The Real Reason Why Alibaba's Stock Is Getting Hammered

Wasn't Alibaba, the Chinese ecommerce behemoth, everyone's favorite story just last fall? The largest IPO in history. The personification of all those hopes about 3 billion Chinese consumers and access to their cash-fueled desires.

Now, it's stock is in free fall, the company beleaguered by reports that vast quantities of the merchandise sold on its sites is fraudulent or copied illegally, that it has long turned a blind eye to these practices and may have even attempted to bribe officials who found evidence of it.

As if that weren't enough, there is some concern that it may have defrauded investors by not informing them of these inquiries prior to its public offering.

But what is really spooking investors is the knowledge that for whatever reason, the Chinese government has turned the full weight of its unsympathetic attention on the company.

It is worth remembering that for years, even decades, the Chinese tolerated - some might say encouraged - a significant degree of economic activity based on patent and copyright infringement. So a sudden rise in moral outrage about this practice would not seem to be the likely impetus for this initiative - even if other Chinese companies are now the primary victims.

And western companies have suffered crackdowns on their practices in the past year which seem to be divorced from the relative severity or impact of their transgressions. The western companies groveled and begged forgiveness. Alibaba attacked and even personally insulted one of the regulators in question.

All of which is what is actually scaring those with an interest in Alibaba. Because for whatever reason, the government appears to feel compelled to remind Alibaba who's boss. And it's not Alibaba. No one knows where this will end or what the economic implications will be.

There is a saying in numerous cultures, including China's, which notes that the tall nail gets hammered hardest. Alibaba's global success has made it the tall nail and China's new leadership may want to remind everyone who it is that ultimately calls the shots for companies domiciled there. JL

Charles Clover, Gina Chon and Sarah Mishkin report in the Financial Times:

The State Administration for Industry and Commerce released a secret white paper, in which it criticised Alibaba for inadequate supervision of its ecommerce merchants.
Ecommerce group Alibaba has denied that it misled investors in its record $25bn initial public offering, after a powerful Chinese government regulator revealed the group had failed to disclose a regulatory probe last July.The State Administration for Industry and Commerce released a secret white paper on Wednesday, in which it criticised Alibaba for inadequate supervision of its ecommerce merchants.The department said in a statement on its website that it had discussed the paper with the group at a meeting on July 16 2014. It added that in “order not to impede Alibaba’s preparations for its initial public offering, the meeting was private and confidential”.

The decision to release the report appeared to be in retaliation to insults Alibaba had directed at the SAIC after the government body had published a highly critical report a day earlier alleging that the group had a poor record of tackling counterfeit goods sold on its Taobao website.

The SAIC said on Wednesday: “In light of the current situation, and to clear up misunderstandings, we now reveal issues covered in the meeting.”
One investment banker who declined to be identified said that if Alibaba was found to have hidden material information from investors, it faced the possibility of legal action in the US. This could involve a class-action lawsuit.
Alibaba’s most recent IPO prospectus, filed on September 15, warned of “allegations and lawsuits claiming that items listed on our marketplaces are pirated, counterfeit or illegal”. It also warned of the “complex and developing” regulatory system in China. But there is no specific reference to the SAIC probe.
Alibaba denied it had hidden any information from investors. “We did not know about the white paper until after the IPO,” the company said. “We did meet with regulators pre-IPO and we met with regulators on a regular basis.”
The US Securities and Exchange Commission, which enforces IPO disclosure rules, declined to comment. But a person familiar with the agency’s work said it is assessing the probe and disclosures Alibaba made in its prospectus.
US law is not clear cut on whether Alibaba had to disclose its meetings with regulators, said Adam Pritchard, a professor of securities law at the University of Michigan. The law requires that companies disclose major risk factors they face, but they and their lawyers can use their discretion in identifying the most significant potential problems.
“There’s a huge amount of room for judgment, and a huge amount of room for second guessing,” Mr Pritchard said.
The spark that seemingly caused the public blow-up in China was the release on Tuesday of an SAIC investigation that looked into online sales of counterfeit goods conducted between August and October 2014. It investigated six ecommerce sites, including two owned by Alibaba: Tmall, the Amazon-like service focused on big brands, and Taobao, the eBay-like platform for consumer-to-consumer sales, which was responsible for 70 per cent of Alibaba’s $300bn in sales in the year to last June.

Alibaba’s finance arm launches credit scoring service

Alibaba Group’s finance arm has launched a credit rating system that draws on the Chinese group’s huge trove of user data, amid a government drive to expand financing for consumers and small businesses.
The launch of Sesame Credit Management marks the latest push into financial services by an internet heavyweight — a development that policy makers hope can unlock the flow of credit to small, privately owned companies that struggle to obtain loans from state-owned banks.

The SAIC said it had found only 37 per cent of the goods it bought on Taobao were adequate.
After the investigation was published, a message appeared on Taobao’s official Weibo account, China’s version of Twitter, entitled “Words from the heart of a post 80’s generation Taobao customer service rep” which was addressed to the head of the SAIC’s department of online commerce.
“Director Liu Hongliang! You’re breaking the rules, stop being a crooked referee!” it began. “We are willing to accept your God-like existence, but we cannot agree with the double standards used in various sampling procedures and your irrational logic.”
The message was removed hours later and replaced by a more official-sounding response: “We are open to fair supervision, and are opposed to no supervision, misconceived supervision, or supervision with malicious aims.”
Alibaba said it had filed an official complaint against the SAIC’s Mr Liu, “who has misused procedures, and has let his emotions play a role in his law enforcement, and has used erroneous methods to get a non-objective conclusion”.
The white paper said: “For a long time, Alibaba hasn’t paid enough attention to the illegal operations on its platforms, and hasn’t effectively addressed the issues.”
It added: “Alibaba not only faces the biggest credibility crisis since its establishment, it also casts a bad influence for other internet operators trying to operate legally.”

Alibaba has been forced to defend its record on fighting fakes in recent months. The company announced in December that it had spent $160m since the start of 2013 eradicating counterfeit products from its sales websites. It added that in an attempt to strengthen its credentials at fighting fakes, it employs a 2,000-strong task force and 5,400 “volunteers” who police its sites.

Taobao began conducting checks on its third-party sellers since it was named as a “notorious market” by the US trade representative over its violations of intellectual property rights in the four years to 2011.
In April 2012, the Chinese company hired high-powered Washington lawyer James Mendenhall, former general counsel in the US trade representative’s office, to lead its effort to be removed from the blacklist. It achieved this that year.