GeneMax battles short sellers

Says it's target of bold campaign

The Globe & Mail
By Peter Kennedy, Vancouver
John Saunders, Toronto
November 18, 2002

It may be a bear rout, a short squeeze, a cornered market, a slick promotion or just a bunch of naked short sellers caught with their pants down, getting what they deserve.

Whatever it is, it pushed the stock market value of GeneMax Corp., a revenue-free hopeful in the anticancer field, as high as $312-million (U.S.) last week, with the battle between longs and shorts far from over.

GeneMax is an attempt to commercialize University of British Columbia drug research, folded into a Howe Street stock promotion and served up in a Nevada-registered shell. Its offices are in the border town of Blaine, Wash., 50 kilometres down Highway 99 from Vancouver.

Its stock, GMXX, trades on the OTC Bulletin Board, a lightly supervised U.S. over-the-counter market. It closed Friday at $13.01, down from an intraday high of $20.40 Thursday, but up from as little as $3.50 in July.

As a scientific venture, GeneMax boasts a stellar cast, including UBC microbiologist Wilfred Jefferies and former QLT Inc. president Julia Levy, chairwoman. As a stock, it bears the imprint of Vancouver promoter Brent Pierce, whose activities in British Columbia are restricted by a 15-year trading suspension imposed on him by the B.C. Securities Commission in 1993.

In one sense, it is a promoter's dream. There is just a sliver of free-trading stock, which means that any buying pressure has a powerful effect on the price.

More than 98 per cent of GeneMax's 15 million shares are tied up by pooling agreements or other trading restrictions.

It is also a magnet for short sellers -- people who bet against companies and their stocks -- because, despite promising technology, it faces many regulatory hurdles before it learns whether it has a saleable product.

By its own account, GeneMax is the target of one of the boldest shorting campaigns on record. It estimates that at least 1 times its tiny tradeable float has been shorted into the market, weighing down the share price. It does not name the short sellers (there is no easy way to identify them) but accuses brokerage firms of abetting them in what it calls an illegal manipulation. The brokerage firms deny these allegations.

Through lawsuits it has filed against brokers on both sides of the border, GeneMax has written a new chapter in a theory that has raged through Internet chat rooms since the tech-stock bubble burst two years ago.

The topic is naked short selling, a practice said to have crushed countless companies and erased billions in market value. In the extreme form of the theory, faceless syndicates of shorts are blamed for much of the market's collapse. Canada is assigned special blame because Canadian short-selling rules are looser than those in the U.S., although the U.S. rules are by no means strict (see box).

Technically, a naked short is an ordinary speculative short seller, as distinct from a covered short who, for example, owns a convertible bond that could be used to obtain the shares being sold short.

The conspiracy theorists tend to use naked short to mean people who short without limit, without regard to market rules and with no plan to borrow or deliver stock until the price has been pounded to oblivion.

Along with a few other U.S. companies, GeneMax has opted out of the brokerage industry's electronic book-entry system and now demands paper certificates for changes of share ownership. The plan is to squeeze the shorts, and it seems to be working, if only by spreading the idea that the share price has been artificially depressed by short selling and the tables are being turned.

Orchestrating this effort Investor Communications International Inc., which plays multiple roles in the GeneMax story as part owner, communications adviser and midwife in the deal that took the company public this past summer through a share swap with a moribund Nevada software maker. ICI and GeneMax have their headquarters in the same suite of offices in Blaine.

Mr. Pierce enters the picture through ICI, even if his exact role is unclear. His B.C. trading ban, a matter unrelated to ICI or GeneMax, was imposed after he acknowledged that some of the money raised in an initial share offering by a company called Bu-Max Gold Corp. was diverted to a private company he controlled and applied to his benefit.

He signed a document 2 years ago filed with the U.S. Securities and Exchange Commission listing himself as ICI's sole shareholder. The firm recently sent a letter to newspapers suggesting that this is no longer true, but it did not reveal the current ownership. ICI officials did not respond to repeated phone calls last week.

GeneMax president Ronald Handford understands he is dealing with Mr. Pierce. "We think he is doing a very good job," Mr. Handford, a former banker and mining-exploration company president, said in Vancouver. He stressed that although ICI handles "the markets and public awareness side of things," GeneMax is in charge of its own destiny.

Short sellers hope prices drop

Short sellers aim to buy low and sell high, but not in that order. They sell shares they don't own now (they are short of these shares) in hopes of buying them cheaper later.

They may fill the gap by borrowing shares to make delivery, but sometimes they simply stall, exploiting quirks in a trading system that has largely replaced paper certificates with electronic book entries. When the system catches up to them and forces them to buy or borrow stock, they can always short some more.

Either way, a short sale creates what amounts to a pretend share. If the short seller borrows a share to make delivery, there are two people who think they own it: the buyer and the person whose share was borrowed.

Neither is likely to be aware of that fact. Standard customer agreements give brokers carte blanche to earn fees by lending out shares held in margin accounts, meaning the accounts of clients who buy securities partly on credit.

In a heavily shorted stock, the short position can grow to equal or exceed the number of margined shares available for borrowing. Persistent short selling tends to depress market prices, sometimes to zero.

None of this is necessarily illegal. The basic rule in Canada is that every short sale must be declared as such. The U.S. rule goes further, requiring players to make an "affirmative determination" that stock is available for borrowing at the time of the sale.

In neither country is it a crime to fail to deliver promptly on the settlement date, three business day later. The U.S. rule makes it hard for Americans to keep shorting an impossible-to-borrow stock. Canadians face no such restriction, although shorting a stock in tight supply is particularly risky.

When short sellers are wrong and prices rise, their losses can be almost unlimited. At some point, they must buy their way out at whatever price the market demands.


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