Stock market: Story of LDK

What a disaster these last three weeks have been! But stop and think about the whole picture. It is helpful to divide this situation into two parts.

1. The company, LDK Solar (LDK)- both its fundamentals and a quantitative assessment of the charges against it.
2. The factors affecting its stock price until the audit report, earnings, or both.

The Company, the Charges, the Media Circus

LDK is extraordinary; it had a forward PE of 18.42 on Friday and a PEG of .36, and a multi-year growth rate between 60 and 150% per year. It is in the right place in the right industry at the right time. These facts are clear to many and they want to own the shares of LDK. Of course they would much rather buy them cheaply. The average retail investor does not control the price but the large investor, hedge funds, trading desks of large investment banks can control it.

Along comes Charley Situ, a financial controller who had been fired by the company, who claims that the company's inventory numbers are fraudulent. He sends inside company information to many parties; the media, investment banks, hedge funds, SEC, and who knows who else. He claims 250 metric tons of silicon scrap is worthless and should be written off the books. Two analysts give a heads up, and the stock price drops. One of the two, CIBC, downgrades it twice in one week. The other, Piper Jaffray does not and makes positive comments. Still another, Needham & Co upgrades it to strong buy yet it somehow that does not show up on Yahoo Finance either as a news story or under the analyst opinions, although it did on Bloomberg and several other sites.

Then, Barron's Online publishes a hit piece two hours before market close on a Friday. The article is beyond imagination in its viciousness and predicts the stock will fall to zero, implying the company is a fraud and another ENRON. They republish it over the weekend and again on Monday. The next Friday, two hours before closing, they do it again all over, claiming new information and including a video that attempts to draw in several other Chinese solar companies. They republish that one again on the next Monday also. (Interestingly, these Friday articles have now been withdrawn.) Pete Najarian of Fast Money on CNBC Monday night says the stock is finished. Robert Hsu, the Chinese stock analyst says sell (at $35) because the company will not speak to him. (Two weeks before he was recommending it in the 60s)

By Tuesday morning in premarket trading the stock drops to $33 from its $76 value of two weeks before. Then LDK files a statement with the SEC directly responding to Charley Situ's charges. Instantly the stock rises and doesn't stop until it hits $47. An external audit believed to be by KPMG has been started the previous week and LDK confirms this.

The company has 104,000,000 shares of stock. All but 17,000,000 are in the "lockup" period and cannot be traded. Institutions that either can or cannot trade the stock are believed to comprise 75% of the 17,000,000, making about 4,000,000 real shares actually being traded. On several days before the new naked short rules went into effect last Monday, the volume was over 30,000,000 shares a day. After the rule change it dropped to four or five million per day.

Last Thursday the Wall Street Journal Online published another negative article with an inaccurate headline. Although very slanted, it was not anywhere near the league of the Barron's pieces. The next day, Friday at 4:01 pm, after option expiration and the market closed, they published another piece. This time it was more balanced and quoted analysts and LDK customers with positive commentary (first time this has occurred in the media). They also included an impressive write-up on the CEO.

However, last Friday, Goldman Sachs came out with a Sell rating on LDK. Goldman Sachs had never covered this stock before and it is considered exceptional to start a company with a Sell rating. That rating further reduced the stock again in a freefall as stop loss orders were popping off and panic selling had set in. It ended up closing at $35.68, down about 14%.

The Charges in Detail

First, there have never been any charges against LDK except the issue over the inventory. The disputed evaluation is over 250,000 kg of scrap silicon that was purchased for reprocessing into wafers. We know this is on the books at the purchased price but we do not know the purchased prices. They can be estimated. I have done this in an earlier posting on the Yahoo Message board for LDK (one editorial comment, change kiloton to metric kilograms).

The worst case if all 250,000 kg is worthless is $57,000,000 and $25,000,000 is the intermediate case. I finally concluded $7,500,000 may occur which would affect earnings by $.07. That translates to a reduced stock price of about $2.00, much different from the recent $41.00 drop over this issue. In the absolute worst case it would result in charge of $57,000,000 and a stock price reduction of $7.60.

It appears the negative impact of the media stories, downgrades, and short and naked short sales of this stock have been excessive and remarkable. Why has all this happened? My personal opinion is it is both a coordinated manipulation on a masterful scale as well as an opportunistic situation for traders who were not connected to any manipulation.

Factors Affecting the Stock Price Pre Audit Report

This is a fearful time. Many investors and traders have lost large sums either as hard or paper losses. Nothing about what's happened is for the average uninformed investor.

In the absence of an effective company early this week, anything can happen. It could hover, go up, or continue downward severely. It's the third possibility that needs some prior thought. There's nothing particularly keeping the selling pressure down. Many are fearful and capitulating. Naked short selling comes in effective bursts driving through stop loss set points. All the downward pressure is either from panic sales, stop loss orders, or naked shorting. The idea on the shorting side is twofold. First to cover newly shorted stock at a lower price; second, a possibly much bigger factor, to cover naked short positions from the last two weeks; finally, to accumulate stock for the ride back up, whenever it starts. The shorting is a machine gun; the accumulating is a slow moving big truck.

I think longer term investors should not be afraid and should look for a resolution resulting in a positive return of momentum based on the fundamentals of the company. For myself, I will continue to buy in stages in case it continues to fall. Otherwise I will watch and still maybe buy some calls. I'm not selling sell because I see a growing disconnect between the story and the circumstances.

Disclosure: Author has a long position in LDK solar