Rising Corporate Risk Across Asia - What Can Boards Do to Reduce Business Exposure?

The seemingly ever expanding COVID-19 pandemic, coupled with economic weakness, and rapidly escalating geopolitical tensions have brought about a marked deterioration in the risk environment for corporations operating across Asia.

The current situation presents far from normal business challenges. Senior management and boards of directors need to swiftly recognise and respond to these rising risks, to avoid political pitfalls, protect brand reputation and to avoid sudden or drastic consequences.

Political and Regulatory Risk

Political and regulatory risks are rapidly evolving. The US has sanctioned a number of major Chinese companies as well as individuals and officials and Beijing has, in turn, adopted its own sanctions and blocking legislation.

Both the US and the PRC continue to make belligerent statements with little sign of a thaw in relations on the horizon. Subordinate legislation in Hong Kong can be anticipated in the coming months in support of Beijing’s anti-sanction response.

The technology sector is especially vulnerable. Witness the Chinese government’s recent regulatory moves against Didi Chuxing coinciding with the Chinese riding hailing app’s IPO debut in New York. Indeed, it seems a form of “data control war” between the US and China is now underway, with far-reaching implications for companies and jurisdictions alike.

The technology sector is at acute risk because of its reliance on a variable interest entity (“VIE”) structure, a common formula for investors in China, designed to circumvent restrictions on investment in key sectors.

This structure generally comprises an arrangement between an offshore company (often listed) which has a subsidiary in China, and another onshore entity that earns the revenues; the onshore entity contracts to pass on funds. As a result, investors, such as US pension funds buying shares, may not directly own the key assets of the Chinese-listed firms; and worse, the structure operates in a gray area in China opening up unforeseen risk.

Admittedly, such structures have operated successfully for two decades; 100 VIE-structured companies on the Morgan Stanley Capital International (“MSCI”) have a market value of about USD4 trillion, and US investors may have invested perhaps USD800 billion through VIE structures.

Their success, though, has always been reliant on goodwill, and on the Chinese authorities turning a blind eye to possible breaches of regulations.

Given the current fractious nature of Sino-American ties, though, investors may now have to consider whether such goodwill will continue and the possible implications in the event of further deterioration of US/PRC relations.

Geopolitical tensions have added markedly to regulatory risks, with US sanctions on Chinese businesses now threatening to unravel hitherto successful corporate structures. The upshot is a far more challenging business climate. Many senior executives, whilst expert in their own fields are simply unprepared or unequipped to deal with sudden and stark changes to political risk.

COVID-19 and the Impact on Asia

The outbreak of COVID-19 in late 2019 has dramatically altered many things and of course the overall business climate.

First of all, economic weakness has put great pressure on businesses, especially those in states facing severe outbreaks, such as Thailand, Indonesia and Malaysia, and those in the most affected sectors, such as leisure, retail and aviation.

There will be little relief over the next twelve months and increased social unrest in South East Asian countries can be anticipated where unemployment, under-employment and critically failing healthcare systems will take a toll.

Mainland China may take longer to fully open up to the world than is currently assumed: this due to issues with the local vaccine and the challenges posed in warding off more contagious covid variants. The economic bounceback all across Asia will be more spotty and slow, rather than V shaped and swift.

Travel across Asia will continue to be impacted and will not significantly improve for at least twelve months, affecting airlines, hotels and the regional travel industry.

Other Downstream Consequences

Rising levels of fraud

One less obvious consequence of the COVID pandemic and the economic downturn is a direct increase in levels of fraud, as senior executives come under pressure to prop up ailing businesses.

SVA has seen many examples of companies inflating receivables, overstating asset values, or using deception to secure access to funds. In Hong Kong alone, the courts have lately convicted individuals for seeking letters of credit on false premises, and for falsifying payroll documents.

A number of schemes, including “pump and dump” share frauds are common across the region. Such schemes can be very lucrative.

The use of complex structures or financial instruments to hide the scale of losses is also becoming more common – as with Luckin Coffee, a Chinese coffee business, listed in the US, that overstated earnings by USD310 million in 2019 with disastrous consequences.

This problem is especially acute in mainland China, given less tight auditing standards, although a new fraud law that came into force in May 2021 may improve the outlook in time.

SVA has noted that the quality of due diligence, carried out by some sponsors and investment banks into new IPO listings is declining; in some cases with cursory efforts being made and, with deal teams being able to influence budget and scope to their benefit, in an attempt to list at all costs. This is both a business and reputational risk to those involved.


Cybercrime is rising at an alarming rate. Attacks on 16 May 2021 on insurer AXA’s Asian operations, on 7 May 2021 on Colonial Pipeline, the operator of a fuel pipeline network in the US, and on Florida IT firm Kaseya on 5 July 2021, all highlighted how acute the threat from ransomware has become.

Moreover, these attacks hinted at the growth of “ransomware as a service”, which is putting sophisticated cyber-attacks within the reach of less tech-savvy fraudsters, meaning already elevated risks will only rise.

Other, state supported, if not directly or visibly controlled actors are increasingly active and in times of poor diplomatic relations seem more prolific.

What to do

The outlook for corporate risk in Asia has thus worsened markedly in the last year. Companies must respond to rising levels of risk, if they are to prosper.

SVA recommend the following key steps:

  • Companies must significantly bolster internal compliance mechanisms, to identify fraudulent activity early, and limit losses. Dependence on audit – external or internal – will not protect most companies. Key steps include: strengthening the integrity of data systems; implementing much tighter control over staff approvals, and bolstering protections for confidential information;
  • Pan-regional firms are currently more exposed, as regional audit and compliance teams cannot travel easily. SVA has been called, on a number of occasions to fill this gap or to provide investigative support in suspicious circumstances;
  • Companies must ensure that staff are trained, drilled, and supervised, so as to ensure they understand the need to act cautiously in releasing payments or critical data. Working from home and dealing in stressed pandemic circumstances make it much easier for fraudsters to operate;
  • Companies, especially foreign investment banks and others must adhere to robust due diligence standards, even when under pressure to contain costs.
  • Boards should mandate independent and detailed background investigations of IPOs, investments or partnerships, and ensure that oversight measures are in the hands of the general counsel, or of another relatively “neutral” party, rather than a local deal team.
  • “Virtual Due Diligence”, done by Zoom, will only result in “Virtual Profits”. Due diligence processes should also be updated regularly to take account of changing circumstances. The current virtual wall of PRC IPOs represents a major opportunity for fraud – similar to the Luckin Coffee scam.
  • Companies must act decisively on discovery of “red flags”. Key triggers might include the unusual involvement of third parties, a dubious transaction structure, or excessively high fee-levels, amongst other issues or a strange deal structure-involving an off shore vehicle with no apparent reason.
  • Companies should always undertake independent investigations of fraud, and report the findings in full. Attempts to “sweep matters under the carpet” will only lead to bigger problems in time and action by authorities in some cases exceeding the scale of the fraud;
  • Senior management must take account of political and regulatory risks, given that some counterparties can benefit from political sponsorship, or become targets for political reasons;
  • The VIE structures in the technology and finance sector presents one clear vulnerability.

SVA - Here to support senior management

SVA has a great deal of experience in responding to crisis incidents, dealing with complex political risk issues, investigating fraud, managing regulatory risks, and in tracing and recovering assets.

We can be of assistance to your organisation in dealing with complicated issues, or if you wish to protect your business from the negative consequence of poorly conducted due diligence efforts, please do not hesitate to contact us at the numbers below.

SVA www.stevevickersassociates.com is a specialist risk mitigation, corporate intelligence and risk consulting company. The firm serves financial institutions, private equity funds, corporations, high net-worth individuals and insurance companies and underwriters around the world.