eFuture: What's Going On?

Best IPO of the year? That's what some people are saying about eFuture (富基旋风，EFUT-Nasdaq）, which went public a couple of weeks ago, raising about $6m dollars by issuing about $1m shares at $6 a piece. Since then the price has reached as high as $48 with heavy trading volume: 14.3m for one day. The float is just 45,000 shares according to Yahoo Finance.

eFuture is a provider of integrated software and professional services for manufacturers, distributors, wholesalers, logistics companies and retailers in China's supply chain front market. The company reported $4.9m revenue and $0.7m next income in 2005, according to its pre-IPO SEC filing.

I just cannot explain how a stock with a float of over 1m shares can be traded with such a high volume (within the lockup period, I assume). The management claimed that they are "unaware of any business information underlying the increase in e-Future's per share price and trading volume". I do not own eFuture's shares (I don't trade any IPOs), but I am really confused, in addition to my concern about the trading volume:

• Why did the company need to go public if all the company needed was just $6m?
  
• Is it possible that the IPO was severely undervalued, i.e., the company was screwed by Anderson & Strudwick, the underwriter for the IPO? On the other hand, and $6 a P/R of 4 and P/E of 28 (based on 2005 data and $6 per share) was not unreasonable.
  
• $0.48 of the $6 offering price is for the commission for the underwriter, which is allowed to purchase up to 720,000 shares. I cannot believe that Anderson & Strudwick was willing to be an underwriter for just over $300,000!
• Why does the company have to register in Cayman Islands?
• Why aren't citizens of PRC allowed to purchase the shares (SEC filing)?
  

As of today, eFuture trades at $33.5 a share, making the company worth about $100m.

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A retired Silicon Valley VC explains this phenomenon as possibly a combination of being a bought deal and short-squeez to a stock with a very small float and mostly controlled by a single owner(the underwriter). The explanation seems to make sense. Besides, the article offers much else for me to learn on IPO, VCs, speculators. [He has another article specifically on investing in early-stage Chinese companies]

I have been trying to explain the rapid rise of eFuture because the gains in this IPO have been enormous. One explanation for the small float could be that this was a bought deal meaning that the underwriters bought all the shares at $6 per share and therefore were responsible for distributing it. In bought deals, the underwriters actually buys all the stock from the company. That means there are no shares around to be bought - except from the underwriter. That explains the supply side of the equation. How about the demand side? Now, assume you had heard about eFuture from a friend and imagine you really wanted to buy this stock and there is only one seller - Anderson & Strudwick. You the buyer would have to pay whatever the seller asks. If there are large numbers of speculators like you, then demand trumps supply and the stock goes up until it reaches a market clearning price. Is this rational? Economics 101 says that it is. Is the valuation rational? That is another story.

Another explanation for Efuture's meteoric rise is that there may have been speculators who were shorting the stock betting that the stock would decline. After all, eFuture had climbed inexplicably from $14.98 to $19.89 to $29.49 in 3 days, and any Hedge Fund Hero would have thought, "I'm smart. eFuture is trading at 50x earnings. It is barely growing. No brainer short." This is how things could have played out. Sensing opportunity, our Hedge Fund Hero goes and shorts a couple of lots at $25, then $28, then $31. eFuture just wouldn't stop. Everything would have been perfect - except our Hedge Fund Hero got caught in a short squeeze.