Ezubo's downfall highlights risks of nascent Internet finance industry

Ezubo has been ordered to suspend operation due to allegations of illegal business practices. Photo: year39.com

China's largest asset-to-peer (A2P) platform Ezubo has been on a roller-coaster ride, turning from a sought-after money-maker into a target of criticism in less than two years.

The online lending platform, which was established by its parent company Yucheng Group in 2014, has recently been ordered to suspend operation due to allegations of illegal business practices, as the industry rules loom.

Before its business suspension, Ezubo had attracted more than 70 billion yuan in funds from about 880,000 investors, according to wdzj.com, an Internet finance data provider in China. The online lending platform, which has about 5 million registered users, is currently facing a risk of default, because it is reported to only have 1.1 billion yuan in risk reserve deposit in a China CITIC Bank account, which has been frozen by the police.

The suspension of Ezubo came as the Chinese government is pushing forward with the "Internet Plus" national policy aimed at promoting further economic growth by supporting Internet finance, and triggered nationwide protests by the investors screaming for the redemption of their money.

On December 14, a group of investors protested outside the headquarters of the state-owned broadcaster CCTV, Ezubo's influential endorser which aired the online lender's commercial advertisement during prime time, claiming that the suspension has caused a "great impact" across China. Many web pages related to the December 14 protest were not accessible on December 15.

However, with the online lending industry unregulated, is Ezubo the only party to blame for its meltdown?

Unbelievable expansion

A source close to the matter revealed to the Sino-US.com that the 70 billion transaction volume was churned out by recruiting a host of salesmen with high salaries canvassing potential customers by virtue of the so-called national endorsement and by establishing and finding more than 1,000 sales agencies across the country including the Bank of China.

The source said that most of the operators of Ezubo's online business have little knowledge about the P2P market, let alone fake investment projects, financial fraud and risk control. A head of an Ezubo branch used to call himself a "cheater" when he discussed Ezubo's operation with his teammates, said the source.

The source further pointed out that Ezubo planned to explore the global market, a vision dismissed by the source as a daydream due to lack of professionals who specialized in marketing research and product development.

As for where the lost 70 billion yuan went, the source disclosed that it was used for advertisement, sponsorship cooperation, property purchase, establishment of a bank in Southeast Asia, staff costs, business registration and supporting a small armed force in a foreign country.

A former Ezubo employee, who refused to be named, told the Sino-US.com that he left the company after he became suspicious of how the online lending platform could aggregate a stupendous sum of money in a very short period.

"It is puzzling that Ezubo could attract more than 70 billion yuan within two years. In the context of the economic slowdown, I think that Ezubo could not find enough quality investment channels that could match with the large transaction volume," said the employee, who also raised questions over the credibility of Ezubo's risk control criteria.

The employee noted that Ezubo released information about its investment channels on zhongdengwang.org.cn, a registration system for chattel financing established by the credit reference center of the People's Bank of China, the country's central bank, but he admitted that not every ordinary investor can completely understand what the information really signifies.

In an interview with the Sino-US.com, another Ezubo employee expressed some sympathy for his employer, saying that the company is a "victim" of the turf war with the state-owned banks, which he said are angry with Ezubo for stealing a large share of the deposit business from them.

"It is a wrestle between traditional banks and Internet-based banks," said the employee, predicting that there might have been some powerful men behind those traditional banks who called for an investigation into Ezubo at a time when China is promoting the development of Internet finance. "There is no reason for the Chinese government to devastate a big P2P platform after propping it up."

He revealed that Ezubo might have used fake investment targets in order to raise money to develop other businesses but with their number might be much smaller than reported, emphasizing that the other peer-to-peer (P2P) companies see the practice as an unwritten rule to cover other expenses including employees' salaries and advertisement fees.

Tarnished image

In November, the Chinese government officially announced the blueprint of the 13th five-year development plan, listing Internet finance for the first time. In the development plan, financial leasing, an important part of Internet finance, is specially mentioned, which has become the second-largest channel for fundraising after traditional banks in the mature markets in the United States and Europe.

Chinese Premier Li Keqiang, a major backer of the "Internet Plus" national policy, has pointed out that the innovation of the financial leasing sector has a big space to develop and that the financial leasing enterprises have a golden opportunity to make innovative breakthroughs in business scope, capital sources, risk control and asset utilization with the help of the "Internet Plus" national strategy.

Financial leasing is a major part of Ezubo's business. 

Apparently, every step Ezubo took to expand its business was in line with China's national strategy, with one of the missions to help small and medium-sized enterprises overcome difficulties in fundraising, said the Ezubo employees.

In September, Ezubo was granted the Most Socially Responsible Internet Financial Enterprise Award at a summit of Internet finance innovation held by China News Service and China News Weekly in Beijing. At the summit, Yang Chen, chief economist and senior vice president of Ezubo, boasted of the achievements the company had made in instructing investors to identify Internet finance products that were valuable and safe.

The investigation into Ezubo, launched only three months after the award presentation, dealt a blow to the reputation of the once-outstanding online lender overnight. It also creates skepticism about the standards adopted by the industry regulators and assessors to evaluate the credibility and professionalism of online lending platforms.

Industry experts say that the closure of Ezubo has dashed the investors' confidence in the whole online lending industry, which lacks a set of binding regulatory rules.

"China's P2P lending market is still at a nascent stage, where a healthy operating mode is not fully formed," Shi Pengfeng, chief executive officer of wdzj.com, told the Sino-US.com.

In recent years, China's P2P lending industry has mushroomed in the absence of effective regulatory supervision and unified industry norms. The gray industry environment has given rise to a growing number of problematic online lending platforms.

A Chinese mobile phone user looks at information of Weicaifu, the wealth management service of Sina. Photo: Imaginechina

According to statistics from wdzj.com, 79 online lending platforms were found to have problematic business activities in November, representing an increase of 32 from a month earlier.

"Ezubo's suspension reflects a common failure in the entire online lending industry where many related companies focus on spending a lot of money on marketing instead of developing good wealth management products. It is not a benign competition," a staff working for a Beijing-based financial firm told the Sino-US.com.

"The online platforms, which illegally raise funds in the name of P2P, do not represent real Internet finance," said Shi.

Need for regulatory tightening

Shi said that the downfall of Ezubo will force the Chinese government to speed up its effort to roll out regulations to manage the chaotic online lending market.

"The regulations are expected to be launched in one or two years at the earliest," said Shi.

An employee who has worked for credit rating agency Dagong Global partly attributed the closure of Ezubo to the regulators' incompetence in supervising the murky online lending sector. It is wrong that the public security authorities, instead of the industry regulators, first intervened in the case of Ezubo, the employee told the Sino-US.com.

"In this case, the regulators should have shouldered the responsibility of supervising the online lender, but they actually hold a wait-and-see attitude. On the one hand, they will take credit if they manage well the online lending market; on the other hand, they will feel afraid of disturbing China's innovation-focusing national strategy if they lose control over the market. Hence, the supervision cannot keep up with the demand for innovation," the employee said.

In July, the People's Bank of China, together with other 10 financial regulators and agencies, released the Guideline on Promoting the Healthy Development of Internet Finance to regulate the fast-growing sector brimming with risks and illegal business practices. The guideline encourages the development of Internet finance in an innovative way, calls for tighter supervision of the sector and vows to improve the mechanism to stabilize the order of the Internet finance market.

"But the guideline has no legal validity," said the former Dagong Global employee.

In January, Dagong Global unveiled China's first-ever blacklist of 266 online lenders, which the credit rating firm said fell short of full information disclosure standards and risk control capabilities. At the time, the blacklist did not catch enough attention from the regulators, the Internet finance industry and the investors, with some even questioning the reliability and accuracy of the blacklist.

After that, Dagong Global regularly updated the blacklist. On December 15, the credit rating agency sent via email its latest industry blacklist released on April 7 to the Sino-US.com, in which Ezubo was listed due to lack of information disclosure standards and third-party supervision mechanism, interrelated guarantee and trading, and weak risk management capabilities for big fundraising projects.

The former Dagong Global employee said that the effort of the credit rating agency to supervise the Internet finance sector really worked because lufax.com began to rectify the inappropriate practices of its online lending platform after the famous P2P platform was included in Dagong Global's warning list released also in January.

Legal means to reclaim money

After the closure of Ezubo, thousands of investors across the country have set up numerous self-organized groups in a joint effort to get their money back.

"A contractual relationship was formed once investors bought Ezubo's products. Ezubo should compensate the investors in accordance with the provisions regulated by the contract, if it defaults. But how much compensation the investors will get just depends on Ezubo's solvency margin," Beijing-based lawyer Hao Junbo told the Sino-US.com.

The source close to the matter told the Sino-US.com that it is unlikely the investors will get their money back because the closure has disqualified Ezubo to use the money raised from the latter investors to pay back the former investors in what the source called was a "trick" by the online lender to maintain its cash flow. The source said that one possible way is to auction Yucheng Group's other assets and semi-finished projects.

Hao suggested that the investors should be cautious in choosing financial products offered by online lending platforms even if they could be protected by effective supervision. "If the platforms without solvency margin break the contract, investors will finally bear the loss themselves. So investors should choose reliable and certified online lending platforms," said Hao

According to the advertisement law of China which took effect on September 1, CCTV will also take on the legal liability if it knows the illegal operation of Ezubo before advertising the online lending platform.

In order to avoid risks, Hao recommended that the Chinese government should set up laws to enforce online lending companies to buy liability insurance so as to protect the investors' interests through insurance system.

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