What M&A rainmakers can learn from Huarong saga

Beijing's investigation of Lai Xiaomin, a former chairman of China Huarong Asset Management, shows the risks foreign firms face when courted by potential Chinese investors.
Lai Xiaomin, former chairman of China Huarong Asset Management
Lai Xiaomin, former chairman of China Huarong Asset Management

Beijing’s tough stance against a former chairman of China Huarong Asset Management highlights the risks that can lurk behind a facade of well-connected corporate respectability and a reminder to investors to do their due diligence, and do it thoroughly, when investing in China.

Lai Xiaomin, ex-chairman of the country’s largest financial asset management firm, is being prosecuted for bribery and embezzlement of public assets, the Central Commission for Discipline Inspection (CCDI) and National Supervisory Commission (NSC) jointly announced last week.

Due to its statutory role helping to clean up problematic loans in China -- estimated at $3 trillion on some measures -- Huarong (along with three other state-owned bad debt banks) has developed complex and opaque lending relationships with a vast array of enterprises.

That can create a system susceptible to abuse, including bribery and money-laundering, in the absence of built-in safeguards, transparent processes, and rigorous oversight, risk consultants tell FinanceAsia. Lai, allegedly, could be a case in point. 

“The leaders of financial institutions in China generally have a great deal of power to advance credit and so it shouldn’t be surprising that they are courted by businesses, and this form of relationship-building can often cross over into corrupt actions,” Dane Chamorro, a Singapore-based senior partner of Control Risks, an international risk consultancy, said.

When it comes to assessing acquisition proposals involving private Chinese enterprises, these opaque relationships provide foreign companies with an extra layer of risk that they should think about more critically rather than view with rose-tinted glasses.

“Foreign companies may be tempted by the [perception] that its Chinese buyer is backed by Beijing. And that is why private Chinese buyers often play up their connections with the government,” Chamorro said.

However, the ownership structure of Chinese buyers is often deliberately opaque. "It is a classic red flag,” he said. 


Take the example of CEFC China Energy. The privately held energy firm last year made a whopping $9.1 billion bid for a 14.2% stake in Russian oil giant Rosneft, which moved quickly to approve the offer just two months after it was proposed.

Rosneft’s deal illustrates how things can go wrong without proper sell-side due diligence. The mega deal came to an abrupt end in March this year after CEFC’s founding chairman Ye Jianming was brought under investigation by Chinese authorities for suspected economic crimes. 

News of Ye’s investigation emerged shortly after the company revealed Huarong had acquired a significant stake in a CEFC unit used for the Rosneft purchase. Huarong’s chairman Lai was arrested a month later.

All these point to the possibility that the state-owned distressed debt manager was the actual buyer or main financier of the Rosneft bid. 

State-owned asset management companies like Huarong allowed Chinese companies to bypass the state banking system and raise funds for overseas deals that were not fully under the Chinese government’s control, said Yulingbo Mao, greater China head for Argo Associates, a Hong Kong risk consultancy.

It is uncertain whether Rosneft was aware of the complex ties between CEFC and Huarong when the offer was proposed.

The case highlights nonetheless how murky corporate structures in China can lead to problematic mergers and acquisitions and, along with Lai's prosecution, underlines how crucial it is for foreign firms to thoroughly scrutinise their Chinese buyers before accepting any bids.

Some foreign companies are too eager to attract Chinese investment, Chamorro said, and they ignore some of the important details behind the offer, including the rationale of the bid, the buyer’s ownership structure and the source of funding.

“[Chinese investment] is very attractive and they don’t ask too many questions. Big mistake,” he told FinanceAsia.

Both Huarong and CEFC did not reply to FinanceAsia’s questions.

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