People walk past an entrance to the Anbang Group's offices in Beijing, June 14. (AP Photo/Mark Schiefelbein)People walk past an entrance to the Anbang Group's offices in Beijing, June 14. (AP Photo/Mark Schiefelbein)

In a move that stunned New York dealmakers at the time, the famed Waldorf-Astoria Hotel on Park Avenue was sold in 2014 to a little-known Chinese company.

That Chinese company is Beijing-based Anbang Group, an insurance conglomerate known for its aggressive overseas asset purchases, including a failed 2016 bid to acquire Starwood Hotels and Resorts. At the time, Chinese companies were engaged in a global takeover spree, and Anbang appeared to be leader of the pack.

Merely a year later, the once high-flying Anbang is suddenly grounded.

Anbang billionaire chairman Wu Xiaohui has been detained by Beijing authorities. And several Chinese state-owned banks were told to stop their dealings with the company, sources told Bloomberg on June 15. Its more than 30,000 employees and nearly $300 billion of assets are left hanging in the balance.

On June 9, Beijing anti-corruption investigators detained Wu, according to the Financial Times. While it is yet unclear if the Central Commission for Discipline Inspection will announce a formal investigation of Wu, he is certainly the highest-profile business executive reeled in so far by Chinese leader Xi Jinping’s sweeping anti-corruption efforts.

Anbang’s Meteoric Rise

In a short time, Anbang has risen from relative obscurity to become one of China’s largest holders of foreign assets. Before its activities were curtailed recently, Anbang had become well known among Western private equity firms and real estate moguls as a competitive bidder for assets.

Wu and Anbang have cultivated extensive business and political connections abroad. Wu is known to be close to Jonathan Gray, head of real estate at U.S. private equity giant Blackstone Group. A few of Anbang’s recent asset acquisitions have been bought from Blackstone. Wu was also in discussion to acquire a stake in the Manhattan office tower owned by Jared Kushner, son-in-law and senior advisor of President Donald Trump, but the deal was called off in March.

Today, Anbang’s portfolio of well-known foreign assets includes the Waldorf-Astoria Hotel, the 717 Fifth Avenue building in New York, the Chicago-based Strategic Hotels & Resorts Inc., Belgian insurer Fidea, Belgian bank Delta Lloyd, and a controlling stake in South Korean insurer Tongyang Life Insurance.

Anbang_holdings

List of major foreign asset holdings of Anbang Group, as of June 1, 2017 (The Epoch Times)

‘White Gloves’

Anbang’s sudden fall seems as startling as its rapid ascent. What caused the disgrace of Wu Xiaohui, who led a conglomerate described by the Financial Times in 2016 as “one of China’s most politically connected companies?”

In China, business is always driven by politics. And Wu’s political network could very well landed him in trouble. 

Wu was in discussion to acquire a stake in the Manhattan office tower owned by Jared Kushner.

Wu’s background, like many other Chinese tycoons, is relatively obscure. Born in Wenzhou, Zhejiang Province, Wu founded Anbang as a small insurance company in 2004. His fortunes elevated after marrying Zhuo Ran, a granddaughter of former Chinese Communist Party (CCP) leader Deng Xiaoping.

Overseas Chinese language media and sources of this newspaper note that Wu and Zhou are now divorced, although Wu and Anbang have publicly denied such reports.

Wu, 50, is believed to be a close ally of an influential political faction that is in opposition to the Xi leadership. Jiang Zemin was head of the CCP for over a dozen years (1989–2002) and continued holding sway over the Chinese regime through a network of cronies for another ten years (2002–2012). Since coming to office in 2012, Xi Jinping has waged a battle to uproot the influence of Jiang and his faction. 

Sources close to Zhongnanhai, the central headquarters of the CCP, told The Epoch Times that Anbang and Wu have close ties to the family of Zeng Qinghong, the former Chinese vice premier, member of the powerful Politburo Standing Committee, and longtime confidant of Jiang.

The source said that both Wu and Xiao Jianhua—the Chinese billionaire and Tomorrow Group owner who was abruptly brought back to Beijing from Hong Kong for investigation earlier this year—are key “white gloves,” or money launders, of the Zeng family and the Jiang faction.

The source added that Wu and Xiao used financial transactions to funnel and launder funds abroad on behalf of the Jiang faction, while at the same time parlaying their roles as business tycoons to spy on and influence foreign dignitaries.

There are questions surrounding the sources of Anbang’s capital. The company was founded in 2004 as a small insurer with a mere 500 million yuan ($73 million) of capital and eventually became a behemoth with assets of almost 1,971 billion yuan ($292 billion).

Anbang’s capital suddenly swelled in 2014, with a number of mysterious investors injecting a total of 50 billion yuan into the company. Research by Caixin, a respected mainland business magazine, found that some of Anbang’s 39 investors are obscure outfits such as auto dealerships, real estate firms, and mine operators that sometimes use shared mailing addresses, many of whom are connected to Wu. There’s also a trend of major state-level investors scaling back their ownership, with SAIC Motor Corp. and Sinopec decreasing their ownership levels from 20 percent each to 1.2 percent and 0.5 percent respectively.

Waldorf_hotel_17

The Waldorf-Astoria hotel is shown January 17, 2005 in New York City. (Spencer Platt/Getty Images)

The insurer also relies on fundings from selling risky wealth management products called universal life policies. These products offer high interest rates and are a hybrid bond and a life insurance policy, have been extremely popular with consumers dissatisfied with bank deposit rates of around 1 percent.

Crackdown on ‘Barbaric’ Insurance Sector

Xi Jinping has made reforming the financial industry a core focus this year. At a speech on March 21, Premier Li Keqiang urged authorities to take powerful measures to prevent corruption in the financial sector, which is vulnerable to the advent of shadow banking, bad assets, and illegal internet financing, according to state-controlled media Xinhua.

Xi has also shown he’s unafraid to challenge captains of industry with extensive political connections. Wu’s detention is the latest in a string of recent disciplinary actions taken against high ranking officials within the financial industry, and thus far, with the insurance sector as ground zero. In February, chairman of financial conglomerate Baoneng Group Yao Zhenhua was banned from the insurance industry for ten years. In April, the former head of China Insurance Regulatory Commission (CIRC) Xiang Junbo was placed under investigation.

Sources close to Zhongnanhai have told The Epoch Times early this year that the Xi leadership is focusing on tackling corruption in the Chinese financial industry in 2017. 

China’s insurance industry has garnered immense power—and controversy—during the last six years, a period of deregulation overseen by its former chief regulator, Xiang, currently under official investigation.

From 2012 to 2016, China’s insurance sector grew 14.3 percent overall, and non-life insurance grew 16.5 percent in premium volume, according to data from Munich Re. Last year, China overtook Japan to become the world’s second biggest insurance market by premiums.

During this period, the insurance sector has turned into a den of corporate raiders.

Insurers are traditionally bastions of conservatism, holding stable assets such as government securities and corporate bonds. Insurers by nature must consider preservation of their clients’ capital as paramount. These assets are also liquid and can be easily sold to pay back policy-holders.

Flush with cash from universal life policies, Chinese insurers embarked on a spending spree, amassing portfolios of risky assets not typically associated with insurance, such as stocks, real estate, and foreign companies. Such assets are risky and illiquid, and could impede an insurer’s ability to repay holders during times of distress.

The insurers most closely associated with such practices are Evergrande Life, Foresea Life—a unit of Baoneng—and Anbang. These companies’ business model closely resemble a private equity fund, where capital is expensive and investment returns are the main focus.

Last year, Foresea and Evergrande amassed a large stake in residential real estate developer China Vanke. A public and protracted dispute to wrest control of Vanke from founder and CEO Wang Shi—one of China’s most famous entrepreneurs—ensued, creating a market firestorm that was finally dispelled after Beijing intervened in December.

In late 2016, China’s insurance regulator criticized the entire domestic insurance industry, calling its aggressive purchases of Chinese companies “barbaric.” Wang Shi also portrayed Foresea’s stock accumulation as “barbarian,” a reference to the 1989 book “Barbarians at the Gate” about the hostile takeover of RJR Nabisco by private equity giant Kohlberg Kravis Roberts & Co.

In just six months, Xi has replaced China’s top insurance regulator, banned the sale of universal life policies, and for now, seemingly brought a wild industry to its heels.

But years of free-wheeling cannot be corrected overnight.

Foresea, which depends on cash from sales of universal life products, issued a warning last month of financial difficulties leading to potential social unrest from its customers unless regulators lift the ban on such products. In a letter to regulators, Foresea called for a lifting of ban “to avoid mass riots by clients, causing systemic risks and much damage to the wider industry.”

Reference to “mass riots” is anathema to the CCP and a potential challenge to the Xi leadership. The insurance industry, in the end, may not give up without a fight.

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Xiang Junbo, Chairman of China Insurance Regulatory Commission (CIRC) at the National People's Congress March 12, 2016 in Beijing. (Lintao Zhang/Getty Images)Xiang Junbo, Chairman of China Insurance Regulatory Commission (CIRC) at the National People's Congress March 12, 2016 in Beijing. (Lintao Zhang/Getty Images)

China’s powerful financial sector has officially been put on notice.

Xiang Junbo, chairman of the China Insurance Regulatory Commission (CIRC), was placed under investigation for “severe disciplinary violations” last week, according to the Chinese Communist Party (CCP)’s top anti-corruption organ.

So far, Xiang is the highest-ranking cadre from the financial industry caught in Chinese leader Xi Jinping’s anti-corruption campaign.

The inquiry into Xiang could open the floodgates on future investigations into the Chinese financial industry. Sources close to Zhongnanhai—headquarters compound of the CCP and the state council—told The Epoch Times that Xi is targeting corruption within the financial sector in 2017 and Xiang is the “first tiger” captured in the effort.

Sources suggested that Xiang’s crimes are “severe” and relate to the Chinese stock market volatility in recent years. The investigation could also lead to corruption implications of top officials at other financial regulatory bodies such as the China Banking Regulatory Commission and the China Securities Regulatory Commission.

Xiang, 60, has extensive connections and experience in China’s financial sector. Prior to his appointment at the CIRC, Xiang was chairman at the Agricultural Bank of China, one of China’s “Big Four” state-owned commercial banks. Before that, Xiang was a deputy governor at the People’s Bank of China, the country’s central bank. He worked at the Audit Commission earlier in his career.

The sacking of Xiang has surprised many in the Chinese financial sector. He was one of China’s top finance officials and a member of the CCP’s central committee. His commission oversaw an insurance industry with rapidly growing clout and a penchant for overseas asset acquisitions.

Chinese Premier Li Keqiang has been hawkish on reforming the financial sector in recent months. At a speech on March 21, Li urged authorities to take powerful measures to prevent corruption in the financial sector, which is vulnerable to the advent of shadow banking, bad assets, and illegal internet financing, according to state-controlled Xinhua.net.

The Xiao Jianhua Connection

Xiang’s capture was likely precipitated by the recent disappearance of CCP insider Xiao Jianhua, a billionaire Chinese investor residing in Hong Kong.

China’s insurance industry has garnered immense power—and controversy—during Xiang’s oversight.

Xiao disappeared from his residence at the Four Seasons Hotel in Hong Kong in late January, and was brought back to Beijing for interrogation. The Zhongnanhai source told The Epoch Times that Xiao provided information a number of top-level officials with allegiances to the “Jiang Faction.” His testimony could have served as one of the bread crumbs leading to Xiang’s investigation.

Xiao is among China’s richest individuals, with a sprawling investments across several sectors, including banking, property, information technology, and rare-earth minerals. He was worth $5.8 billion as of 2016, according to the Hurun Report.

It’s unclear where Xiao currently stands politically in the current Jiang Faction-Xi Jinping divide, although he seems to have established connections to both. In 2006 Xiao assisted Zeng Wei, the son of former Party vice-chairman Zeng Qinghong, to privatize Shandong Luneng through a series of shell companies owned by Xiao. Zeng was a top CCP official during the Jiang Zemin and Hu Jintao regimes.

And in 2012, an entity owned by Xiao acquired shares worth at least $2.4 million from Qi Qiaoqiao and Deng Jiagui, the sister and brother-in-law of Xi Jinping.

Insurers Gone Rogue

China’s insurance industry has garnered immense power—and controversy—during Xiang’s oversight in the last six years.

From 2012 to 2016, China’s insurance sector grew 14.3 percent in overall and non-life insurance grew 16.5 percent in premiums volume, according to data from Munich Re. Last year, China overtook Japan to become the world’s second biggest insurance market by premiums.

Under governance of the Xiang-led CIRC, the insurance sector has turned into a den of corporate raiders.

Traditional insurers are bastions of conservatism, holding stable assets such as government securities and corporate bonds. Insurers by nature must consider preservation of their clients’ capital as paramount.

But not in China. Sensing opportunity in a low interest rate environment, over the last few years Chinese insurers expanded outside of traditional insurance activities by issuing wealth management products called universal life policies. These products, which offer high interest rates and are a hybrid between a bond and a life insurance policy, have been popular with consumers dissatisfied with bank deposit rates of around 1 percent.

Munich_Re_China

(Source: Munich Re)

Flush with cash but saddled by promises to pay high yields, Chinese insurance companies poured money into risky and volatile assets not typically associated with insurers. These firms took large positions in Chinese publicly listed companies and snapped up overseas assets including foreign companies and real estate.

Evergrande Life—a unit of property developer China Evergrande Group—saw its premiums increase more than 40 fold in 2016.

Evergrande and Foresea Life—a unit of Baoneng Group—used their proceeds from universal life policies to amass a large stake in real estate developer China Vanke during the last year. A public and protracted dispute to wrest control of Vanke from founder and CEO Wang Shi ensued, creating a market firestorm which was finally dispelled after Beijing intervened late last year.

The raid on Vanke was far from the only instance of aggressive asset accumulation by insurers, but its virulent nature—Baoneng and Vanke engaged in a public war of words—created the most headaches for Beijing.

As an industry, insurance has also been a major vehicle to funnel money abroad in the form of foreign acquisitions, at times in opposition to Beijing’s official stance on stemming the outflow of yuan. Anbang Life was at the forefront of such purchases, and made headlines in 2015 for purchasing New York’s Waldorf-Astoria hotel for nearly $2 billion. In 2016, Anbang bought Strategic Hotels & Resorts from Blackstone Group for $6.5 billion. The company’s biggest gambit was a failed $14 billion bid to acquire Starwood Hotels & Resorts Worldwide.

For years, the cavalier investment strategies of insurers had the implicit blessing of the CIRC. After he took reins of the regulator, Xiang endorsed more flexible usage of insurance premiums and insisted on “giving innovation the biggest freedom” within the industry, according to a South China Morning Post report.

The insurance industry’s contribution to recent stock market gyrations (via equity purchases) and downward pressure on the Chinese yuan currency (through foreign asset purchases) could be factors in Xiang’s downfall. But allegations against Xiang may go beyond insurance given his previous stops at the Agricultural Bank of China and the People’s Bank of China.

Xiang had not seen in public for several weeks leading up to February, stirring rumors about a possible arrest. He reappeared on Feb. 22 at a news conference, and railed against the insurance industry for their recent activities. Xiang stated that the CIRC “will punish top executives and revoke their licenses, and definitely not allow the insurance industry to be turned into a regal club.”

The CIRC has stepped up efforts to rein in the activities of insurers in the last few months. A mid-December announcement lowered the ratios of equity to be held at insurers, and barred them from using insurance deposits to fund equity purchases. By the end of February, CIRC had already rejected four license applications, matching the total for all of 2016.

But for Xiang, it was perhaps too little too late.

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Anbang Insurance Group's headquarters in Beijing, March 16, 2016. (AP Photo/Andy Wong)Anbang Insurance Group's headquarters in Beijing, March 16, 2016. (AP Photo/Andy Wong)

Beijing’s recent decision to crack down on activities of Chinese insurance companies could push insurers toward riskier asset investments and create a liquidity crunch within the industry.

Industry regulator China Insurance Regulatory Commission (CIRC) announced strict new rules late December, curbing an industry that has been flush with cash. The new rules are choking a main source of funding and growth for insurers by lowering their allowed investments into stocks (to 30 percent), and barring insurance companies from using customer deposits to fund large equity purchases.

The regulations come after a period of unprecedented growth for the Chinese insurance industry. From 2012 to 2016, China’s insurance sector grew 14.3 percent overall and non-life insurance grew 16.5 percent in premiums volume, according to data from Munich Re. Last year, China overtook Japan to become the world’s second biggest insurance market by premiums.

Traditionally, insurers are considered to be bastions of security by holding conservative assets such as government securities and corporate bonds.

But not in China. Sensing opportunity in a low interest rate environment, Chinese insurers have expanded outside of traditional insurance activities. They have been the biggest issuers of wealth management products called universal life policies. These products, which offer high interest rates and are a hybrid between a bond and a life insurance policy, have been extremely popular with consumers dissatisfied with bank deposit rates of around 1 percent.

Flush with cash but saddled by promises to pay high yields, Chinese insurance companies poured money into assets not traditionally associated with insurers. These firms took large positions in Chinese publicly listed companies and snapped up overseas assets including foreign companies and real estate.

For example, Evergrande Life—a unit of property developer China Evergrande Group—saw its premiums increase more than 40 fold in 2016. It used the proceeds to accumulate a significant stake in rival developer China Vanke last year.

As an industry, insurance has been a major driver of Chinese foreign acquisitions. Anbang Life is at the forefront of such purchases. It made headlines in 2015 for purchasing New York’s Waldorf-Astoria hotel for nearly $2 billion. In 2016, it bought Strategic Hotels & Resorts from Blackstone Group for $6.5 billion. Most recently, Anbang has been in negotiations to purchase U.S. life insurer Fidelity & Guaranty Life for $1.6 billion, a deal which has been put on hold for New York insurance regulatory review. Anbang’s biggest gambit was a failed $14 billion bid to acquire Starwood Hotels & Resorts Worldwide.

Riskier assets—such as equities—accounted for 49 percent of the insurance industry’s assets at the end of November 2016, a 27 percent increase from the end of 2013, according to a report by Moody’s Investors Service.

As an industry, insurance has been a major driver of Chinese foreign acquisitions.

“In particular, the industry’s rising exposure to single-name equity investments is increasing concentration risk, and leaves the insurers’ profitability and capital profiles sensitive to capital market movements,” analyst Kelvin Kwok wrote in the Moody’s note.

Cashflow Problems

Chinese regulators are concerned about the size of stock investments on insurers’ balance sheets. Such stock investments are risky and volatile, and could put depositors’ capital at risk.

CIRC’s fears are not unfounded.

Traditional insurers manage their business by attempting to match projected payouts of liabilities—such as annuities and insurance payouts—with assets whose cash inflows are stable and predictable enough to fund the outflows.

But the explosive growth of universal life policies, and the insurers’ acquisitions of riskier, longer-dated assets, throw this model out of the window. Insurers such as Evergrande Life have marketed universal life policies with very high yields (up to 8 or 9 percent). And to attract even more customers, these products often have no penalty for early withdrawal.

As such, insurers are forced to buy riskier assets to grow their capital enough to fund such high promised returns. But with insurers holding such large stakes in Chinese listed companies, if depositors withdraw their capital en masse, it could suddenly force the insurers to sell their stakes and cause the stock market to plunge.

China Life holds a 44 percent stake in China Guangfa Bank and a 30 percent stake in Sino-Ocean Group. Foresea owns large stakes in Gree Electric Appliances and China Vanke. If they are forced to sell their stakes, the Chinese stock market could see a sudden downturn.

Insurers such as Anbang, which owns several entire foreign companies, has trapped cash and will find it even more difficult to raise money quickly.

This means that to stay liquid, insurers are forced to sell more universal life policies in the short term—with new proceeds used to pay interest on existing policies.

But that source of capital is quickly drying up, and a liquidity crunch could ensue. Anonymous sources told Chinese-based 21st Century Business Herald that is CIRC is preparing to block sales of certain universal life policies entirely. The CIRC temporarily suspended a handful of insurers late December, including Evergrande and Foresea, from selling universal policies over the internet.

Buyers of new policies are finding the returns have lowered. Marketing a 4.7 percent return on a two-year universal product, an Anbang customer service agent in Shanghai told a reporter from the South China Morning Post, “It could be the highest return on the market nowadays. Next time you come, you might not get hold of a product with no fees on early surrender of two years.”

Some insurers have already felt the squeeze. Evergrande Life, according to regulatory filings, reported that its solvency rate dropped from 180 percent to around 110 percent at the end of 2016.

Solvency rate of 100 percent is the minimum threshold for insurers in China.

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Investors watch price movements on screens in Beijing Feb. 22. China's insurance regulator said risky stock market bets by domestic insurers undermines market stability. (Greg Baker/AFP/Getty Images)Investors watch price movements on screens in Beijing Feb. 22. China's insurance regulator said risky stock market bets by domestic insurers undermines market stability. (Greg Baker/AFP/Getty Images)

NEWS ANALYSIS

Beijing has cracked down on domestic insurers, suppressing the industry over what regulators have recently deemed speculative investments. The move hurt insurance stocks, driving down the Shanghai Composite Index 3 percent in the week ended Dec. 15.

It’s a move that further cements China’s “Wild West” business reputation: the landscape is mostly lawless, but you never know who will ride into town to spoil the party.

Chen Wenhui, vice-chairman of the China Insurance Regulatory Commission (CIRC) announced stricter regulations over the industry on Dec. 13, including lowering the ratios of equity to be held, and barring insurance companies from using insurance deposits to fund equity purchases.

Chen denounced the insurance companies for making speculative stock market bets and disrupting market stability, according to an editorial in the Communist Party mouthpiece People’s Daily. In addition, CIRC launched investigations into two privately-held insurance giants—Evergrande Life Insurance and Foresea Life, a unit of insurance giant Baoneng.

Beijing has been closely monitoring insurance companies’ activities for months. Their highly leveraged asset purchases are risky and if stock prices fall, their fortunes could quickly unravel.

But the timing and nature of the crack down is intriguing. For one, Beijing has been attempting to restrict the outflow of cash, and insurance companies have been a major agent of foreign asset acquisitions in the last twelve months. At the same time, CIRC’s investigation into two specific insurers may be driven by an entirely different motive.

Stemming the Outflow

Chinese insurance companies are flush with cash from selling so-called “universal life” products, a high-yielding hybrid product combining death benefit and investments. Foresea’s “universal life” products, for example, promise returns of between 4 to 8 percent. To fund the high returns, insurance companies have been leveraging up to purchase assets both within China and abroad.

As an industry, insurance has been a major driver of foreign acquisitions. Anbang Life is at the forefront of such purchases. Anbang made headlines last year for purchasing New York’s Waldorf-Astoria hotel for nearly $2 billion. Earlier this year, it bought Strategic Hotels & Resorts from Blackstone Group for $6.5 billion, and most recently, Anbang has been in negotiations to purchase around $2.3 billion of Japanese residential real estate assets, also from Blackstone. Anbang’s biggest gambit this year was its failed $14 billion bid to acquire Starwood Hotels & Resorts Worldwide.

The timing and nature of the crack down is intriguing.

Fosun is another conglomerate which funds asset purchases from insurance subsidiaries. Fosun has a diversified portfolio of foreign assets, including well-known foreign assets such as vacation resort operator Club Med, circus performance troupe Cirque du Soleil, accessory maker Folli Follie, women’s fashion label St. John, and downtown Manhattan skyscraper One Chase Manhattan Plaza.

Cash leaving the country has accelerated yuan’s devaluation. But perhaps of greater concern for Chinese authorities is liquidity and cash leaving the nation’s banking system. China’s banks already face high delinquency rates and receive regular liquidity injections from the central bank. While official non-performing loan ratios at major banks are low (around 2 percent), true delinquency rates—which affect banks’ cash and liquidity—are estimated at between 20 to 30 percent.

Restricting insurance companies’ ability to generate cash—which could be used to fund foreign acquisitions—therefore indirectly limits cash withdrawals and preserves liquidity at Chinese banks.

Beijing Intervenes in Vanke

Outside of general restrictions on insurers’ activities, CIRC’s crackdown on Evergrande and Foresea are the most severe.

Regulators barred Foresea from issuing “universal life” policies which made up almost 90 percent of the firm’s premiums. Foresea has used such premiums in recent months to increase its ownership in a number of high-profile Chinese companies.

CIRC also banned Evergrande Life, the insurance unit of major property developer China Evergrande Group, from investing in equity securities. In an announcement on its website, CIRC said Evergrande’s “asset allocation plan is not clear, and its capital funding operations are not standardized.”

Beijing’s decision to intervene in Foresea and Evergrande is interesting, given that the two insurance giants are both major shareholders of China Vanke, a major residential real estate developer. Evergrande and Baoneng both own major stakes in other Chinese companies, but Vanke is the most public and well-known.

Baoneng—through Foresea and several other subsidiary insurers—is Vanke’s biggest shareholder and has been locked in a protracted dispute to wrest control of the company from Vanke founder and CEO Wang Shi, one of China’s best-known and earliest entrepreneurs.

Last week, CIRC criticized the entire domestic insurance industry, calling its recent investments into other Chinese companies “barbaric.” The tone and characterization is similar to Wang Shi’s portrayal earlier this year of Baoneng as “barbarian,” a reference to the book “Barbarians at the Gate” about the 1988 hostile takeover of RJR Nabisco by private equity giant Kohlberg Kravis Roberts & Co.

Evergrande is another top shareholder in Vanke and has been building up its shares quickly over the last few months. Its intentions so far are unclear, but Evergrande’s parent is poised to overtake Vanke as China’s biggest residential developer in 2016.

Both companies could demand board seats at Vanke’s shareholder meetings in March 2017, which could determine the fate of Wang Shi.

And here’s where Beijing steps in as Wang’s white knight. Wang is a celebrity with a rock star-like reputation, and one of China’s first-generation entrepreneurs who is synonymous with the rise of Shenzhen as a business hub. Since founding the company in 1984, Wang carefully managed his relationship with local and regional Communist party organs. Vanke largely followed party blueprints to develop and build homes and apartments across China during the real estate boom, and is said to have a wealth of Communist Party connections.

To Western observers, the Vanke takeover battle seems routine. Activist investors such as Carl Icahn and Daniel Loeb shaking up corporate boards is commonplace in the United States. But the showdown over Vanke is a rarity in the Chinese markets, where the ruling Communist Party craves stability and control above all.

In recent years, regulators have increased rhetoric about letting free-market forces play a more decisive role in shaping the country’s financial markets. Analysts had been wondering how the Chinese regime would handle a possible downfall of one of China’s most successful businessman, which will reveal much about its market intentions.

It looks like we have our answer—CIRC’s crackdown on Vanke’s top shareholders will likely stop Baoneng and Evergrande’s further advance. 

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China Vanke Chairman Wang Shi speaks at the 2013 World Economic Forum, in Davos. Wang is has been in the midst of a drawn-out fight with Vanke's largest shareholder over control of the company. (AP Photo/Michel Euler)China Vanke Chairman Wang Shi speaks at the 2013 World Economic Forum, in Davos. Wang is has been in the midst of a drawn-out fight with Vanke's largest shareholder over control of the company. (AP Photo/Michel Euler)

China Vanke Co. Ltd., the world’s biggest residential real estate developer, has doubled down on efforts to blunt its top shareholder in an ongoing fight for control of the company.

The company—one of China’s most well-known firms—has been mired in an eight-month long dispute with No. 1 shareholder Baoneng Group, after the little-known insurance company began to amass Vanke shares late last year. Baoneng’s goal is to wrest control of Vanke from Wang Shi, the company’s founder and chairman.

Vanke’s latest gambit was a proposed asset purchase in Shenzhen via new stock issuance that would dilute current shareholders in an effort to stave off Baoneng’s increasing influence. Vanke’s future could come down to an investor vote of the plan.

The shareholder battle has intrigued market participants due to an almost shocking level of confrontation in a country where private ownership of companies is still maturing and negotiations are done orderly and behind closed doors. Wang called Baoneng a “barbarian,” a reference to the 1988 hostile takeover of RJR Nabisco by Kohlberg Kravis Roberts & Co. In turn, Baoneng accursed Wang of not putting shareholders first and sought his ouster from Vanke’s board.

A Shenzhen Gambit

Vanke’s latest maneuver is a purchase of assets from state-owned Shenzhen Metro Group for 45.6 billion yuan ($6.9 billion) through new stock issuance. Vanke’s stock sale would dilute Baoneng and other investors’ ownership stakes. If approved, Shenzhen’s subway operator would assume the title of single largest shareholder, surpassing Baoneng’s stake.

In a statement last week, Vanke said that if the deal consummates, Shenzhen Metro would hold 20.65 percent of its shares, exceeding Baoneng’s 19.27 percent after dilution. Before the sale, Baoneng through several subsidiaries and affiliates, have accumulated close to 25 percent of Vanke’s outstanding shares.

Vanke’s stock sale would dilute Baoneng and other investors’ ownership stakes.

The deal, and more importantly investor dilution, is critical for Vanke in its fight with Baoneng. “For our firm, the deal is not like icing on a cake, it’s a crucial matter to our future,” Vanke Senior Vice President Tan Huajie told investors in a transcript acquired by Bloomberg.

But approval of the deal is far from a guarantee. Vanke’s second biggest shareholder and long-time ally is state-owned China Resources Group, which owns a 15 percent stake in Vanke before dilution.

While initially wary of Baoneng’s share purchase, China Resources has since sided with Baoneng in criticizing Vanke’s recent maneuvers. China Resources also plans to vote against Vanke’s proposal to purchase the Shenzhen Metro assets, viewing it as a ploy to hurt current shareholders. China Resources Chairman Fu Yuning called the move “unfortunate” as the plan was never brought up to be discussed with the board.

Combined, Baoneng and China Resources own around 40 percent of Vanke’s shares prior to dilution and represent a formidable challenge for Vanke’s plans.

Ironically, more than 15 years ago it was China Resources that came to Vanke’s rescue as it fought off a similar shareholder takeover situation.

Baoneng Under Pressure

Baoneng also faces its share of challenges.

Wang criticized Baoneng and its affiliates for excess use of leverage. Vanke sent a letter to regulators earlier this year alleging that Baoneng used structured debt vehicles and sold high-yield wealth management products to accumulate its stake in Vanke.

The use of leverage could have negative impact on Baoneng’s financial health. Since Vanke shares resumed trading on July 4—it had been suspended on the Shenzhen Stock Exchange since Dec. 18, 2015—its value has fallen more than 20 percent to 17.39 yuan ($2.60).

If Vanke shares continue to fall, Baoneng could face margin calls on its position and may be forced to liquidate some of its holdings to pay back debt.

Baoneng could also draw increasing scrutiny from insurance regulators. At an industry conference last Thursday, China Insurance Regulatory Commission Chairman Xiang Junbo stressed that policyholder and investor protection are top-of-mind for the regulator, warning insurers to refrain from selling wealth management products to finance risky asset purchases.

A Test for ‘Capitalism’

To Western observers, the Vanke-Baoneng takeover battle seems routine. Activist investors such as Carl Icahn and Daniel Loeb shaking up corporate boards is commonplace in the United States.

Stakes are high for the Chinese Communist party in the Vanke fight.

But the showdown over Vanke is a rarity in the Chinese markets, where the ruling Communist Party craves stability and control above all. But in recent years, regulators have stepped up rhetoric about letting free market forces play a more decisive role in shaping the country’s financial markets.

Stakes are high for the Chinese Communist party in the Vanke fight. For one, this showdown will test resolve of the Communist party to stand pat and let market forces resolve the situation, one way or another.

Secondly, Wang Shi is a celebrity with a rock star-like reputation, and one of China’s first-generation entrepreneurs who is synonymous with the rise of Shenzhen into a business hub. He founded Vanke in 1984 as a private trading company under a government agency. Four years later, Vanke became one of the first companies in Communist China history to restructure into a private holding corporation.

After the Tiananmen Square crackdown of June 4, 1989, Wang helped several democracy activists escape to Hong Kong. He was detained for almost a year for assisting in the activism, a person familiar with his background told the Wall Street Journal in a 2014 interview.

In the following decades, Wang carefully managed his relationship with local and regional Communist party organs. Vanke largely followed party blueprints to develop and build homes and apartments across China during the real estate boom.

To avoid suspicion from the Community party as he and the company rose to prominence, Wang held less than 0.1 percent of Vanke’s shares. Instead, the company has relied on state-owned organizations as top shareholders—such as China Resources—to support Wang’s position. But this strategy also left Vanke vulnerable to outside takeover.

While Beijing has kept a watchful and wary eye towards the saga playing out in Shenzhen—where both Baoneng and Vanke call home—it had not intervened directly.

Until now.

China’s top securities regulator, the China Securities Regulatory Commission (CSRC), gave indications of intervention last week after staying on the sidelines for more than half a year. The CSRC criticized both Vanke management and shareholders, and warned that any illegal actions would be punished although it did not cite what would constitute illegal actions.

“Vanke and shareholders not introduced any concrete plans to resolve their differences,” a posting on CSRC’s Weibo account read last week. “Instead their conflict has intensified, not regarding capital market stability, the interests of the company, nor those of small investors.”

The CSRC set up a task force to investigate the Vanke saga, according to Chinese business journal Caixin citing unnamed sources close to the situation. A separate notice released by China’s securities regulator says Vanke and its top shareholder both violated disclosure requirements on major shareholder changes.

Regulators’ scrutiny around the transaction and a pending shareholder vote likely means that for better or for worse, the Vanke shareholder battle could be nearing its endgame.

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