Bo Xilai, Muddy Waters and China Compliance Reply

By Amy L. Sommers, Partner, K&L Gates, Shanghai

Those of us following the Bo Xilai case (which started out as the Wang Lijun case, and has this week has now morphed into the Gu Kailai/Neil Heywood case) have found ourselves transfixed.

Try to conjure a lurid, melodramatic scenario in a Hollywood movie and you’d be hard pressed to come up with a plot that rivals this story’s twists and turns.  When asked last week about whether the rumors that Bo’s wife, Gu Kailai, had been involved in the death of a Briton Neil Heywood, most of the Chinese I spoke with shrugged their shoulders and replied, “Who knows?”  The sentiment expressed repeatedly was that one has no way of knowing whether reports in the media are based on truth or not – likely they may be true  – but the key driver for whether the news is reported often depends on behind the scenes political infighting at the senior levels.  For the best analysis I’ve seen published so far of how deep the tensions underlying this case go (arguably almost 30 years), check out the Foreign Policy piece by the excellent reporter on China matters, John Garnaut.

A death occurred in November 2011 and apparently, the catalyst for why, five months later, there is only now a claim of homicide is because of the falling out between Bo and his deputy mayor Wang Lijun, who was effectively the chief of police for the megapolis of Chongqing where Bo was the Party Secretary.  The rupture between Bo and Wang was reportedly over investigations of their corruption being conducted by the Party central disciplinary committee  – and it appears Wang sought to make himself un-erasable by taking refuge in the US Consulate in Chengdu in March.

But, as John Garnaut traces back, the tensions underlying the case arguably relate back to a split between two camps in the Chinese Communist Party. Bo is a prominent figure in one camp and Party Secretary Hu and Premier Wen in another.  The concern expressed by those I’ve spoken with is that regardless of the bona fides of whether Bo and/or Wang were involved in corruption or other malfeasance (and now Bo’s wife in homicide), the reason the story is coming out now has to do with power struggles within the Party’s leadership.

Why does this matter in terms of compliance?

  • The situation highlights the incredible level of tension in China around issues of corruption. Bo made his reputation as a maverick in large part because of his “Strike Hard” campaign in Chongqing against organized crime and colluding officials and business interests.  Yet, news reports have described for some time how his college student son drove a Ferrari, was educated at Harrow, then Oxford and now Harvard.  How could a member of the Bo family afford such luxuries on the salary of a lifetime government official? These are inconvenient questions, but the circumstances leading to them have long been apparent and no action was taken against Bo until this year, when the Party leadership is scheduled to turn over and Bo was jockeying to take a seat on the 9-member body that effectively runs China.
  • The way this case has emerged is a caution to companies in China – foreign and domestic – that operate in the belief that they will be shielded from failing to comply with the law by the strength of their personal alliances with individual officials. That strategy may work just fine until…it doesn’t.  Like when the official comes under a cloud and the company finds itself also caught in the haze.  Already rumors are rampant in Chinese media that various prominent business people in Dalian, the city Bo led in the 1990’s, are under scrutiny for improper access to capital or other business wrongdoing.  The timing of these rumors doesn’t appear coincidental.

And what about Muddy Waters? You may be familiar with it as the research firm that started the trend of short-selling Chinese headquartered companies that had become publicly traded on US exchanges through reverse-takeover mergers.  By the end of 2011, Carson Block, the firm’s founder, (disclosure: I know Carson and acted as an advisor on a China real property project he undertook) was named among the 50 most influential people in global finance after his predictions led to the loss of billions of dollars of value in market capitalization for Chinese RTO companies.

Muddy Waters has just produced a video on ‘frauducation’- its investigation into recent reports in the Chinese media of how a ‘fraud school’ operated to prepare companies using sham or distorted business models to list on US exchanges. The piece is fascinating in tying together the Chinese news report of how the ‘fraud school’ worked with what Muddy Waters found when it investigated some of the school’s ‘distinguished’ graduates.  Understanding more about how these frauds were accomplished is relevant to companies concerned about the risks of fraudulent business practices, accounting and other data in China.  Perhaps TRACE will be asking Muddy Waters to be a contributor to the next edition of “How to Pay a Bribe”?

China – it’s never dull.