investor Relations Inc., which is based in New York and headed by Ken Donenfeld. The eleventh company, Telestone, recently switched to a different firm.

Donenfeld told Sharesleuth that he was not employed by Kelley or Kelley’s firms. He said he typically is hired by companies after they go public.

Donenfeld forwarded Sharesleuth’s questions to all 10 of the Chinese reverse-merger clients we asked about. Only one, Winland Online Shipping, responded.


Winland said through an attorney that it had no relationship with Kelley, his affiliates or his associates, warning that “any statement or implication to the contrary may prove injurious to our client.”

However, the website for one of Kelley’s companies lists Winland among its previous deals. In addition, court filings say that one of Kelley’s associates in China helped engineer that company’s reverse merger with a U.S shell.

Telestone responded through its investor relations firm, CCG Investor Relations. Like Winland Online Shipping, it did not answer any of our questions, but instead offered this statement:

“It is a matter of public record that in August 2004 Telestone Technologies Corporation completed a share exchange transaction with the stockholders of Success Million International Limited (SMI) by which SMI became our wholly-owned subsidiary and through which we conduct our business operations.  On September 15, 2006, NASDAQ accepted Telestone Technologies for listing on the NASDAQ Stock Market and on January 30, 2007, the NASDAQ Stock Market approved Telestone’s transfer to the NASDAQ Global Market.  Since the consummation of the transaction with SMI, Telestone Technologies believes that it has complied fully with its obligations under the Securities Exchange Act and the rules and regulations of the Securities and Exchange Commission as well as its obligations as a listed company on the NASDAQ Stock Market.  Telestone Technologies intends to continue to fully comply with its legal obligations and to act in the best interests of its shareholders.”

Kelley did not respond to a list of questions submitted by Sharesleuth. Chiang’s attorney said he was unable to provide any additional information or comment on his client’s activities.



Kelley and Chiang began working together on Chinese reverse mergers in 2002.

According to testimony in his bankruptcy case, Chiang introduced Kelley to Ning “Jack” Tang, an old friend in Beijing who worked with Chinese companies that wanted to go public.

Tang created Medallion Capital Corp. China as a vehicle for participating in the reverse-merger venture.

According to the testimony, Chiang and Tang would find Chinese companies seeking to get their shares on U.S. exchanges, and Kelley would tell them what changes the companies needed to make to meet listing standards.

Kelley’s MCC Group teamed with Winner International and Medallion Capital Corp. China on the reverse mergers that created Telestone, Kandi, New Oriental Energy and Orsus Xelent.

Court filings say MCC Group, Winner International and Medallion Capital Corp. China all were allowed to buy free-trading shares in the newly created companies at nominal prices.

The filings say Chiang and Tang negotiated the stock allocations for the participants in the reverse-merger deals.

One document submitted by Kelley’s lawyer shows that Winner International alone received:

  • 950,000 shares of Kandi, which peaked at $7.25 in April 2008
  • 599,700 shares of New Oriental Energy, which spiked to $10.10 in October 2007
  • 1.45 million shares of Orsus Xelent, which hit a high of $7.90 in October 2007.

The filing did not say how many Telestone shares went to Winner International, , or how many shares of any of the reverse-merger companies went to MCC Group and Medallion Capital Corp. China.

But a stock certificate elsewhere in the court documents shows that Winner International got at least list 200,000 Telestone shares, which would have made it one of the biggest investors in the company.

And a brokerage statement shows that Winner International’s E*Trade account had 242,020 Telestone shares — some of them purchased on the open market — a few months before it was frozen. At Thursday’s closing price of $8.67 a share, that stock would be worth $2 million.



Like the SEC filings, the court documents in Canada do not explain exactly how MCC Group, Winner International and the other parties acquired stock in the Chinese reverse-merger companies.

But for the shares to be free trading and not subject to registration or a holding period, the participants would have had to obtain them from the shell company or its owners.

In the cases of Telestone and China INSOnline, it appears that MCC Group and other parties got millions of shares of stock in return for providing $50,000 in loans to a pair of shell companies just before the completion of their bankruptcy reorganizations, and for paying off some of their other debts.

Both reorganization plans stated that the shell companies intended to resurrect themselves through reverse mergers.



Kelley helped Telestone go public in 2004, through a reverse merger with a shell called Milestone Capital Inc., which had just shed debts and unwanted assets through bankruptcy. Its stock started out on the Over the Counter market.

When Telestone’s stock moved to the AMEX in 2005, the redheaded, bespectacled Kelley was there. One photograph shows him shaking hands with Daqing Han, Telestone’s chairman and chief executive, on the podium overlooking the trading floor.

When Telestone ascended to the Nasdaq Global Market in 2007, Kelley again joined in the celebration. He was pictured with Han and other company officials who came to New York to ring the bell that signals the beginning and end of trading each day.

Kelley also was photographed at bell-ringing ceremonies with executives from Kandi, China Auto Logistics and Guanwei Recycling.

A copy of Han’s business card puts his U.S. address, and Telestone’s U.S. address, at the same suite of offices that MCC Group originally listed as its New York headquarters.

Phone logs, emails and other documents filed in the Canadian court case show that Chiang and Han also were in touch with one another, and that Chiang corresponded with the chief executives of a few other Chinese reverse-merger companies.



Sharesleuth reported last August on accounts receivables questions at Telestone.

The wireless communications company’s stock rose more than 2,000 percent between March 2009 and January 2010, peaking at $24.94 a share. The surge was fueled partly by financial reports showing sharp increases in sales and earnings.

But as Sharesleuth pointed out in that story, Telestone had not collected most of that revenue. Its $95.2 million in accounts receivable at the end of 2009 equaled all of that year’s sales, plus two-thirds of the previous year’s sales.

Telestone’s latest quarterly filing with the SEC shows that its receivables have continued to rise. They totaled $139.9 million, before adjustments for doubtful accounts, at the end of September.



Telestone’s shares fell more than 25 percent on Tuesday after an anonymous writer using the name “The Forensic Factor” posted an analysis of the company’s accounting and financial reporting practices on SeekingAlpha.com, an investment site.

Among other things, the article questioned Telestone’s “failure to generate a penny of cumulative cash flow, despite claims of spectacular sales and earnings growth.”

The article also asserted that Telestone’s revenue recognition and accounts receivables policies do not conform with generally accepted accounting principles. It noted that the company had gone through three chief financial officers in three years, and had changed auditors twice. And it pointed out that Telestone claimed to have developed cutting-edge wireless communications technology while spending less than $1 million a year on research and development.

Telestone has pointed out that nearly all of its receivables are owed by China’s “Big Three” wireless providers. It says that those partners have billions of dollars in revenue and assets, and are unlikely to default on their obligations.

Telestone reported $70.8 million in sales and $12.6 million in profits for the first nine months of 2010. It announced guidance of $129.4 million in revenue for the full year, which would translate to an 80 percent increase from 2009.

Telestone raised $18.5 million in capital in November, through a private placement at a discounted price of $12 a share. Its stock has fallen below $8 since then, which has reduced the company’s market capitalization to just $80 million.



Court documents show that Winner International sent money to lawyers and auditors from its account at HSBC Bank in Hong Kong, as well as from at least one of its U.S. brokerage accounts.

One summary listed nearly $1 million in payments from HSBC Bank in Hong Kong to a handful of professional firms, including Anslow & Jaclin LLP, a law firm in Manalapan, N.J., and K&L Gates LLP, an international law firm with headquarters in Pittsburgh. The accountants that received payments included Moores Rowland (now Mazars CPA Ltd.), which is the current auditor for Telestone and the former auditor for Orsus Xelent; and Weinberg & Co., which was the auditor for Kandi and New Oriental Energy.

The court documents show that Winner International deposited nearly $1 million that came from a handful of individuals and funds that were later listed in SEC filings as private-placement investors in New Oriental Energy.

Those investors included MidSouth Investor Fund L.P. and Lake Street Fund L.P., both of which have participated in a number of Chinese reverse-merger deals.

It is unclear why the private-placement investors would have paid money to Winner International.

In addition, the transaction summary shows that Winner International received almost $85,000 from Richard N. Molinsky, a former senior vice president at D.H. Blair & Co., a defunct New York brokerage. He pleaded guilty to securities fraud and attempted enterprise corruption in 2002 in connection with that brokerage’s boiler-room style activities (see this Sharesleuth story for more on Molinsky).

The transaction summary also shows a deposit of $50,000 into Winner International’s Hong Kong bank account that came from an entity called the Kagel Family Trust.

David L. Kagel, a California attorney, has voting control over the shares held by the trust. The SEC brought charges against Kagel in the 1990s, alleging that he orchestrated a fraudulent scheme to take a company public through a reverse merger. A judge found that he prepared filings that contained false and misleading statements, committed “repeated and deliberate” violations of federal securities law and he tried to conceal the violations after a specific inquiry by regulators.

The financial summary does not include any explanation for why Molinsky or the Kagel Family Trust provided money to Winner International. Neither appears in the SEC filings of any of the companies connected to Kelley.



Hong Kong corporation filings list a woman named Mei Huang as Winner International’s sole director and shareholder. She has testified in Chiang’s bankruptcy case that the assets in its bank and brokerage accounts are hers.

Documents in the bankruptcy case also identify her as an investor in Medallion Capital Corp. China. She was described as a businesswoman from Shenzhen.

Huang speaks almost no English. Hui — Chiang’s nemesis — told Sharesleuth that when Huang was cross-examined last year, it was clear she had little knowledge of the U.S. stock market or Winner International’s trading.

Court documents show that Huang declined to answer questions about the transfer of $2 million from the HSBC account in late 2008. That money wound up in the account of Wainwright Ventures Ltd., which was an investor in an earlier reverse-merger deal that involved Paul Kelley, Stafford Kelley and Winner International.

Court filings show that Wainwright Ventures has been paying the legal expenses for Winner International and Huang in the court proceedings in California.

Huang’s sister, Min Huang, is listed as the sole director of Wainwright Ventures. However, SEC filings for a reverse merger that Kelley helped arrange in 2002 identified a British citizen, Allister Mathew Cunningham, as its control person.



Another key player in the reverse-merger process is a woman named Liya Wu.

Wu worked for Kelley’s MCC Group, and handled investor relations for many of the Chinese companies that he helped to bring public. She currently is vice president for marketing at one of his most recent creations, Guanwei Recycling. (See her discussing the company’s activities in this video interview)

Wu testified in Chiang’s bankruptcy case that she joined Medallion Capital Corp. China in 2002. She was its only employee, and her responsibilities included translating due diligence documents and drafting business plans.

Wu also prepared the articles of incorporation for Winner International. She testified that Mei Huang was the sole director and sole shareholder.

Wu moved to Canada in 2003 to work for Kelley’s MCC Group. She said Tang took care of the China side of the reverse-merger business, identifying promising companies and signing contracts with them to provide the necessary assistance.

She testified that Kelley lined up securities lawyers and auditors, recruited market makers, and took care of other details in North America.

Wu testified that she viewed both Kelley and Chiang as her bosses. She said that she was paid by Kelley through MCC Group, and that he – not Huang — gave her instructions about transferring money from Winner International’s HSBC account.



Wu said Chiang served as a bridge between Kelley and Tang, who didn’t speak much English.

Chiang had knowledge of Chinese culture and Chinese companies, and helped them understand how to qualify for public listings and comply with regulatory requirements.

Wu characterized Chiang as “the glue” in the arrangement, and testified that without his assistance, Kelley and Tang probably wouldn’t have been able to work together.

Court filings suggest that Tang also is known as Jing Yuan Tang.  Documents show that, after Chiang filed for bankruptcy, someone by that name received more than $2.5 million in transfers from another hidden business that his creditors have uncovered. Jing Yuan Tang also is listed in the financial summary for Winner International as having provided money that was deposited into that company’s Hong Kong bank account, and having received payments out of that account.



Sharesleuth noted that a number of the shell companies used in Kelley’s reverse mergers had ties to people who previously were the subject of regulatory actions by the SEC or the Financial Industry Regulatory Authority.

Two of the shells – the ones that became Telestone and China INSOnline — were provided by Focus Tech Investments Inc., a Houston company headed by Michael T. Fearnow.

The SEC brought charges against Focus Tech and Fearnow in 2000, alleging that they violated securities laws in previous reverse-merger deals by effecting securities transactions without being registered as a broker/dealer.

Fearnow is a former brokerage executive whose registration had been revoked years earlier by the National Association of Securities Dealers (now FINRA).

Fearnow settled the SEC case without admitting or denying guilt. He paid a $10,000 fine and agreed not to violate securities laws in the future.

Documents in Chiang’s bankruptcy case show that Fearnow also was involved in the creation of Kandi.

Two other shell companies – the ones that became New Oriental Energy and Orsus Xelent — were controlled by people with close ties to Byron R. Lerner, who settled fraud charges with the SEC in 2002.

The majority owner of the shell that became New Oriental Energy was James Tubbs. He and Lerner were the top two executives at Teltran International Group Ltd., which the SEC charged with materially overstating its revenue and earnings and disseminating misleading share price projections.

The majority shareholder of the shell that became Orsus Xelent was Lerner’s son, Darrell Lerner. Tubbs, Darrell Lerner and Byron Lerner owned 95 percent of another shell that was used to create a third Chinese reverse-merger company, China Elite Information Co., at about the same time.




Fearnow’s former brokerage partner, Arthur J. Porcari, has been one of Kandi’s biggest boosters. He posts about Kandi almost every day on stock message boards, and recently uploaded to YouTube.com a set of videos showing his visit to the company’s facilities in China and a test drive of one of its electric cars.

Last month, Porcari posted a glowing update on Kandi and its prospects on SeekingAlpha.com. Although a disclaimer noted that Porcari had a long position in Kandi’s stock, it did not say that he was involved with the group that arranged its reverse merger.

Porcari has said in postings on Internet message boards that he has been a shareholder of Kandi since the day it went public, and also was an early investor in Telestone and New Oriental Energy.

Porcari and Fearnow both were fined and suspended by the NASD for violating insider-traiding and fair practice rules at their now-defunct firm, Porcari, Fearnow and Associates Inc.

The SEC also brought administrative proceedings against Porcari in 1994. It said that while he was working as a financial relations consultant for a public company, he sought to engineer a “short squeeze”  by making baseless predictions about its share price to brokers and urging them to make coordinated purchases of stock.

Porcari later was an online cheerleader for two other companies — Net Command Tech Inc. and Host America Corp. – whose stock rose sharply after they issued attention-getting press releases. The SEC halted trading in both companies’ stock, citing the accuracy or adequacy of their public disclosures. When trading resumed, their shares plummeted in value, prompting investor lawsuits that each company settled for millions of dollars.

Sharesleuth determined that at least two other people connected to Host America – one of whom sold millions of dollars worth of stock after a false press release boosted the share price — were involved with the Chinese reverse-merger network.



Kandi is perhaps best known as a maker of go karts, three-wheeled motorcycles, utility trucks and other specialized vehicles. It also produces a low-speed, electric car known as the Coco.

Kandi is developing a new line of larger, faster electric cars. To help spur sales, it has announced plans to set up a network of battery-changing stations in partnership with a batter maker and State Grid Power Corp.

Kandi says the stations will allow electric-vehicle owners to quickly swap depleted batteries for fully charged ones, reducing the need for them to charge the vehicles themselves.

The company reported $28.6 million in revenue for the nine months that ended Sept. 30, up almost 50 percent from a year earlier. It had a loss of $709,326 for the period, versus a profit of $219,625.

Kandi sold $16.6 million in stock to several institutional buyers in a private placement last month. The price was $5.50 a share, which amounted to a nearly 18 percent discount from the closing price the day before the deal was announced.

Kandi’s stock currently is trading for around $5.30 a share, giving the company a market valuation of roughly $125 million.



Kelley is listed in New York corporation filings as the chairman and chief executive of MCC Group, which bills itself as a “top US venture capital and management consulting firm.” It says its mission is to help clients become publicly traded companies and gain access to North American capital markets.

The Flaherty Report, an investment newsletter, said in an article in April 2009 that Kelley, MCC Group and Asia First Financial had helped at least 10 Chinese companies gain listings on U.S. stock exchanges through reverse mergers.

The report said Kelley’s organization “acts in some ways like an unregulated investment banker.” It quoted Kelley as saying that although most Chinese companies that go public through reverse mergers end up bankrupt in just a few years, all of the ones that he had helped were still afloat.

While that may be technically true, many of Kelley’s creations are faltering.



The stock of Orsus Xelent, which Kelley and Winner International helped take public in 2005, has gone from a high of around $7.90 in the fall of 2007 to 17 cents a share now.

Orsus Xelent reported $20 million in sales for the first nine months of 2010, down 70 percent from a year earlier. It posted a loss of $585,000, compared with a profit of $5.81 million in the corresponding period of 2009.

The company attributed the decline to the waning popularity of the non-3G cell phones it produces.

Like Telestone, Orsus Xelent has a mounting accounts-receivables issue. Its latest quarterly SEC filing shows that the company had $98.9 million in receivables as of Sept. 30, up from $81.1 million at the start of the year.

The company’s quarterly filing said it was down to just $4,000 in cash at the end of September.



China Infrastructure Investment, which operates a toll road in Henan province, peaked at $4.75 a share. Its stock currently trades for 67 cents.

The company reported revenue of $13.1 million for the first quarter of its new fiscal year, down roughly 4 percent from the corresponding period of 2009. Its earnings fell by almost half, to $1.51 million, because of higher operating expenses.



The shares of China INSOnline reached a high of $6 in January 2008. They bottomed out at 2 cents a share last month, after the company was delisted from the Nasdaq. They now trade for around 7 cents.

China INSOnline reported revenues of $9.54 million for the 9 months that ended March 31, down from $13.0 million a year earlier. It said it had earnings of $4.2 million for the period, compared with $5.44 million.

However, SEC filings show that its business inexplicably went off a cliff in the first three months of 2010. The company reported just $670,232 in revenue, compared with $3.99 million a year earlier. It had a loss of $105,095, versus a profit of $2.19 million.

China INSOnline cited a decline in online advertising revenue and software development revenue for the steep drop in sales and earnings. The company said, without elaboration, that it was “temporarily unable” to obtain purchase orders from certain customers during the quarter.

China INSOnline later said it would jettison those two businesses to focus on its insurance agency business. It reported no revenue, and a net loss of $2.39 million, for the three months that ended Sept. 30.

In November, the company announced that it had changed directions entirely, through a second reverse merger with a Chinese biodiesel producer.




Both China Auto Logistics and Guanwei Recycling have seen significant declines in their share prices over the past year.

China Auto Logistics, which went public in 2008, reached $6.25 last January, a few days after moving to the Nasdaq market. It now trades for less than half of that price.

China Auto Logistics reported sales of $176.4 million for the first nine months of 2010, compared with $143.1 million in the same period a year earlier. It said profits totaled $5.7 million, up from $4.41 million

Guanwei Recycling hit the market in December 2009, closing at $2.25 in its first day of trading. Its shares reached a high of $5.70 in mid-April after they moved to the Nasdaq. The company’s stock now trades for around $3.40.


Guanwei Recycling reported revenue of $33.6 million for the first nine months of 2010, down 11 percent from a year earlier. However, the company said earnings rose to $7.69 million, an increase of more than 30 percent.

Guanwei Recycling also said that its sales for the three months that ended Sept. 30 were more than double its sales for the corresponding period of 2009.



New Oriental Energy peaked at $10.10 in October 2007. Its shares are currently trading for around $1.20.

The company reported $17 million in revenue for the six months that ended Sept. 30, up about 7 percent from a year earlier. But revenue for the final three months of that period was just $3.19 million, a drop of more than 50 percent.

New Oriental posted a loss of $3.32 million for the six months that ended Sept. 30, compared with a loss of $6.62 million during the same period in 2009.

The company was notified by the Nasdaq this summer that its shareholder equity was well below the $2.5 million level required to stay listed on the exchange.

New Oriental said in an SEC filing in September that two debt holders – which had not been identified in any previous filings — had agreed to convert $1.44 million in debt to common stock to help the company meet Nasdaq’s listing requirements.

Sharesleuth noted that both of those debt holders are entities that were involved in several of Kelley’s other reverse-merger deals, including Telestone, China Infrastructure Investment and China INSOnline.

We’ll cover all of the reverse mergers in more detail in part two of our story. We’ll also take a closer look at how Kelley, Chiang and others interacted with those companies and their management.

Stay tuned.

Kristina Saar provided fact-checking services for this article

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Houston American presses bet in Colombia

Houston American Energy Corp. — the subject of a recent Sharesleuth.com investigation – is boosting its stake in a Colombian oil prospect that it claims has 1 billion to 4 billion barrels of recoverable oil.

Houston American (AMEX: HUSA) said in a Securities and Exchange Commission filing that it agreed to take an additional 12.5 percent interest in the prospect, known as CPO-4, from SK Energy Group Ltd. of South Korea. That would give it 37.5 percent of the venture.

Another small, publicly traded company, Gulf United Energy Inc. (OTCBB: GLFE.OB), also announced a deal with SK Energy for a 12.5 percent stake in the Colombian venture.

The transfers would cut SK Energy’s interest in the CPO-4 prospect to 50 percent, from 75 percent.

As Sharesleuth previously reported, the numbers at the upper end of Houston American’s reserve estimate for the 345,452-acre prospect exceed the official proved and probable reserves for all of Colombia. SK Energy has never offered its own estimate of the site’s potential. 


Houston American also disclosed last week that Hupecol LLC, the majority owner of its 24 producing wells in Colombia, had agreed to sell most of them, along with the surrounding acreage, for roughly $281 million.

Houston American said it would get 12.5 percent of the proceeds, minus commissions and other expenses. Although the sales would likely bring the company a windfall of more than $30 million, they also would take away its share of the output from 19 wells, which account for the bulk of its revenue.

Houston American’s stock closed Thursday at $8.75, giving the company a market capitalization of $272 million.

(Disclosure: Mark Cuban, majority owner of Sharesleuth.com LLC, has a short position in Houston American’s shares. Chris Carey, editor of Sharesleuth, does not invest in individual stocks and has no position in Houston American’s shares.)


Houston American and Gulf United did not put dollar values on their new 12.5 percent interests in the CP0-4 prospect. But it is clear from their respective SEC filings (here and here) that neither agreement required the buyer to pay SK Energy a substantial premium for its stake.

That strikes us as unusual, given that Houston American’s backers have said that the reserves under the land could send the company’s revenue and market capitalization into the billions of dollars.

Both of the farmout deals are scheduled to be completed by Oct. 29.

Houston American said that its agreement called for it to pay its proportionate share of future operating costs at the site, as well as 12.5 percent of certain past costs and 25 percent of all seismic expenses incurred between June 18, 2009 and July 19, 2012.

Gulf United’s deal carried the same terms. Gulf United added that, in return for Houston American waiving its right of first refusal on the interest in CPO-4 that Gulf United is acquiring, it agreed to pay Houston American 12.5 percent of its past costs and 25 percent of its seismic costs through July 31.Houston American said in its quarterly SEC filing that the expansion of its interest would add around $1 million to its spending at CPO-4 this year. The company said that, as of June 30, its projected acquisition and drilling budget for the remainder of 2010 would be $8.16 million.


Gulf United, which has headquarters in Houston, is a development-stage company that has been acquiring interests in oil and gas properties.

SEC filings show that it had just $92,219 in cash at the end of its most recent quarter, but subsequently received an additional $550,000 through the issuance of a promissory note.  The company said it would have to raise more money to pay for its end of the CPO-4 venture, as well as several other partnership agreements.

Houston American acquired its initial 25 percent stake in the Colombian prospect in October 2009. At about that same time, Gulf United signed a letter of intent with SK Energy to acquire its own stake in the venture.

Houston American’s public comments late last year and early this year about the property’s potential contributed to a sharp rise in its stock, which went from around $4 a share in November to a high of $20.36 on April 6.

Gulf United’s deal for a piece of the same prospect has produced no such gains for its stock. The company’s shares closed Thursday at 18 cents, down more than 30 percent from the day the acquisition was announced.

Gulf United has more than 233 million shares outstanding. At the current price, it has a market capitalization of $42 million.


Houston American announced last week that it turned a profit of $990,134 in the second quarter, on revenue of $7.63 million. That compares with earnings of $112,107 and revenue of $1.13 million in the same period last year.

Houston American attributed the increase to higher energy prices and higher production at the existing oil wells in Columbia, which it owns in partnership with  Hupecol.

Houston American earnings said its general and administrative expenses were up $1.76 million from the same period last year, reflecting $637,500 in bonuses for executives and $1 million in expenses for options the company granted to its directors during the quarter.

Houston American also noted that it increased the base salaries of its executives by 10 percent, effective June 15. SEC filings show that John F. Terwilliger Jr., chairman and chief executive, had a base salary of $315,000 in 2009.

Terwilliger got a $675,000 bonus in 2008, after the sale of some other Hupecol-Houston American wells in Colombia. He also got stock awards and options that brought his total compensation to $1.74 million. The company later revised the figure to $5.86 million, to reflect the increase in its share price.

SEC investigating Mesa Energy Holdings

Mesa Energy Holdings Inc., which was the subject of a Sharesleuth story in April, is facing a formal Securities and Exchange Commission investigation.

Mesa (OTCBB: MSEH.OB) said in a public filing that the SEC appears to be investigating whether the company or its predecessor, Mesquite Mining Inc., was involved in any improper sales of unregistered securities.

The Dallas-based company said the SEC also is examining whether Mesquite made any false or misleading statements

Sharesleuth’s story called attention to an unusual deal in which Mesa – which was already listed on the Pink Sheets – did a reverse merger with Mesquite Mining, a publicly held shell company.

That transaction put 14 million virtually free shares of Mesa into the hands of four investors from the Mesquite Mining side of the transaction.

Mesa’s stock rose from 50 cents a share to a high of $3.50, aided by an extensive and expensive promotional campaign. The company also recruited several high-profile individuals, including former New York Gov. George Pataki, to serve on a newly created advisory board.

Later SEC filings showed that the four entities that got large blocks of Mesa stock through the reverse merger sold or transferred at least 6 million of their shares during or after the price surge.

One of the four entities was Gottbetter Capital Group Inc., headed by New York lawyer Adam S. Gottbetter, whose firms have provided securities work and investment banking to Mesa. Another was Marlifran Investments LLC, a New Jersey company that Sharesleuth linked to Samuel DelPresto, a former stockbroker and convicted felon who was barred from the securities industry for his role in a fraud and manipulation scheme that cost investors more than $100 million.

Mesa said it was cooperating with the SEC, and that it was confident that “no improper sales of unregistered securities were made by current officers, directors or employees of the Company or its subsidiaries.”

Chinese company has growing receivables issues

Telestone Technologies Corp. (Nasdaq: TSTC) doubled its
sales last year, with nearly all of the gains coming from the three big players
in China’s burgeoning wireless communications market.

The Beijing-based company, which provides equipment and
services to mobile telecommunications providers, reported revenue of $71.9
million and earnings of $12.5 million. It is projecting additional gains this
year, with sales rising to $129.4 million and profits jumping to $22.9 million.

But Sharesleuth’s review of Telestone’s SEC filings shows
that the company ended 2009 with $95.2 million in accounts receivable, before
adjustments for doubtful payments. That equates to all of its revenue for last
year, plus more than two-thirds of its revenue from the previous year.

At the end of this year’s first quarter — a period in which
Telestone reported $11.1 million in revenue – the company’s accounts receivable
still stood at $96.6 million, indicating that it made relatively little
progress in collecting on its outstanding bills.

Telestone said in its financially summary that its “Days
Sales Outstanding,” the average number of days it takes to collect revenue
after a sale, stood at 673 days. That’s the highest such figure Sharesleuth has
ever seen, and was up sharply from the 358 days the company listed at the end
of 2009.

Put another way, nearly all of Telestone’s reported growth
and earnings — which fueled a 20-fold increase in its stock price between
March 2009 and January of this year — was linked to revenue that the company had not yet collected and might
have continued difficulty collecting.

Telestone’s stock closed Wednesday at $13.52, giving it a market
capitalization of $142.6 million. The company is scheduled to announce its
quarterly results after the markets close on Thursday, and that report is
likely to include an update on its accounts receivable collections.

(Update: Telestone reported revenue of $16.6 million for the second quarter. It said its accounts receivable, before allowances for doubtful accounts, rose to $107.1 million, while its Days Sales Outstanding fell to 483 days). 

Telestone’s large backlog of receivables is significant for
investors because companies that are unable to convert sales to cash in a
timely manner often must fund their operations by taking on debt, which cuts
into earnings, or selling additional shares, which dilutes existing

Sharesleuth also noted that the SEC filings for Telestone’s
three main customers show that Telestone’s  characterization of its accounts receivable situation does
not necessarily square with the numbers and narratives in its customers’
financial reports.

Sharesleuth is not alleging any wrongdoing by Telestone. But
we think that investors who are considering the company because of its sharp
increase in sales and earnings and its attractive profit margins might want to
know more about the underlying numbers.

(Disclosure: No one affiliated with Sharesleuth.com has any position, short or long, in Telestone’s shares) 


Telestone says that its three main customers – China Mobile
Ltd., China Unicom (Hong Kong) Ltd. and China Telecom Corp. — are large,
healthy companies that are unlikely to default on their obligations. It noted,
however, that it has little bargaining power over those companies, and thus
must enter into agreements with them on less favorable terms than it can
negotiate with other customers.

That power dynamic, Telestone says, is one reason for the
backlog of accounts receivables. The company also said in its SEC filings that
consolidation, restructuring and rapid growth in the Chinese telecommunications
industry is contributing to the delay in payments.

In response to questions submitted by Sharesleuth, Telestone
also noted that the nature of its business is an additional complication
because the branch offices of the Big 3 wireless companies are responsible for
approving projects and making payments – not the corporate headquarters.

“For Telestone to get paid after our project is completed
and approved, Big 3 Provincial offices “apply” for funds to pay for LAN (local area network) installation from Corporate,” Telestone said in a written reply to
Sharesleuth’s questions. “This is not as quick a process as we would like to
see as it adds several months to the actual payment of the invoice. Though we
invoice the local offices quickly and accordingly, by the time their
communication with corporate HQ is complete, several months have passed.”


China Mobile – Telestone’s biggest customer over the past
two years – said in its annual report with the SEC that it had no accounts
payable extending beyond 12 months, or 365 days. China Mobile provided $32.6
million of Telestone’s revenue last year and $16.7 million in 2008.

China Mobile said that more than three-quarters of its
payables to suppliers and other parties were due within one month, and that
more than 90 percent were due within three months.

The company also said this: “All of the accounts payable are
expected to be settled within one year or are repayable on demand.” Thus,
China Mobile’s filing suggests that Telestone already should have been paid for
much of its 2009 work and all of the 2008 work.

China Mobile has billions of dollars of cash on its balance
sheet, indicating that the ability to pay suppliers is not a problem.

Sharesleuth sent China Mobile a list of questions about its
accounts payable and Telestone’s accounts receivable. Although the company’s
investor relations manager responded to our email, he did not answer the


Telestone got almost as much revenue from China Unicom in
the past two years as it did from China Mobile.

Together, the wireless companies accounted for roughly 90
percent of Telestone’s sales for that period.According to Telestone, China Unicom accounted for $32.7
million of its revenue in 2009, and $15 million in 2008.

China Unicom said in its annual filing with the SEC that
roughly 87 percent of its accounts payable at the end of 2009 were due within
six months, and that an additional 4.5 percent were due in six months to a
year. It said the remaining 8.5 percent were due in more than a year.

The filing showed that those percentages were little changed
from the previous year, indicating that even as China Unicom grew, the time
horizons for its payments to contractors, equipment suppliers and
telecommunications product vendors did not slip.

China Unicom did not respond to a list of questions
submitted by Sharesleuth.

Neither China Unicom nor China Mobile reported any
delinquencies in their accounts payables.


Telestone has made three key executive appoints in recent
months. The company announced on May 12 that it had appointed Xiaoli Yu as its
new chief financial officer. She replaced Hong Li, who the company said stepped
down for personal reasons.

In the same press release, Telestone announced that
Vicente Liu had joined the company as vice president of finance. The company
said he previously worked for Oppenheimer & Co.’s investment banking
division and was China representative for Cowen & Co.’s Asian investment
banking unit.

Telestone said at the start of June that Guobin Pan, a
10-year company veteran, had been promoted to president. Daqing Han, chairman
and chief executive, noted that Pan’s extensive relationships with Chinese
wireless carriers and his management oversight and marketing efforts
contributed significantly to Telestone’s revenue growth over the past year. 

SEC filings show that Telestone had $10 million in cash at
the end of the first quarter, down from $11.2 at the start of the year. The
company had $5.85 million in debt, more than half of which was secured by
receivables, and has noted that it could tap additional credit if necessary.

Telestone filed a shelf registration in March covering the
potential sale of as much as $150 million in new stock or other securities.


Telestone announced Monday that it had received its first
local access network contract in the United States, for a wireless
communications system at a Houston hospital. It said in a press release that
the project would be worth $2 million and would be completed by the end of the

But the head of Teleston’s American partner told Sharesleuth
that some information in the release might have been lost in translation.

The initial
phase of the contract – the only part that has been formally approved — is
worth roughly $200,000 in equipment sales for Telestone, said David Ballard,
owner of Quell corp., which specializes in cellular coverage systems for
hospitals, government buildings and other properties.

That first phase should be finished by the end of December,
Ballard said. The additional phases of the project would bring Telestone the
remaining $1.8 million in sales, but that work will not materialize until next
year, he said.


Telestone is not alone in having large receivables balances
with China Mobile, China Unicom and China Telecom.

China GrenTech Corp. (Nasdaq: GRRF), one of Telestone’s
competitors in the Chinese wireless communications market, said in its latest
annual filing
with the SEC that it also had a large backlog of outstanding
bills with those three companies and their local affiliates.

China GrenTech had $234.8 million in revenue last year, up
more than 60 percent from the previous year. The company said it had $197.8
million in gross receivables and $130.7 million in net receivables. It noted
that it typically sells some of its receivables to Chinese banks to help
maintain its cash flow.

China GrenTech said its receivables turnover was averaging
292 days at the end of 2009, down from 469 days at the end of 2008. The company
said $113.4 million of its gross receivables had been outstanding for less than
a year. It said $34 million had been outstanding for one to two years, $34.7
million had been outstanding for two to three years, and $15.7 million had been
outstanding for more than three years.

The company said $91 million of its receivables had come due
under the terms of its contracts with customers, but had remained unpaid.

Unlike Telestone, China GrenTech’s stock has lost ground
over the past year, and is currently trading for a little over $2 a share.

Another of Telestone’s competitors, Comba Telecom Systems
Holdings Ltd.
(Pink Sheets: COBJF.PK), said its accounts receivable turnover
was 139 days at the end of last year, compared with 171 days at the end of

Telestone attributed the varying collection periods to
differing business models. 

“We have a longer accounts receivable turnover period than
our main competitors due to our revenue generated from a higher mix of system
integration products,” said Wanchang “Winnie” Hong, an assistant to
Telestone’s chief financial officer, in an email response to our questions. “Our
main competitors are more focused on equipment sales, which tend to have
shorter receivable turnover periods.”


Telestone’s revenue for 2009 consisted of $30.2 million in
equipment sales and $41.7 million from service agreements, primarily the creation of local area networks in office buildings to provide wireless access for computers, cell phones and PDAs. Its $71.9 million in
total sales was more than double the $35.3 million it reported for 2008.

Telestone’s net income — $12.5 million – was up 78 percent
from the previous year.

The company’s annual filing with the SEC showed that its
receivables at Dec. 31 were up nearly 50 percent from the end of 2008, when the
balance was $62.1 million.

Telestone noted in its earnings release for 2009 that it had
made progress on the accounts receivable front, cutting its days sales
outstanding to 358 days, from 553 days at the end of 2008. However, its average
for the first quarter of 2010 represented a sharp reversal.

Telestone’s gross receivables at the end of last year did
not include $6.17 million in allowances for doubtful accounts – a figure that
was up slightly from $5.78 million in allowances at the end of 2008.

In an investor presentation in February, Telestone provided
a snapshot of one of its contracts, a wireless communications system for an
office building in China’s Anhui province. It broke down the payment terms as
follows: 10 percent at the start of the contract, 60 percent at six months, 20
percent at nine months and 10 percent at 24 months, which marks the end of the
company’s warranty period.

That summary suggests that Telestone should receive at least
70 percent of the revenue owed under such contracts within six months, and
should have 90 percent of the total within nine months.

Telestone said in its annual SEC filing that most of its
receivables had a credit period of six to nine months. It added that roughlly 10
percent of the value of each service contract is not payable until the 24-month
warranty period expires.


Although Telestone had just $11.1 million in revenue for the
first quarter, it nevertheless told investors to expect more than $129 million
in revenue for all of 2010. SEC filings show that for the past three years,
Telestone has booked roughly half of its annual revenue in the final quarter of
each year.

SEC filings show that the company reported $38.9 million in
revenue for the first nine months of 2009, and finished the year with $71.9
million. Similarly, it had $20.9 million in revenue through the first three quarters
of 2008, and ended that year with $35.3 million.