A black swan has swooped over China’s coal mines. Puda Coal (NYSE:PUDA) shareholders were blindsided when a report surfaced on Friday alleging that the company’s chairman, Ming Zhao, transferred ownership of Puda to himself, then sold off a majority stake to a private equity fund. All this occurred without the knowledge of the SEC or shareholders, according to the so-called Chinese bear-raider Alfred Little.

“The (2009) transfers resulted in Ming Zhao owning 99% of (the company), leaving U.S. investors with nothing,” Little wrote on his blog Little Al’s Big Emerging Market Picks on Friday. “Incredibly, PUDA’s auditor, Moore Stephens, failed to catch this theft of an entire company that is clearly documented in government ownership filings that any lawyer can obtain direct from the source.”

Trading in Puda stock has been halted by the NYSE with the launch of an internal company investigation, but preliminary results from that investigation don’t look promising. The company publicly conceded yesterday that “evidence supports the allegation that there were transfers by Mr. Zhao in subsidiary ownership that were inconsistent with disclosure made by the Company in its public securities filings.”

Puda shares plunged more than 34 percent on Friday, and it now appears U.S. shareholders who didn’t get out in time could be left holding worthless scraps of paper – even after Mr. Zhao tried to transfer ownership of the company from CITIC back to Puda.

“The damage done cannot be reversed,” Alfred Little writes. “There is no way CITIC will give up their 49% of Shanxi Coal, 51% pledged shares, veto rights and other control provisions. … There is significant risk of default due to the very high leverage and servicing cost of the $530.3 million 14.5% debt of Shanxi Coal.”

Kevin McElroy at The Daily Profit Blog speculates that the high incidence of corporate malfeasance in China could be due in part to the flawed executive pay structure in the country.

Puda’s chairman, for example, made just $26,000 in salary, stock and exercised options last year. That’s according to documents filed with the SEC, and we now realize just how corrupt those filings were. Had Ming Zhao had more salary to lose, McElroy reasons, though, he may not have been so quick to (allegedly) defraud investors.

Regardless of how it all plays out, the move could have far-reaching implications. We’ve already seen a strong sell-off in shares of other small-cap Chinese companies, and I’d imagine Chinese companies planning a U.S. IPO in the near-term might take pause before approaching the markets with outstretched hands.

In the meantime, Puda’s Mr. Zhao has agreed to a voluntary leave of absence as Chairman “until the investigation is complete.” I suspect he’ll be out longer than that.

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Tags: coal stocks, PUDA

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