When allotting responsibility for the recent reverse-merger scandals, many have pointed fingers at the firms that peddled the vehicle to Chinese executives. Some of those accusatory fingers have pointed at Rick Rappaport, CEO of investment bank WestPark Capital. The Los Angeles-based firm was the architect of listings including China Century Dragon, China Electric Motor, NIVS IntelliMedia Tech and China Intelligent Lighting & Electronics, all of which have had trading in their shares halted by the US Securities and Exchange Commission (SEC) for financial irregularities.
This was not the first time WestPark had to distance itself from scandal. The Financial Industry Regulatory Authority (FINRA) fined the firm US$400,000 in 2010 for failing to supervise brokers who engaged in unauthorized and unsuitable trading. Rappaport has also had independent run-ins with FINRA in the past: He was suspended in 2004 and 2006 for violations which he has described as lacking merit. The state of Illinois also banned him from acting as a principal of WestPark for three years in 2004. Rappaport gave his side of the story to China Economic Review in May.
Q: Can you give some background on your firm’s operations in China? Where do you stand with the current crisis in confidence in Chinese companies?
A: We did our first public offering in the US with a Chinese state company in 1991, so we’ve been in China for some 20-odd years. Of course, more recently we’ve been more active in China, along with just about every other investment bank. We developed a structured IPO process in the mid 2000s – it’s called the WRASP – which we used to take about 10 Chinese companies public. We have been very successful in this. We do have a few of our China-based companies that we have taken public over the last couple of years that have trading halts [against them] right now. For all of these clients, the trading halts are due to issues with their former auditors. We don’t have a lot of information because we are not involved in the audit.
Q: Several of your clients’ issues have been associated with one particular auditor, MaloneBailey. Clearly some mud has also stuck to your firm. What lessons have you learned?
A: We created an excellent quality product with really good execution and diligence, and it’s a shame to see that mud get flung at us. But, you know, sometimes that’s just the way it is. You do something good, and people will throw mud at you the first chance they get, whether they ought to or not. That being said, the first thing to understand is that up until today, we did not refer the auditors to our client companies. We inherited the auditors that these companies already had. We cannot speak to the pros and cons of MaloneBailey, as we don’t really know them that well. We are listening for announcements every day, just like everybody else.
Q: Are you going to do more double-checking in the future? It seems your business is quite exposed to auditors.
A: It turns out that way, yes. Going forward, we’re telling all of our Chinese clients that they are going to have to be audited by top-10 international firms. Plain and simple. We are not accepting anything less. We also recognize that [we] can’t really trust even the auditors anymore. So, we are also going to bring in a third-party, top-tier, independent due diligence firm to do an assessment of the audit. In retrospect, would we have been better off, had we implemented that four years ago? Well, probably. But to some degree we went along with the trend. Up until the end of last year, there was not a big emphasis on the auditors. Everyone went along with what the small auditors were doing in China. We did do due diligence. For example, when we did our firm commitment underwriting with MaloneBailey, we hired an auditor to go in and do a peer review of the audit that MaloneBailey had done on our clients.
Q: How are your relations with FINRA? There has been some bad press about problems you and your company have had with regulators.
A: Keep in mind that people can say whatever they want on the internet. The FINRA stuff was related to a group of brokers that came to the firm in 2006 and left in 2007. So this happened four, five years ago. We inherited this group of brokers from another firm. [They] were not involved in any of our banking activities, and the business they did is nothing like what our business did or currently does. When you bring in brokers, you kind of live and die with their activities. Sometimes you have to bite the bullet and settle with the regulators, and that’s what we did.
Q: Can you talk more about the way you take companies public, the WRASP process?
A: Basically, the WRASP is a structured IPO that starts off with a private placement. The company becomes a public reporting company by merging with a form-10 company that was created specifically for that transaction. Then we do the private placement, which is typically between US$5-10 million. Then, anywhere from three to nine months afterwards, we execute an IPO and the company’s stock starts trading on NASDAQ or AMEX. We’ve listed about 10 this way so far. Up until the whole China meltdown they had performed nicely, with good high volume. In the … I don’t want to call it the press .. the internet – some out there have said that these deals are just reverse mergers. They aren’t. A WRASP gets more regulatory scrutiny because it is an IPO. Keep in mind we also earn shares in these deals. About 50% of the Chinese companies we sign up never make it to a financing because of problems with due diligence.
Q: Articles online are saying that your firm is now looking to target Israeli companies. Is it time to move on?
A: Prior to this whole China melt-down, we have been going after companies in Israel, Brazil, Korea – anywhere there are strong emerging markets. We were doing that before, but yes, I think the frothy party is over. That’s okay with us, because keep in mind that we were operating in China through the 1990s, when there was no frothy party going on. So, yes, the volume is going to slow down. The Chinese companies that will come out on the market will need to be more serious about the professionals they hire and be willing to put up with a lot more scrutiny. They are going to need stronger corporate governance and transparency, and a board that really pays attention and knows what it is doing.