Stock Manipulation by China’s Pangang Group Case Case Study Solution
Stock Price Manipulation
There were number of suspicious activities that were noticed in the financial statements of the company for the period of 2010. One of the major change is in the earnings per share of the company for the period of 2010 i.e. an increase of 2700 million Yuan in comparison with the reported loss of 1636 million Yuan in the period of 2009. Moreover, this dramatic change was not occurred with any of its peer company located in the same industry.
It is also found out from the financial statements of the company that the company is paying an effective tax rate of around 12 percent whereas the peer companies are paying an effective tax rate of 20 percent. Hence, the lower income tax reported by the company could also be the reason of increase in earnings per share of the company. Furthermore, the administrative expenses of the company were dropped by almost 21 percent in comparison with the previous year whereas no major shift in the number of employees of the company is noticed. However, the increase in entertainment and travelling expense is increased by the company which indicates that the number of staff must have increased and salaries expense of the company should have been increased rather than decreased,which is the component of administrative expense.
It was also noticed that the Pangang V and T Company manipulated the earnings of the company by reporting non-recurring items in the income statement, which increased the overall earnings of the company. Hence, the increase in non-recurring item appears to be a government subsidiary reported by the company in the footnotes of the financial statements.
Apart from all these evidence, the performance of the company appears to be weaker than its peer companies in terms of return on equity, return on assets, and earnings per share. Despite the weak performance shown by the company in comparison to its peer companies, the share price of the company inclined due to earnings manipulation by the company, so that the put options issued by the company could be expired out of the money and the company could save themselves from the losses of put options.
Ethical Issues Faced by Dr. Chen
The issue faced by Dr. Chen is that as a professor of finance and an employee of the state, he is unable to come to the decision that whether he should report this suspicious activity to the regulatory authority; who is supervising and regulating these companies in order to protect the minority shareholders or he should not report it to the authorities. Moreover, according to the financial analysis it appears that the management is involved in manipulating the earnings of the company. Therefore, the professor is facing an issue of whether to report this activity to the regulatory authority or not.
Losses on Put Option Written by Angang Steel
If the Pangang V and T Company appears to be overvalued than there will be no losses incurred by Angang Steel, because the stock price will appear to be greater than the exercise price of the put option. Hence, greater stock price than the exercise price make the put options out of the money,which will get expired and remainunexercised because the exercise price is lower than the current share price of the company. Therefore, losses will not be incurred in the put options if the share price of the company is overvalued.
Recommendation
The professor should not turn a blind eye to the issue instead he should write an article with the evidence and his opinion on the manipulation found the components of financial statements through financial analysis of the company. Furthermore, the professor should not report the regulators, because it is the duty of regulatory authority to identify those manipulation, which are done by the companies, and not the duty of the professor. However, the professor is free to write articles and mention his opinions,which he accumulated through the in-depth analysis of the company about the share price of the company being overvalued and the earnings being manipulated by the company’s management in order to inflate the share price of the company.............
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