China Airs Some Very Dirty Laundry

While the massive corruption recently brought to light doesn't come as a surprise, the government's willingness to expose it does

By Chen Wu

It's no secret that corruption and cooking the books are rampant in China, but a recent study gives a rare, detailed picture of just how deep the rot goes. China's Auditor General Li Jinhua did just that in an annual report to the legislature recently, revealing billions of dollars of embezzlement and losses due to mismanagement and fraud.

What's more, it documents that the problems exist at some of China's biggest blue-chip, state-owned enterprises, including the Industrial & Commerce Bank of China (ICBC), which hopes to list overseas next near. Also fingered was China Life, the parent of New York-listed China Life Insurance (LFC ). The latter is currently being probed in the U.S. by the Securities & Exchange Commission for failing to disclose in its prospectus that the parent company was under investigation. The Bank of Communication, China's fifth-largest lender, also was named.


  The revelations are a reminder just how far China has to go to clear up corporate-governance woes in its troubled state-owned enterprises (SOE). At ICBC alone, staff and customers conspired to make nearly $2 billion in illegal loans. This is the second time serious problems at the state-owned lender have been uncovered this year. In January, the auditor's office disclosed $8.33 billion in fraud and financial irregularities.

The report also revealed that from 1998 to 2002, China State Power, a state monopoly, incurred losses totaling $947 million, due to bad investment decisions, unauthorized loans, and blind lending. As much as $386 million is traceable to a single executive, the report says. Though the study didn't mention specific names, it's widely suspected that the executive in questions was Gao Yan, then CEO of China State Power who fled China two years ago to evade charges of corruption. Gao's tenure coincided with the period that had been investigated.

Gao, a former member of the Communist Party's powerful Central Committee and the highest-ranking official in exile in the last decade, is suspected of absconding with $121 million when he left the country. The audit revealed widespread abuse at the power company. One former executive with the rank of vice-minister is alleged to have helped his daughter and son-in-law pocket $10 million in company funds. He has been arrested.


  Misuse of state funds wasn't restricted to SOEs, however. The audit office found misappropriations in 41 state agencies in 2003 totaling $171 million. One of the largest examples was the $15.8 million in Olympic funds that was spent by the General Administration of Sports to build private houses for its staff members.

While the audit report serves as a reminder to foreign investors that China is still a minefield, it also has a positive side. "It shows the resolution and confidence of the central government to fight corruption," says Frank Peng, a professor at Tongji University's School of Economics and Management in Shanghai.

Indeed, investors can only hope that Beijing has plenty of confidence: The report examined only 17 of China's 33 provinces.

Chen Wu is an intern in BusinessWeek's Hong Kong office

Edited by Patricia O'Connell

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