US SEC Launches Fraud Probe into Chinese Edutech Firm

Reports first emerged in February alleging that up to 80% of GSX Techedu users are fake, evidenced by attendance data, server records, and admissions by former employees.

The US SEC (Securities and Exchange Commission) has initiated a probe into NYSE-listed Chinese online education company GSX Techedu for fraud alleged by short-sellers.

The probe was revealed in GSX’s second quarter results filing on Wednesday (2 September), in which it said the SEC’s enforcement unit has asked it to “produce certain financial and operating records” dating from 1 January 2017.

The company first listed on the NYSE in June 2019 with a market cap of USD 2.5 billion. One of the NYSE’s top performers this year, GSX currently has a market cap of USD 19 billion.

The SEC probe follows a May report from Muddy Waters alleging that up to 80 percent of GSX users were fake. The report called the company a “near-total fraud”, reflecting similar views published by Citron Research in April and Grizzly Research as early as February (amongst others).

The short sellers’ reports all centre around the GSX’s student user and attendance data, each detailing analysis that points to the use of bots to fraudulently bolster course attendance and inflate sales. (GSX reported a 353 percent increase in its second-quarter net revenues year over year.)

Former GSX employees have also been recorded explaining details of how the fraud has taken place since as far back as 2015, and data from GSX’s servers has been preserved in a repository for public review. Meanwhile, an online petition calling for GSX’s delisting based on “overwhelming evidence of fraud” has received over 1,000 signatures.

While it is unclear when the SEC probe was initiated, it is the first concrete action known to have been taken by the regulator since it first started receiving letters from investors and other stakeholders reporting the alleged fraud in February. Dozens of letters calling for action against GSX were also submitted to the presidential working group set up in May to examine the practices of Chinese companies listed on US exchanges.

GSX said in its filing that it is cooperating with the SEC, and that it had already engaged third party professional advisers prior to the probe to conduct an internal independent review into the short-sellers’ reports’ key allegations. The company says it cannot predict the timing, outcome, or consequence of either the external review or the SEC investigation.

The GSX probe follows the April admission of inflated sales from another NYSE-listed Chinese online education company, TAL Education. TAL had ultimately said an employee was discovered conspiring with external vendors to inflate sales by forging contracts and other documentation.

In 2016, Reuters also discovered evidence of fraud at Chinese private education company New Oriental Education, also listed on the NYSE.

Last month, the presidential working group released a report recommending the SEC take steps to enhance US listing standards to ensure access to audit work papers by US regulators, and to require enhanced disclosures from Chinese companies listed on US exchanges.

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