The Great Kaiping Bank Robbery (China)

The government hoped the listing of Bank of China (Hong Kong) would be the star to lead a string of initial public offerings of the country's state-owned giants. But that was before the skeletons started tumbling out of the Bank of China's vaults. Only now is the scale of the graft becoming clearer

AS THE BANK of China prepares for the already delayed and scaled-down listing of its Hong Kong arm, details are emerging of another corruption scandal to shake public confidence. And its size, according to investigators, is staggering: up to 6 billion renminbi ($725 million). That would make it the biggest single case of embezzlement since the founding of the People's Republic of China in 1949.

If the allegations are true, it appears that by the early weeks of October last year the strain must have been starting to tell on banker Xu Chaofan and his junior colleagues Yu Zhendong and Xu Guojun. Auditors from Bank of China headquarters in Beijing were beginning to close in on the trail of missing funds and all the evidence pointed to the bank's sub-branch in Kaiping district in the small southern township of Sanbu, 100 kilometres from Macau.

In the early 1990s, Xu Chaofan was the manager at Kaiping until he was promoted to the bank's provincial headquarters in Guangzhou. His successors in Kaiping were Yu Zhendong and then Xu Guojun, who was the sub-branch manager in October. The three were apparently well prepared in case they were uncovered because their families had already been sent abroad using false passports, according to Hong Kong government officials. Finally on October 15, the three fled to Hong Kong also using fake travel documents, and on to Canada, where they are believed to remain on the run. All that was left was a gaping hole in Bank of China's books.

On December 26, Bank of China took out a half-page legal advertisement in Canada's National Post newspaper serving notice on the three fugitives as part of legal moves to freeze their assets. The notice, however, didn't hint at any scandal.

It wasn't until March 15 that Bank of China President Liu Mingkang publicly revealed that at least $483 million had been stolen from the bank through Kaiping. "The investigation is still going on. The final loss could be higher," he told a group of journalists. He said authorities saw the theft as the work of five main suspects, including the three former Kaiping sub-branch managers. At the same time, however, he affirmed his determination to float the Hong Kong unit globally.

Mainland and Hong Kong police now working on a major probe into the affair say that the three managers and their associates are suspected of siphoning off up to 6 billion renminbi, far higher than earlier bank estimates, and laundering a sizeable amount of this through Hong Kong and Macau.

"They were doing this for nine or 10 years," says an investigator working on the case who asked not to be identified. "These guys were massive high rollers. They were gambling and travelling overseas with their families. Casino limousines would meet them at airports."

The theft and other scandals at the Bank of China, including the continuing investigation into former President Wang Xuebing over corruption and irregularities at the bank's New York branch, highlight systemic problems with the way the bank was run. Bank of China head Liu is betting that potential investors in Bank of China (Hong Kong)'s IPO will take heart from the vigorous investigation of the Kaiping scandal and will see the bank is serious about putting its house in order.

In fact, partly in preparation for the listing, Bank of China in the last two years has worked to separate its Hong Kong unit from the rest of the bank, putting in its own board and independent directors and making it subject to Hong Kong's stricter regulators. No allegations have been made that the Bank of China (Hong Kong) was involved in the Kaiping affair. But as the scandals and details come to light, the risk is that potential investors will conclude that problems with the group are too daunting to justify putting money into even a part of it.

Beijing hopes that the funding, discipline and expertise that offshore public listings will bring to domestic banks will put them in better shape to compete with a full invasion of foreign banks expected within a decade under the terms of China's entry to the World Trade Organization in December. The Bank of China (Hong Kong) was supposed to be the first of a series of state-owned firms to list.

But the plan to float the Hong Kong arm in a $4 billion-$5 billion initial public offer in Hong Kong and New York was scaled back and delayed because of the string of graft scandals that became public this year. Banking analysts now say the New York listing has been put on hold until next year. A limited float in Hong Kong scheduled for the third quarter is now expected to raise about $2 billion.

The size of the IPO was cut because the Bank of China scandals have acted as windows on the shortcomings of the country's banks that highlight how much ground they must make up to reach international standards of management and performance. In a frank report on May 5, leading financial magazine Caijing said the Kaiping scandal illuminated the "terrifying" complexity and scale of the challenge facing China. "Only by drawing a lesson from this bitter experience and facing reality bravely will the Chinese banking industry be able to make up for lost time," the magazine said.

If Beijing needed any reminder of the potentially explosive consequences of corruption, it didn't have to wait long after Xu and his colleagues fled. On October 17, depositors started queuing at 20 Bank of China branches in the Kaiping area after rumours spread about the alleged theft. The authorities were forced to send truckloads of cash to meet demands for withdrawals. Calm was restored within days, but the incident shows how wary the government is of any loss of public confidence in the banks. Some analysts warn that a run on China's debt-laden banks might spark a nationwide financial crisis.

From the little publicly available information, it is unclear exactly how the three managers managed to exploit loopholes in the Bank of China's internal accounting systems and escape detection for so long. Chinese and Hong Kong investigators are reluctant to discuss the case, but say that the three men had established a pipeline into the Bank of China's foreign-currency reserves in Beijing.

Veteran police investigators into corporate crime in Hong Kong say it is highly unlikely that they acted alone. They add that one of their suspects is another Bank of China official. Other bank managers have been replaced in a sweeping shake-up of local branches. "It is very clear that the Bank of China has big problems," says one Beijing-based investigator.

Investigators say that one method Xu Chaofan used to shift money offshore was through issuing bogus loans to cooperative local state-owned enterprises, which then transferred the funds as payment for orders of raw materials to companies he controlled in Hong Kong.

In the meantime, the Bank of China is making strong efforts to clean up the mess in Kaiping and claw back some of the stolen funds. Caijing reported that the corrupt managers used embezzled funds to pay for the plushest hotel in Sanbu and the 22-storey office block next door that housed the Kaiping Bank of China office. These assets have been recovered. The manager of the hotel, who was also a former Kaiping sub-branch official, committed suicide by jumping from a hotel window, according to Caijing magazine.

The bank is cooperating with police in Hong Kong, Canada and the United States and investigators are trying to unravel where the money went and locate the fugitives. In connection with the case, Hong Kong police in October arrested businessman Hui Yat-sing and his wife Wong Suet-mui and charged them with laundering $75 million between March 1998 and March 2001. In the same month, Hong Kong police charged two women, Xu Xia-li and Ching Yu-chu, with laundering smaller amounts.

All four appeared in Hong Kong's Eastern Magistrates Court on May 9. Prosecutors successfully argued for a six-month adjournment to prepare their case and the four were freed on bail and ordered to surrender their passports. They were not required to enter a plea. On March 14, detectives from Hong Kong's Organized Crime and Triad Bureau arrested, but so far not have charged, two solicitors and a barrister and seized documents as part of the investigation into the laundered funds. Further charges are expected.

Hong Kong authorities have also frozen assets worth more than $100 million linked to the case--including more than 50 properties, shares and luxury cars in Hong Kong.

It has also emerged that mainland and Hong Kong authorities turned to Canada within days of discovering the Kaiping theft. The Bank of China petitioned the Supreme Court in Vancouver on October 22 in a bid to freeze deposits wired to three Canadian banks. Documents filed to support the Bank of China's Vancouver action showed that Hong Kong authorities had already uncovered the suspected transfer of funds to Canada and sought help from their Canadian counterparts.

"We are currently investigating a case of money laundering where the culprits and some of the proceeds have ended up in Canada," said an October 20 letter from the Hong Kong police to Paul Brown, the Hong Kong-based liaison officer for the Royal Canadian Mounted Police. "On 13 October 2001 during an internal audit of the Kaiping sub-branch Guangdong of the Bank of China, it was discovered that three managers had stolen some $75 million between March 1998 and March 2000. The thefts had commenced in 1992 and continued up to the date of discovery. When final losses are assessed, they will be many times larger."

Investigators say the RCMP is seeking the three fugitives. A RCMP spokeswoman in Vancouver, Danielle Efford, refused to comment to the REVIEW. "We have received some information that we are now looking at but we don't confirm or deny what we may or may not be investigating," she says.

If the three are captured, investigators say Chinese authorities would prefer they be deported as illegal immigrants who entered Canada on false documents rather than be extradited to face criminal charges. An extradition hearing into the allegations against them would turn the spotlight back on the Kaiping scandal as the bank strives to clean up its image.

In the meantime, investigators believe that it will take years to untangle the full extent of the theft and how the proceeds were laundered. Chinese officials must be hoping hard that there are no more bank offices out there like Kaiping.

BANK OF CHINA

PILFERED LOANS ARE JUST PART OF THE BIG BANKS' ILLS

THE BANKING SECTOR COULD IMPLODE UNDER THE WEIGHT OF BAD LOANS

By David Lague

Issue cover-dated May 30, 2002

Some of the losses from the Kaiping sub-branch of the Bank of China could be described as nonperforming loans. There was no chance they would perform because the corrupt former managers were lending the money to themselves in the form of fake loans to local state-owned enterprises, or SOEs, and they never intended to make any repayments.

Obviously not all NPLs in the Chinese banking system are accumulated because of theft, but corruption is clearly one factor in the alarming rate at which NPLs keep piling up. Earlier confidence that state-owned banks could curb loans to SOEs unwilling or unable to service mounting debts is evaporating.

Despite a series of massive bank bailouts, independent analysts say bad loans still threaten financial stability. The ratings agency Standard and Poor's believes that NPLs make up about 50% of all lending and could cost China more than $500 billion in write-offs. Other analysts estimate that the real level of NPLs is even higher.

The Asian Development Bank Institute, the Tokyo-based think-tank of the Asian Development Bank, has warned that urgent measures are vital to rescue banks from the weight of bad loans. "Restructuring of state-owned banks and SOEs is thus urgently needed because NPLs are now so large that the banking sector risks imploding," the institute said in a paper published in May.

SOE reform seems an intractable problem for China but curbing corruption and irregularities would help in efforts to restore the banks to health. One problem is that China's banks have inadequate supervision and auditing skills, according to experts. Mainland media have reported that internal auditing staff in Western banks usually account for about 5% of employees, while they are about 1% of staff in Chinese banks.

Internal controls and unified computer systems are also not up to keeping track of the vast sums washing around the Chinese banking system. Another problem is that relatively poor pay for banking officials leaves them open to temptation. Provincial bank chiefs earn an average monthly salary of about $360, according to the financial magazine Caijing.

Senior officials such as BOC President Liu Mingkang insist that they are determined to stamp out graft and improve management. The Kaiping affair shows there is a long way to go.

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