Material CCP Totalitarian Risks Imbedded in Lufax Holding Ltd’s Accounts

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Lufax is just a part of CCP pond scheme stream.

It was reported by the Financial Times (FT) on 8 October 2020 that Lufax announced plans for a US IPO even as Trump pushes a plan to delist companies from Communist China(PRC) reigned by Chinese Communist Party (CCP) (See reference 1)  Lufax’s debut was just part of listing activity stream by PRC companies on US exchanges and 102 Chinese firms FT reported on 11 October 2020 have debuted on the New York Stock Exchange and Nasdaq, elevating $25.5bn, in keeping with information from analysis agency Dealogic since Trump became US President four years ago. Throughout Mr Obama’s eight years 105 preliminary public choices of PRC firms were held in the US, which raised a complete of $41bn thanks partly to the blockbuster $25bn of ecommerce group Alibaba in 2014 (See reference 2). Ant Group recently was also launching IPO in Hong Kong before Hong Kong lost access to dollar supply.

However, there are many auditing and accounting problems remaining unresolved satisfactorily. New York-listed PRC companies have been the topic of scandals, such as Luckin Coffee delisted by Nasdaq after admitting to fabricating gross sales.

According to report by Reuters (see reference 3), PRC says it has made concessions in proposing to let U.S. regulators to audit some of its most sensitive companies but would insist on redacting some information on national security grounds. Many people forget that it is national security that hinders PCAOB inspection. There is an abstract of SEC’s statement, “PRC’s state security laws are invoked at times to limit U.S. regulators’ ability to oversee the financial reporting of U.S.-listed, PRC-based companies.  In particular, PRC laws governing the protection of state secrets and national security have been invoked to limit foreign access to PRC-based business books and records and audit work papers.  As a result, for certain PRC-based companies listed on U.S. stock exchanges, the SEC and PCAOB have not had access to the books and records and audit work papers to an extent consistent with other jurisdictions both in scope and timing.” In consequence, Trump decided to delist PRC entities but subject to serious delay.

Financial Statements of Lufax in the SEC Statement

Lufax published its FORM F-1 Registration statement for certain foreign private issuers UNDER THE SECURITIES ACT OF 1933 on 7 October 2020 (See reference 4).   The consolidated statements of financial position of Lufax Holding Ltd and its subsidiaries (the “Company”) as of December 31, 2019, 2018, 2017 and January 1, 2017, and the related consolidated statements of comprehensive income, of changes in equity and of cash flows for each of the three years in the period ended December 31, 2019, including the related notes were audited and given an unqualified opinion by PricewaterhouseCoopers Zhong Tian LLP on 28 July 2020 which was located in Shanghai (SHPWC), PRC. The accounts were said to be prepared in conformance with IFRS.

Risk of lack of audit objectivity and independence

CCP have set work units or cells in both SHCPA and SHPWC as indicated by the express of SHCPA (see reference 5). CCP also have unit in Lufax (See reference 6) which was set up in Shanghai. Therefore, CCP units of SHPWC, SHCPA and Lufax are subject to control of CCP Shanghai unit according to the grade system of CCP. SHPWC, Lufax’s auditor, won’t have the same objectivity and independence as in the West as it’s more likely to be influenced through CCP by Lufax’s management for example through bribery, political interest exchange or inspection interest exchange. If objectivity and independence are compromised due to undue influence, bias or other concerns, auditors can’t be expected to demonstrate professional competence, scepticism, professional conduct and due care when performing audit work. Auditors will be unable to challenge management judgement confidently.

Risk of financial performance overstatement for the year ended 31 December 2018

Comparison of consolidated financial performance of year 2018 with that of year 2017 as follows.

  20172018Increase rate2019
Column No.123=(21)÷14
 Row No.RMB’000RMB’000 RMB’000
Technology platform-based income117,221,116.0032,221,439.0087.10%41,929,077.00
Sales and marketing expenses2-7,450,984.00-10,766,966.0044.50%-14,931,096.00
General and administrative expenses3-2,822,510.00-2,796,098.00-0.94%-2,853,049.00
Credit impairment losses4 -934,594.00 -1,862,745.00
Asset impairment losses5-3,735,786.00-7,492.00-99.80%-134,516.00
Impairment loss totalled6=4+5-3,735,786.00-942,086.00-74.78% 
Profit before income tax78,363,712.0018,649,260.00122.98%19,433,841.00
Less: Income tax expenses8-2,336,723.00-5,073,326.00117.11%-6,116,697.00
Net profit for the year96,026,989.0013,575,934.00125.25%13,317,144.00
Cash generated from operating activities103,945,410.001,537,249.00-61.04%6,422,582.00
Income tax paid111,270,693.002,989,616.00135.27%4,230,688.00
Net cash generated from/(used in) operating activities12 2,674,717.00-1,452,367.00-154.30%2,191,894.00

Technology platform-based income in 2018 rose by 87.1%, while general and administrative expenses and total impairment losses contrasted 0.94%, 74.78% respectively and sales and marketing expenses only increased by 44.5% resulting in profit before income tax surge by 122.98% in 2018. Thereon, for the year ended 31 December 2019, it tried to rationalize technology platform-based income and profit before income tax respectively of RMB41.93bn and 19.43bn while credit impairment loss increased to 1.86bn.

Despite substantial increase of profit before income tax in 2018, cash generated from operating activities slide down 61.04% to RMB1.54bn which was only 8.24% of profit before income tax. The profit number is questionable.

Material tax risk imposed by CCP turned cash generated from operating activities into negative

In 2018, income tax paid increased 135.27% to RMB3bn resulting in net cash generated from/(used in) operating activities of negative RMB1.45bn. In 2019, income tax paid raised further substantially by 41.51% to 4.23bn and consequently net cash generated from/(used in) operating activities was less 65.87% than cash generated from operating activities for the year 2019.

Statement of cash flow indicated business is investment and reinvestment rather than technology platform service

Though it claimed it was principally engaged in retail credit facilitation and wealth management businesses, from 2017 to 2019, both proceeds from sale of investment assets and payment for acquisition of investment assets were above RMB112bn as follows which indicated it made many investments deals each year.

 201720182019
 RMB’000RMB’000RMB’000
Proceeds from sale of investment assets112,224,538134,989,169118,648,110
Payment for acquisition of investment assets-113,566,600-132,109,150-128,570,535

Risk in defending investors’ rights under CCP totalitarian

It’s not fresh in PRC that investment deal was usually used for transferring fund to CCP gangsters cheated from investors via platform or other means. Given no rule of law, no free speech and Great Firewall, it’s usually difficult for investors and fintech platform users to defend rights. Courts, police and Lufax shared direction and leadership of CCP. As many videos at Gnews website showed, investors who defended rights often suffered CCP police gangsters’ violence.

Risk in foreign currency conversion

There are three broad categories of exchange rate systems. In the free-floating systems, exchange rates are set purely by private market forces. In the managed float systems, currency values are allowed to change, but governments participate in currency markets in an effort to influence those values. Finally, in the fixed exchange rate system, governments may seek to fix the values of their currencies.

As far as RMB is concerned, CCP adopts managed float systems which is a kind of dirty exchange rate system and entitles CCP ease of manipulating exchange rate. CCP is an organized crime organization. Recently onshore-RMB jumped 1.45% over USD to 6.693 on 9 October 2020 but The People’s Bank of China soon adjusted its policy to stop RMB appreciation and onshore-RMB fell 0.9% to 6.754 on 12 October 2020.

Lufax’s major operations are within the PRC and return on investment is impacted heavily by RMB’s exchange rate. Although it presented financial statements using RMB, its shares will be invested and divested via USDs and return, if any, will also be realized in USDs. If its shares are purchased after RMB has already surged much, it’s more likely to suffer great loss if CCP manipulates exchange conversion rate downside.

A risk can’t be neglected that PRC will have liquidity problem in that if Qing Dynasty’s USD1tn bonds are demanded to repay by PRC, RMB is likely to fall a lot.

Risk in misapplying consolidation accounting standard

Just as disclosed in the note to its accounts, it is required to judge whether it is an agent or principal in relation to structured entities and therefore possible to result in misstatement. With respect to the Consolidated Affiliated Entities as well as other subsidiaries in the consolidation scope, it may fail to apply IFRSs in the group accounts in all the aspects such as recognizing revenue, classifying financial instruments as well as categorization of cash flow as if the whole group is a single entity. It’s unsure whether Lufax has made such mistakes.

Risk of understatement of provision for impairment losses

Provision rate of receivables and contract assets is calculated as below.

 Row No.201720182019
RMB’000RMB’000RMB’000
Principals of accounts and other receivables and contract assets118,691,74320,347,16026,698,064
Provision for impairment losses2225,069252,324401,626
 Provision rate3=2÷11.20%1.24%1.50%

Provision rate of loans to customers is calculated as below

 Row No.201720182019
RMB’000RMB’000RMB’000
Principals of loans to customers1101,760,56336,021,54048,749,826
Provision for impairment losses24,207,6261,593,8461,251,314
 Provision rate3=2÷14.13%4.42%2.57%

Given subjective character in judging expected credit loss on receivables, contract assets and loans and severe macroeconomic condition that already have begun since 2015 when local governments even in Guangdong had to replace outstanding bank loans with new bonds issued and subsequently conversion  of debt to equity scheme was mentioned for those bonds issued by local government owned entities and the situation deteriorated due to environmental protect storm, CCP corruption and tariff conflicts, the impairment loss provision rate is likely to too low.

Risk of fair value valuation manipulation

Most of its financial assets at fair value through profit or loss (FAFVPL) were not measured in Level 1 fair value hierarchy. Level 2 and Level 3 fair value hierarchies are more likely subject to valuation manipulation. If any manipulation, the fair value of those assets will be overstated. There’s a table to show its financial assets measured using non-Level 1 fair value hierarchy.

 Row No.201720182019
RMB’000RMB’000RMB’000
Non-Level 1 FAFVPL1   14,084,184.0015,168,77112,850,214
FAFVPL214,965,68316,444,39518,583,056
Non-Level 1 ratio3=1÷294.11%92.24%69.15%

Conclusion

According to the discussions above, because many manipulation risks are implicit in fair value measurement, impairment loss measurement, consolidation accounting and there’s operation cash flow scarcity and lack of reliable audit in PRC, revenue and profit reported in the income statement were likely to be overstated. The investment cash flow shows there’s huge risk in its business model. On account of significant risks in tax reducing operation cash flow to negative, exchange rate, politics and so forth brought by CCP totalitarian, it’s unlikely to realize any dividend income from investment on Lufax. More likely, the investment on Lufax will be used by CCP to buy police arms to compromise rule of law, press freedom, conduct BGY scheme and build Great Firewall or research bioweapons.

References:

1.FT.8 October 2020.  China’s Lufax files for US IPO against backdrop of rising tensions.https://www.ft.com/content/4a59be25-c05d-460e-b9d5-3b00d5301da9

2.FT. 11 October 2020. China stock listings on Wall Street accelerate under Trump.https://www.ft.com/content/1acd60ed-f549-430e-822c-8155baf125a8

3.Reuters. 27 August 2020 China makes proposal to U.S. in concession to solve accounting dispute: Bloomberg. https://www.reuters.com/article/us-china-audit-dispute/china-makes-proposal-to-u-s-in-concession-to-solve-accounting-dispute-bloomberg-idUSKBN25N0BR

4. SEC. 7 October 2020  Form F-1 Lufax Holding Ltd Registration statement for certain foreign private issuers. https://www.sec.gov/Archives/edgar/data/1816007/000119312520265571/d934009df1.htm

5.SHCPA.31 July 2020. Work report express of Shanghai Institute of Certified Public Accountants.https://www.shcpa.org.cn/manager/cms/upload/1597396762843_15.pdf

6.Lufax. 2 April 2020. Assignment of board chair and CCP unit chief for Lufax .https://www.lu.com/about/202004021100.html

Author:CPA Jim

【G Translator / Financial and Law Team】

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