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As China Evergrande announced on December 3 that it could not perform a guarantee obligation of US$260 million, the People’s Government of Guangdong Province sent a working group to Evergrande Real Estate Group, and the episode of Evergrande Group’s debt crisis was updated.
In the eyes of many people, Evergrande Group is a standard private enterprise just like HNA, which has been bankrupt and reorganized. If Evergrande Group is just a private enterprise with unified ownership and management rights like family workshops and mom-and-pop restaurants (the so-called “neo-classical capitalist enterprises” in economics), even if the principal and interest cannot be repaid due to the debt maturity, it will trigger In a debt crisis, in theory, creditors can come to the door to pull away the “cow” used by Evergrande Group as a mortgage guarantee. The “house” is demolished, and it does not seem to be a big deal.
However, the complexity of the problem is that Evergrande Group uses its listed companies to provide explicit or implicit mortgage guarantees. Therefore, the debt crisis of Evergrande Group is that the investment caused by debt financing deeply related to the equity financing behind cannot recover the principal. And the crisis of realizing returns.
According to the introduction of the official website, Evergrande Group is a Fortune 500 enterprise group with “multi-industry + digital technology”. Eight industries, including the world, Evergrande Health, and Evergrande Bingquan, provide all-round services to hundreds of millions of users.” Among them, Evergrande Real Estate, which was listed in Hong Kong in 2009, was renamed “China Evergrande” after 2016. The former Evergrande Health, which was renamed Evergrande Automobile after August 2020, and Evergrande Property, which was listed on December 2, 2020, are again non-wholly-owned subsidiaries of China Evergrande. Therefore, Evergrande Group has formed a capital family based on the original Evergrande Real Estate, which was renamed China Evergrande after 2016. It has three listed companies and at least a three-level pyramid holding structure capital family. Big series”. The actual controllers of the three listed companies are Mr. Xu Jiayin.
Therefore, Evergrande Group, which deeply associates debt financing with unsecured and unsecured equity financing realized among strangers, has surpassed the traditional “family workshop” or “mom-and-pop dining shop” that unifies ownership and management rights in the traditional sense. Some of the private enterprises in China have the attributes of a public company with the separation of ownership and management rights. Therefore, it is necessary to think about the corporate governance issue of ensuring that “investments are recovered on time and reasonable returns are obtained.”
As a comparison, we have noticed that a similar pyramid holding structure exists in the US Berkshire, which is relatively controlled by the “stock god” Buffett. In addition to directly controlling GEICO, one of the largest auto insurance companies in the United States, General Re, Shaw Industries, one of the largest reinsurance companies in the world, Nebraska Furniture Mart, the famous jewelry company Bergheim’ Jewelry, and the largest railroad company in North America Burlington Northern Santa Fe, Precision Cast parts Corp, a precision metal parts manufacturing company, and Berkshire also hold 19.57% of American Express and 9.26% of Coca-Cola, becoming the largest shareholders of the two companies. This makes Berkshire and the companies it invests in seemingly similar to Evergrande Group to form a two-tier or even multi-tiered pyramid holding structure, and Buffett himself becomes the ultimate owner at the apex of the above-mentioned pyramid holding institution. .
In fact, Buffett only uses the Berkshire shareholders meeting held in May every year to advertise his Coca-Cola obligations. Our general feeling is that Coca-Cola is Coca-Cola and Berkshire is Berkshire. Apart from the equity investment relationship, there is almost no connection between the two. Coca-Cola will not ask its apparent parent company Berkshire to provide guarantees during debt financing, nor will it allow Berkshire to occupy Coca-Cola’s funds in the form of “receivables” or “other receivables.” Therefore, the two seem to be connected, but it can also be said that the two are not connected.
Our question is, although Buffett holds shares in many listed companies through the pyramid chain, why hasn’t he formed the so-called “Berkshire system” in the US capital market like Evergrande Group? This is obviously the key to understanding the so-called “corporate governance problems” of private enterprises like Evergrande Group that are caught in a debt crisis.
First of all, American public companies with a board of directors composed of professional managers at the core of governance are not welcome, and even resist the active actions of major shareholders. Major shareholders look the same as minority shareholders, but hold slightly more shares.
Let’s take American Express, which holds 19.57% of Berkshire’s shares, as an example. American Express and Berkshire have signed an agreement that is revised from time to time to ensure that Berkshire is “passive” in its investments. In accordance with the agreement, Berkshire and its subsidiaries agreed to vote on the company’s common stock in accordance with the recommendations of the American Express Board of Directors; at the same time, Berkshire was required to undertake that under certain exceptional circumstances, Berkshire and its subsidiaries Do not sell the company’s common stock to anyone who holds more than 5% of our voting securities or who attempts to change the company’s control.
Historically, in the era when Katherine Graham and his family were the controllers of the Washington Post and Berkshire held 12% of the Washington Post’s shares, Buffett served on the Washington Post board of directors as a shareholder director for a long time. In American Express’s current 15-person board of directors, apart from the company’s CEO and chairman of the board as the only insider, the remaining 14 directors are all outside directors. This means that Berkshire, which holds 19.57% of its shares and does not appoint shareholder directors who represent its own interests, has the value for American Express only to maintain the board of directors as the core of corporate governance and prevent barbarians from invading when necessary.
As a simple comparison, Mr. Xu Jiayin is also the actual controller of three listed companies under the Evergrande Group. Among the three listed companies, the non-independent directors appointed by the parent company with a shareholding ratio of more than 60% to the subsidiary are all from Evergrande Group, accounting for 100%. As the chairman of the board of directors of Evergrande Group, Mr. Xu Jiayin directly concurrently serves as the chairman of China Evergrande.
In the current state-owned enterprise mixed-ownership reform, one of the goals we are striving to achieve is to realize the transformation of state-owned assets from “managing people, managing affairs, and enterprises” to “managing capital” in the past. We have seen that Mr. Xu Jiayin, who not only over-appoints directors, but also serves as chairman of the board, has become a new model of “managing people, managing affairs, and enterprises” under the background of private capital with the help of a pyramid holding structure. Private enterprises have unknowingly absorbed state-owned enterprises’ worst dregs in corporate governance practices, which are now actively improving in the mixed reforms, without criticism and reservations.
We have seen that many of our state-owned enterprises have failed to achieve the best practice of corporate governance of “no matter who, no matter, nor enterprise” and “just capital”. Therefore, we need to actively carry out the mixed reform of state-owned enterprises; some of our private enterprises are also the same. Failure to do so, HNA Group went into bankruptcy and reorganization, and Evergrande Group was in deep debt crisis. Comrade Buffett, who is as far away as the United States, has truly managed to “manage capital.” This is why Buffett has become the Buffett he is today. Therefore, I once wrote an economic review article entitled “How Buffett’s Berkshire “Manages Capital”” for the column of FT Chinese, suggesting that the mixed reform of state-owned enterprises should learn from Comrade Buffett’s “good example”.
Berkshire holds shares of many listed companies through a pyramid holding structure, but the “Berkshire system” that has not evolved into the American capital market is actually related to the following two system designs.
Second, the strong network of legal protection of investors’ rights and interests constructed through class actions and inversion of proofs makes the directors of the company cautious in fulfilling the trustworthiness responsibilities of directors to shareholders. The conduct by insiders, including financial fraud, harms the rights and interests of externally dispersed shareholders. Don’t dare to have any fluke in his behavior.
The extensive experience of the law and finance research team led by Professor Shleifer of Harvard University has shown that the determination of a country’s financial development level and degree of development does not depend on whether it is based on the so-called Japanese-German model of the banking system or the so-called Anglo-American model of the market system. The division of appearances depends on the degree of protection of investors’ rights and interests in a deeper level of the country’s laws. As the common law has better protection of investor rights than the various sub-families of civil law, the legal tradition based on common law sources has become a model for the legislation and practice of company law in various countries, and even some scholars believe that the company law History can thus end.
In the basic framework of the protection of investors’ rights and interests constructed by the common law system, the convenience of shareholders’ litigation against directors for breach of fiduciary duty with class action and inversion of evidence as the core content has become one of its typical features. The essence is to encourage the participation of professional lawyers to increase the probability of successful shareholders’ initiation of a director’s lawsuit that violates fiduciary responsibilities, so as to realize the effective protection of the rights and interests of investors by the law. For example, in the Enron accounting scandal in the United States, investors received compensation as high as 7.14 billion U.S. dollars through class actions.
Recently, the Guangzhou Intermediate People’s Court made a first-instance judgment in the country’s first securities class action case, ordering Kangmei Pharmaceutical to compensate securities investors for losses of 2.459 billion yuan due to misrepresentation and tort. The relevant persons responsible shall either bear all joint and several liability for compensation or bear the liability according to the degree of fault. Part of joint and several liability. The Kangmei Pharmaceuticals case marked that my country’s A-share capital market’s crackdown on insiders’ actions that harm the interests of external shareholders has moved from the previous “regulatory advancement” to “rule of law”.
What makes me a little regretful is that the current “special representative” franchise under the new “Securities Law” special representative litigation system, and even a monopoly, will invisibly increase the threshold for small shareholders to initiate class actions and use legal weapons to protect their rights; at the same time; In the judicial practice of protecting investors’ rights and interests, the inversion of proof system, which is often used in conjunction with the class action system, has not been “one step in place” in this revision of the Securities Law. The so-called inversion of proof means that unless the listed company can provide evidence that the relevant decision-making is legal and compliant, and does not harm the interests of shareholders, the relevant directors of the listed company have not fulfilled their fiduciary duties. The inversion of proof system will undoubtedly further increase the probability of success in shareholder litigation and better protect the rights and interests of shareholders of investors.
The third is that the ubiquitous threats of external takeovers, market short-selling mechanisms, and the external governance environment jointly created by various professional voting agencies have kept directors of US listed companies in a state of anxiety and fear of any fluke.
The threat of external takeover is undoubtedly a very important external corporate governance force in any capital market. According to the generally accepted conclusions, in the US capital market, if a public company dared to engage in (excessive) diversification like China’s HNA, “except for the condom manufacturer, it has not acquired, but bought and bought all the way”, the company’s stock price will appear obvious. Discount. This will induce the receiver to initiate a threat of takeover. The direct consequence of the success of the takeover is that those directors who have not fulfilled their integrity responsibilities will be ruined and dismissed.
Since 2015, the average shareholding ratio of the largest shareholder of Chinese A-share listed companies has been lower than one-third of the relative control of the mark. We believe that China’s A-share capital market has entered the era of diversified equity, marked by the “Vanke equity dispute”. However, the insurance funds, including the raising of cards, were helplessly associated with the “barbarians” and “fairies”. Under the heavy blows of the supervisory authorities, they quickly disappeared. The short-lived active takeover and mergers and acquisitions in China’s A-share market quickly entered a long period of silence after a flash in the pan.
Short-selling institutions driven by profit-seeking motives will be more keenly focused on those “seamed eggs” in listed companies than regulatory authorities and small and medium shareholders. The financial fraud of Ruixing Coffee, which once set the record for the fastest listing of China’s concept stocks, was not discovered and identified by an audit agency or independent director, but by Muddy Waters, a short-selling agency. However, although margin financing and securities lending are allowed, there is currently no real short-selling mechanism in the Chinese A-share market.
In the face of increasingly incomprehensible financial statements and increasingly unfamiliar legal rules, professional voting agencies have emerged to perform voting rights on behalf of small and medium shareholders. Even for Berkshire, which has done a remarkable job in the realization of investor returns, since Chairman and CEO Buffett and Vice Chairman Munger have a fixed annual salary of US$100,000, the other two directors each received US$16 million. This is the highest basic salary of a publicly listed company in the United States. ISS, an agency voting advisory agency, believed that Berkshire “has no measurable link between executive compensation and company performance.” Voted against the issue of “salary right to speak”.
We have seen that through the core role of the board of directors in listed companies, the harsh legal protection of investor rights and the active deterrence of external market mechanisms, the joint constraints of the above three aspects have led to the holding of Berkshire in the U.S. capital market. There are many listed company shares, which seem to form a pyramid holding structure similar to Evergrande Group, but these major shareholders only stay within the boundaries of the performance of shareholder rights, making each listed company an independent market that is “self-financing and operating independently” main body.
In contrast, the Evergrande Group and HNA Group have lost their status as independent market players to a certain extent, and have gradually evolved into “a piece of chess in a big game” played by the capital family. Affected by the above facts, when the relevant creditors formulate credit policies and conduct risk management, they do not use listed companies as market entities and conduct assessments around specific projects, but “play dogs to see their owners”. The hidden capital family behind it The explicit guarantee gives greater weight, so that the debt is no longer a contract with a listed company or a specific company, but a contract with the capital family behind it.
Let’s take “HNA Holdings” under the HNA Group that has been exposed by the media as an example. The total amount of funds occupied by HNA Holdings for its affiliated companies for reasons such as borrowing funds, performance compensation, and providing guarantees for related parties exceeds 9.5 billion yuan, and the total amount of its own loan funds actually used by related parties exceeds 17.8 billion yuan.
Therefore, in my opinion, the debt crisis of Evergrande Group is essentially a mutual mortgage guarantee between members of the capital family under the pyramid holding structure, which makes the boundary of the original hard constraint on the debt of the single market entity continue to blur, and the soft budget constraint formed in disguise , Leading to the so-called “big but not falling” phenomenon to a certain extent. Therefore, the key to avoiding corporate governance problems of private enterprises such as Evergrande Group and HNA Group is to weaken the influence of the pyramid holding structure, so that the pyramid holding chain becomes only a “chain of capital management”, and the capital is tied to each family. The company is restored to an independent market entity that “is responsible for its own profits and losses and operates independently”.
Looking back at the institutional origin of the pyramid holding structure of the capital family that triggered the debt crisis of Evergrande Group today, it is not difficult to find that for more than 40 years of reform and opening up, the pyramid holding structure first flourished from state-owned enterprises, and then gradually spread to private enterprises. On the one hand, due to the formation of an internal capital market between the members of the enterprise group, the resources complement each other, and it is easy to grow bigger and stronger; on the other hand, due to the convenience of supervision, if there is a problem, whoever’s child will be taken away can be cut in time to prevent and resolve Risks. Almost all state-owned enterprises in my country are in various complex pyramid holding structures, forming the so-called CITIC, COFCO, PetroChina, Sinochem and other very large capital families.
After more than 30 years of development, various negative effects of the capital family under the pyramid holding structure that evolved from the internal capital market have gradually emerged in my country’s economic life. In addition to the use of funds to emptied and transfer the resources of subsidiaries and Sun’s companies, the negative effect of the pyramid holding structure is also reflected in the indulgence of opportunistic capital operation behaviors of actual controllers, increasing the volatility of the financial market and increasing the system The possibility of the occurrence of sexual financial risks. At the same time, the complex pyramid holding structure not only brings difficulties for the supervisory authority to supervise the related transactions of equity related companies, but also provides diversified ways for the actual controller to bribe corrupt officials. The pyramid holding structure has become a small number of financial predators and A convenient hotbed for corrupt officials to trade power and money. Therefore, in 2017, I wrote an economic review article entitled “Say No to the Pyramid Holding Structure” for the column of FT Chinese.
In fact, mature market economy countries such as the United States have experienced a transition from the prevalence of trusts (monopoly pyramid structure) dominated by family-owned companies with concentrated equity to the development stage of a highly dispersed and flat corporate organizational structure. In the future, China’s capital market may be able to learn from the development experience of mature capital markets. On the one hand, through the implementation of the anti-monopoly law and the development of family trust funds to promote corporate splitting and gradually decentralize equity; on the other hand, through the introduction of inter-company dividend taxes, etc. Increasing the operating cost of the pyramid structure, curbing the trend of complexity of the pyramid structure of listed companies, and prompting China’s capital market to gradually embark on a healthy and benign development path. For example, due to the adoption of a tax-unfriendly pyramid holding structure, Berkshire pays more intercompany dividend taxes than the Standard & Poor’s 500, which makes Berkshire’s overall taxation level higher. This is why Buffett often said that the S&P 500 is not a good frame of reference for Berkshire when it comes to discussing the rate of return on investment.
Even if we cannot completely eliminate the pyramid holding structure for a long period of time in the future, the inspiration from the Berkshire case is that we should strengthen the core role of the board of directors in listed companies, improve the harsh legal protection of investors’ rights and The active deterrence of the large external market mechanism can eliminate and block the influence of the capital family through the pyramid holding chain behind each company, so that each company can truly become an independent market entity that is “self-financing and operating independently.”
In addition to the above-mentioned “let each company truly become an independent market entity that is self-financing and operating independently”, which is the long-term direction of China’s capital market construction, Evergrande’s exposed private enterprise governance issues remind us that we should take active measures in the short term. , To prevent the possible spread of the “soft budget constraint problem” formed in disguised form under the pyramid holding structure in listed companies.
Our main policy recommendations focus on the following two aspects.
First, for listed companies, the Securities Regulatory Commission or the exchange can require listed companies with parent companies to conduct self-inspections on business and corporate governance standards, and disclose the results of the self-examination to capital market investors.
Among them, the content of the “business norms” self-examination includes but is not limited to: whether the mortgage guarantee provided to the parent company for a period of time is in compliance with the regulations, the capital transactions with the parent company, and the business transactions with the parent company , Whether there are related transactions that damage the interests of shareholders.
The content of the self-examination on the “Corporate Governance Norms” includes but is not limited to: whether the proportion of directors appointed by the parent company in the listed company exceeds the shareholding ratio, and there is an over-appointment of directors; whether the chairman of the board is appointed by the parent company; whether the approval of related transactions is strict Follow the corporate governance process. I have noticed the fact that more than 80 guarantees provided by “HNA Holdings” to affiliated companies were provided by shareholders and affiliated parties in the name of the company without the approval of the company’s board of directors and the general meeting of shareholders. Guarantee.
The purpose of these self-examinations of business and corporate governance norms is to remind external investors to assess the risks of soft budget constraints of listed company debt under the pyramid holding structure.
Second, for creditors including banks, it is recommended to select clear market entities when formulating credit policies, focus on a specific project, and comprehensively reduce the weight of implicit guarantees of capital families behind specific market entities; The assessment should fully assess the potential risks of the “soft budget constraints” formed in disguised form under the pyramid holding structure. The more complex the pyramid holding structure, the lower the rating of the risk management model.
The case of HNA Group’s bankruptcy and reorganization clearly shows that there is no so-called “big but not falling” “not falling god”, but it will fall, only a little later, only when these huge “big” things are falling. The next time is even more “crashing”.
(This article only represents the author’s point of view. Yuan Haoyang also contributed to the writing of this article; according to Professor Zheng Zhigang’s speech at the “China Corporate Governance 50 Forum” on December 11, 2021. Editor in charge: tao.feng@ftchinese .com)