China makes ratings firm pay for corporate fraud for the first time

Beijing

A CHINESE court ruled that a local ratings firm should help compensate some creditors for a construction firm's 1.4 billion yuan (S$285.3 million) bond defaults three years ago, a first in the country as Beijing raises pressure on agencies to improve their due diligence.

Dagong Global Credit Rating is responsible for repaying up to 10 per cent of at least 494 million yuan of combined debt claims to more than 400 individual bondholders of Wuyang Construction Group, according to a ruling by Hangzhou Intermediate People's Court dated Thursday and seen by Bloomberg News.

Wuyang Construction's legal representative and actual controller Chen Zhizhang, underwriter Tebon Securities, as well as an accounting company and a legal firm are also collectively responsible, the court said, citing their failures to conduct due diligence properly.

Beijing has tightened oversight of the country's bond market following a surge of defaults since November, imposing short-term bans on new business on two other rating agencies and launching probes into several banks, accounting firms and a large brokerage for alleged irregularities related to bond sales.

The Hangzhou court's ruling also sets the precedent for bond underwriters, accounting and law firms to be financially responsible for bondholders' losses, potentially offering a new roadmap for handling such cases in the future.

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"This verdict should be the first of its kind in China. It substantially raises the cost of fraudulence and inadequate due diligence in the bond market," said Yang Hao, a fixed income analyst at Nanjing Securities Co. "Financial intermediaries will become more prudent in the future and investors may also actively explore this approach to seeking compensation."

Wuyang Construction defaulted on two onshore bonds totalling nearly 1.4 billion yuan in 2017 and was later alleged by China's securities regulator of falsifying financial documents to win regulatory approval to sell bonds.

In November 2019, the securities regulator fined Tebon Securities for violating rules when it was an underwriter in Wuyang Construction's 2015 bond sale.

The verdict came after China's interbank bond market watchdog last month imposed a three-month ban on new debt grading business for both China Chengxin International Credit Rating, in which Moody's Investors Service holds a 30 per cent stake, and Golden Credit Rating International due to irregularities such as insufficient risk analysis and improper rating models. BLOOMBERG