Cater­pil­lar writes off most of China deal af­ter fraud

The Pak Banker - - BUSINESS -

Cater­pil­lar Inc un­cov­ered "de­lib­er­ate, multi-year, co­or­di­nated ac­count­ing mis­con­duct" at a sub­sidiary of a Chi­nese com­pany it ac­quired last sum­mer, lead­ing it to write off most of the value of the deal and wip­ing out more than half its ex­pected earn­ings for the fourth quar­ter of 2012.

Shares of Cater­pil­lar fell 1.5 per­cent in af­ter­hours trad­ing fol­low­ing news of the fraud, which was dis­cov­ered af­ter prob­lems were found with the Chi­nese com­pany's in­ven­tory. Cater­pil­lar, the world's largest maker of trac­tors and ex­ca­va­tors, said it would take a non-cash good­will im­pair­ment charge of $580 mil­lion, or 87 cents per share, in the quar­ter.

An­a­lysts had ex­pected the com­pany to re­port $1.70 per share when it re­ports its re­sults. Cater­pil­lar closed the pur­chase of ERA Min­ing Ma­chin­ery Ltd and its sub­sidiary Si­wei, China's fourth-largest maker of hy­draulic roof sup­ports, last June, pay­ing HK$5.06 bil­lion, or $653.4 mil­lion. ERA had been pub­licly traded in Hong Kong, do­ing busi­ness through Si­wei, which is known for mak­ing equip­ment to sup­port roofs in mines. A mem­ber of the Cater­pil­lar board dur­ing the course of the Si­wei deal said the board was dis­tracted at the time by a larger trans­ac­tion and paid rel­a­tively lit­tle at­ten­tion to the Si­wei ac­qui­si­tion.

"It came as a com­plete sur­prise to us," the for­mer board mem­ber said of the fraud, speak­ing on con­di­tion of anonymity be­cause of the sen­si­tiv­ity of the sit­u­a­tion. "It was pre­sented to us as a pretty straight­for­ward trans­ac­tion. It's a shame. It should have been in­ves­ti­gated fur­ther." The source said the driv­ing force be­hind the deal was Ed Rapp, the for­mer Cater­pil­lar chief fi­nan­cial of­fi­cer who now serves as a group pres­i­dent with re­spon­si­bil­ity for China, among other op­er­a­tions. The source said it was Rapp who pre­sented the deal to the board and pushed for its com­ple­tion.

A Cater­pil­lar spokesman de­clined to com­ment on Rapp's role in the deal. Rapp could not be im­me­di­ately lo­cated for com­ment. At the time of the Cater­pil­lar pur­chase, ERA Min­ing was listed in the Growth En­ter­prise Mar­ket (GEM) of the Hong Kong stock ex­change, which is "de­signed to ac­com­mo­date com­pa­nies to which a higher in­vest­ment risk may be at­tached," ac­cord­ing to the of­fer­ing cir­cu­lar filed by Cater­pil­lar last year in Hong Kong.

The com­pany was pre­vi­ously known as ERA Hold­ings Global Ltd. and pro­vided "cor­po­rate sec­re­tar­ial ser­vices" be­fore be­ing ac­quired by Si­wei in Septem­ber 2010 through a re­verse takeover. Cater­pil­lar's write-off could re­vive con­cerns over ac­count­ing scan­dals and cor­po­rate gov­er­nance is­sues of Chi­nese com­pa­nies voiced by in­vestors in­clud­ing Muddy Wa­ters founder Car­son Block. Re­verse takeovers have been of par­tic­u­lar con­cern, since most of the re­cent ac­count- ing scan­dals in the United States have come from small Chi­nese com­pa­nies who went pub­lic via a re­verse takeover, in­clud­ing China Me­di­aEx­press Hold­ings Inc. A Hong Kong ar­bi­tra­tion panel ruled China Me­di­aEx­press was a "fraud­u­lent en­ter­prise."

In a state­ment, Cater­pil­lar said an on­go­ing in­ves­ti­ga­tion launched af­ter the deal closed "de­ter­mined sev­eral Si­wei se­nior man­agers en­gaged in de­lib­er­ate mis­con­duct be­gin­ning sev­eral years prior to Cater­pil­lar's ac­qui­si­tion of Si­wei." Ac­cord­ing to a ques­tion-and-an­swer dia­log Cater­pil­lar in­cluded in its state­ment, the com­pany found dis­crep­an­cies in Novem­ber be­tween the in­ven­tory in Si­wei's books and its ac­tual phys­i­cal in­ven­tory, trig­ger­ing the probe.

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