A dramatic 85% plunge in the share price of a Hong Kong-listed dairy company on Friday may have been triggered by leaks from a closed-door meeting the day before between executives of the embattled China Huishan Dairy Holdings Co. and government officials over its huge debt.

The meeting included government officials of Liaoning, China, where Huisan is located, company executives, and representatives from more than 70 financial institutions, according to people with knowledge of the matter.

The goal was to find a solution for Huishan’s imminent default on loan interest payments worth a combined 300 million yuan ($43.5 million). Instead, the meeting ended up throwing a spotlight on the severity of the firm’s liquidity problems, which could threaten the survival of the company itself.

The contents of the discussion were supposed to remain private, but the rapid fall in share price the next day suggests word leaked out. The fall in Huishan’s share price was the largest single-day drop for a stock in Hong Kong’s history. Trading of the Huishan’s stock was suspended on trading irregularities.

Huishan is the largest dairy producer in China’s northeastern region. It survived a short-seller attack last year and has maintained debt relations with more than 70 financial institutions, including some of the country’s biggest commercial banks, such as the Bank of China. Estimates by bankers close to the situation put the firm’s current debts owed to these financial institutions at more than 12 billion yuan, and the number may grow as interest accrues.

At the meeting, Yang Kai, Huishan’s chairman, said that his company had a “broken capital chain,” and he would seek to raise 15 billion yuan to solve the liquidity crisis by selling company equities to new strategic investors, people with knowledge of the matter told Caixin.

The Liaoning government vowed to support the company to “maintain financial stability,” fearing the incident would further dampen investment, after a series of default and securities fraud involving local enterprises hurt investor confidence in the already stagnant local economy.

The Liaoning government promised to buy a plot of land from Huishan for more than 90 million yuan using money from its own coffer. Officials also urged major banks to “make an exception” for Huishan by not downgrading the firm’s credit worthiness, or taking it to court to have its assets frozen. The banks’ response is not clear.

The government officials also pressured Yang, Huishan’s chairman, to sell equity for cash.

“But who wants to buy Huishan’s shares now?” a manager from a bank said he remembered wondering at the time. Now the prospect of any investment looks even murkier.

California-based Muddy Waters targeted Huishan last year, warning investors of the firm’s high leverage ratios and accusing it of fraud and funds misappropriation. Huishan denied the allegations. Its share price barely budged after the attack.

Carson Block, founder of short-selling firm, said he was equally surprised and pleased to see Huishan’s sudden share crash on Friday, saying that it was only a matter of time before the firm’s high leverage and manipulation of accounting records – as alleged by Muddy Waters previously but denied by Huishan – caught up to it.

Several bankers told Caixin that lending to Huishan had always made them “nervous,” because the company often waited until the very end of a grace period to pay back loans, barely avoiding a default.

“Somehow it felt like Huishan always managed to find funding at the last minute,” said a banker.

It seemed like the firm’s luck finally ran out, when on March 20 it sent a notice to banks that were expecting interest payments by the end of the month. Huishan said it would not be able to make the payments on time, according to sources from banks that received the note.

The reason the company gave for failing to meet obligations was odd: It said the firm’s vice president, Ge Kun, who is Yang’s wife, suffered an acute attack of an unspecified illness, resulting in the firm’s inability to transfer funds necessary to make the payments. Several bankers said they realized the company was facing real liquidity problems and wanted to call in their loans to it.

After trading of Huishan’s shares was suspended, Hongling Capital, a peer-to-peer lending website that had channeled investments to the dairy firm, announced that Huishan had missed the interest payment on some loans, without specifying amounts.

Data released earlier by the P2P firm on Huishan’s financial conditions last year revealed a 20-billion-yuan gap in the reported value of Huishan’s total assets in just three months. According to the data, Huishan’s total assets were only 14 billion yuan as of Sept. 31, and its total debt was 21 billion yuan. Three months later, its total assets increased to 34 billion yuan, while its debt essentially stayed the same.

It is unclear what caused the huge swing. Neither Huishan nor Hongling could be reached for comment.

Bankers involved in the meeting estimated between themselves that Huishan currently owes approximately 12 billion to 13 billion yuan in financial debt.

Companies that have made loans to Huishan include 23 banks, one asset management company, several financial leasing firms and P2P firms. The biggest lender of them all was the Liaoning branch of the Bank of China, which approved a 3.3 billion yuan credit line to Huishan, followed by Jilin Jiutai Rural Commercial Bank, with a credit line of 1.8 billion yuan.

Another institution affected was Ping An Bank, which in late 2016 extended a HK$ 2.14 billion loan to Champ Harvest Ltd., a firm controlled by Yang, using Champ’s holdings of Huishan’s equity as collateral.

“If Huishan goes bankrupt, the loan could be lost,” and investors would be tempted to doubt the bank’s ability to control risk, a Hong Kong-based analyst with China Merchants Securities said.

By Wu Hongyuran, Han Yi, Wu Yujian, Yang Yanwen and Wang Yuqian

Caixin

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