UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

 

FORM 20-F

 

(Mark One)

REGISTRATION STATEMENT PURSUANT TO SECTION 12(b) OR (g) OF THE SECURITIES EXCHANGE ACT OF 1934

 

OR

 

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended December 31, 2021.

 

OR

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from                           to                          .

 

OR

 

SHELL COMPANY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

Date of event requiring this shell company report                                  

 

For the transition period from                                   to                                  

 

Commission file number: 001-38726

 

CNFinance Holdings Limited

(Exact name of Registrant as specified in its charter)

 

N/A

(Translation of Registrant’s name into English)

 

Cayman Islands

(Jurisdiction of incorporation or organization)

 

44/F, Tower G, No. 16 Zhujiang Dong Road

Tianhe District, Guangzhou City, Guangdong Province 510620

People’s Republic of China

(Address of principal executive offices)

 

Bin Zhai, Chief Executive Officer and Chairman

Tel: +86-20-62316688

E-mail: ir@cashchina.cn

At the address of the Company set forth above

(Name, Telephone, E-mail and/or Facsimile number and Address of Company Contact Person)

 

Securities registered or to be registered pursuant to Section 12(b) of the Act:

 

Title of each class

  Trading Symbol   Name of each exchange on which registered
American depositary shares, each ADS representing 20 ordinary shares, par value US$0.0001 per share  

CNF

  The New York Stock Exchange
Ordinary shares, par value US$0.0001 per share*       The New York Stock Exchange

 

* Not for trading, but only in connection with the listing on the New York Stock Exchange of American depositary shares.

 

Securities registered or to be registered pursuant to Section 12(g) of the Act:

 

None

(Title of Class)

 

Securities for which there is a reporting obligation pursuant to Section 15(d) of the Act:

 

None

(Title of Class)

 

 

 

 

Indicate the number of outstanding shares of each of the issuer’s classes of capital or common stock as of the close of the period covered by the annual report.

 

1,371,643,240 ordinary shares, par value US$0.0001 per share, as of December 31, 2021.

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.

 

Yes No

 

If this report is an annual or transition report, indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

 

Yes No

 

Note – Checking the box above will not relieve any registrant required to file reports pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 from their obligations under those Sections.

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

 

Yes No

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).

 

Yes No

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or an emerging growth company. See definition of “large accelerated filer,” “accelerated filer,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large Accelerated Filer Accelerated Filer Non-accelerated Filer Emerging growth company

 

If an emerging growth company that prepares its financial statements in accordance with U.S. GAAP, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☒

 

Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report.

 

Indicate by check mark which basis of accounting the registrant has used to prepare the financial statements included in this filing:

 

U.S. GAAP

 

International Financial Reporting Standards as issued by the International Accounting Standards Board

 

Other

 

If “Other” has been checked in response to the previous question, indicate by check mark which financial statement item the registrant has elected to follow.

☐ Item 17 ☐ Item 18

 

If this is an annual report, indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes No

 

APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PAST FIVE YEARS

 

Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court.

Yes No

 

† The term “new or revised financial accounting standard” refers to any update issued by the Financial Accounting Standards Board to its Accounting Standards Codification after April 5, 2012.

 

 

 

 

 

 

table of contents

 

    Page
INTRODUCTION iii
FORWARD-LOOKING INFORMATION v
PART I 1
ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS 1
ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE 1
ITEM 3. KEY INFORMATION 1
3.A. [Reserved] 5
3.B. Capitalization and Indebtedness 5
3.C. Reason for the Offer and Use of Proceeds 5
3.D. Risk Factors 5
ITEM 4. INFORMATION ON THE COMPANY 54
4.A. History and Development of the Company 54
4.B. Business Overview 55
4.C. Organizational Structure 92
4.D. Property, Plant and Equipment 93
ITEM 4A. UNRESOLVED STAFF COMMENTS 93
ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS 93
5.A. Operating Results 93
5.B. Liquidity and Capital Resources 117
5.C. Research and Development 123
5.D. Trend Information 123
5.E. Critical Accounting Estimates 123
ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES 123
6.A. Directors and Senior Management 123
6.B. Compensation 125
6.C. Board Practices 127
Committees of the Board of Directors  
6.D. Employees 130
6.E. Share Ownership 130
ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS 132
7.A. Major Shareholders 132
7.B. Related Party Transactions 132
7.C. Interests of Experts and Counsel 132
ITEM 8. FINANCIAL INFORMATION 132
8.A. Consolidated Statements and Other Financial Information 132
8.B. Significant Changes 133
ITEM 9. THE OFFER AND LISTING 133
9.A. Offering and Listing Details 133
9.B. Plan of Distribution 133
9.C. Markets 133
9.D. Selling Shareholders 133
9.E. Dilution 133
9.F. Expenses of the Issue 133
ITEM 10. ADDITIONAL INFORMATION 133
10.A. Share Capital 133
10.B. Memorandum and Articles of Association 133
10.C. Material Contracts 133
10.D. Exchange Controls 134
10.E. Taxation 134
10.F. Dividends and Paying Agents 139
10.G. Statement by Experts 139
10.H. Documents on Display 139
ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 140
ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES 140
12.A. Debt Securities 140
12.B. Warrants and Rights 140
12.C. Other Securities 140
12.D. American Depositary Shares 140

 

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PART II 143
ITEM 13. ITEM DEFAULTS, DIVIDEND ARREARAGES AND DELINQUENCIES 143
ITEM 14. MATERIAL MODIFICATIONS TO THE RIGHTS OF SECURITY HOLDERS AND USE OF PROCEEDS 143
14.A.–14.D. Material Modifications to the Rights of Security Holders 143
14.E. Use of Proceeds 143
ITEM 15. CONTROLS AND PROCEDURES 143
ITEM 16. [Reserved] 144
16.A. Audit Committee Financial Expert 144
16.B. Code of Ethics 144
16.C. Principal Accountant Fees and Services 145
16.D. Exemptions from the Listing Standards for Audit Committees 145
16.E. Purchases of Equity Securities by the Issuer and Affiliated Purchasers 145
16.F. Change in Registrant’s Certifying Accountant 146
16.G. Corporate Governance 146
16.H. Mine Safety Disclosure 146
16.I Disclosure Regarding Foreign Jurisdictions that Prevent Inspections 146
PART III 147
ITEM 17. FINANCIAL STATEMENTS 147
ITEM 18. FINANCIAL STATEMENTS 147
ITEM 19. EXHIBITS 147

 

ii

 

 

INTRODUCTION

 

Except where the context otherwise indicates and for the purpose of this annual report only:

 

“ADSs” refers to the American depositary shares, each representing 20 of our ordinary shares;

 

“allowance ratio” of a particular date refers to amount of allowance for loan principal, interest and financing service fee receivables as a percentage of the outstanding loan principal, interest and financing service fee receivables as of the date;

 

“China” or “PRC” refers to the People’s Republic of China, excluding, for the purpose of this annual report only, Taiwan, Hong Kong and Macau;

 

“contractual interest rate” refers to the interest rate prescribed under loan agreements;

 

“CNFinance” refers to CNFinance Holdings Limited, a Cayman Islands exempted company with limited liability;

 

“Credit Risk Mitigation Position” or “CRMP” refers to the amount contributed by the sales partners equal to 10% to 25% of the loans issued to the borrowers introduced by the sales partners to share the credit risk with the Company;

 

“delinquency ratio” of a particular date refers to total balance of outstanding loan principal for which any installment payment is one or more days past-due as a percentage of the outstanding loan principal as of the date;

 

“effective interest rate” refers to the annualized internal rate of return based on initial outlay of loan principal, initial inflow of financing service fees (if applicable) and expected monthly inflow of repayments;

 

“effective sales partners” refers to the sales partners who have introduced at least one borrower to us that was approved by the trust company partners for loan facilitation;

 

“leverage ratio” refers to the ratio of total assets to total shareholders’ equity;

 

“charge-off ratio” refers to the ratio of charge-offs during a period over the average beginning and ending balances of outstanding loan principal of the same period;

 

“loan-to-value ratio” or “LTV ratio” refers to the ratio of loan amount to the value of asset collateral; the loan amount is calculated as the amount of all outstanding loans to be secured by the collateral;

 

“NPL” refers to a loan being delinquent for over 90 days;

 

“NPL provision coverage ratio” of a particular date refers to amount of allowance for loan principal, interest and financing service fee receivables as a percentage of the outstanding balance of NPL principal as of the date;

 

“NPL ratio” as of a particular date represents total balance of outstanding loan principal for which any installment payment is over 90 calendar days past-due as a percentage of the outstanding loan principal as of the date;

 

“ordinary shares” refers to our ordinary shares of par value US$0.0001 per share;

 

“Pearl River Delta region” refers to Dongguan, Zhongshan, Foshan, Guangzhou, Huizhou, Jiangmen, Shenzhen, Zhuhai and Zhaoqing;

 

“quick disposal plans” refers to the mechanisms that we utilize to quickly dispose of delinquent loans or collateral to recover potential losses, including selling the delinquent loans to third parties or disposal of collateral without going through judicial proceedings;

 

iii

 

 

“RMB” or “Renminbi” refers to the legal currency of the People’s Republic of China;

 

“senior units” refers to the senior units and intermediate units, if applicable, in a trust plan;

 

“structural leverage ratio” refers to the ratio of the total amount of senior units and subordinated units; intermediate units are included as senior units for the purpose of calculation;

 

“Tier 1 cities” refers to Beijing, Shanghai, Shenzhen and Guangzhou;

 

“Tier 2 cities” refers to Dongguan, Foshan, Nanjing, Nanchang, Nantong, Xiamen, Hefei, Dalian, Tianjin, Changzhou, Xuzhou, Huizhou, Chengdu, Wuxi, Kunming, Hangzhou, Wuhan, Ji’nan, Zhuhai, Shijiazhuang, Fuzhou, Suzhou, Xi’an, Zhengzhou, Chongqing, Changsha, Qingdao, Shaoxing, Ningbo, Wuxi, Harbin, Changchun, Nanning, Wenzhou, Quanzhou, Guiyang, Taiyuan, Jinhua, Yantai, Jiaxing, Taizhou, Zhongshan, Baoding, Lanzhou and Langfang;

 

“total operating income” refers to the sum of (i) net interest and fees income after collaboration cost and (ii) total non-interest income;

 

“US$,” “dollars” or “U.S. dollars” refers to the legal currency of the United States;

 

“we,” “us,” “our company,” “the Company,” “the Group,” and “our” refer to CNFinance Holdings Limited, a Cayman Islands exempted company with limited liability and its subsidiaries and consolidated affiliated entities, including but not limited to Shenzhen Fanhua United Investment Group Co., Ltd. and Guangzhou Heze Information Technology Co., Ltd., as a group; and

 

“Yangtze River Delta region” refers to Shanghai, Nanjing, Nantong, Hefei, Yixing, Changzhou, Yangzhou, Wuxi, Hangzhou, Jiangyin, Taizhou, Shaoxing, Suzhou, Jiaxing and Zhenjiang.

 

We present our financial results in RMB. We make no representation that any RMB or U.S. dollar amounts could have been, or could be, converted into U.S. dollars or RMB, as the case may be, at any particular rate, or at all. The PRC government imposes control over its foreign currency reserves in part through direct regulation of the conversion of RMB into foreign exchange and through restrictions on foreign trade. This annual report contains translations of certain foreign currency amounts into U.S. dollars for the convenience of the reader. Unless otherwise stated, all translations of Renminbi into U.S. dollars were made at the rate at RMB6.3726 to US$1.00, the exchange rate as set forth in the H.10 statistical release of the Board of Governors of the Federal Reserve System in effect as of December 30, 2021. On April 22, 2022 the noon buying rate for Renminbi was RMB6.5010 to US$1.00.

 

iv

 

 

FORWARD-LOOKING INFORMATION

 

This annual report on Form 20-F contains forward-looking statements that reflect our current expectations and views of future events. All statements other than statements of historical facts are forward-looking statements. These forward-looking statements are made under the “safe harbor” provision under Section 21E of the Securities Exchange Act of 1934, as amended, or the Exchange Act, and as defined in the Private Securities Litigation Reform Act of 1995. These statements involve known and unknown risks, uncertainties and other factors that may cause our actual results, performance or achievements to be materially different from those expressed or implied by the forward-looking statements. In some cases, you can identify these forward-looking statements by terminology such as “may,” “will,” “expect,” “anticipate,” “aim,” “estimate,” “intend,” “plan,” “believe,” “is/are likely to,” “potential,” “continue” or other similar expressions. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may affect our financial condition, results of operations, business strategy and financial needs. These forward-looking statements include, but are not limited to:

 

our goals and growth strategies;

 

our future business development, results of operations and financial condition;

 

relevant government policies and regulations relating to our business and industry;

 

status of the COVID-19 pandemic and its impact on our business and industry;

 

general economic and business conditions in China; and

 

assumptions underlying or related to any of the foregoing.

 

We would like to caution you not to place undue reliance on these forward-looking statements and you should read these statements in conjunction with the risk factors disclosed in “Item 3. Key Information—D. Risk Factors” of this annual report and other risks outlined in our other filings with the Securities and Exchange Commission, or the SEC. Those risks are not exhaustive. We operate in an evolving environment. New risks emerge from time to time and it is impossible for our management to predict all risk factors, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ from those contained in any forward-looking statement. We qualify all of our forward-looking statements by these cautionary statements.

 

You should not rely upon forward-looking statements as predictions of future events. We do not undertake any obligation to update or revise the forward-looking statements except as required under applicable law. You should read this annual report and the documents that we reference in this annual report completely and with the understanding that our actual future results may be materially different from what we expect.

 

v

 

 

PART I

 

ITEM 1. IDENTITY OF DIRECTORS, SENIOR MANAGEMENT AND ADVISERS

 

Not applicable.

 

ITEM 2. OFFER STATISTICS AND EXPECTED TIMETABLE

 

Not applicable.

 

ITEM 3. KEY INFORMATION

 

Risks Associated with Being Based in or Having the Majority of the Operations in China

 

We are exposed to legal and operational risks associated with our operations in China. The PRC government has significant authority to exert influence on the ability of a company with operations in China, including us, to conduct its business. Changes in China’s economic, political or social conditions or government policies could materially and adversely affect our business and results of operations. We are subject to risks due to the uncertainty of the interpretation and the application of the PRC laws and regulations, including but not limited to the risks of uncertainty about any future actions of the PRC government on U.S. listed companies. We may also be subject to sanctions imposed by PRC regulatory agencies, including the China Securities Regulatory Commission (“CSRC”), if we fail to comply with their rules and regulations. Any actions by the PRC government to exert more oversight and control over offerings that are conducted overseas and/or foreign investment in companies having operations in China, including us, could significantly limit or completely hinder our ability to offer or continue to offer securities to investors, and cause the value of our securities to significantly decline or become worthless. These China-related risks could result in a material change in our operations and/or the value of our securities, or could significantly limit or completely hinder our ability to offer securities to investors in the future and cause the value of such securities to significantly decline or become worthless.

 

The Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, or the M&A Rules, require an overseas special purpose vehicle formed for listing purposes through acquisitions of PRC domestic companies and controlled by PRC companies or individuals to obtain the approval of the China Securities Regulatory Commission (“CSRC”) prior to the listing and trading of such special purpose vehicle’s securities on an overseas stock exchange. However, the application of the M&A Rules remains unclear. If CSRC approval is required, it is uncertain whether it would be possible for us to obtain the approval, and any failure to obtain or delay in obtaining CSRC approval for future offerings of securities overseas or to maintain the listing status of our ADSs would subject us to sanctions imposed by the CSRC and other PRC regulatory agencies.

 

On July 6, 2021, certain PRC regulatory authorities issued Opinions on Strictly Cracking Down on Illegal Securities Activities in Accordance with the Law. These opinions call for strengthened regulation over illegal securities activities and supervision on overseas listings by China-based companies and propose to take effective measures, such as promoting the development of relevant regulatory systems to deal with the risks and incidents faced by China-based overseas-listed companies. As a follow-up, on December 24, 2021, the State Council issued a draft of the Provisions of the State Council on the Administration of Overseas Securities Offering and Listing by Domestic Companies, or the Draft Provisions, and the CSRC issued a draft of Administration Measures for the Filing of Overseas Securities Offering and Listing by Domestic Companies, or the Draft Administration Measures, for public comments. According to the Draft Provisions and the Draft Administration Measures, an overseas offering and listing by a domestic company, whether directly or indirectly, shall be filed with the CSRC. Failure to comply with the filing requirements may result in fines to the relevant domestic companies, suspension of their businesses, revocation of their business licenses and operation permits and fines on the controlling shareholder and other responsible persons. The Draft Administration Measures also sets forth certain regulatory red lines for overseas offerings and listings by domestic enterprises.

 

In addition, the Data Security Law was promulgated on June 10, 2021 and became effective in September 2021. The Personal Information Protection Law was promulgated on August 20, 2021 and officially implemented on November 1, 2021. The Data Security Law stipulates that the data handling activities that affect or may affect the national security should undergo national security review, and the Personal Information Protection Law stipulates that critical information infrastructure (“CII”) operators, or personal information processors whose processing of personal information reaches the threshold amount prescribed by the national cyberspace authority, shall store the personal information collected or generated by them within the territory of the PRC. If it is necessary to provide the data overseas, the organization is required to pass the security assessment organized by the national cyberspace authority. The Measures for Cyber Security Review published by Cyberspace Administration of China (CAC) in December 2021 provides that a network platform operator that has the personal information of more than one million users must apply to the Cybersecurity Review Office (the “CRO”) for a cybersecurity review when it seeks to list overseas. Also, a CII operator, when procuring a network product or service, shall predict any national security risk that may arise after the use of such product or service. If national security will be affected or may be affected, the CII operator shall apply to the CRO for a cybersecurity review.

1

 

 

Although we do not believe we are CII operator or a network platform operator, the PRC authorities could interpret such term broadly. If our company is deemed to be a CII operator or a network platform operator under such rules, we could be subject to cybersecurity review by the CAC and other relevant PRC regulatory authorities and be required to change our existing practices in data privacy and cybersecurity matters at substantial costs. During such cybersecurity review, we may be required to stop providing services to our customers. If the CSRC or other PRC regulatory body subsequently determines that we need to obtain the CSRC’s approval for future offerings of securities overseas or to maintain the listing status of our ADSs or if the CSRC or any other PRC government authorities promulgates any interpretation or implements rules before our listing that would require us to obtain CSRC or other governmental approvals for future offerings of securities overseas or to maintain the listing status of our ADSs, we may not be able to proceed with future offerings of securities overseas or to the listing of our ADSs on the New York Stock Exchange, face adverse actions or sanctions by the CSRC or other PRC regulatory agencies. In any such event, these regulatory agencies may impose fines and penalties on our operations in China, limit our operating privileges in China, delay or restrict the repatriation of the proceeds from future offerings of securities overseas into the PRC or take other actions that could have a material adverse effect on our business, financial condition, results of operations, reputation and prospects, as well as our ability to complete future offerings of securities overseas or to maintain the listing status of our ADSs. We also cannot rule out the possibility that certain of our customers may be deemed as CII operators, in which case our products or services or data processing activities, if being deemed as related to national security, will need to be submitted for cybersecurity review before we can enter into agreements with such customers, and before the conclusion of such procedure, the customers will not be allowed to use our products or services. If the reviewing authority considers that the use of our services by certain of our customers involves risk of disruption, is vulnerable to external attacks, or may negatively affect, compromise, or weaken the protection of national security, we may not be able to provide our products or services to such customers, which could have a material adverse effect on our results of operations and prospects.

 

Uncertainties also exist regarding the interpretation and implementation of the newly enacted PRC Foreign Investment Law and how it may impact the viability of our current corporate structure and the viability of business operation. On March 15, 2019, the National People’s Congress approved the Foreign Investment Law of the People’s Republic of China (“PRC Foreign Investment Law”), and the State Council promulgated the Implementing Regulations to the PRC Foreign Investment Law (“Implementing Regulations”) on December 26, 2019, both of which came into effect on January 1, 2020. The PRC Foreign Investment Law and its Implementing Regulations replaced the trio of previous laws regulating foreign investment in China, namely, the Law of the People’s Republic of China on Chinese-foreign Equity Joint Ventures, the Law of the People’s Republic of China on Chinese-foreign Cooperative Joint Ventures, and the Law of the People’s Republic of China on Wholly Foreign-Owned Enterprises, together with their implementation rules and ancillary regulations.

 

PRC Foreign Investment Law and its Implementing Regulations specify that foreign investments shall be conducted in line with the negative list issued by or approved to be issued by the State Council. If a foreign investment enterprise (the “FIE”) proposes to conduct business in an industry subject to foreign investment “restrictions” in the negative list, the FIE must meet certain conditions under the negative list before being established. If an FIE proposes to conduct business in an industry subject to foreign investment “prohibitions” in the “negative list,” it must not engage in the business. Investments made in Mainland China by investors from the Hong Kong Special Administrative Region and the Macao Special Administrative Region shall be governed by the PRC Foreign Investment Law and its Implementing Regulations. On December 27, 2021, the NDRC and the MOFCOM promulgated the Special Administrative Measures (Negative List) for Access of Foreign Investments (2021 Edition), as came into effect on January 1, 2022, according to which the industry of loan service has not been subject to foreign investment “restrictions” or “prohibitions” in the Negative List. Our PRC legal advisor, Merits & Tree Law Offices, advises us that according to the PRC Foreign Investment Law and the Implementing Regulations, the PRC regulatory agencies shall, considering the needs for further foreign opening and economic and social development, adjust the Negative List where appropriate. Therefore, if the industry of loan service is subject to the foreign investment restrictions or prohibitions under the negative list issued subsequently, our failure to take timely and appropriate measures to cope with any of these or similar regulatory compliance challenges could materially and adversely affect our current corporate structure, corporate governance, and business operations.

 

2

 

 

As there are still uncertainties regarding these new laws and regulations as well as the amendment, interpretation and implementation of the existing laws and regulations related to cybersecurity and data protection, We cannot assure you that we will be able to comply with these laws and regulations in all respects. The regulatory authorities may deem our activities or services non-compliant and therefore require us to suspend or terminate its business. We may also be subject to fines, legal or administrative sanctions and other adverse consequences, and may not be able to become in compliance with relevant laws and regulations in a timely manner, or at all. These may materially and adversely affect its business, financial condition, results of operations and reputation.

 

Since these statements and regulatory actions are new, it is highly uncertain how soon legislative or administrative regulation making bodies will respond and what existing or new laws or regulations or detailed implementations and interpretations will be modified or promulgated, if any, and the potential impact such modified or new laws and regulations will have on our daily business operation, our ability to accept foreign investments and conduct follow-on offerings, and listing or continuing listing on a U.S. or other foreign exchanges. In addition, the PRC government has recently published new policies that significantly affected certain industries such as the real estate, education and internet industries, and we cannot rule out the possibility that it will in the future release regulations or policies regarding any other industry including the industry in which we operate, which could adversely affect our business, financial condition and results of operations. See “Item 3. Key Information – D. Risk Factors – Risk Factors – Risks Related to Doing Business in China” for more details.

 

Risks Associated with Our Corporate Structure

 

CNFinance Holdings Limited is a holding company with no operations of its own. It conducts substantially all of its operations in China primarily through its subsidiaries in China, in particular Shenzhen Fanhua United Investment Group Co., Ltd., Guangzhou Heze Information Technology Co., Ltd., and their subsidiaries and consolidated affiliated entities, and substantially all of its assets and operations are located in China. With a holding company structure, we principally rely on dividends from our PRC subsidiaries for our cash requirements, including any payment of dividends to our shareholders. If these subsidiaries or any newly formed subsidiaries incur debt on their own behalf in the future, the instruments governing their debt may restrict their ability to pay dividends to us.

 

In 2019, 2020 and 2021, CNFinance has not transferred any cash proceeds to any of its PRC subsidiaries. For instance, cash proceeds raised from overseas financing activities, may be transferred by CNFinance through China Financial Services Group Limited, our Hong Kong subsidiary, to Fanhua Chuangli Information Technology (Shenzhen) Company Limited (“Fanhua Chuangli”), a PRC subsidiary, via capital contribution and shareholder loans, as the case may be. Fanhua Chuangli then will transfer funds to its subsidiaries to meet the capital needs of business operations. None of our PRC subsidiaries have issued any dividends or distributions to respective holding companies, including CNFinance, or any investors as of the date of this annual report. Our subsidiaries in the PRC generate and retain cash generated from operating activities and re-invest it in business operations.

 

3

 

 

In this annual report, “we,” “us,” “our company,” and “our” refer to CNFinance Holdings Limited, a Cayman Islands exempted company with limited liability and its subsidiaries and consolidated affiliated entities, including but not limited to Shenzhen Fanhua United Investment Group Co., Ltd. and Guangzhou Heze Information Technology Co., Ltd., as a group.

 

Financial Information Related to the Consolidated Affiliated Entities

 

Loans that we facilitate are granted to borrowers through structured funds set up by our trust company partners, such as the series of FOTIC Jinghua structured funds. Each structured trust fund has a separate bank account, and the assets of the structured funds can only be used to settle obligations under the respective structured fund. Under the trust plan agreements, we subscribe to all of the subordinated units of each structured trust plan and provide credit enhancement or credit strengthening services as the subordinated unit holder. This requires us to ensure sufficient capital to repay the principal amount and the agreed financing costs for the senior unit holders. We are also designated as the service provider to assist our trust company partners acquire and screen borrowers and perform credit assessment pursuant to collaboration agreements with our trust company partners. We provide loan facilitation and post-loan management services for service fees charged directly to the trust plans. As a result, we are deemed as the primary beneficiary of the funds from the accounting perspective as we have the power to direct the activities of the structured funds and has obligation to absorb losses of the funds or right to receive benefits. Under Accounting Standards Codification (ASC) Topic 810, the structured funds are considered as variable interest entities (VIEs) which need to be consolidated on our balance sheet. However, as advised by our PRC counsel, such structured funds are not considered as separate legal entities or VIEs under the Notice on Relevant Issues Concerning Foreign Exchange Administration for Domestic Residents’ Financing and Roundtrip Investment Through Offshore Special Purpose Vehicles, or SAFE Circular 75. We subscribe to the subordinated units and act as the service provider under the trust plans through our wholly-owned subsidiaries.

 

Risks Associated with the Holding Foreign Companies Accountable Act and Accelerating Holding Foreign Companies Accountable Act

 

The Holding Foreign Companies Accountable Act, or the HFCAA, was enacted on December 18, 2020. The HFCAA states if the SEC determines that we have filed audit reports issued by a registered public accounting firm that has not been subject to inspection by the PCAOB for three consecutive years beginning in 2021, the SEC shall prohibit our shares or ADSs from being traded on a national securities exchange or in the over-the-counter trading market in the United States. On December 16, 2021, PCAOB issued the HFCAA Determination Report, according to which our auditors are subject to the determinations. Our auditor, the independent registered public accounting firm that issues the audit report included elsewhere in this annual report, as an auditor of companies that are traded publicly in the United States and a firm registered with the PCAOB, is subject to laws in the United States pursuant to which the PCAOB conducts regular inspections to assess its compliance with the applicable professional standards. Since our auditor is located in China, a jurisdiction where the PCAOB has been unable to conduct inspections without the approval of the PRC authorities, our auditor is currently not inspected by the PCAOB. The delisting of the ADSs, or the threat of their being delisted, may materially and adversely affect the value of your investment. The PCAOB is currently unable to inspect our auditors in relation to their audit work performed for our financial statements and inability of the PCAOB to conduct inspections over our auditors deprives our investors with the benefits of such inspections. For the details of the risks associated with the enactment of the HFCAA, see “Risk Factors – Risks Related to Doing Business in China – Our auditor, like other independent registered public accounting firms operating in China, is not permitted to be subject to inspection by the PCAOB, and consequently, investors may be deprived of the benefits of such inspection. Trading in our securities may be prohibited under the HFCA Act if the PCAOB determines that it is unable to inspect or fully investigate our auditor, and as a result, U.S. national securities exchanges, such as the NYSE, may determine to delist our securities.”

 

Furthermore, on June 22, 2021, the U.S. Senate passed the Accelerating Holding Foreign Companies Accountable Act, or the AHFCA Act, which if enacted into law would amend the HFCA Act and require the SEC to prohibit an issuer’s securities from trading on any U.S. stock exchanges if its auditor is not subject to PCAOB inspections for two consecutive years instead of three. As a result, our securities may be prohibited from trading on the NYSE or another U.S. stock exchange if our auditor is not inspected by the PCAOB for three consecutive years as specified in the HFCA Act or two years if the AHFCA Act is enacted, and this ultimately could result in the ADSs being delisted from the NYSE and the ADSs will not be permitted for trading “over-the-counter” either. While there has been dialogue among the CSRC, the SEC and the PCAOB regarding the inspection of PCAOB-registered accounting firms in China, there can be no assurance that our auditor or us will be able to comply with requirements imposed by U.S. regulators. Such a delisting would substantially impair your ability to sell or purchase the ADSs when you wish to do so. The market price of the ADSs could be materially and adversely affected as a result of anticipated negative impacts of these actions upon, as well as negative investor sentiment towards, companies with significant operations in China that are listed in the United States, regardless of whether these actions are implemented and regardless of our actual operating performance. Also, such a delisting would significantly affect our ability to raise capital on terms acceptable to us, or at all, which would have a material adverse impact on our business, financial condition and prospects.

 

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3.A. [Reserved]

 

3.B. Capitalization and Indebtedness

 

Not applicable.

 

3.C. Reason for the Offer and Use of Proceeds

 

Not applicable.

 

3.D. Risk Factors

 

We face various legal and operational risks and uncertainties as a company based in and primarily operating in China. The PRC government has significant authority to exert influence on the ability of a company based in China, such as ours, to conduct its business, accept foreign investments or list on U.S. or other foreign exchanges. We face risks associated with regulatory approvals of offshore offerings, anti-monopoly regulatory actions, oversight on cybersecurity and data privacy. For example, recent regulatory actions undertaken by China’s governmentincluding the recent enactment of China’s new Data Security Law, as well as our obligations to comply with Measures for Cybersecurity Review, Personal Information Protection Law and any other future laws and regulations may require us to incur significant expenses and could materially affect our ability to conduct our business, accept foreign investments or list on a U.S. or foreign exchange. The PCAOB may not have free access to inspect the work of our auditor. Trading in our securities may be prohibited under the HFCA Act if the PCAOB determines that it is unable to inspect or fully investigate our auditor, and as a result, U.S. national securities exchanges, such as the NYSE, may determine to delist our securities. The PRC government also has significant oversight and discretion over the conduct of our business and as such may influence our operations at any time, which could result in a material adverse effect on our operations. The PRC government has recently published new policies that significantly affected certain industries, and we cannot rule out the possibility that it will in the future release regulations or policies regarding the industry where we operate, which could adversely affect our business, financial condition and results of operations. The PRC government has recently indicated an intent to exert more oversight and control over overseas securities offerings and other capital markets activities and foreign investment in China-based companies like ours. These risks could result in a material change in our operations and the value of our ordinary shares or the ADSs, or could significantly limit or completely hinder our ability to offer or continue to offer securities to investors and cause the value of such securities to significantly decline or become worthless.

 

You should carefully consider all of the information in this annual report before making an investment in the ADSs. Below please find a summary of the principal risks and uncertainties we face, organized under relevant headings. In particular, as we are a China-based company incorporated in the Cayman Islands, you should pay special attention to subsections headed “Item 3. Key Information—3.D. Risk Factors—Risks Related to Doing Business in China.”

 

Below please find a summary of the principal risks we face, organized under relevant headings.

 

Risks Related to Doing Business in China

 

Changes in China’s economic, political or social conditions or government policies could have a material adverse effect on our business and operations.

 

Uncertainties with respect to the PRC legal system, including uncertainties regarding the enforcement of laws, and sudden or unexpected changes in laws and regulations in China with little advance notice could adversely affect us and limit the legal protections available to you and us.

 

The PRC government has significant oversight over the conduct of our business and as such may intervene or influence our operations at any time, which may potentially result in a material adverse effect on our operations.

 

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The oversight of the China Securities Regulatory Commission, Cybersecurity Administration of China or other governmental authorities may adversely affect our business and their approval may be required in connection with future offerings of securities overseas or to maintain the listing status of our ADSs, and, if required, we cannot predict whether we will be able to obtain such approval.

 

We may rely on dividends and other distributions on equity paid by our PRC subsidiaries to fund any cash and financing requirements we may have, and any limitation on the ability of our PRC subsidiaries to make payments to us could have a material and adverse effect on our ability to conduct our business.

 

PRC regulations of loans to and direct investment in PRC entities by offshore holding companies and governmental control of currency conversion may delay us from using the proceeds of our public offerings to make loans or additional capital contributions to our PRC subsidiaries, which could materially and adversely affect our liquidity and our ability to fund and expand our business.

 

The collaboration model we have in place with our sales partners to acquire borrowers might be regarded as financial marketing and might face compliance risks.

 

Our auditor, like other independent registered public accounting firms operating in China, is not permitted to be subject to inspection by the PCAOB, and consequently, investors may be deprived of the benefits of such inspection. Trading in our securities may be prohibited under the HFCA Act if the PCAOB determines that it is unable to inspect or fully investigate our auditor, and as a result, U.S. national securities exchanges, such as the NYSE, may determine to delist our securities.

 

Risks Related to Our Business

 

We have a limited operating history and our business practice continues to evolve, which makes it difficult to evaluate our future prospects.

 

Our historical credit enhancement arrangements to our trust company partners and current credit strengthening services to the trust plans as the subordinated unit holder might be subject to challenges by relevant regulatory authorities, and we may potentially be required to obtain licenses.

 

Our trust company partners operate in a strictly regulated industry. If the practice of our trust company partners, including the cooperation arrangements with us, is challenged under any PRC laws and regulations, our business, financial condition and results of operations would be materially and adversely affected.

 

Our business may be adversely affected if we are unable to secure funding on terms acceptable to us or our borrowers, or at all.

 

We face risks related to natural disasters, health epidemics and other outbreaks of contagious diseases.

 

Our collaboration model with our sales partners might be subject to challenges by relevant regulatory authorities.

 

Some of our funding sources are highly regulated and are subject to the changing regulatory environment. If any of the funding sources is deemed to violate the PRC laws and regulations, we may need to secure new funding—failure of which may result in material and adverse impact on our business, financial condition, results of operations and prospects.

 

Our high leverage ratio may expose us to liquidity risk and we may not have sufficient capital reserve to manage losses.

 

Our business depends on our ability to collect payment on and service the transactions we facilitate.

 

The foreclosure action and enforcement process may be time-consuming, difficult and uncertain for legal and practicable reasons, which could adversely affect our liquidity, business, financial condition and results of operations.

 

Credit and other information that we or our trust company partners receive from prospective borrowers and third parties about a borrower and the collateral may not accurately reflect the borrower’s creditworthiness or the collateral’s fair/recoverable value, which may compromise the accuracy of our and our trust company partners’ credit assessment.

 

We primarily rely on our trust company partners to fund loans to borrowers, which may constitute provision of intermediary service, and our agreements with these trust company partners and borrowers may be deemed as intermediation contracts under the PRC Contract Law.

 

Risks Related to Our American Depositary Shares

 

The trading price of our ADSs may be volatile, which could result in substantial losses to investors.

 

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If securities or industry analysts do not publish research or reports about our business, or if they adversely change their recommendations regarding the ADSs, the market price for the ADSs and trading volume could decline.

 

Substantial future sales or perceived potential sales of our ADSs in the public market could cause the price of our ADSs to decline.

 

Although the matter is not entirely clear, we were likely a passive foreign investment company (a “PFIC”) for our 2021 taxable year, and we will likely be a PFIC for 2022 and our future taxable years, which could result in adverse U.S. federal income tax consequences to U.S. taxpayers.

 

Risks Related to Doing Business in China

 

Changes in China’s economic, political or social conditions or government policies could have a material adverse effect on our business and operations.

 

Substantially all of our assets and operations are located in China. Accordingly, our business, financial condition, results of operations and prospects may be influenced to a significant degree by political, economic and social conditions in China generally. The Chinese economy differs from the economies of most developed countries in many respects, including the level of government involvement, level of development, growth rate, control of foreign exchange and allocation of resources. Although the Chinese government has implemented measures emphasizing the utilization of market forces for economic reform, the reduction of state ownership of productive assets, and the establishment of improved corporate governance in business enterprises, a substantial portion of productive assets in China is still owned by the government. In addition, the Chinese government continues to play a significant role in regulating industry development by imposing industrial policies. The Chinese government also exercises significant control over China’s economic growth through allocating resources, controlling payment of foreign currency-denominated obligations, setting monetary policy and providing preferential treatment to particular industries or companies.

 

While the Chinese economy has experienced significant growth over past decades, growth has been uneven, both geographically and among various sectors of the economy. Any adverse changes in economic conditions in China, in the policies of the Chinese government or in the laws and regulations in China could have a material adverse effect on the overall economic growth of China. Such developments could adversely affect our business and operating results, lead to a reduction in demand for our services and adversely affect our competitive position. The Chinese government has implemented various measures to encourage economic growth and guide the allocation of resources. Some of these measures may benefit the overall Chinese economy, but may have a negative effect on us. For example, our financial condition and results of operations may be adversely affected by government control over capital investments or changes in tax regulations. In addition, in the past, the Chinese government has implemented certain measures, including interest rate adjustment, to control the pace of economic growth. These measures may cause decreased economic activity in China, which may adversely affect our business and operating results.

 

Recent international trade tensions, or a severe or prolonged downturn in the Chinese or global economy in general, could materially and adversely affect our business and financial condition.

 

Any prolonged slowdown in the Chinese or global economy may have a negative impact on our business, results of operations and financial condition. In particular, general economic factors and conditions in China or worldwide, including the general interest rate environment and unemployment rates, may affect micro- and small-enterprise owners’ willingness to seek credit and our partners’ ability and desire to invest in loans. Economic conditions in China are sensitive to global economic conditions. The global financial markets have experienced significant disruptions in the past, including the recent international trade disputes and tariff actions announced by the United States, the PRC and certain other countries. For instance, the U.S. administration has imposed significant amount of tariffs on Chinese goods, and the PRC government has imposed tariffs on certain goods manufactured in the United States. There is no assurance that the list of goods impacted by additional tariffs will not be expanded or the tariffs will not be increased materially.

 

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There is considerable uncertainty over the long-term effects of the expansionary monetary and fiscal policies adopted by the central banks and financial authorities of some of the world’s leading economies, including the United States and China. There have also been concerns over unrest in the Middle East and Africa, which have resulted in volatility in financial and other markets. There have also been concerns about the economic effect of the tensions in the relationship between China and surrounding Asian countries. Recently, the Russia-Ukraine war has caused, and continues to intensify, significant geopolitical tensions in Europe and across the global. The resulting sanctions are expected to have significant impacts on the economic conditions of the targeted countries and markets. If present Chinese and global economic uncertainties persist, we may have difficulty in obtaining funding sources to fund the credit utilized by borrowers. Adverse economic conditions could also reduce the number of quality micro- and small-enterprise owners seeking credit from us, as well as their ability to make payments. Should any of these situations occur, the amount of loans facilitated to borrowers and, therefore, our operating income, will decline, and our business and financial condition will be negatively impacted. Additionally, continued turbulence in the international markets may adversely affect our ability to access the capital markets to meet liquidity needs.

 

The recent regulatory development has also imposed challenges to our future business and operations. On August 20, 2020, the Supreme People’s Court announced an amendment to the judicial interpretation of China’s private lending, which reduces the maximum annual interest rate allowed on private lending to four times of the latest one-year loan prime rate (LPR) (the “Amendment”). Although we do not believe we are regulated by the Amendment as a loan facilitator in collaboration with licensed trust company partners, our trust company partners have voluntarily adjusted the interest rates on some loan products we facilitate to comply with the new standards under the Amendment with some trust company partners to prevent the compliance risks due to the uncertainty of regulatory enforcement. As a result, our profit margin, results of operations and financial position were adversely impacted in 2021, and may continue to be adversely impacted.

 

Uncertainties with respect to the PRC legal system, including uncertainties regarding the enforcement of laws, and sudden or unexpected changes in laws and regulations in China with little advance notice could adversely affect us and limit the legal protections available to you and us.

 

Our operations in China are governed by the PRC laws and regulations. The PRC legal system is a civil law system based on written statutes. Unlike the common law system, prior court decisions under the civil law system may be cited for reference but have limited precedential value. The overall effect of legislation over the past four decades has significantly enhanced the protections afforded to various forms of foreign investments in China. However, China has not developed a fully integrated legal system, and recently enacted laws and regulations may not sufficiently cover all aspects of economic activities in China. Since these laws and regulations are relatively new and may be amended from time to time, and the PRC legal system continues to rapidly evolve, the interpretations of many laws and regulations are not always uniform and enforcement of these laws and regulations involves uncertainties. In addition, any new PRC laws or changes in PRC laws and regulations related to, among other things, foreign investment and business activities in China could have a material adverse effect on our business and our ability to operate our business in China.

 

From time to time, we may have to resort to administrative and court proceedings to enforce our legal rights. Any administrative and court proceedings in China may be protracted, resulting in substantial costs and diversion of resources and management attention. Since PRC administrative and court authorities have significant discretion in interpreting and implementing statutory provisions and contractual terms, it may be more difficult to evaluate the outcome of administrative and court proceedings and the level of legal protection we enjoy than in more developed legal systems. These uncertainties may impede our ability to enforce contracts in China and could materially and adversely affect our business and results of operations.

 

Furthermore, the PRC legal system is based in part on government policies and internal rules, some of which are not published on a timely basis, or at all, and may have retroactive effect. As a result, we may not be aware of our violation of any of these policies and rules until sometime after the violation. Such unpredictability towards the scope and effect of our contractual, property (including intellectual property) and procedural rights and any failure to quickly respond to changes in the regulatory environment in the PRC could adversely affect our business, and impede our ability to continue our operations and proceed with our future business plans.

 

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The PRC government has significant oversight over the conduct of our business and as such may intervene or influence our operations at any time, which may potentially result in a material adverse effect on our operations.

 

The PRC government has exercised and continues to exercise substantial control over the Chinese economy through regulation and state ownership. Our ability to operate in China may be harmed by changes in its laws and regulations, including those relating to taxation, environmental regulations, land use rights, property and other matters. The central or local PRC governments of may impose new, stricter regulations or interpretations of existing regulations that would require additional expenditures and efforts on our part to ensure our compliance with such regulations or interpretations. Accordingly, government actions in the future, including any decision not to continue to support recent economic reforms and to return to a more centrally planned economy or regional or local variations in the implementation of economic policies, could have a significant effect on economic conditions in China or specific regions thereof, and could require us to divest ourselves of any interest we then hold in Chinese properties. The PRC government has recently published new policies that significantly affected certain industries such as real estate and credit industries, and we cannot rule out the possibility that it will in the future release regulations or policies regarding our industry that could adversely affect our business, financial condition and results of operations. For example, on November 1, 2021, the Personal Information Protection Law came into effect. Although we do not believe the current personal information protection laws and regulations have a material adverse impact on our business and results of operations, any failure or perceived failure by us to comply with the relevant personal information protection laws and regulations may result in governmental investigations, enforcement actions or lawsuits and could have an adverse impact on our business and results of operations. Furthermore, the PRC government has recently indicated an intent to exert more oversight and control over securities offerings and other capital markets activities that are conducted overseas and foreign investment in China-based companies like us. Any such intervention in or influence on our business operations or action to exert more oversight and control over securities offerings and other capital markets activities, once taken by the PRC government, could adversely affect our business, financial condition and results of operations and the value of our ordinary shares or the ADSs, or significantly limit or completely hinder our ability to offer or continue to offer securities to investors and cause the value of such securities to significantly decline or in extreme cases, become worthless.

 

The approval of and/or filing with the CSRC or other PRC government authorities may be required in connection with our offshore offerings under PRC law, and, if required, we cannot predict whether or for how long we will be able to obtain such approval or complete such filing.

 

The Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, or the M&A Rules, require an overseas special purpose vehicle formed for listing purposes through acquisitions of PRC domestic companies and controlled by PRC companies or individuals to obtain the approval of the China Securities Regulatory Commission (“CSRC”) prior to the listing and trading of such special purpose vehicle’s securities on an overseas stock exchange. However, the application of the M&A Rules remains unclear. If CSRC approval is required, it is uncertain whether it would be possible for us to obtain the approval, and any failure to obtain or delay in obtaining CSRC approval for future offerings of securities overseas or to maintain the listing status of our ADSs would subject us to sanctions imposed by the CSRC and other PRC regulatory agencies.

 

On July 6, 2021, certain PRC regulatory authorities issued Opinions on Strictly Cracking Down on Illegal Securities Activities in Accordance with the Law. These opinions call for strengthened regulation over illegal securities activities and supervision on overseas listings by China-based companies and propose to take effective measures, such as promoting the development of relevant regulatory systems to deal with the risks and incidents faced by China-based overseas-listed companies. As a follow-up, on December 24, 2021, the State Council issued a draft of the Provisions of the State Council on the Administration of Overseas Securities Offering and Listing by Domestic Companies, or the Draft Provisions, and the CSRC issued a draft of Administration Measures for the Filing of Overseas Securities Offering and Listing by Domestic Companies, or the Draft Administration Measures, for public comments.

 

The Draft Provisions and the Draft Administration Measures propose to establish a new filing-based regime to regulate overseas offerings of stocks, depository receipts, convertible corporate bond, or other equity securities, and overseas listing of these securities for trading, by domestic companies. According to the Draft Provisions and the Draft Administration Measures, an overseas offering and listing by a domestic company, whether directly or indirectly, shall be filed with the CSRC. Specifically, the examination and determination of an indirect offering and listing will be conducted on a substance-over-form basis, and an offering and listing shall be considered as an indirect overseas offering and listing by a domestic company if the issuer meets the following conditions: (i) the operating income, gross profit, total assets, or net assets of the domestic enterprise in the most recent fiscal year was more than 50% of the relevant line item in the issuer’s audited consolidated financial statement for that year; and (ii) senior management personnel responsible for business operations and management are mostly PRC citizens or are ordinarily resident in the PRC, and the main place of business is in the PRC or carried out in the PRC. According to the Draft Administration Measures, the issuer or its affiliated domestic company, as the case may be, shall file with the CSRC for its initial public offering, follow-on offering and other equivalent offering activities. Particularly, the issuer shall submit the filing with respect to its initial public offering and listing within three business days after its initial filing of the listing application, and submit the filing with respect to its follow-on offering within three business days after completion of the follow-on offering. Failure to comply with the filing requirements may result in fines to the relevant domestic companies, suspension of their businesses, revocation of their business licenses and operation permits and fines on the controlling shareholder and other responsible persons. The Draft Administration Measures also sets forth certain regulatory red lines for overseas offerings and listings by domestic enterprises.

 

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As of the date of this annual report, the Draft Provisions and the Draft Administration Measures have been released for public comment only. There are uncertainties as to whether the Draft Provisions and the Draft Administration Measures would be further amended, revised or updated. Substantial uncertainties exist with respect to the enactment timetable and final content of the Draft Provisions and the Draft Administration Measures. As the CSRC may formulate and publish guidelines for filings in the future, the Draft Administration Measures does not provide for detailed requirements of the substance and form of the filing documents. In a Q&A released on its official website, the respondent CSRC official indicated that the CSRS will start applying the filing requirements to new offerings and listings. Only new initial public offerings and refinancing by existing overseas listed Chinese companies will be required to go through the filing process. As for the filings for the existing companies, the regulator will grant adequate transition period to complete their filing procedures. The Q&A also addressed the contractual arrangements and pointed out that if complying with domestic laws and regulations, companies with VIE structure are eligible to list overseas after filing with the CSRC. Nevertheless, it does not specify what relevant domestic laws and regulations are required to be complied with. Given the substantial uncertainties surrounding the latest CSRC filing requirements at this stage, we cannot assure you that we will be able to complete the filings and fully comply with the relevant new rules on a timely basis, if at all.

 

On April 2, 2022, the CSRC released the revised Provisions on Strengthening Confidentiality and Archives Administration of Overseas Securities Offering and Listing by Domestic Companies (Draft for Comments) (the “ Draft Archives Rules”). As of the date of this annual report, we have not provided files or copies of files outside China that involve national secrets, national security, vital interests, or have important preservation value to the nation and society. However, we cannot guarantee that relevant government agencies of China, including the CSRC, will have the same opinion as ours.

 

The interpretation and implementation of these opinions and new rules remain unclear at this stage. We cannot assure you that we will not be required to obtain the approval of or file with the CSRC or other regulatory authorities to maintain the listing status of our ADSs on NYSE or to conduct offerings of securities in the future. If such approvals are required, it is uncertain whether we can or how long it will take us to obtain such approval or complete such filing procedures and any such approval or filing could be rescinded or rejected. Any failure to obtain or delay in obtaining such approval or completing such filing procedures for our offshore offerings, or a rescission of any such approval or filing if obtained by us, would subject us to sanctions by the CSRC or other PRC regulatory authorities for failure to seek CSRC approval or filing or other government authorization for our offshore offerings. These regulatory authorities may impose fines and penalties on our operations in China, limit our ability to pay dividends outside of China, limit our operating privileges in China, delay or restrict the repatriation of the proceeds from our offshore offerings into China or take other actions that could materially and adversely affect our business, financial condition, results of operations, and prospects, as well as the trading price of our listed securities. The CSRC or other PRC regulatory authorities also may take actions requiring us, or making it advisable for us, to halt our offshore offerings before settlement and delivery of the shares offered. Consequently, if investors engage in market trading or other activities in anticipation of and prior to settlement and delivery, they do so at the risk that settlement and delivery may not occur. In addition, if the CSRC or other regulatory authorities later promulgate new rules or explanations requiring that we obtain their approvals or accomplish the required filing or other regulatory procedures for our prior offshore offerings, we may be unable to obtain a waiver of such approval requirements, if and when procedures are established to obtain such a waiver. Any uncertainties or negative publicity regarding such approval requirement could materially and adversely affect our business, prospects, financial condition, reputation, and the trading price of our listed securities.

 

Substantial uncertainties exist with respect to the interpretation and implementation of cybersecurity related regulations and cybersecurity review as well as any impact these may have on our business operations.

 

The Data Security Law was promulgated on June 10, 2021 and became effective in September 2021. The Personal Information Protection Law was promulgated on August 20, 2021 and officially implemented on November 1, 2021. The Data Security Law stipulates that the data handling activities that affect or may affect the national security should undergo national security review, and the Personal Information Protection Law stipulates that critical information infrastructure (“CII”) operators, or personal information processors whose processing of personal information reaches the threshold amount prescribed by the national cyberspace authority, shall store the personal information collected or generated by them within the territory of the PRC. If it is necessary to provide the data overseas, the organization is required to pass the security assessment organized by the national cyberspace authority.

 

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The Measures for Cyber Security Review published by Cyberspace Administration of China (CAC) in December 2021 provides that a network platform operator that has the personal information of more than one million users must apply to the Cybersecurity Review Office (the “CRO”) for a cybersecurity review when it seeks to list overseas. Also, a CII operator, when procuring a network product or service, shall predict any national security risk that may arise after the use of such product or service. If national security will be affected or may be affected, the CII operator shall apply to the CRO for a cybersecurity review.

 

On August 17, 2021, the State Council issued the “Regulations on the Security Protection of Critical Information Infrastructures”, which took effect on September 1, 2021. The regulations stipulate that the departments responsible for the security protection of critical information infrastructure (hereinafter referred to as the security protection departments) shall formulate rules for the identification of critical information infrastructure based on the actual situation of the industry and field, and report it to the public security department of the State Council for record. The following factors shall be considered in the formulation of identification rules: (1) the degree of importance of the network facilities and information systems to the core businesses of the industry and area concerned; (2) the degree of damage that may be caused if the network facilities and information systems are under destruction, loss of function or data leakage; and (3) the correlative impact on other industries and areas. The security protection departments shall be responsible for organizing the identification of critical information infrastructure in their respective industries and areas in accordance with the identification rules, timely notify the identification results to the operators and report such results to the public security department under the State Council.

 

Although we do not believe we are CII operator or a network platform operator, the PRC authorities could interpret such term broadly. If our company is deemed to be a CII operator or a network platform operator under such rules, we could be subject to cybersecurity review by the CAC and other relevant PRC regulatory authorities and be required to change our existing practices in data privacy and cybersecurity matters at substantial costs. During such cybersecurity review, we may be required to stop providing services to our customers. If the CSRC or other PRC regulatory body subsequently determines that we need to obtain the CSRC’s approval for future offerings of securities overseas or to maintain the listing status of our ADSs or if the CSRC or any other PRC government authorities promulgates any interpretation or implements rules before our listing that would require us to obtain CSRC or other governmental approvals for future offerings of securities overseas or to maintain the listing status of our ADSs, we may not be able to proceed with future offerings of securities overseas or to the listing of our ADSs on the New York Stock Exchange, face adverse actions or sanctions by the CSRC or other PRC regulatory agencies. In any such event, these regulatory agencies may impose fines and penalties on our operations in China, limit our operating privileges in China, delay or restrict the repatriation of the proceeds from future offerings of securities overseas into the PRC or take other actions that could have a material adverse effect on our business, financial condition, results of operations, reputation and prospects, as well as our ability to complete future offerings of securities overseas or to maintain the listing status of our ADSs.

 

We also cannot rule out the possibility that certain of our customers may be deemed as CII operators, in which case our products or services or data processing activities, if being deemed as related to national security, will need to be submitted for cybersecurity review before we can enter into agreements with such customers, and before the conclusion of such procedure, the customers will not be allowed to use our products or services. If the reviewing authority considers that the use of our services by certain of our customers involves risk of disruption, is vulnerable to external attacks, or may negatively affect, compromise, or weaken the protection of national security, we may not be able to provide our products or services to such customers, which could have a material adverse effect on our results of operations and prospects.

 

As of the date of this annual report, we have not been involved in any investigations on cybersecurity review initiated by the CAC, and we have not received any inquiry, notice, warning, sanctions in such respect or any regulatory objections. As there are still uncertainties regarding the further enactment of new laws and regulations as well as the revision, interpretation and implementation of those existing laws and regulations, we cannot assure you that we will be able to comply with such regulations in all respects, and we may be ordered to rectify, suspend or terminate any actions or services that are deemed illegal or incompliant by the regulatory authorities and become subject to fines and/or other penalties. If we are unable to address such issue in a timely manner, or at all, we may be required to suspend or terminate our related businesses or face other penalties, our business, financial condition, results of operations, and prospects could be materially harmed.

 

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You may experience difficulties in effecting service of legal process, enforcing foreign judgments or bringing actions in China against us or our management named in the annual report based on foreign laws.

 

We are an exempted company incorporated under the laws of the Cayman Islands, while we conduct substantially all of our operations in China, and substantially all of our assets are located in China. In addition, all our senior executive officers reside within China for a significant portion of the time and most are PRC nationals. Further, all of our directors and officers are located outside of Cayman Islands. Service of court documents on a Cayman Islands company can be effected by serving the documents at the Company’s registered office and it may be possible to enforce foreign judgments in the Cayman Islands against a Cayman Islands company, subject to some exceptions. However, if investors wish to serve documents on and/or enforce foreign judgments against our directors and officers, they will need to ensure that they comply with the rules of the jurisdiction where the directors and officers are located. As a result, it may be difficult for our shareholders to effect service of process upon us or those persons inside China. In addition, China does not have treaties providing for the reciprocal recognition and enforcement of judgments of courts with the Cayman Islands and many other countries and regions. Therefore, recognition and enforcement in China of judgments of a court in any of these non-PRC jurisdictions in relation to any matter not subject to a binding arbitration provision may be difficult or impossible.

 

We may rely on dividends and other distributions on equity paid by our PRC subsidiaries to fund any cash and financing requirements we may have, and any limitation on the ability of our PRC subsidiaries to make payments to us could have a material and adverse effect on our ability to conduct our business.

 

With a holding company structure, we rely principally on dividends and other distributions on equity from our PRC subsidiaries for our cash requirements, including for services of any debt we may incur.

 

Our PRC subsidiary’s ability to distribute dividends is based upon its distributable earnings. Current PRC regulations permit our PRC subsidiaries to pay dividends to its respective shareholders only out of their accumulated profits, if any, determined in accordance with PRC accounting standards and regulations. In addition, each of our PRC subsidiaries is required to set aside at least 10% of its after-tax profits each year, if any, to fund a statutory reserve until such reserve reaches 50% of its registered capital. Each of our PRC subsidiaries as a FIE is also required to further set aside a portion of its after-tax profits to fund the employee welfare fund, although the amount to be set aside, if any, is determined at its discretion. These reserves are not distributable as cash dividends. If our PRC subsidiaries incur debt on their own behalf in the future, the instruments governing the debt may restrict their ability to pay dividends or make other payments to us. Any limitation on the ability of our PRC subsidiaries to distribute dividends or other payments to their respective shareholders could materially and adversely limit our ability to grow, make investments or acquisitions that could be beneficial to our businesses, pay dividends or otherwise fund and conduct our business.

 

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In addition, the Enterprise Income Tax Law and its implementation rules provide that a withholding tax rate of up to 15% will be applicable to dividends payable by Chinese companies to non-PRC-resident enterprises unless otherwise exempted or reduced according to treaties or arrangements between the PRC central government and governments of other countries or regions where the non-PRC resident enterprises are incorporated.

 

PRC regulations of loans to and direct investment in PRC entities by offshore holding companies and governmental control of currency conversion may delay us from using the proceeds of our public offerings to make loans or additional capital contributions to our PRC subsidiaries, which could materially and adversely affect our liquidity and our ability to fund and expand our business.

 

Any funds we transfer to our PRC subsidiaries, either as a shareholder loan or as an increase in registered capital, are subject to approval by or registration with relevant governmental authorities in China. According to the relevant PRC regulations on FIEs in China, capital contributions to our PRC subsidiaries are subject to the approval of or filing with the MOFCOM or its local branches and registration with a local bank authorized by SAFE. In addition, (i) any foreign loan procured by our PRC subsidiaries is required to be registered with SAFE or its local branches and (ii) any of our PRC subsidiaries may not procure loans which exceed the difference between its total investment amount and registered capital or, as an alternative, only procure loans subject to the calculation approach and limitation as provided in the Notice of the People’s Bank of China on Matters concerning the Macro-Prudential Management of Full-Covered Cross-Border Financing. For the restriction and limitation on the amount of loans, please refer to “Item 4. Information on the Company—B. Business Overview—Regulation—Regulations on Foreign Exchange—Regulations on Foreign Exchange Registration of Overseas Investment by PRC Residents”. We may not be able to complete such registrations on a timely basis, with respect to future capital contributions or foreign loans by us to our PRC subsidiaries. If we fail to complete such registrations, our ability to use the proceeds of our public offerings, and our ability to capitalize our PRC operations may be negatively affected, which could adversely affect our liquidity and our ability to fund and expand our business.

 

On March 30, 2015, SAFE promulgated the Circular on Reforming the Management Approach Regarding the Foreign Exchange Capital Settlement of Foreign-Invested Enterprises, or SAFE Circular 19, which took effect as of June 1, 2015 and was amended on December 30, 2019. SAFE Circular 19 launched a nationwide reform of the administration of the settlement of the foreign exchange capitals of FIEs and allows FIEs to settle their foreign exchange capital at their discretion, but continues to prohibit FIEs from using the Renminbi fund converted from their foreign exchange capital for expenditure beyond their business scopes, providing entrusted loans or repaying loans between nonfinancial enterprises. SAFE issued the Circular on Reforming and Regulating Policies on the Control over Foreign Exchange Settlement of Capital Accounts, or SAFE Circular 16, effective in June 2016. Pursuant to SAFE Circular 16, enterprises registered in China may also convert their foreign debts from foreign currency to Renminbi on a self-discretionary basis. SAFE Circular 16 provides an integrated standard for conversion of foreign exchange under capital account items (including but not limited to foreign currency capital and foreign debts) on a self-discretionary basis which applies to all enterprises registered in China. SAFE Circular 16 reiterates the principle that Renminbi converted from foreign currency-denominated capital of a company may not be directly or indirectly used for purposes beyond its business scope or prohibited by PRC laws or regulations, while such converted Renminbi shall not be provided as loans to its nonaffiliated entities. As this circular is relatively new, there remains uncertainty as to its interpretation and application and any other future foreign exchange-related rules. Violations of these circulars could result in severe monetary or other penalties. SAFE Circular 19 and SAFE Circular 16 may significantly limit our ability to use Renminbi converted from the net proceeds of our public offerings to fund the establishment of new entities in China or their subsidiaries, to invest in or acquire any other PRC companies through our PRC subsidiaries, or to establish variable interest entities in China, which may adversely affect our business, financial condition and results of operations. 

 

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Fluctuations in the value of the Renminbi could have a material and adverse effect on your investment.

 

The change in value of the Renminbi against the U.S. dollar and other currencies is affected by various factors such as changes in political and economic conditions in the PRC. In July 2005, the PRC government changed its decades-old policy of pegging the value of the RMB to the U.S. dollar, and the RMB appreciated more than 20% against the U.S. dollar over the following three years. Between July 2008 and June 2010, this appreciation halted and the exchange rate between the RMB and the U.S. dollar remained within a narrow band. Since June 2010, the RMB has fluctuated against the U.S. dollar, at times significantly and unpredictably. On November 30, 2015, the Executive Board of the International Monetary Fund (IMF) completed the regular five-year review of the basket of currencies that make up the Special Drawing Right, or the SDR, and decided that with effect from October 1, 2016, RMB is determined to be a freely usable currency and will be included in the SDR basket as a fifth currency, along with the U.S. dollar, the euro, the Japanese yen and the British pound. In the fourth quarter of 2016, the RMB has depreciated significantly in the backdrop of a surging U.S. dollar and persistent capital outflows of China. While appreciating approximately by 7% against the U.S. dollar in 2017, the Renminbi in 2018 depreciated approximately by 5% against the U.S. dollar. With the development of the foreign exchange market and progress towards interest rate liberalization and RMB internationalization, the PRC government may in the future announce further changes to the exchange rate system, and we cannot assure you that the RMB will not appreciate or depreciate significantly in value against the U.S. dollar in the future. It is difficult to predict how market forces or PRC or U.S. government policy may impact the exchange rate between the Renminbi and the U.S. dollar in the future.

 

Any significant appreciation or revaluation of the Renminbi may have a material adverse effect on the value of, and any dividends payable on, our ADSs in foreign currency terms. More specifically, if we decide to convert our Renminbi into U.S. dollars, appreciation of the U.S. dollar against the Renminbi would have a negative effect on the U.S. dollar amount available to us. To the extent that we need to convert U.S. dollars we receive from our initial public offering into Renminbi for our operations, appreciation of the Renminbi against the U.S. dollar would have an adverse effect on the Renminbi amount we would receive from the conversion. In addition, appreciation or depreciation in the exchange rate of the Renminbi to the U.S. dollar could materially and adversely affect the price of our ADSs in U.S. dollars without giving effect to any underlying change in our business or results of operations.

 

Governmental control of currency conversion may limit our ability to utilize our operating income effectively and affect the value of your investment.

 

The PRC government imposes controls on the convertibility of the Renminbi into foreign currencies and, in certain cases, the remittance of currency out of China. We receive substantially all of our operating income in Renminbi. Under our current corporate structure, our Cayman Islands incorporated holding company primarily relies on dividend payments from our PRC subsidiaries to fund any cash and financing requirements we may have. Under existing PRC foreign exchange regulations, payments of current account items, including profit distributions, interest payments and trade and service-related foreign exchange transactions, can be made in foreign currencies without prior approval of SAFE by complying with certain procedural requirements. Specifically, under the existing exchange restrictions, without prior approval of SAFE, cash generated from the operations of our PRC subsidiaries in China may be used to pay dividends to our company. However, approval from or registration with appropriate government authorities is required where Renminbi is to be converted into foreign currency and remitted out of China to pay capital expenses such as the repayment of loans denominated in foreign currencies. As a result, we need to obtain SAFE approval to use cash generated from the operations of our PRC subsidiaries to pay off their respective debt in a currency other than Renminbi owed to entities outside China, or to make other capital expenditure payments outside China in a currency other than Renminbi. The PRC government may at its discretion restrict access to foreign currencies for current account transactions in the future. If the foreign exchange control system prevents us from obtaining sufficient foreign currencies to satisfy our foreign currency demands, we may not be able to pay dividends in foreign currencies to our shareholders, including holders of our ADSs.

 

Certain PRC regulations may make it more difficult for us to pursue growth through acquisitions.

 

Among other things, the Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors, or the M&A Rules, adopted by six PRC regulatory agencies in 2006 and amended in 2009, established additional procedures and requirements that could make merger and acquisition activities by foreign investors more time-consuming and complex. Such regulation stipulates that if a foreign investor acquires a domestic enterprise and obtains actual control, and if it involves key industries, or has factors that affect or may affect national economic security, or causes the transfer of actual control of domestic enterprises with well-known trademarks or Chinese time-honored brands, the parties concerned shall report to MOFCOM. Moreover, the Anti-Monopoly Law promulgated by the Standing Committee of the NPC which became effective in 2008 requires that transactions which are deemed concentrations and involve parties with specified turnover thresholds must be cleared by the MOFCOM before they can be completed. In addition, according to the Measures for the Security Review of Foreign Investment, which has been effective since January 28, 2021, a foreign investor or a party concerned in China (hereinafter collectively referred to as “party concerned”) shall take the initiative to make a declaration to the working mechanism office prior to making one of the following investments and the working mechanism office shall be entitled to require the party concerned to make a declaration thereof: (i) investment in any of such fields as the military industry and military-supporting industry that concern state defense and security, as well as military facilities and areas surrounding industrial military facilities; and (ii) investment in any important agricultural product, important energy and resources, major equipment manufacturing, important infrastructure, important transportation services, important cultural products and services, important information technologies and internet products and services, important financial services, key technologies and other important fields that concern state security while obtaining the actual control over the enterprises invested in. We may pursue potential strategic acquisitions that are complementary to our business and operations. Complying with the requirements of these regulations to complete such transactions could be time-consuming, and any required approval processes, including obtaining approval or clearance from the MOFCOM, may delay or inhibit our ability to complete such transactions, which could affect our ability to expand our business or maintain our market share.

 

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PRC regulations relating to the establishment of offshore special purpose companies by PRC residents may subject our PRC resident beneficial owners or our PRC subsidiary to liability or penalties, limit our ability to inject capital into our PRC subsidiary, limit our PRC subsidiary’s ability to increase their registered capital or distribute profits to us, or may otherwise adversely affect us.

 

In July 2014, SAFE promulgated the Circular on Relevant Issues Concerning Foreign Exchange Control on Domestic Residents’ Offshore Investment and Financing and Roundtrip Investment Through Special Purpose Vehicles, or SAFE Circular 37, to replace the Notice on Relevant Issues Concerning Foreign Exchange Administration for Domestic Residents’ Financing and Roundtrip Investment Through Offshore Special Purpose Vehicles, or SAFE Circular 75, which ceased to be effective upon the promulgation of SAFE Circular 37. SAFE Circular 37 requires PRC residents (including PRC individuals and PRC corporate entities) to register with SAFE or its local branches in connection with their direct or indirect offshore investment activities. SAFE Circular 37 is applicable to our shareholders who are PRC residents and may be applicable to any offshore acquisitions that we make in the future.

 

Under SAFE Circular 37, PRC residents who make, or have prior to the implementation of SAFE Circular 37 made, direct or indirect investments in offshore special purpose vehicles, or SPVs, will be required to register such investments with SAFE or its local branches. In addition, any PRC resident who is a direct or indirect shareholder of an SPV is required to update its filed registration with the local branch of SAFE with respect to that SPV, to reflect any material change. Moreover, any subsidiary of such SPV in China is required to urge the PRC resident shareholders to update their registration with the local branch of SAFE. If any PRC shareholder of such SPV fails to make the required registration or to update the previously filed registration, the subsidiary of such SPV in China may be prohibited from distributing its profits or the proceeds from any capital reduction, share transfer or liquidation to the SPV, and the SPV may also be prohibited from making additional capital contributions into its subsidiary in China. On February 13, 2015, the SAFE promulgated a Notice on Further Simplifying and Improving Foreign Exchange Administration Policy on Direct Investment, or SAFE Notice 13, which became effective on June 1, 2015 and was amended in 2019. Under SAFE Notice 13, applications for foreign exchange registration of inbound foreign direct investments and outbound overseas direct investments, including those required under SAFE Circular 37, will be filed with qualified banks instead of SAFE. The qualified banks will directly examine the applications and accept registrations under the supervision of SAFE.

 

Several of our shareholders that we are aware of are subject to SAFE regulations, and all of these shareholders have completed all necessary registrations with the local SAFE branch or qualified banks as required by SAFE Circular 37. We cannot assure you, however, that all of these individuals may continue to make required filings or updates on a timely manner, or at all. We can provide no assurance that we are or will in the future continue to be informed of identities of all PRC residents holding direct or indirect interest in our company. Any failure or inability by such individuals to comply with SAFE regulations may subject us to fines or legal sanctions, such as restrictions on our cross-border investment activities or our PRC subsidiary’s ability to distribute dividends to, or obtain foreign exchange-denominated loans from, our company or prevent us from making distributions or paying dividends. As a result, our business operations and our ability to make distributions to you could be materially and adversely affected.

 

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Furthermore, as the interpretation and implementation of these foreign exchange regulations have been constantly evolving, it is unclear how these regulations, and any future regulation concerning offshore or cross-border transactions, will be interpreted, amended and implemented by the relevant government authorities. For example, we may be subject to a more stringent review and approval process with respect to our foreign exchange activities, such as remittance of dividends and foreign-currency-denominated borrowings, which may adversely affect our financial condition and results of operations. In addition, if we decide to acquire a PRC domestic company, we cannot assure you that we or the owners of such company, as the case may be, will be able to obtain the necessary approvals or complete the necessary filings and registrations required by the foreign exchange regulations. This may restrict our ability to implement our acquisition strategy and could adversely affect our business and prospects.

 

Uncertainties exist regarding the interpretation and implementation of the newly enacted PRC Foreign Investment Law and how it may impact the viability of our current corporate structure and the viability of business operation.

 

On March 15, 2019, the National People’s Congress approved the Foreign Investment Law of the People’s Republic of China (“PRC Foreign Investment Law”),and the State Council promulgated the Implementing Regulations to the PRC Foreign Investment Law (“Implementing Regulations”) on December 26, 2019, both of which came into effect on January 1, 2020. The PRC Foreign Investment Law and its Implementing Regulations replaced the trio of previous laws regulating foreign investment in China, namely, the Law of the People’s Republic of China on Chinese-foreign Equity Joint Ventures, the Law of the People’s Republic of China on Chinese-foreign Cooperative Joint Ventures and the Law of the People’s Republic of China on Wholly Foreign-Owned Enterprises, together with their implementation rules and ancillary regulations.

 

PRC Foreign Investment Law and its Implementing Regulations further specify that foreign investments shall be conducted in line with the negative list issued by or approved to be issued by the State Council. If an FIE proposes to conduct business in an industry subject to foreign investment “restrictions” in the “negative list,” the FIE must meet certain conditions under the “negative list” before being established. If an FIE proposes to conduct business in an industry subject to foreign investment “prohibitions” in the “negative list,” it must not engage in the business. Investments made in Mainland China by investors from the Hong Kong Special Administrative Region and the Macao Special Administrative Region shall be governed by the PRC Foreign Investment Law and its Implementing Regulations. On December 27, 2021, the NDRC and the MOFCOM promulgated the Special Administrative Measures (Negative List) for Access of Foreign Investments (2021 Edition), as came into effect on January 1, 2022, according to which the industry of loan service has not been subject to foreign investment “restrictions” or “prohibitions” in the Negative List. Our PRC legal advisor, Merits & Tree Law Offices, advises us that according to the PRC Foreign Investment Law and the Implementing Regulations, the PRC regulatory agencies shall, considering the needs for further foreign opening and economic and social development, adjust the Negative List where appropriate. Therefore, if the industry of loan service is subject to the foreign investment restrictions or prohibitions under the negative list issued subsequently, our failure to take timely and appropriate measures to cope with any of these or similar regulatory compliance challenges could materially and adversely affect our current corporate structure, corporate governance, and business operations.

 

Any failure to comply with PRC regulations regarding the registration requirements for employee stock incentive plans may subject the PRC plan participants or us to fines and other legal or administrative sanctions.

 

In February 2012, SAFE promulgated the Notices on Issues Concerning the Foreign Exchange Administration for Domestic Individuals Participating in Stock Incentive Plan of Overseas Publicly Listed Company, replacing earlier rules promulgated in 2007. Pursuant to these rules, PRC citizens and non-PRC citizens who reside in China for a continuous period of not less than one year who participate in any stock incentive plan of an overseas publicly listed company, subject to a few exceptions, are required to register with SAFE through a domestic qualified agent, which could be the PRC subsidiaries of such overseas-listed company, and complete certain other procedures. In addition, an overseas-entrusted institution must be retained to handle matters in connection with the exercise or sale of stock options and the purchase or sale of shares and interests. We and our executive officers and other employees who are PRC citizens or who reside in the PRC for a continuous period of not less than one year and who have been granted options are subject to these regulations after our company becomes an overseas-listed company upon the completion of our initial public offering. Failure to complete the SAFE registrations may subject us or them to fines and legal sanctions, there may be additional restrictions on the ability of us or them to exercise stock options or remit proceeds gained from sale of stock into the PRC. We also face regulatory uncertainties that could restrict our ability to adopt additional incentive plans for our directors, executive officers and employees under PRC law. See “Item 4. Information on the Company—B. Business Overview—Regulation—Regulations on Foreign Exchange—Regulations on Stock Incentive Plans.”

 

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If we are classified as a PRC resident enterprise for PRC enterprise income tax purposes, such classification could result in unfavorable tax consequences to us and our non-PRC shareholders and ADS holders.

 

Under the PRC Enterprise Income Tax Law and its implementation rules, an enterprise established outside of the PRC with its “de facto management body” within the PRC is considered a “resident enterprise” and will be subject to the enterprise income tax on its global income at the rate of 25%. The implementation rules define the term “de facto management body” as the body that exercises full and substantial control and overall management over the business, productions, personnel, accounts and properties of an enterprise. In 2009, the State Administration of Taxation, or SAT, issued a circular—the Circular of the State Administration of Taxation on Issues Concerning the Identification of Chinese-Controlled Overseas Registered Enterprises as Resident Enterprises in Accordance With the Actual Standards of Organizational Management (SAT Circular 82), which was amended on December 29,2017 and provides certain specific criteria for determining whether the “de facto management body” of a PRC-controlled enterprise that is incorporated offshore is located in China. Although this circular only applies to offshore enterprises controlled by PRC enterprises or PRC enterprise groups, not those controlled by PRC individuals or foreigners, the criteria set forth in the circular may reflect the SAT’s general position on how the “de facto management body” test should be applied in determining the tax resident status of all offshore enterprises. According to SAT Circular 82, an offshore incorporated enterprise controlled by a PRC enterprise or a PRC enterprise group will be regarded as a PRC tax resident by virtue of having its “de facto management body” in China, and will be subject to PRC enterprise income tax on its global income only if all of the following conditions are met: (i) the primary location of the day-to-day operational management is in the PRC; (ii) decisions relating to the enterprise’s financial and human resource matters are made or are subject to approval by organizations or personnel in the PRC; (iii) the enterprise’s primary assets, accounting books and records, company seals, and board and shareholder resolutions are located or maintained in the PRC; and (iv) at least 50% of voting board members or senior executives habitually reside in the PRC.

 

We believe our company is not a PRC resident enterprise for PRC tax purposes. However, the tax resident status of an enterprise is subject to determination by the PRC tax authorities and uncertainties remain with respect to the interpretation of the term “de facto management body.” If the PRC tax authorities determine that our company is a PRC resident enterprise for enterprise income tax purposes, we will be subject to PRC enterprise income on our worldwide income at the rate of 25%. Furthermore, we will be required to withhold a 10% withholding tax from dividends we pay to our shareholders that are nonresident enterprises, including the holders of our ADSs. In addition, nonresident enterprise shareholders (including our ADS holders) may be subject to PRC tax at a rate of 10% on gains realized on the sale or other disposition of ADSs or ordinary shares, if such income is treated as sourced from within the PRC. Furthermore, if we are deemed a PRC resident enterprise, dividends paid to our non-PRC individual shareholders (including our ADS holders) and any gain realized on the transfer of ADSs or ordinary shares by such shareholders may be subject to PRC tax at a rate of 20% (which, in the case of dividends, may be withheld at source). These rates may be reduced by an applicable tax treaty, but it is unclear whether non-PRC shareholders of our company would be able to obtain the benefits of any tax treaties between their country of tax residence and the PRC in the event that we are treated as a PRC resident enterprise. Any such PRC tax may reduce the returns on your investment in the ADSs or ordinary shares.

 

We face uncertainty with respect to indirect transfers of equity interests in PRC resident enterprises by their non-PRC holding companies.

 

On February 3, 2015, the SAT issued the Public Notice Regarding Certain Corporate Income Tax Matters on Indirect Transfer of Properties by Non-Tax Resident Enterprises, or SAT Bulletin 7, which was amended on December 1 and December 29, 2017. SAT Bulletin 7 extends its tax jurisdiction to transactions involving the transfer of taxable assets through offshore transfer of a foreign intermediate holding company. In addition, SAT Bulletin 7 has introduced safe harbors for internal group restructurings and the purchase and sale of equity securities through a public securities market. SAT Bulletin 7 also brings challenges to both foreign transferor and transferee (or other person who is obligated to pay for the transfer) of taxable assets.

 

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On October 17, 2017, the SAT issued the Announcement of the State Administration of Taxation on Issues Concerning the Withholding of Nonresident Enterprise Income Tax at Source, or SAT Bulletin 37, which came into effect on December 1, 2017 and was later amended on June 15, 2018. The SAT Bulletin 37 further clarifies the practice and procedure of the withholding of nonresident enterprise income tax.

 

Where a nonresident enterprise transfers taxable assets indirectly by disposing of the equity interests of an overseas holding company, which is an Indirect Transfer, the nonresident enterprise as either transferor or transferee, or the PRC entity that directly owns the taxable assets, may report such Indirect Transfer to the relevant tax authority. Using a “substance over form” principle, the PRC tax authority may disregard the existence of the overseas holding company if it lacks a reasonable commercial purpose and was established for the purpose of reducing, avoiding or deferring PRC tax. As a result, gains derived from such Indirect Transfer may be subject to PRC enterprise income tax, and the transferee or other person who is obligated to pay for the transfer is obligated to withhold the applicable taxes, currently at a rate of 10% for the transfer of equity interests in a PRC resident enterprise. Both the transferor and the transferee may be subject to penalties under PRC tax laws if the transferee fails to withhold the taxes and the transferor fails to pay the taxes.

 

We face uncertainties as to the reporting and other implications of certain past and future transactions where PRC taxable assets are involved, such as offshore restructuring, sale of the shares in our offshore subsidiaries and investments. Our company may be subject to filing obligations or taxed if our company is transferor in such transactions, and may be subject to withholding obligations if our company is transferee in such transactions, under SAT Bulletin 7 and/or SAT Bulletin 37. For transfer of shares in our company by investors who are non-PRC resident enterprises, our PRC subsidiaries may be requested to assist in the filing under SAT Bulletin 7 and/or SAT Bulletin 37. As a result, we may be required to expend valuable resources to comply with SAT Bulletin 7 and/or SAT Bulletin 37 or to request the relevant transferors from whom we purchase taxable assets to comply with these circulars, or to establish that our company should not be taxed under these circulars, which may have a material adverse effect on our financial condition and results of operations.

 

Our auditor, like other independent registered public accounting firms operating in China, is not permitted to be subject to inspection by the PCAOB, and consequently, investors may be deprived of the benefits of such inspection. Trading in our securities may be prohibited under the HFCA Act if the PCAOB determines that it is unable to inspect or fully investigate our auditor, and as a result, U.S. national securities exchanges, such as the NYSE, may determine to delist our securities.

 

Our independent registered public accounting firm that issues this audit report, as an auditor of companies that are traded publicly in the United States and a firm registered with the PCAOB, is required by the laws of the United States to undergo regular inspections by the PCAOB to assess its compliance with the laws of the United States and professional standards. Since our auditors are located in China, a jurisdiction where the PCAOB is currently unable to conduct inspections without the approval of the Chinese authorities, our auditors are not currently inspected by the PCAOB.

 

Inspections of other firms that the PCAOB has conducted outside of China have identified deficiencies in those firms’ audit procedures and quality control procedures, which may be addressed as part of the inspection process to improve future audit quality. The lack of PCAOB inspections in China prevents the PCAOB from regularly evaluating our auditors’ audits and its quality control procedures. As a result, investors may be deprived of the benefits of PCAOB inspections and lose confidence in our reported financial information and procedures and the quality of our financial statements.

 

In recent years, U.S. regulatory authorities have continued to express their concerns about challenges in their oversight of financial statement audits of U.S.-listed companies with significant operations in China. More recently, as part of a continued regulatory focus in the United States on access to audit and other information currently protected by national law, in particular China’s, the United States enacted the Holding Foreign Companies Accountable Act, or the HFCA Act, in December 2020. The HFCA Act includes requirements for the SEC to identify issuers whose audit work is performed by auditors that the PCAOB is unable to inspect or investigate completely because of a restriction imposed by a non-U.S. authority in the auditor’s local jurisdiction. The HFCA Act also requires that, to the extent that the PCAOB has been unable to inspect an issuer’s auditor for three consecutive years since 2021, the SEC shall prohibit its securities registered in the United States from being traded on any national securities exchange or over-the-counter markets in the United States. Pursuant to the HFCAA, the PCAOB has issued its report notifying the Commission of its determination that it is unable to inspect or investigate completely accounting firms headquartered in mainland China or Hong Kong.

 

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On December 2, 2021, the SEC adopted amendments to finalize the interim final rules adopted earlier on March 24, 2021 relating to the implementation of certain disclosure and documentation requirements of the HFCA Act, or final amendments. Pursuant to the final amendments, promptly after filing an annual report, the SEC will evaluate whether the annual report contains an audit report signed by an accounting firm so identified by the PCAOB, and such issuers will be designated as “ Commission Identified Issuers” on a list to be published by the SEC. Once a registrant has been so identified, the SEC will provisionally identify such issuer as a Commission-Identified Issuer on its website. For a period of 15 business days after the provisional identification, a registrant may contact the SEC if it believes it has been incorrectly identified and may provide evidence supporting such claims. After reviewing the information, the registrant will be notified whether the SEC will conclusively identify the registrant as a Commission-Identified Issuer.

 

The SEC will identify registrants pursuant to the HFCA Act based on the PCAOB’s determination and on registrants’ annual reports for fiscal years beginning after December 18, 2020. If we are conclusively identified as a Commission-Identified Issuer for three consecutive years, the SEC will impose an initial trading prohibition on us as soon as practicable. If the SEC ends the initial trading prohibition and, thereafter, we are again determined to be a Commission-Identified Issuer, the SEC will impose a subsequent trading prohibition on us for a minimum of five years. To end an initial or subsequent trading prohibition, we must certify that we have retained or will retain a registered public accounting firm that the PCAOB has determined it is able to inspect or investigate. To make that certification, we must file financial statements that include an audit report signed by such a registered public accounting firm.

 

Furthermore, on June 22, 2021, the U.S. Senate passed the Accelerating Holding Foreign Companies Accountable Act, or the AHFCA Act, which if enacted into law would amend the HFCA Act and require the SEC to prohibit an issuer’s securities from trading on any U.S. stock exchanges if its auditor is not subject to PCAOB inspections for two consecutive years instead of three. As a result, our securities may be prohibited from trading on the NYSE or another U.S. stock exchange if our auditor is not inspected by the PCAOB for three consecutive years as specified in the HFCA Act or two years if the AHFCA Act is enacted, and this ultimately could result in the ADSs being delisted from the NYSE and the ADSs will not be permitted for trading “over-the-counter” either. On February 4, 2022, the U.S. House of Representatives passed the America COMPETES Act of 2022, which includes the same amendments as the bill passed by the U.S. Senate. The America COMPETES Act of 2022, however, includes a broader range of legislation not related to the HFCA Act in response to the U.S. Innovation and Competition Act passed by the Senate in 2021. The U.S. House of Representatives and U.S. Senate will need to agree on amendments to these respective bills to align the legislation and pass their amended bills before the President can sign into law. It is unclear when the U.S. Senate and U.S. House of Representatives will resolve the differences in the U.S. Innovation and Competition Act and the America COMPETES Act of 2022 bills currently passed, or when the U.S. President will sign on the bill to make the amendment into law, or at all.

 

While there has been dialogue among the CSRC, the SEC and the PCAOB regarding the inspection of PCAOB-registered accounting firms in China, there can be no assurance that our auditor or us will be able to comply with requirements imposed by U.S. regulators.Delisting of the ADSs would substantially impair your ability to sell or purchase the ADSs when you wish to do so. The market price of the ADSs could be materially and adversely affected as a result of anticipated negative impacts of these actions upon, as well as negative investor sentiment towards, companies with significant operations in China that are listed in the United States, regardless of whether these actions are implemented and regardless of our actual operating performance. Also, such a delisting would significantly affect our ability to raise capital on terms acceptable to us, or at all, which would have a material adverse impact on our business, financial condition and prospects.

 

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Proceedings instituted by the SEC against Chinese affiliates of the “big four” accounting firms, including our independent registered public accounting firm, could result in financial statements being determined to not be in compliance with the requirements of the Exchange Act.

 

Starting in 2011, the Chinese affiliates of the “big four” accounting firms, including our independent registered public accounting firm, were affected by a conflict between U.S. and Chinese law. Specifically, for certain U.S.-listed companies operating and audited in mainland China, the SEC and the PCAOB sought to obtain from the Chinese firms access to their audit work papers and related documents. The firms were, however, advised and directed that under Chinese law, they could not respond directly to the U.S. regulators on those requests, and that requests by foreign regulators for access to such papers in China had to be channeled through the CSRC.

 

In late 2012, this impasse led the SEC to commence administrative proceedings under Rule 102E of its Rules of Practice and also under the Sarbanes-Oxley Act of 2002 against the Chinese accounting firms, including our independent registered public accounting firm. A first instance trial of the proceedings in July 2013 in the SEC’s internal administrative court resulted in an adverse judgment against the firms. The administrative law judge proposed penalties on the firms, including a temporary suspension of their right to practice before the SEC, although that proposed penalty did not take effect pending review by the Commissioners of the SEC. On February 6, 2015, before a review by the Commissioner had taken place, the firms reached a settlement with the SEC. Under the settlement, the SEC accepts that future requests by the SEC for the production of documents will normally be made to the CSRC. The firms will receive matching Section 106 requests, and are required to abide by a detailed set of procedures with respect to such requests, which in substance require them to facilitate production via the CSRC. If they fail to meet specified criteria, the SEC retains authority to impose a variety of additional remedial measures on the firms depending on the nature of the failure. Remedies for any future noncompliance could include, as appropriate, an automatic six-month bar on a single firm’s performance of certain audit work, commencement of a new proceeding against a firm, or, in extreme cases, the resumption of the current proceeding against all four firms. If additional remedial measures are imposed on the Chinese affiliates of the “big four” accounting firms, including our independent registered public accounting firm, in administrative proceedings brought by the SEC alleging the firms’ failure to meet specific criteria set by the SEC with respect to requests for the production of documents, we could be unable to timely file future financial statements in compliance with the requirements of the Exchange Act.

 

In the event that the SEC restarts the administrative proceedings, depending upon the final outcome, listed companies in the United States with major PRC operations may find it difficult or impossible to retain auditors in respect of their operations in the PRC, which could result in financial statements being determined to not be in compliance with the requirements of the Exchange Act, including possible delisting. Moreover, any negative news about any such future proceedings against these audit firms may cause investor uncertainty regarding China-based, U.S.-listed companies, and the market price of our common stock may be adversely affected.

 

If our independent registered public accounting firm was denied, even temporarily, the ability to practice before the SEC and we were unable to timely find another registered public accounting firm to audit and issue an opinion on our financial statements, our financial statements could be determined not to be in compliance with the requirements of the Exchange Act. Such a determination could ultimately lead to the delisting of our ADSs from the New York Stock Exchange or deregistration from the SEC, or both, which would substantially reduce or effectively terminate the trading of our ADSs in the United States.

 

Regulation and censorship of information disseminated over the internet in China may adversely affect our business and reputation and subject us to liability for information displayed on our website.

 

The PRC government has adopted regulations governing internet access and the distribution of news and other information over the internet. Under these regulations, internet content providers and internet publishers are prohibited from posting or displaying over the internet content that, among other things, violates PRC laws and regulations, impairs the national dignity of China, or is reactionary, obscene, superstitious, fraudulent or defamatory. Failure to comply with these requirements may result in the revocation of licenses to provide internet content and other licenses, and the closure of the concerned websites. The website operator may also be held liable for such censored information displayed on or linked to the websites. If our website is found to be in violation of any such requirements, we may be penalized by relevant authorities, and our operations or reputation could be adversely affected.

 

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Risks Related to Our Business

 

We have a limited operating history and our business practice continues to evolve, which makes it difficult to evaluate our future prospects.

 

We commenced our loan service business in 2006 and adopted our previous business model in 2014, and introduced our collaboration model in December 2018. We have a limited operating history in the home equity loan market, especially in some aspects of our business operations, such as loan facilitation service and collateral management service, credit analysis and the development of cooperative relationships with funding partners and other business partners. Our ability to continuously attract borrowers and funding sources is critical to our business. We may from time to time introduce new loan services and products, make adjustments to our existing loan facilitation services and products and our risk management system, or make adjustments to our business operations in general.

 

The regulatory framework and market condition for China’s home equity loan market is evolving and may remain uncertain for the foreseeable future. If our business practices or the business practices of our trust company partners are challenged under any PRC laws or regulations, our business, financial condition, results of operations and prospects would be materially and adversely affected. From time to time we may refine existing commercial arrangements in our business operations to comply with changing regulatory focuses. For example, FOTIC, one of our primary trust company partners, amended its loan agreements in 2017 with certain borrowers to add an option for FOTIC to demand payment of outstanding loan principal and interests before the maturity of the underlying trust funding. Starting in March 2018, we have been working with FOTIC to implement certain changes to our top-up arrangements (the “2018 FOTIC Funding Arrangements”) and performance-based service fee structure (the “2018 FOTIC Service Fee Structure”). For details, please refer to “Item 4. Information on the Company—B. Business Overview— Our Funding Model—Credit Strengthening Services.” We have also been exploring new business model to broaden our prospective borrower bases. Since December 2018, we have sought to collaborate with limited partnerships and certain well-established corporations, where limited partners in such limited partnerships and the established corporations work as our sales partners to introduce prospective borrowers to us. For details, please refer to “Item 4. Information on the Company—B. Business Overview—Our Borrowers—Collaboration Model.” In order to expand our financing channels, we launched in 2021 a new funding model in cooperation with commercial banks, under which our commercial bank partners are responsible for reviewing and approving the loan while we charge a service fee for our loan facilitation services. For details, please refer to “Item 4. Information on the Company—B. Business Overview— Our Funding Model— Commercial Bank Partnership.” Unfavorable reception of the new business arrangements and new collaboration and funding model by potential borrowers could have a material adverse impact on our business, results of operations, financial condition and cash flows. We may face the risk of increased borrower complaints, potential supervision, examinations or enforcement actions by regulatory agencies and/or penalties for violation of financial regulations and other applicable laws and regulations. We may not be able to successfully address the risks and difficulties associated with the new business arrangement and new funding model, which could materially harm our business and operating results. The modifications to our business arrangements and business model may also increase the complexity of our business and may present new and significant challenges, as well as strains on our management, personnel, operations, systems, technical performance and financial resources. As a result, past performance of our practice does not necessarily indicate our future prospects and performance. Such past performance may or may not be sustained in the future.

 

You should consider our business and prospects in light of the risks and challenges we encounter or may encounter given the rapidly evolving market in which we operate and our limited operating history in this particular market. These risks and challenges include, among other things, our ability to:

 

offer customized and competitive loan services and products;

 

increase the utilization of our loan services by existing borrowers as well as new borrowers;

 

maintain low delinquency ratio of loans originated by us;

 

achieve an effective and efficient collection and foreclosure process to assist our trust company partners to recover delinquent loans in the event of loan default;

 

develop sufficient, diversified, cost-efficient and reputable funding sources;

 

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broaden our prospective borrower base;

 

navigate through a complex and evolving regulatory environment;

 

improve our operational efficiency;

 

promote standardized and disciplined operational procedures in local offices;

 

attract, retain and motivate talented employees to support our business growth;

 

maintain and enhance relationships with our business partners;

 

enhance our technology infrastructure to support the growth of our business and maintain the security of our system and the confidentiality of the information provided and utilized across our system;

 

navigate economic condition and fluctuation; and

 

defend ourselves against legal and regulatory actions.

 

Our historical credit enhancement arrangements to our trust company partners and current credit strengthening services to the trust plans as the subordinated unit holder might be subject to challenges by relevant regulatory authorities, and we may potentially be required to obtain licenses.

 

Under our historical credit enhancement arrangements with our trust company partners, we are required to make payments for loan principal and interests that are in default. Under the 2018 FOTIC Funding Arrangements and similar arrangements with other trust company partners, our historical credit enhancement arrangements with FOTIC trust plans will be limited to existing loans and loans to be issued under existing trust products, and we, as the subordinated unit holder, are required to provide certain credit strengthening services. For details, please refer to “Item 4. Information on the Company—B. Business Overview—Our Funding Model—Credit Strengthening Services.”

 

China Banking Regulatory Commission (“CBRC”), National Development and Reform Commission, Ministry of Industry and Information Technology, Ministry of Finance, Ministry of Commerce, the People’s Bank of China (“PBOC”)and the State Administration for Industry and Commerce jointly released Tentative Measures for the Administration of Financing Guarantee Companies on March 8, 2010 (“Tentative Measures”); the State Council released Regulation on the Supervision and Administration of Financing Guarantee Companies on August 2, 2017, effective on October 1,2017 (“Regulation on Financing Guarantee Companies”); and China Banking and Insurance Regulatory Commission (“CBIRC”), PBOC and other seven central governmental departments of the PRC State Council jointly released Supplementary Provisions on Supervision and Administration of Financing Guarantee Companies on October 9, 2019 (“Supplementary Provisions”), each of which stipulates that no entity or individual may conduct the financing guarantee business without the approval of the relevant regulatory authorities, and that any institution, which provides services such as customer recommendation and credit evaluation for different kinds of lending institutions, shall not provide any financing guarantee services directly or in a disguised way, without approval. We do not charge any fees directly with respect to credit enhancement service and we do not hold qualifications for providing financing guarantee as a loan service provider. It is unclear whether our historical credit enhancement arrangements would be deemed as providing a financing guarantee under PRC laws and regulations. As of the date of this annual report, we have not been subject to any fines or penalties under the aforementioned regulations with respect to our historical credit enhancement arrangements. If we are deemed to be providing a financing guarantee without required licenses, we may be subject to penalties such as correction order, fines of up to RMB1 million and suspension of or even bans from business, which could materially and adversely affect our business.

 

Furthermore, according to the Notice on the Regulation and Rectification of the “Cash Loan” Business (“Circular 141”) issued by the Internet Finance Rectification Office and the Online Lending Rectification Office, a banking financial institution or the like (including trust companies) shall not accept any credit enhancement service, loss-bearing commitment or any other credit enhancement service provided by any third-party institution without qualifications for providing guarantees when cooperating with them in lending businesses. Our PRC legal advisor, Merits & Tree Law Offices, advises us that it is uncertain whether Circular 141 would apply to us. Nevertheless, if we are deemed to be subject to and our collaboration with funding partners is deemed to be in violation of Circular 141, our funding partners could be subject to penalties, including suspension or termination of such credit enhancement arrangements with us, which may disincentive our funding partners from future collaboration with us and could have a material adverse effect on our source of funding and results of operations.

 

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The Guiding Opinion on Regulating the Asset Management Business of Financial Institutions (the “Guiding Opinion”) was issued by PBOC, together with China Banking and Insurance Regulatory Commission (“CBIRC”), China Securities Regulatory Commission (“CSRC”) and State Administration of Foreign Exchange on April 27, 2018. The Guiding Opinion prohibits direct or indirect guarantee for the principal and expected investment return of the senior unit holders of structural asset management products. The Guiding Opinion provides a grace period by the end of 2020. During the grace period, existing products not in compliance with the Guiding Opinion shall be gradually phased out. After the grace period, financial institutions shall not issue or renew any asset management products not in compliance with the Guiding Opinion.

 

Our credit strengthening arrangements may be deemed as indirectly guaranteeing senior unit holders’ principal and expected investment return on the investments. As such, we may be required to further modify such arrangements with the trust plans, which could materially and adversely affect our business. As of the date of this annual report, we have not received any notice or been made aware of any issues or concerns raised by regulatory authorities on our credit strengthening arrangements. We cannot guarantee you, however, that the regulatory authorities will hold the opinion that our credit strengthening arrangements are in compliance with the relevant regulations.

 

Our trust company partners operate in a strictly regulated industry. If the practice of our trust company partners, including the cooperation arrangements with us, is challenged under any PRC laws and regulations, our business, financial condition and results of operations would be materially and adversely affected.

 

We provide home equity loan service to borrowers primarily through collaboration with our trust company partners. Our trust company partners operate in a highly regulated industry and, as a result, are required to comply with a wide array of laws and regulations that are continually evolving. If our collaboration arrangement is deemed to violate any of these laws and regulations, we may be required to make significant changes to our business arrangements. These changes may have a material adverse impact on our business, results of operations and financial condition and may not be implemented successfully.

 

According to Opinions of the General Office of the CBRC on Further Strengthening the Work of Supervising the Risks of Trust Companies, all local CBRC offices shall strengthen the analysis of the sources, durations and structure of the use of trust products’ funds, especially where the funds are open trust products issued in installments and are mismatched with the maturity date of its uses. All local CBRC offices shall (i) strengthen the screening and disposal of non-standard capital pool trusts, (ii) urge trust companies to dispose of existing, non-standard capital pools, (iii) prohibit the establishment of new non-standard capital pools, and (iv) submit monthly reports on the implementation of screening plans of non-standard capital pools, until standards are met. Capital pool is not a legal term defined under the PRC laws and regulations. Both standard capital pool and non-standard capital pool are strictly regulated. The major differences between standard capital pool and non-standard capital pool are qualification of investors and investees. Non-standard capital pool generally refers to the capital pool which mainly invests in non-standardized assets. Non-standardized assets include non-standardized debt assets and non- standardized equity assets, and only non- standardized debt assets are relevant to our business. Non-standardized debt assets generally refer to the debt assets with information disclosed only among trading parties and without public pricing. Only qualified investors are allowed to invest in non-standardized debt assets. Our trust company partners acquire funding primarily through trust products set up under various trust plans with a term of one to three years, while the loans we facilitate have tenors ranging from one to three years. For details of matching of our funding sources and loan products we facilitate, please refer to “Item 4. Information on the Company—B. Business Overview—Our Funding Model—Matching of Terms of Funding Sources and Loans.” Our trust company partners allocate committed funds from the trust plan accounts among approved borrowers, which could be viewed as creating a mismatch between an investor’s expected timing of exit and the maturity date of the loan. For details, please refer to “—Risks Related to Our Business—Loan products we facilitate may potentially be deemed as having a duration mismatch with underlying funding sources. We and our trust company partners may need to take additional measures to reduce any risks associated with the mismatch, which could materially and adversely affect our business and results of operations.” We do not have specific knowledge on whether our trust company partners are compliant with the foregoing regulation and relevant applicant laws and regulations when they are handling the payment by the borrowers and the payment to unit holders in trust plans. If our trust lending model is deemed as creating a duration mismatch, we may be required to make adjustments to our business practice and our source of funding, results of operations and financial condition may be materially and adversely impacted.

 

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As part of continuous effort to comply with evolving laws and regulations, FOTIC, one of our primary trust company partners, amended the terms of their loan agreements with borrowers starting from November 2017 (the “2017 FOTIC Loan Agreement”). Since 2018, FOTIC and our other trust partners have also modified its collaboration with us, which ensures that there is no duration mismatch for new loans entered into under the new model. With respect to existing loan products issued with potential duration mismatch, we have been working with FOTIC to take the following measures to improve the duration mismatch: (a) assign FOTIC’s rights under each loan agreement to institutional investors with repurchase agreements with three to four years term, so they match the terms of the outstanding loans to the extent possible; (b) buy back such loans using FOTIC’s own funding; and (c) transfer of the long-term loans to subordinated units. With respect to loan products issued under the 2017 FOTIC Loan Agreement or the current revised model, the durations of such loan products have been adjusted to match the duration of the respective trust plans.

 

Our trust company partners are also subject to other laws and regulations. For example, according to the Measures for the Administration of Trust Companies’ Trust Plans of Assembled Funds issued by the CBRC, trust companies may not provide loans in excess of 30% of the paid-in balance of all the trust plans under its management. It is our trust company partners’ responsibility to comply with these regulations and we have no specific knowledge as to whether our trust company partners are in compliance. We cannot assure you that our trust company partners have been in compliance at all times. We cannot assure you that relevant regulatory authorities will not impose additional restrictions on our trust company partners’ businesses. This regulation may limit our access to funding from our trust company partners in the future, which may have a material adverse impact on our source of funding and results of operations.

 

While we believe we currently are in compliance with existing PRC regulations, in all material aspects, we cannot assure you that the PRC government authorities would agree with our interpretation of the relevant regulations. It is also possible that new laws and regulations may be adopted which, along with any possible changes needed to fully comply with any existing or newly released regulations, could require us to further modify our business or operations. The cost to comply with such laws or regulations would increase our operating expenses, and modifications of our business may have a material and adverse impact on our business, financial condition and results of operations. If any of our trust company partners are deemed to violate any laws, regulations and rules, they may face, among other things, regulatory warning, correction order, condemnation, fines, suspension of business license and criminal liability, which may have a material adverse impact on our funding source and results of operations.

 

Our business may be adversely affected if we are unable to secure funding on terms acceptable to us or our borrowers, or at all.

 

We fund most of the loans we originate through our trust company partners. Loans funded by our trust company partners are disbursed to borrowers directly through trust plans. Approximately 100.0%, 100% and 99.8% of our home equity loan origination volume was originated under trust lending model in 2019, 2020 and 2021, respectively.

 

The availability of funding from our trust company partners depends on many factors, such as the availability of investors on their platforms, general economic conditions, change of regulatory requirements, actual and expected delinquency ratio compared to alternative opportunities, some of which are out of our control. Our trust company partners may seek to acquire borrowers independently or through other third parties. In addition, our trust company partners may not be able to adapt their compliance practices with the evolving financial institution licensing and other regulations in the PRC. As a result, our ability to cooperate with our existing trust company partners may be subject to regulatory or other limitations. See “—Risks Related to Our Business—Some of our funding sources are highly regulated and are subject to the changing regulatory environment. If any of the funding sources is deemed to violate the PRC laws and regulations, we may need to secure new funding, failure of which may result in material and adverse impact on our business, financial condition, results of operations and prospects.”

 

As our business grows, we may need to obtain new funding sources or require current funding partners to increase the amount of funding provided. If there is a sudden or unexpected shortage of funds from our trust company partners or if we fail to maintain or develop relationships with our existing trust company partners or new funding partners, we may not be able to maintain necessary levels of funding without agreeing to less favorable terms, or at all. We may not be able to arrange additional, new or alternative methods of funding on favorable terms, or at all, or ensure that our cooperation with new funding partners will meet our expectations and the expectations of borrowers.

 

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Additionally, if there is an unexpected scale of decrease in subordinated units due to a higher NPL ratio, we may not be able to arrange additional capital to increase our subordinated units contribution to satisfy the contractual structural leverage ratio as required by the subordinated units subscription agreement. If we are unable to secure sufficient funding on terms acceptable to us and our borrowers, or at all, we may not be able to provide attractive products and services to our borrowers, and our business, financial condition and results of operations may be materially and adversely affected.

 

We face risks related to natural disasters, health epidemics and other outbreaks of contagious diseases.

 

Our business could be adversely affected by natural disasters or outbreaks of epidemics. These natural disasters, outbreaks of contagious diseases, and other adverse public health developments in China or any other market in which we operate and conduct business could severely disrupt our business operations by damaging our network infrastructure or information technology system or affecting the productivity of our workforce. The outbreak of any severe epidemic disease, such as avian flu, H1N1 flu, SARS or coronavirus, may disrupt our operations, which could negatively affect our financial condition and business prospects.

 

Our headquarters are located in Guangzhou, where most of our directors and management and a large majority of our employees currently reside. Consequently, we are highly susceptible to factors adversely affecting Guangzhou. If any of the abovementioned natural disasters, health epidemics or other outbreaks were to occur in Guangzhou, our operation may experience material disruptions, such as temporary closure of our offices and suspension of services, which may materially and adversely affect our business, financial condition and results of operations.

 

COVID-19 has and is continuing to spread worldwide. The COVID-19 outbreak is expected to continue to impose interruptions on China’s macroeconomy and continue to adversely impact our results of operations. The COVID-19 outbreak has caused, and may continue to cause, companies in China and around the world to implement adjustment of work schemes, impose additional quarantine measures or even temporary or permanent business closure. Results of operations for MSEs, whose owners are our primary customer group, were and may continue to be materially and adversely impacted, which will in turn have a material adverse effect on our financial performance and results of operations. As a result of the COVID-19 outbreak and multiple waves of Delta-variant outbreaks spreading to nearly all provinces in China in the second half of 2021, our normal work schedule and results of operations were adversely impacted in 2021. Specifically, our business involving on-site and offline activities were and may continue to be materially and adversely impacted, including and not limited to inspection of real properties; visits to borrowers in both the risk assessment and the collection and foreclosure process; and developing of prospective borrowers.

 

The COVID-19 outbreak had and may also continue to have a material adverse effect on China’s real estate market, which may increase the risks of the loans we facilitate. Over the course of 2021, since various measures that the Chinese government implemented to constrain the COVID-19 outbreak have been relaxed, many aspects of daily business operations in China gradually returned to a normal routine. However, the situation in China and other countries and regions is still evolving, bringing with it unprecedented levels of macroeconomic disruption and uncertainties across the globe. Since January 2022, cases of the Omicron variant has emerged in China, spreading to major cities and led to lockdowns in multiple regions. The extent to which COVID-19 and its variants impact our results will depend on future developments, which are highly uncertain and cannot be predicted, including the duration and severity of the pandemic, the actions taken to contain the virus or treat its impact, the development and efficiency of vaccines and other actions taken by governments, companies and individuals in response to the virus and resulting economic disruption. We will continue to closely monitor the impacts of COVID-19 pandemic on us.

 

Loan products we facilitate may potentially be deemed as having a duration mismatch with underling finding sources. We and our trust company partners may need to take additional measures to reduce any risks associated with the mismatch, which could materially and adversely affect our business and results of operations.

 

According to the Guiding Opinion, in order to reduce the risk of duration mismatch, the expiration date of closed-end asset management products, or the last open day of open-end asset management products, shall not be earlier than the termination date of the non-standard creditor’s assets invested in the asset management products directly or indirectly. The Guiding Opinion further prohibits the rolling issuance of a series of assets management products that enables the transfer of the principal, expected investment return and risks among different investors, which will be deemed as rigid payment to guarantee the principal and expected investment return of the product.

 

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Under our trust lending model, the trust products set up under long-term trust plans usually have a term of one to three years while the loans we facilitate have tenors typically ranging from one to three years. Once a trust product matures, the trustee is required to repay the expected investment return and principal to the senior unit holders. Under our credit strengthening services, we are required to make up for any shortfalls if the proceeds from loans are less than the principal amount invested by the senior unit holders and the agreed financing costs for the senior units which primarily consist of expected rate of investment return to the senior unit holders. Under these circumstances, our trust company partners will employ various measures to meet payment obligations under the maturing trust products while the loans funded thereunder remain outstanding, and may require us to contribute additional funding under our credit strengthening arrangements. For details of matching our funding sources and loan products we facilitate, please refer to “Item 4. Information on the Company—B. Business Overview—Our Funding Model—Matching of Terms of Funding Sources and Loans.”

 

Under the 2017 FOTIC Loan Agreement, FOTIC has an option to demand repayment of outstanding loan principal and unpaid accrued interests before the maturity of the underlying trust funding, to match outstanding terms of the trust products that FOTIC set up for lending to the borrowers. Since 2018, FOTIC and our other trust partners have also modified its collaboration with us, which ensures that there is no duration mismatch for new loans entered into under the new model. Going forward, we and our trust company partners will endeavor to ensure match of duration for the trust funding and underlying loans. Our trust company partners have also implemented pass-through repayment method in certain of the trust plans to help resolve the duration mismatch. As of the date of this annual report, we have not received any notice or been made aware of any issues or concerns raised by the regulatory authorities on our business arrangements. There is a small amount of loans facilitated under our historical collaboration which may result in a potential mismatch. Such loans had been fully repaid in 2020. As detailed implementation rules or regulations on the duration mismatch have yet to be promulgated, we cannot assure you that the regulatory authorities hold the opinion that our business arrangements are in compliance with the aforesaid regulation. Our business arrangements may be subject to challenges by regulatory authorities.

 

Furthermore, if the borrowers are unable to repay FOTIC loans in time due to the accelerated payment schedule caused by option exercise under the 2017 FOTIC Loan Agreement and because of the significant size of the accelerated lump sum payment, we may experience increase in our delinquency ratio, which could in turn result in a material adverse effect on our business and results of operations. Our trust company partners may have to utilize alternative funding to alleviate this issue. We cannot guarantee you, however, that such funding will always be available on acceptable terms, if at all. We may be required to contribute additional funding under our credit strengthening services, which may have a material adverse effect on our business and results of operations.

 

Our trust company partners may need to lower the structural leverage ratio of the trust plans which could materially and adversely affect our business.

 

The Guiding Opinion sets a limit on the contractual structural leverage ratio which is calculated as the total amount of senior units divided by subordinated units, and intermediate units shall be included as senior units for the purpose of this calculation. For a fixed-income product, the structural leverage ratio shall not exceed 3:1. The contractual structural leverage ratio of the trust plans or products set up by our trust company partners is determined pursuant to our collaboration agreements with them, which set the upper limit to such ratio at a range of 3:1 to 9:1. As of the date of this annual report, the actual structural leverage ratio of our trust plans is in compliance with the Guiding Opinion. For details, please refer to “Item 4. Information on the Company—B. Business Overview—Our Funding Model—Terms of the Trust Plans” and “—Funding Partners.” We cannot assure you, however, that the actual structural leverage ratio of our trust plans are always in compliance and in the future, we may need to contribute additional funding to maintain a lower structural leverage ratio and our overall cost of funding may increase, which could materially and adversely affect our business.

 

Our concentration of funding provided by our trust company partners may have a material adverse effect on our financial condition, liquidity and results of operations, if we lose any of our trust company partners either as a result of its decision to acquire services from our competitors or otherwise.

 

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Approximately 100.0%, 100%, and 99.8% of our total home equity loan origination volume was originated under trust lending model in 2019, 2020 and 2021, respectively. Among the loans originated through our trust lending model, 71.4%, 69.3% and 62.1% were funded through FOTIC trust plans in 2019, 2020 and 2021, respectively. Although we have long-standing relationship with our trust company partners, there is no guarantee as to the continuation of the relationships between our trust company partners and us. We endeavor to diversify our funding source but there is no assurance that we will be successful. The loss of any of our trust company partners, in particular FOTIC, whether as a result of its decision to acquire services from our competitors, or otherwise, would have a material adverse effect on our financial condition, liquidity and results of operations.

 

Our collaboration model with our sales partners might be subject to challenges by relevant regulatory authorities.

 

Under the collaboration model, sales partners contribute an amount equal to 10% to 25% of the loans issued to the borrowers introduced by them (such contribution, the “Credit Risk Mitigation Position,” or “CRMP”) and will receive incentive fees upon a pre-agreed schedule and other conditions.

 

According to the Judicial Interpretations to Issues Concerning Applications of Laws for Trial of Criminal Cases on Illegal Fundraising, promulgated by the Supreme People’s Court, whoever meets the following four conditions, may be deemed as “absorbing public savings illegally or in disguised form” as prescribed in Article 176 of the Criminal Law, except as otherwise provided for by the Criminal Law: (i) taking in funds without license of the relevant authority or under the disguise of lawful business operations; (ii) publicizing by means of internet, media, recommendation fairs, leaflets or mobile phone text messages, or other means; (iii) promising to repay the principal and interests or make payments in forms such as currency, real objects or equities, within a certain time limit; and (iv) absorbing funds from the general public, namely unspecified people. According to Regulations on Preventing and Dealing with Illegal Fund-raising, which will soon come into effect in May 2021 and invalidate the Measures for the Banning of Illegal Financing Institutions and Illegal Financial Business Operations, illegal fundraising involves collecting funds from non-specific targets with promised principal and interest or other investment returns, without lawful permission from the State Council’s financial management departments or in violation of China’s financial management rules. The definition above stipulates the three features of illegal fundraising, which are illegal, with pecuniary interest, and targeting unspecified audiences.

 

It is unclear whether the CRMP we received would be deemed as absorbing funds illegally under PRC laws and regulations. As of the date of this annual report, we have not been subject to any fines or penalties under the aforementioned regulations with respect to our collaboration model with sales partners. If we are deemed to be absorbing public savings illegally or in disguised form, we may be subject to fines of up to RMB500,000 and criminal penalties, which could materially and adversely affect our business. We are in the process of refining the collaboration model with the sales partnerships under which sales partners will be restricted to qualified persons only. In addition, we have not made any commitments of making repayments within a certain time limit. We also require the sales partners to use their own funds as the source of the CRMP and prohibit collection of public funds from unspecified people. While we believe we are in compliance with the abovementioned laws and regulations, in all material aspects, we cannot assure you that the relevant authorities would agree with our interpretation of the relevant regulations. Our business and results of operations will be materially and adversely affected if our collaboration model with sales partners are deemed as absorbing public savings illegally or in disguised form.

 

According to the Administrative Measures on Assembled Funds Trust Schemes of Trust Companies, which was amended on February 2009, the trustor shall use legitimate funds of its own to subscribe to the trust units, and shall not participate in the trust scheme by illegally pooling funds from any other person. In addition, according to the Guiding Opinions on Regulating Asset Management Business of Financial Institutions, which were promulgated on April 2018, investors may not use loans or funds from third parties raised by issuing bonds to invest in asset management products. As of the date of this annual report, we have not been subject to any fines or penalties under the aforementioned regulations with respect to our collaboration model with sales partners. If the fund we subscribe for the subordinated units of the trust plan is identified as originated from CRMP, we may be subject to fines of up to RMB500,000 and criminal and administrative penalties, which could materially and adversely affect our business. Our PRC legal advisor, Merits & Tree Law Offices, advises us that the CRMP from sales partners is for the purpose of reducing our own risk exposure, not for the purpose of illegally and publicly absorbing other people’s funds; in addition, the CRMP does not belong to the loans or funds raised by issuing bonds as described in the abovementioned regulations. While we believe we are in compliance with the abovementioned laws and regulations, in all material aspects, we cannot assure you that the relevant authorities would agree with our interpretation of the relevant regulations. Our business and results of operations will be materially and adversely affected if the funds we subscribe for the subordinated units of the trust plan is identified as originating from CRMP.

 

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In addition, under our collaboration model, the CRMP paid by the sales partners either through direct contribution or through contribution to limited partnerships may be seen as investment in trust plans which may be identified by PRC regulatory authorities as disguised loans granted by sales partners. According to the Regulation on Private Lending and Maintaining the Economic and Financial Order, which was promulgated on April 2018, no entity or individual may set up an agency that conducts or mainly conducts the granting of loans, or takes the granting of loans as the daily business activities, without the approval of the competent authority in accordance with the law. If the CRMP paid by sales partners either directly or to limited partnerships is identified by PRC regulatory authorities as disguised loans granted by sales partners, they may be subject to fines of up to RMB500,000 and criminal and administrative penalties. Our PRC legal advisor, Merits & Tree Law Offices, advises us that under the collaboration model, the main business of the sales partners we cooperate with are to introduce real estate mortgage loan projects to third parties, rather than providing loans. Our sales partners do not engage in issuance of loans and have not entered into any loan agreements with us. If the CRMP paid by sales partners either directly or to limited partnerships is identified by PRC regulatory authorities as disguised loans granted by sales partners, our business and results of operations will be materially and adversely affected.

 

Any lack of requisite approvals, licenses or permits applicable to our business may have a material and adverse impact on our business, financial condition and results of operations.

 

Our business is subject to governmental supervision and regulation by the relevant PRC government authorities. Together, these government authorities promulgate and enforce regulations that cover many aspects of the operation of the home equity loan and finance industries. For details, please refer to “Item 4. Information on the Company—B. Business Overview—Regulation.” Our PRC legal advisor, Merits & Tree Law Offices, advises us that our businesses do not need special approvals or licenses, other than our small loan business and subject to “—Risks Related to Our Business—Our historical credit enhancement arrangements to our trust company partners and current credit strengthening services to the trust plans as the subordinated unit holder might be subject to challenges by relevant regulatory authorities, and we may potentially be required to obtain licenses.” We are further advised that these opinions are subject to uncertainties and the regulatory authorities may hold a different view. As of the date of this annual report, all of our small loan subsidiaries have obtained such approvals or licenses.

 

Some of our funding sources are highly regulated and are subject to the changing regulatory environment. If any of the finding sources is deemed to violate the PRC laws and regulations, we may need to secure new funding failure of which may result in a material and adverse impact on our business, financial condition, results of operations and prospects.

 

We have multiple funding sources to support our business model, including funding sources that are highly regulated. Although we may or may not be subject to any direct material fines or penalties from the relevant regulatory authorities, if our funding sources are deemed to violate any relevant regulations in collaboration with us directly or indirectly, our business, financial condition, results of operations and prospects would be materially and adversely affected.

 

We subscribe to the subordinated units and therefore have rights to the residual earnings under such trust plans. We historically acquire certain funding for the subordinated units by transferring our right to earnings with a repurchase arrangement to private equity funds. According to the regulations on private equity funds, private equity funds shall no longer engage in loan business and starting from April 1, 2020, the Asset Management Association of China (AMAC) will no longer accept new product filings which are not within the permitted investment scope of private equity funds. Private equity funds filed before April 1, 2020 may continue to invest in loan business. Our private equity funding sources’ filing of products in collaboration with us were all accepted before April 1, 2020. Our PRC legal advisor, Merits & Tree Law Offices, advises that the instructions shall come into force as of the date of promulgation. In case of any discrepancy between the self-discipline rules and Q&A issued by the AMAC and the Instructions, the latter shall prevail. To ensure the smooth transition, according to the principle of “separating the existing applications from new ones”, the AMAC shall no longer handle any new and in-process record-filing applications that fail to meet the requirements of the Instructions from April 1, 2020. If a private investment fund which has completed record-filing formalities before April 1, 2020 engages in activities which do not comply with the essence of “fund” in Article 2 of the Instructions, such private investment fund shall not increase its scale of fundraising or its investment after September 1, 2020, and shall be liquidated upon maturity, and shall not be renewed in principle. We are further advised that these opinions are subject to uncertainties and the regulatory authorities may hold a different view. We cannot assure you that the registered channels can satisfy our financing needs, or that such regulations will not impose material restrictions on our future business operations as we continue to grow our business.

 

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According to Measures for the Supervision and Administration of the Wealth Management Business of Commercial Banks promulgated in September 2018 (the “Wealth Management Measures”), a commercial bank is subject to certain investment threshold of non-standardized debt assets. A transition period, starting from the effective date until the end of 2020, will be set for the Wealth Management Measures. During the transition period, new wealth management products introduced by commercial banks shall comply with the Wealth Management Measures. Commercial banks may continue to offer existing products for the undue assets invested in by existing wealth management products, but shall strictly control them within the overall scale of existing products and decrease them progressively in an orderly manner. Neither our trust company partners nor we have specific knowledge on whether a commercial bank investing in the senior units is in compliance with the Wealth Management Measures. As of the date of this annual report, we are not aware of noncompliance by commercial banks as senior unit holders. We cannot assure you, however, that commercial banks as senior unit holders will continue to comply in the future. If commercial banks as senior unit holders violate the Wealth Management Measures, such violation will have a material adverse effect on our trust company partners’ funding sources and our business operations.

 

As of the date of this annual report, we are not aware of any material fines or other penalties under any PRC laws or regulations with respect to the aforesaid funding resources. If our practice, or the practice of our funding partners in collaboration with us, is deemed to violate any laws, regulations and rules, we may face, among other things, regulatory warning, correction order, condemnation, fines, suspension of business license and criminal liability. If such situations occur, our business, financial condition, results of operations and prospects would be materially and adversely affected.

 

We lack product and business diversification. Accordingly, our future operating income and earnings are more susceptible to fluctuations than a more diversified company.

 

Currently, our primary business activities include facilitating home equity loans and providing loan management services to borrowers and trust company partners and to a lesser extent, direct lending through our small loan subsidiaries. If we are unable to maintain and grow the operating income from our current business or develop additional revenue streams, our future operating income and earnings are not likely to grow and could decline. Our lack of product and business diversification could inhibit the opportunities for growth of our business and results of operations.

 

To maintain and increase the amount of loans we originate, we must continue to engage our existing borrowers and attract new borrowers, either by ourselves or through sales partners under our collaboration model, both of which may be affected by several factors, including interest rates of loans we originate, our brand recognition and reputation, our loan services and products offered, our operating efficiency and ability in engaging prospective borrowers, the effectiveness of our credit analysis system, our ability to secure sufficient and cost-efficient funding, service fees we charge to trust plans, our borrower experience and the PRC regulatory environment. In addition, we have also entered into agreements with our sales partners to utilize the offline network they operate to engage some of our prospective borrowers. If these sales partners could not effectively or efficiently introduce borrowers as anticipated, or if we are unable to expand the scale of our sales partners, we may not be able to acquire or engage new and existing borrowers efficiently. In addition, we may also impose more stringent control over borrower qualifications to ensure the quality of the loans we facilitate, which may negatively affect the amount of loans we facilitate. If we are unable to attract borrowers or if borrowers do not continue to use our services, we may be unable to increase our loan origination volume and corresponding income, and our business and results of operations may be materially and adversely affected.

 

As a result of the COVID-19 pandemic, our normal work schedule and results of operations were adversely impacted and may continue to be adversely impacted in the future, which may negatively impact our ability to maintain or increase the amount of loans we facilitate. For example, we may not be able to conduct borrower site visits, and the processing time for each loan may be prolonged. For details, see “—We face risks related to natural disasters, health epidemics and other outbreaks of contagious diseases.”

 

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Our concentration in loans secured by real properties may increase our credit losses in times of deterioration in local or national property markets, which would negatively affect our financial results.

 

The home equity loans we facilitate are secured by residential or commercial properties in our market areas. A significant decrease of property values will cause an increase in LTV ratio, resulting in borrowers having little or negative equity in their property, which may reduce new loan originations and provide incentive to borrowers to strategically default on their loans. Risk of loan defaults and foreclosures are unavoidable in the home equity loan industry. The COVID-19 pandemic had and may continue to have a material adverse effect on China’s real estate market, which may increase the risks of the loans we facilitate and have a material adverse impact on our results of operations. For details, see “—We face risks related to natural disasters, health epidemics and other outbreaks of contagious diseases.”

 

We may be subject to such risks as we may be required to make payments under historical credit enhancement and top-up arrangements we provided to our trust company partners. Our historical credit enhancement arrangements with FOTIC has started to phase out since March 2018. However, our top-up arrangements to trust plans as a subordinated unit holder remain effective. We cannot fully eliminate credit risk, and as a result credit losses may occur in the future.

 

If we are unable to achieve low delinquency ratio for loans originated by us, our business and results of operations may be materially and adversely affected.

 

We may not be able to achieve low delinquency ratio for loans originated by us, or such delinquency ratios may be significantly affected by economic downturns or general economic conditions beyond our control and beyond the control of individual borrowers. The outstanding principal of home equity loans (including loans held for sale) originated by us was RMB11,268 million, RMB9,679 million and RMB10,407 million (US$1,633 million) as of December 31, 2019, 2020 and 2021. The delinquency ratio for loans originated by us increased from 21.08% as of December 31, 2019 to 22.63% as of December 31, 2020, and increased to 24.11% as of December 31, 2021. Our NPL ratio decreased from 13.75% to 11.66%, and decreased to 9.42% as of the same respective dates. The delinquency ratio in 2021 is higher than that in 2020, mainly because the fact that the borrowers’ ability to service their debts was negatively affected in 2021 due to the COVID-19 pandemic. The NPL ratio in 2021 is lower than that in 2020, mainly attributable to our efforts to assist our trust company partners to accelerate the disposal of NPLs including transferring NPLs to third parties and judicial foreclosure. If we were to continue to experience increase in delinquency ratio or NPL ratio, we may not have sufficient capital resources to pay defaulted principals and interests to our trust company partners according to our historical credit enhancement arrangements or top-up arrangements. Our service fee charged to trust plans could also be significantly reduced under the 2018 FOTIC Service Fee Structure if this were to occur. In addition, we launched in 2021 a new funding model in cooperation with commercial banks in order to expand our financing channels, under which we remain the ultimate risk bearer by being obliged to ultimately repurchase any defaulted loans. For details, please refer to “Item 4. Information on the Company—B. Business Overview— Our Funding Model— Commercial Bank Partnership.” Accordingly, our results of operations, financial position and liquidity could be materially and adversely affected if we cannot achieve low delinquency ratio for the loans generated under such new funding model. Furthermore, our borrower base continues to expand with the growth of our business operations, which may include loan applicants with lower creditworthiness. We may not be able to achieve low delinquency ratio for loans originated by us in the future, or return to the low delinquency ratio or NPL ratio we achieved in the past.

 

Our high leverage ratio may expose us to liquidity risk and we may not have sufficient capital reserve to manage losses.

 

As part of the collaboration we have with our trust company partners, we subscribe to subordinated units in trust plans through our subsidiaries and fund those units with (i) our own funds and (ii) funding from transferring our right to earnings in subordinated units to third parties. We transfer our right to earnings in subordinated units to third parties with a repurchase arrangement, which requires us to repurchase the right to earnings in subordinated units. For details of our repurchase agreements with third parties under the trust lending model, please refer to “Item 4. Information on the Company—B. Business Overview—Our Funding Model—Funding Sources.” In 2019, 2020 and 2021, we transferred our right of earnings in subordinated units to a certain private equity fund and to a certain third party. Our financing costs under such repurchase arrangement ranged from 7.0% to 12.7% per annum of the transfer prices in 2019, 2020 and 2021. We are required to consolidate all of the results under trust plans on our consolidated financial statements, including those of the senior units. This consolidation is necessary as our trust lending model creates exposure to variability of returns from the activities of the trust plans.

 

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We historically operated a small direct lending business through our small loan subsidiaries, financed with our own funds or funds we received from third parties by transferring our rights in the loans together with a repurchase arrangement.

 

As a result of our funding model, we may be exposed to high leverage ratio. Our leverage ratio was 3.7 times, 3.3 times and 3.8 times as of December 31, 2019, 2020 and 2021, respectively. Our high level of borrowings and leverage ratio may adversely affect our liquidity and business operations, including but not limited to increasing our vulnerability under adverse economic condition, potentially limiting our ability to raise more debt and increasing our exposure to interest rate fluctuation. Our business and results of operations also depend on our ability to secure cost-effective financing. The third parties to whom we transfer our right to earnings or small rights to earnings in loans principal, interest and financing service fee receivables may not continue to provide funding at rates acceptable to us, and we may not find alternative financing at similar rates, or at all.

 

If we continue to have a high leverage ratio, our exposure to liquidity risk may restrict our ability to make necessary capital expenditures or develop business opportunities in the future. For the credit strengthening services we provide, we may also be required to provide additional funding when there is an NPL in the loan portfolio. Due to this arrangement and our high leverage ratio, we may not have sufficient capital reserve to manage potential losses in the future, which may adversely affect our results of operations and financial positions. In addition, although we are not currently subject to any capital reserve requirement, we cannot assure you that the regulatory authority will not impose such requirements in the future, which may have a material adverse impact on our results of operations and financial positions due to our high leverage ratio.

 

If our or our trust company partners’ or our commercial bank partners’ risk management system fails to perform effectively, such failure may materially and adversely impact our operating results.

 

Credit assessment of the borrowers we facilitate is conducted by our risk management system, and subject to final risk assessment by our trust company partners or commercial bank partners under different funding models. Our risk management system uses credit analysis and data from prospective borrowers and multiple external sources and might not be effective as we continue to increase the amount of transactions, expand the borrower base and broaden our borrower engagement efforts through different channels in the future. If our system or our trust company partners’ or commercial bank partners’ system is ineffective or if the credit analysis and data we or our trust company partners or our commercial bank partners obtained are incorrect or outdated, the relevant risk management abilities could be negatively affected, resulting in incorrect recommendations or denials of loan applications or mispriced loan products, or eventually loan default. If we are unable to effectively and accurately assess the credit risks of borrowers or price loan products appropriately, we may be unable to offer quality services to our trust company partners, commercial bank partners or borrowers. Our risk and credit assessment may not be able to provide more predictive assessments of future borrower behavior or result in better evaluation of our borrower base when compared to our competitors. Pursuant to the terms of our collaboration agreements with trust company partners and commercial bank partners, trust company partners or commercial bank partners are independently responsible for credit assessment and approving the loans applications and we are not subject to any penalties for inaccurate risk assessment or mispriced loan products. However, we ultimately bear credit risk on loans we facilitate as we have payment obligations under our historical credit enhancement arrangements, credit strengthening arrangements or the new funding model with commercial bank partners. For details, please refer to “Item 4. Information on the Company — B. Business Overview — Our Funding Model — Credit Strengthening Services.” In addition, our performance-based service fee and return under the subordinated units may be reduced as a result of increased NPLs. If our or our trust company partners’ or commercial bank partners’ risk management system fails to perform effectively, our business and results of operations may be materially and adversely affected.

 

As a result of the COVID-19 pandemic, our normal work schedule were adversely impacted and may continue to be adversely impacted in the future. Specifically, we may not be able to conduct site visits, which is an important component of our credit assessment process. For details, see “—We face risks related to natural disasters, health epidemics and other outbreaks of contagious diseases.”

 

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Our business depends on our ability to collect payment on and service the transactions we facilitate.

 

We offer post-loan management services to our trust company partners. We have implemented payment and collection policies and practices designed to optimize compliant repayment, while also providing superior borrower experience. Our collection process is divided into distinct stages based on the days of delinquency, which dictate the level of collection steps taken. For example, automatic reminders through text, voice and instant messages are sent to a delinquent borrower as soon as the collections process commences. Our collection team will also make phone calls to borrowers following the first missed payment and periodically thereafter. We may also resort to arbitration or litigation to recover delinquent loans or assign those loans to a third party and collect proceeds upfront. Despite our servicing and collection efforts, we cannot assure you that we will be able to collect payments on the transactions we facilitate as expected. As we are exposed to credit risks as the subordinated unit holder and also as a result of credit strengthening services we provide, our failure to collect payment on the transactions will have a material adverse effect on our business operations and financial positions. In addition, our collection team may not possess adequate resource and manpower to collect payment on and service the loans we facilitated. If we fail to adequately collect amounts delinquent or due, then our service fees charged to trust plans may be delayed or reduced and our results of operations will be adversely affected. As the amount of transactions facilitated by us increases in the future, we may devote additional resources into our collection efforts. However, there can be no assurance that we would be able to utilize such additional resources in a cost-efficient manner.

 

Moreover, Circular 141 provides that all types of institutions or entrusted third-party institutions shall not collect loans through violence, intimidation, insult, slander, harassment, etc. Furthermore, according to the Notice on Further Regulating the Personal Trust Loan Business of Trust Companies issued by Beijing Bureau of the China Banking and Insurance Regulatory Commission in August 2020, trust companies within the Beijing jurisdiction shall clarify the list of prohibited behaviors with the institutions they collaborate with and their staff, and must not collect loans through violence, intimidation, insult, slander, harassment, etc. The Amendment XI to the Criminal Law of the People’s Republic of China, which was issued on December 2020 and became effective in March 2021, stipulates that whoever falls under any of the following circumstances when collecting any illegal debts generated from offering loans with high interest shall, if the circumstances are serious, be sentenced to fixed-term imprisonment of no more than three years, criminal detention or public surveillance and shall also, or shall only, be fined: (1) using violence or coercive methods; (2) restricting another person’s personal freedom of movement or trespass to another person’s dwelling; or (3) threatening, stalking, or harassing another person.

 

Although we aim to ensure our collection efforts comply with the relevant laws and regulations in the PRC and we have established strict internal policies that our collections personnel shall not engage in aggressive practices, we cannot assure you that such personnel will not engage in any misconduct as part of their collection efforts. Any such misconduct by our collection personnel or the perception that our collection practices are considered to be aggressive and not compliant with the relevant laws and regulations in the PRC may result in harm to our reputation and business, which could further reduce our ability to collect payments from borrowers, lead to decrease in the willingness of prospective borrowers to apply for the home equity loans we facilitate, or fines and penalties imposed by the relevant regulatory authorities, any of which may have a material adverse effect on our results of operations.

 

As a result of the COVID-19 pandemic and the travel restrictions and mandatory quarantine measures ensued, our collection efforts were delayed and may continue to be delayed in the future, which may have a material adverse impact on our results of operations. For details, see “—We face risks related to natural disasters, health epidemics and other outbreaks of contagious diseases.”

 

If our allowance for loan losses is not sufficient to cover actual loan losses, our results of operations would be negatively affected.

 

Our business is subject to fluctuations based on local economic conditions. These fluctuations are neither predictable nor within our control and may have a material adverse impact on our operations and financial condition. In determining the amount of the allowance for loan losses, we analyze our loss and delinquency experience by loan categories and we consider the effect of existing economic conditions. In addition, we make various assumptions and judgments about the collectability of loan portfolios, including the creditworthiness of borrowers and the value of real properties serving as collateral for the repayment loans. If the actual results are different from our estimates, or our analysis is incorrect, our allowance for loan losses may not be sufficient to cover losses inherent in a loan portfolio, which would require additions to allowance and would decrease our net income. Our emphasis on loan growth and on increasing portfolio, as well as any future loan deterioration, will require us to increase our allowance further in the future. Any increase in our allowance for loan losses or loan charge-offs as required by regulatory authorities may have a material adverse effect on our results of operations and financial condition.

 

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Increases in market interest rates could negatively affect the amount of loans facilitated by us and cost of funds provided to borrowers.

 

Borrowers’ costs of borrowing mainly consist of interest expenses. An increase in prevailing interest rates could result in an increase in the interest rates of loans we facilitate, and borrowers may be less likely to accept such adjusted terms. If borrowers decide not to use the products or services we offer because of such increase in market interest rates, our ability to retain existing borrowers and engage prospective borrowers as well as our competitive position may be severely impaired. If we are unable to effectively manage such market interest rate risk, our business, profitability, results of operations and financial condition could be materially and adversely affected.

 

Our overall funding costs may fluctuate with market interest rates while the interest rates for existing loans are fixed during the terms of the loans. As a result, an increase in the market interest rates may negatively impact the availability and cost of our funding, which may have a material adverse impact on our profitability and results of operations.

 

We are involved in legal proceedings in the ordinary course of our business from time to time. If the outcomes of these proceedings are adverse to us, it could have a material adverse effect on our business, results of operations and financial condition.

 

We are involved in various legal proceedings in the ordinary course of business from time to time. In our opinion, based on the facts known at this time, the ultimate resolution of these ordinary course legal proceedings will not have a material adverse effect on our financial position or results of operations as a whole. However, no assurances can be given as to the outcome of any pending legal proceedings, which could have a material adverse effect on our business, results of operations and financial condition. For debt collection purposes, we initiate legal proceedings against borrowers to recover payments that are delinquent for 30 days if we cannot reach agreement with the default borrowers by then. As of December 31, 2021, we had 1,032 collection legal proceedings pending before courts and arbitration tribunals with amounts in dispute of RMB527.9 million, where our trust company partners either directly or with our help sued borrowers of such delinquent loans. We may not be able to obtain or enforce favorable judgments or arbitration awards, or recover the amounts in dispute in full or at all. Furthermore, claims arising out of actual or alleged violations of law could be asserted against us by individuals, governmental or other entities in civil, administrative or criminal investigations and proceedings. These claims could be asserted under a variety of laws and regulations, including but not limited to contract laws, online or private lending laws or regulations, consumer protection laws or regulations, intellectual property laws, information security and privacy laws, and labor and employment laws. For further details, see the section headed “Item 8. Financial Information—A. Consolidated Statements and Other Financial Information— Legal and Administrative Proceedings.” These actions could expose us to adverse publicity and to monetary damages, fines and penalties, as well as suspension or revocation of licenses or permits to conduct business. Even if we eventually prevail in these matters, we could incur significant legal fees or suffer reputational harm, which could have a material adverse effect on our business and results of operations as well as our future growth and prospects.

 

The foreclosure action and enforcement process may be time-consuming, difficult and uncertain for legal and practicable reasons, which could adversely affect our liquidity, business, financial condition and results of operations.

 

The home equity loans we facilitate are secured by collateral, normally residential or commercial real properties owned by borrowers. In the event that a borrower is in default and the payment is past due for over 30 days or upon the incurrence of unusual situations (such as forfeiture of the collateral), we may need to help our trust company partners initiate judicial or arbitration proceedings against the defaulting borrower and foreclose the real property collateral. Historically, we were able to help our trust company partners enforce their rights to the collaterals through a power of attorney that was signed by the borrower and notarized by a notary public before loan disbursement. This allowed the trust company partners to quickly dispose of the collaterals without having to involve the borrower. Due to recent regulatory development, we have ceased this practice. As a result, we may need to resort to judicial or arbitration proceedings more frequently to help our trust company partners foreclose on the collateral. The judicial or arbitration proceedings may be time-consuming and may not ultimately be possible. In addition, the enforcement process may be difficult in practice. Furthermore, the defaulting borrowers may have concealed, transferred or disposed of their assets beforehand, which make it difficult or impossible for us to apply for attachment. Moreover, if the attached assets are found to be subject to prior mortgage or other third parties’ rights during proceedings, our interests will be ranked lower than these prior parties, thereby limiting or even preventing us from full coverage by the collateral. As a result, in case of defaults we may not be able to recover the full amount of loans and outstanding interests or at all, and in turn our liquidity, business, financial condition and results of operations could be adversely affected.

 

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In 2019, courts in certain regions of PRC issued regulations on banning the filings and executions in “trap loans” cases. While we believe our business does not fall into “trap loans” and such regulations are not be applicable to us, the interpretations of such regulations may vary among different courts. We cannot guarantee that the regulatory authority will agree with our interpretation. In 2019, certain court proceedings relating to the loans we facilitated were delayed or suspended due to such regulations.

 

As a result of the COVID-19 pandemic and the travel restrictions and mandatory quarantine measures ensued, court proceeding, foreclosure action and enforcement process were delayed and may continue to be delayed in the future, which may have a material adverse impact on our results of operations. For details, see “—We face risks related to natural disasters, health epidemics and other outbreaks of contagious diseases.”

 

Credit and other information that we or our trust company partners or our commercial bank partners receive from prospective borrowers and third parties about a borrower and the collateral may not accurately reflect the borrower’s creditworthiness or the collateral’s fair/recoverable value, which may compromise the accuracy of our and our trust company partners’ or our commercial bank partners’ credit assessment.

 

For the purposes of credit risk assessment, we and our trust company partners or our commercial bank partners obtain from prospective borrowers and third parties certain information of the prospective borrowers or the prospective real property collateral, which may not be complete, accurate or reliable. A credit report on a borrower or prospective collateral generated by our third-party sources or our trust company partners’ or our commercial bank partners’ own credit assessment system may not reflect that particular borrower’s actual creditworthiness or the prospective collateral’s actual market value because it may be based on outdated, incomplete or inaccurate information. Additionally, once we and our trust company partners or our commercial bank partners have obtained a borrower’s information, the borrower may subsequently (i) become delinquent in the payment of an outstanding obligation; (ii) default on a preexisting debt obligation; (iii) take on additional debt; or (iv) sustain other adverse financial events, making the information we have previously obtained inaccurate. Such inaccurate or incomplete borrower information could compromise the accuracy of our or our trust company partners’ or our commercial bank partners’ credit assessment and adversely affect the effectiveness of our risk management, which could in turn harm our reputation, lower our service fees charged to trust plans, and as a result, our business and results of operations could be materially and adversely affected.

 

We currently determine the preliminary market value of the prospective real property collateral using external databases at the time borrowers submit their loan applications. We also conduct site visits to cross-check conditions and verify information of the prospective real property collateral. In addition, we compare the preliminary third-party appraiser report with quotes on an anonymous basis from local real estate agencies in the same neighborhood. However, there is no assurance that we have complete and accurate information relating to the prospective real property collateral. In addition, our trust company partners or our commercial bank partners perform their own independent credit assessment and make the decision on loan grants based on their credit assessment results. If we or our trust company partners or our commercial bank partners overestimate market value of the real property collateral, the loans we facilitate may not be fully secured, which could affect the accuracy of our or our trust company partners’ or our commercial bank partners’ credit assessment and the effectiveness of our or our trust company partners’ or our commercial bank partners’ risk management. Therefore, our reputation, and as a result, our business and results of operations could be materially and adversely affected.

 

Our business operations may be negatively impacted if borrowers use loan proceeds to engage in activities prohibited or not encouraged by regulators.

 

Borrowers supply a variety of information that is included in the standardized loan applications prepared by us, including intended use of proceeds. We verify such information by conducting site visits and informal interviews. As our business continues to grow and our borrower base continues to expand, we might not have enough resources to continuously verify or monitor the information provided by the borrowers, such as intended use of loan proceeds. The loan agreements our borrowers enter into limit the use of proceeds to business operation purposes, not purchase of real property or consumption. The trust companies have the right to require early payment if proceeds were not used for business operation purposes. However, we cannot guarantee and may not effectively monitor that the loan is strictly used for business operating purposes. The borrower may use loan proceeds for other purposes with increased risk than as originally provided or use loan proceeds to engage in activities prohibited or discouraged by regulators. Such activities may harm our reputation and negatively impact our business operations.

 

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Fraudulent activity could negatively impact our operating results, brand and reputation and cause the use of our loan facilitation services to decrease.

 

We are subject to the risk of fraudulent activity associated with borrowers, our trust company partners and third parties handling borrower information. Our resources, technologies and fraud detection tools may be insufficient to accurately detect and prevent fraud. Significant increases in fraudulent activity could negatively impact our brand and reputation, reduce the volume of loan transactions facilitated through us and lead us to take additional steps to reduce fraud risk, which could increase our costs. High-profile fraudulent activity could even lead to regulatory intervention, and may divert our management’s attention and cause us to incur additional expenses and costs. Although we have not experienced any material business or reputational harm as a result of fraudulent activities in the past, we cannot rule out the possibility that any of the foregoing may occur, causing harm to our business or reputation in the future. If any of the foregoing were to occur, our results of operations and financial condition could be materially and adversely affected.

 

We are subject to credit cycle and the risk of deterioration of credit profiles of borrowers.

 

Our business is subject to the credit cycle associated with the volatility of the general economy. If economic conditions deteriorate, we may face increased risk of default or delinquency of borrowers, which will result in lower returns or losses. In the event that the creditworthiness of borrowers deteriorates or we cannot track the deterioration of their creditworthiness, the criteria we use for the analysis of borrower credit profiles may be rendered inaccurate, and our or our trust company partners’ risk management system may be subsequently rendered ineffective. This in turn may lead to higher delinquency ratio and adverse impacts on our reputation, business, results of operations and financial positions.

 

Our current business model has a relatively large exposure to second lien mortgage.

 

In 2020 and 2021, loans secured by second lien interest accounted for 56.3% and 60.5% of our loan origination volume of home equity loans, respectively. For loans secured by second lien interests, our rights over the collateral will be subordinated to other secured creditors with higher priority. If the borrowers default, we may not be able to collect the full amount of our security interests in the collateral due to lien subordination. There is no assurance that we will be able to realize the value of the collateral as we anticipated in a timely manner, or at all. As a result, our business, financial condition, results of operations and prospects may be adversely affected.

 

We primarily rely on our trust company partners to fund loans to borrowers, which may constitute provision of intermediary service, and our agreements with these trust company partners and borrowers may be deemed as intermediation contracts under the Civil Code of the People’s Republic of China (the “Civil Code”).

 

Under the Civil Code, if an intermediary intentionally conceals any material fact or provides false information in connection with the conclusion of the proposed contract, which results in harm to the client’s interests, the intermediary may not claim for service fees and shall be liable for the damages caused. Therefore, if we intentionally conceal material information or provide false information to our trust company partners and are found at fault, or if we fail to identify false information received from borrowers or others and in turn provide such information to our trust company partners, we could be held liable for damages caused to our trust company partners as an intermediary pursuant to the Civil Code. On the other hand, we do not assume any liability solely on the basis of failure to correctly assign a credit limit or pricing to a particular borrower in the process of facilitating a loan transaction, as long as we do not intentionally conceal any material fact intentionally or provide false information, and are not found to be at fault otherwise. However, due to the lack of detailed regulations and guidance in the area of home equity loans and the possibility that the PRC government authority may promulgate new laws and regulations regulating home equity loans in the future, there are substantial uncertainties regarding the interpretation and application of current or future PRC laws and regulations for the home equity loan industry, and there can be no assurance that the PRC government authority will ultimately take a view that is consistent with ours.

 

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The personal data and other confidential information of borrowers and our partners which we collect or are provided access to may subject us to liabilities imposed by relevant governmental regulations or expose us to risks of cyberattacks, computer viruses, physical or electronic break-ins or similar disruptions.

 

We receive, transmit and store a large volume of personally identifiable information and other confidential data from borrowers and our partners. There are numerous laws regarding privacy and the storing, sharing, use, disclosure and protection of personally identifiable information and user data. Specifically, personally identifiable and other confidential information is increasingly subject to legislation and regulations in numerous domestic and international jurisdictions, the intent of which is to protect the privacy of personal information that is collected, processed and transmitted in or from the governing jurisdiction. On November 28, 2019, the Secretary Bureau of the Cyberspace Administration of China, the General Office of the Ministry of Industry and Information Technology, the General Office of the Ministry of Public Security and the General Office of the State Administration for Market Regulation promulgated the Identification Method of Illegal Collection and Use of Personal Information Through App, which provides guidance for the regulatory authorities to identify the illegal collection and use of personal information through mobile apps, and for the app operators to conduct self-examination and self-correction and for other participants to voluntarily monitor compliance.

 

Personal Information Protection Law stipulates that personal information shall be processed in accordance with the principles of lawfulness, legitimacy, necessity and good faith, and not in any manner that is misleading, fraudulent or coercive. Collection of personal information shall be limited to the minimum scope necessary for achieving the purpose of processing and shall not be excessive. In addition, personal information processing rules should be disclosed to personal information subjects, and the purpose, method and scope of processing should be clearly stated. While we strive to comply with all applicable data protection laws and regulations, as well as our own privacy policies, this regulatory framework for privacy issues in China and worldwide is currently evolving and is likely to remain uncertain for the foreseeable future. We could be adversely affected if legislation or regulations are expanded to require changes in business practices or privacy policies, or if governing jurisdictions interpret or implement their legislation or regulations in ways that negatively affect our business, financial condition and results of operations. In addition to laws, regulations and other applicable rules regarding privacy and privacy advocacy, industry groups or other private parties may propose new and different privacy standards. Because the interpretation and application of privacy and data protection laws and privacy standards are still uncertain, it is possible that these laws or privacy standards may be interpreted and applied in a manner that is inconsistent with our practices. Any inability to adequately address privacy concerns, even if unfounded, or to comply with applicable privacy or data protection laws, regulations and privacy standards, could result in additional cost and liability for us, damage our reputation, inhibit the use of our platform and harm our business.

 

In addition, the data we possess may make us an attractive target for and potentially vulnerable to, cyberattacks, computer viruses, physical or electronic break-ins or similar disruptions. Furthermore, some of the data we possess is stored on our servers, which are hosted by third parties. While we and our third-party hosting facilities have taken steps to protect confidential information to which we have access and we store our data in encrypted form, our security measures may be breached in the future. Any accidental or willful security breaches or other unauthorized access to our database could cause confidential borrower, partner information to be stolen and used for criminal purposes. Security breaches or unauthorized access to confidential information could also expose us to liability related to the loss of the information, time-consuming and expensive litigation and negative publicity. If our security measures are breached because of third-party action, employee error, malfeasance or otherwise, or if design flaws in our software are exposed and exploited, our reputation, business and results of operations may be materially and adversely impacted.

 

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Because techniques used to sabotage or obtain unauthorized access to systems change frequently and generally are not recognized until they are launched against a target, we and our third-party hosting facilities may be unable to anticipate these techniques or implement adequate preventative measures. In addition, the Administrative Measures for the Security of the International Network of Computer Information Network, effective on December 30, 1997 and amended on January 8, 2011, require us to report any data or security breaches to the local offices of the PRC Ministry of Public Security within 24 hours of any such breach. Any security breach, whether actual or perceived, would harm our reputation, and could cause us to lose borrowers and partners and adversely affect our business and results of operations. We do not have cybersecurity insurance in case of security breach. As of the date of this annual report, we have not experienced any material incidents of security breach.

 

Any failure by us or our third-party service providers to comply with applicable anti-money laundering laws and regulations could damage our reputation.

 

In cooperation with our trust company partners, we have adopted various policies and procedures, including internal controls, “know-your- customer” procedures, customer due diligence and customer screening procedures, for anti-money laundering purposes. In addition, we rely on and may in the future, rely on other third-party service providers, in particular the custody banks and payment agents that handle the transfer of funds between borrowers and lenders, to have their own appropriate anti-money laundering policies and procedures. Custody banks and payment agents are subject to anti-money laundering obligations under applicable anti-money laundering laws and regulations and are regulated in that respect by the PBOC. If any of our third-party service providers fail to comply with applicable anti-money laundering laws and regulations, our reputation could suffer and we could become subject to regulatory intervention, which could have a material adverse effect on our business, financial condition and results of operations. Any negative perception of the industry, such as that arising from any failure of other home equity loan service providers to detect or prevent money laundering activities, even if factually incorrect or based on isolated incidents, could compromise our image or undermine the trust and credibility we have established.

 

The PRC Anti-money Laundering Law, which became effective in January 2007, sets forth the principal anti-money laundering requirements applicable to financial institutions as well as nonfinancial institutions with anti-money laundering obligations, including the adoption of precautionary and supervisory measures, establishment of various systems for client identification, retention of clients’ identification information and records and reports on large transactions and suspicious transactions. Measures for the Supervision and Administration of Combating Money Laundering and Financing of Terrorism by Financial Institutions, effective in August 2021, provides that a financial institution shall, according to the provisions, establish and improve the internal control system for combating money laundering and financing of terrorism, assess risks of money laundering and financing of terrorism, establish a risk management mechanism commensurate with the risk status and business scale, build an information system for combating money laundering, and establish or designate a department and appoint corresponding personnel to effectively perform the obligations of combating money laundering and financing of terrorism.

 

However, as the detailed anti-money laundering regulations of home equity loan facilitators have not been published, there is uncertainty as to how the anti-money laundering requirements will be interpreted and implemented, and whether home equity loan service providers like us must abide by the rules and procedures set forth in the PRC Anti-money Laundering Law that are applicable to non-financial institutions with anti-money laundering obligations. We cannot assure you that the anti-money laundering policies and procedures we have adopted will be effective in protecting our business from being exploited for money laundering purposes or will be deemed to be following applicable anti-money laundering implementing rules if and when adopted.

 

The collaboration model we have in place with our sales partners to acquire borrowers might be regarded as financial marketing and might face compliance risks.

 

The People’s Bank of China, the China Banking Insurance Regulatory Commission, the China Securities Regulatory Commission, and the State Administration of Foreign Exchange have issued notice on further regulating financial marketing and publicity activities on December 20, 2019, which took effect on January 25, 2020. It is stipulated that financial marketing and publicity activities refer to the activities of financial product or financial service providers using various publicity tools or methods to publicize and promote financial products or financial services, and it is illegal to engage in financial business without a business license or beyond the permitted business scope, and market entities that fail to obtain relevant financial business qualifications shall not conduct marketing and publicity activities relating to the financial business, except that information release platforms and media entrusted by relevant financial business qualifications may carry out financial marketing and publicity activities for them.

 

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We currently collaborate with our sales partners on the promotion of real estate mortgage loan projects, and we introduce borrowers to the trust companies. As the above notice is broad in regulatory scope and still evolving, we cannot guarantee you that the marketing activities of us or our sales partners will not be regarded as financial marketing and publicity activities. If the marketing activities of us or our sales partners are found to be in violation of the above notice, we may be penalized by relevant authorities and our marketing activities may be suspended, which could adversely affect our business operations.

 

The collecting, storing and sharing of information among us, our sales partners and the trust companies might face compliance risks.

 

The PBOC and the National Financial Standardization Technical Committee released the Personal Financial Information Protection Technical Specifications (“Specifications”) on February 13, 2020, according to which financial institutions shall not entrust or authorize other institutions, without the qualification for financial business, to collect information such as bank account information, personal identification number, mobile phone number, KYC information, home address and other information that is linked to the identity of a specific individual. Financial institutions shall also forbid outsourcing service agencies and external service agencies through agreements or contracts to store such information.

 

As of the date hereof, there is no such terms or provisions that we are entrusted or authorized to collect such information from the borrower by the trust companies in the agreements between us and the trust companies. We have collected information from the borrowers with the borrowers’ express consent. Given that the Specifications are still evolving, we cannot guarantee whether the relevant regulatory authorities would have different understandings, and thereby question our business model. Further, the Specifications are a recommended industry standard and have no mandatory legal force, but they might still be referred to by regulatory agencies. Therefore, if our collecting, storing and sharing of the borrower’s above-mentioned information are found to be in violation of the laws, it could have an adverse impact on our business model and adversely affect our business operations.

 

The Administrative Measures for Credit Reporting Business may have a certain negative impact on our business, and we may face challenges from the regulatory authorities.

 

The Administrative Measures for Credit Reporting Business, which were adopted on September 17, 2021, are promulgated for implementation as of January 1, 2022. For the purpose of the measures, credit reporting business refers to activities in which credit information on enterprises and individuals is collected, arranged, preserved, processed, and provided to users; Credit information refers to basic information, loan information, and other relevant information collected in accordance with the law and used to identify and judge the credit status of enterprises and individuals when providing services for financial and other activities, as well as analysis and evaluation information formed based on the foregoing information. Also, an applicant shall obtain the permission for a personal credit reporting agency from the People’s Bank of China in accordance with the law to engage in personal credit reporting business; handle the record-filing of a corporate credit reporting agency in accordance with the law to engage in corporate credit reporting business; or handle the record-filing of a credit rating agency in accordance with the law to engage in credit rating business. Financial institutions, including but not limited to commercial banks and trust companies, shall not carry out commercial cooperation with market institutions that have not obtained the lawful qualifications for credit reporting business in accessing credit information.

 

As we are in the process of loan facilitation for trust companies or commercial banks, we may involve the collection and provision of borrowers’ information. Our PRC legal advisor, Merits & Tree Law Offices, believes that we have not arranged or processed the borrower’s credit information while conducting business, and we are not engaged in personal credit investigation business. However, since the measures are relatively new and the relevant interpretation is uncertain, we are not sure whether the regulatory authorities would take our business as credit investigation service, or would require us to obtain relevant licenses, to cooperate with third-party credit investigation agencies. As of the date of this annual report, we have not received warnings, penalties, or objections to our business. However, if the business we carry out is regarded as credit investigation business by the regulatory authorities, we may be required to adjust our existing business model within certain period to comply with the authorities’ regulations, which may increase our operating cost. If the adjustments and the rectification cannot be completed within the prescribed period, we may face administrative penalties such as being banned in accordance with the law, confiscation of illegal gains, fines, etc.

 

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If we are unable to maintain relationships with our third-party service providers, our business will suffer.

 

We rely on third-party service providers to operate various aspects of our business. For instance, third parties supply us with external data including real property valuation, borrowers’ credit histories, government data and blacklists. Furthermore, we engage third-party service providers to maintain our security systems, ensuring confidentiality of data and preventing malicious attacks.

 

Our relationships with various third parties are integral to the smooth operation of our business. Most of our agreements with third-party service providers are nonexclusive and do not prohibit third-party service providers from working with our competitors. If our relationships with third-party service providers deteriorate or third-party service providers decide to terminate our respective business relationships for any reason, such as to work with our competitors on more exclusive or more favorable terms, our operations may be disrupted. In addition, our third-party service providers may not uphold the standard we expect under our agreements. If any of these were to happen, our business operations could be materially impaired and our results of operations would suffer.

 

Misconduct, fraud, errors and failure to function by our employees or third-party service providers could harm our business and reputation

 

We are exposed to the risk of misconduct, fraud and errors by our employees and third-party service providers with whom we collaborate. In addition, we rely on our employees for debt collection. We aim to ensure that our collection efforts comply with the relevant laws and regulations in the PRC and we have established strict policies that our employees should not engage in aggressive practices while performing debt collection. Nevertheless, we do not have full control over our employees. Misconduct and errors by our employees could result in violations of law by us, regulatory sanctions and/or serious reputational or financial harm. We cannot always deter misconduct and errors by our employees, and the precautions we take to prevent and detect these activities may not be effective in all cases. There cannot be any assurance that misconduct and errors by our employees will not lead to a material adverse effect on our business. Any of these occurrences could result in our diminished ability to operate our business, potential liability to third parties, inability to attract borrowers and funding sources, reputational damage, regulatory intervention and financial harm, which could negatively impact our business, financial condition and results of operations.

 

Misconduct and errors by our trust company partners, commercial bank partners, sales partners and other parties with whom we collaborate with could harm our business and reputation.

 

We are exposed to the risk of misconduct and errors by our trust company partners, commercial bank partners, sales partners and other business partners with whom we collaborate. We rely on our sales partners for borrower acquisition and we do not have full control over sales partners’ conduct or conduct of their respective acquisition channels while sourcing borrowers. We could be materially and adversely affected if personal information was disclosed to unintended recipients or if an operational breakdown or failure in the processing of transactions occurred, whether as a result of human error, purposeful sabotage or fraudulent manipulation of our operations or systems. Financial products and financial institutions are heavily regulated in China. We are not regulated as a financial institution, but we may be indirectly subject to PRC financial regulations as a result of cooperation with financial institutions as our funding source partners. If any financial product designed by us and our funding partners is deemed to violate any PRC laws or regulations, we may be jointly liable due to the service we provide, or we may have to terminate the relationship with our funding partners. It is not always possible to identify and deter misconduct or errors by our trust company partners, commercial bank partners, sales partners and other business partners, and the precautions we take to detect and prevent such activities may not be effective in controlling unknown or unmanageable risks or losses. If any of our funding partners, sales partners and other business partners misuse or misappropriate funds, commit fraud or other misconduct, or fail to follow our rules and procedures when interacting with our borrowers, we could be liable for damages and subject to regulatory actions and penalties. We could also be perceived to have facilitated or participated in the illegal misappropriation of funds, documents or data, and therefore be subject to civil or criminal liability. Any of these occurrences could result in our diminished ability to operate our business, potential liability to third parties, inability to attract third parties, reputational damage, regulatory intervention or financial harm, which could negatively impact our business, financial condition and results of operations.

 

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If we do not compete effectively in our target markets, our operating results could be harmed.

 

The PRC’s home equity loan market is rapidly evolving. We compete with financial products and companies that attract potential borrowers or funding sources, or both. Particularly, we compete with other financial service companies that facilitate home equity loans.

 

Some of our current or potential competitors have significantly more financial, technical, marketing and other resources than we do and may be able to devote greater resources to the development, promotion, sale and support of their platforms and distribution channels. Their business models may also ultimately prove more successful or more adaptable to new regulatory, technological and other developments. Our current or potential competitors may also have longer operating histories, a more extensive borrower base, more data and distribution channels, greater brand recognition and brand loyalty and broader partnership relationships than we have. For example, established internet companies, including social media companies that possess large, existing borrower bases, substantial financial resources and established distribution channels, may enter the market. Traditional financial institutions may also focus on the MSE market, which may have a material adverse impact on our business and results of operations as we may not necessarily have competitive advantage. Our competitors may be better at developing new products, responding quickly to new technologies and undertaking more extensive marketing campaigns. If we are unable to compete with such companies or meet the need for innovation in our industry, the demand for our services could stagnate or substantially decline and we could experience reduced operating income, any of which could harm our business.

 

When new competitors seek to enter our target market, or when existing market participants seek to increase their market share, they sometimes undercut the pricing and/or terms common in that market, which could adversely affect our market share or ability to exploit new market opportunities. In addition, since the home equity loan lending industry is a relatively recent development in China, potential partners and borrowers may not fully understand how our business works and may not be able to fully appreciate the features that we have invested in and adopted on our business as compared to other home equity loan service providers. Our pricing and terms could deteriorate if we fail to act to meet these competitive challenges. Further, to the extent that our competitors are able to offer more attractive terms to our trust company partners, such trust companies may choose to terminate their relationships with us. All of the foregoing could adversely affect our business, results of operations, financial condition and future growth.

 

If negative publicity arises with respect to us or the home equity loan lending industry in general, our employees, our third-party service providers or our trust company partners, our business and operating results could be adversely affected.

 

If negative publicity arises about the home equity loan lending industry or the secured lending industry in general in China or our company, including the quality, effectiveness and reliability of our business, our ability to effectively manage and resolve borrower complaints, privacy and security practices, litigation, regulatory challenges and the experience of borrowers with our services, even if inaccurate, could adversely affect our reputation and the confidence in, and the use of, our services, which could harm our business and operating results. The PRC government has recently instituted general regulations and specific rules, including the Guiding Opinion, to develop a more transparent regulatory environment for assets management products. See “—Our business may be adversely affected if we are unable to secure funding on terms acceptable to us or our borrowers, or at all.” Many companies in China’s home equity loan lending industry have not been fully compliant with these regulations, which prevents these companies from providing home equity loans. To the extent that borrowers associate our company with these failed companies, they may be less willing to use our services. Harm to our reputation can also arise from many other sources, including employee misconduct, misconduct by our partners, or third-party service providers, failure by us, our partners or third-party service providers to meet minimum standards of service and quality, inadequate protection of borrower and partner information and compliance failures and claims. Additionally, negative publicity with respect to our partners or service providers could also affect our business and operating results to the extent that we rely on these partners or if borrowers associate our company with these partners.

 

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If we fail to promote and maintain our brand in an effective and cost-efficient way, our business and results of operations may be harmed.

 

Our brand and reputation are integral to our acquisition of borrowers and funding sources, and we intend to invest in marketing and brand promoting efforts. The success of our marketing efforts and borrowing experience with our services are integral to our ability to attract new and retain repeat borrowers. Our marketing channels include traditional media such as telephone marketing and direct sales conducted by sales partners, and marketing campaigns, as well as online media, search engine optimization and search engine marketing. If our current marketing efforts and channels are less effective or inaccessible to us, or if the cost of such channels significantly increases or we cannot penetrate the market with new channels, we may not be able to promote and maintain our brand and reputation to maintain or grow the existing borrower base. If we are unable to promote and maintain our brand and reputation in a cost-efficient manner, our market share could diminish or we could experience a lower growth rate than we anticipated, which would harm our business, financial condition and results of operations.

 

Any failure to protect our own intellectual property rights could impair our brand, negatively impact our business or both.

 

Our success and ability to compete also depend in part on protecting our own intellectual property. We rely on a combination of copyright, trade secret, trademark and other rights, as well as confidentiality procedures and contractual provisions to protect our proprietary technology, processes and other intellectual property. However, the steps we take to protect our intellectual property rights may be inadequate. Third parties may seek to challenge, invalidate or circumvent our copyright, trade secret, trademark and other rights or applications for any of the foregoing. In order to protect our intellectual property rights, we may be required to spend significant resources. Litigation brought to protect and enforce our intellectual property rights could be costly, time-consuming and distracting to management. Our failure to secure, protect and enforce our intellectual property rights could seriously adversely affect our brand and adversely impact our business.

 

We may be sued by third parties for alleged infringement of their proprietary rights, which could harm our business.

 

Our competitors, as well as a number of other entities and individuals, may own or claim to own intellectual property relating to our industry. From time to time, third parties may claim that we are infringing on their intellectual property rights. We may, however, be unaware of the intellectual property rights that others may claim cover some or all of our applications, technology or services. Any claims or litigation could cause us to incur significant expenses and, if successfully asserted against us, could require that we pay substantial damages or ongoing royalty payments, restrict us from conducting our business or require that we comply with other unfavorable terms. We may also be obligated to indemnify parties or pay substantial settlement costs, including royalty payments, in connection with any such claim or litigation and to obtain licenses, modify applications or refund fees, which could be costly. Even if we were to prevail in such a dispute, any litigation regarding our intellectual property could be costly and time-consuming and divert the attention of our management from our business operations.

 

We have existing debts and may incur more in the future, which may adversely affect our financial condition and negatively impact our operations.

 

We have substantial existing debts and we may incur more in the future. The incurrence of debt could have a variety of negative effects, including:

 

default and foreclosure on our assets if our operating income is insufficient to repay debt obligations;

 

acceleration of obligations to repay the indebtedness (or other outstanding indebtedness), even if we make all principal and interest payments when due, if we breach any covenants that require the maintenance of certain financial ratios or reserves without a waiver or renegotiation of that covenant;

 

our inability to obtain necessary additional financing if the debt security contains covenants restricting our ability to obtain such financing while the debt security is outstanding;

 

diverting a substantial portion of cash flow to pay principal and interest on such debt, which would reduce the funds available for expenses, capital expenditures, acquisitions and other general corporate purposes; and

 

creating potential limitations on our flexibility in planning for and reacting to changes in our business and in the industry in which we operate.

 

The occurrence of any of these risks could adversely affect our operations or financial condition.

 

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Our business depends on the continued efforts of our senior management. If one or more of our key executives were unable or unwilling to continue in their present positions, our business may be severely disrupted.

 

Our business operations depend on the continued services of our senior management, particularly the executive officers named in this annual report. While we have provided different incentives to our management, we cannot assure you that we can continue to retain their services. If one or more of our key executives were unable or unwilling to continue in their present positions, we may not be able to replace them easily or at all, our future growth may be constrained, our business may be severely disrupted and our financial condition and results of operations may be materially and adversely affected, and we may incur additional expenses to recruit, train and retain qualified personnel. In addition, although we have entered into confidentiality and noncompetition agreements with our management, there is no assurance that any member of our management team will not join our competitors or form a competing business. If any dispute arises between our current or former officers and us, we may have to incur substantial costs and expenses in order to enforce such agreements in China or we may be unable to enforce them at all.

 

We may have exposure to greater than anticipated tax liabilities.

 

We are subject to enterprise income tax, value-added tax, and other taxes in each province and city in China where we have operations. Our tax structure is subject to review by various local tax authorities. The determination of our provision for income tax and other tax liabilities requires significant judgment. In the ordinary course of our business, there are many transactions and calculations where the ultimate tax determination is uncertain. Although we believe our estimates are reasonable, the ultimate decisions by the relevant tax authorities may differ from the amounts recorded in our financial statements and may materially affect our financial results in the period or periods for which such determination is made.

 

Certain of our leased properties may have defective titles and we may be forced to relocate operations affected by such defects, which could cause disruption to our business and have a negative impact on our business operations and financial condition.

 

As of December 31, 2021, we operated our businesses primarily in over 50 leased properties in Shenzhen, Guangzhou, Chongqing, Beijing and other cities in China. We have not signed lease contracts or not renewed expired lease contracts with respect to a small portion of such leased properties, and we may be forced to relocate if the lessors request us to leave the premises. With respect to a small portion of such leased properties, the lessors failed to provide title certificates evidencing property ownership of these lessors. According to PRC laws and regulations, where a landlord lacks title evidence or rights to lease, the relevant lease contracts may be void or unenforceable under PRC laws and regulations, and may also be subject to challenge by third parties. Moreover, a small portion of the leased properties are mortgaged by the lessors. In case the mortgagees enforce the mortgage, we may not be able to continue using our leased properties. In addition, a small portion of our lease contracts have not been registered with the relevant regulatory authorities. According to PRC laws and regulations, failure to register lease contracts will not affect the effectiveness. However, landlords and tenants may be subject to administrative fines for such failure.

 

As of the date of this annual report, we are not aware of any action, claim or investigation being conducted or threatened by the relevant regulatory authorities with respect to defects in our leased contracts or leased properties. However, we cannot assure you that such defects will be cured in a timely manner, or at all. Our business may be interrupted and additional relocation costs may be incurred if we are required to relocate operations affected by such defects. Moreover, if our lease contracts are challenged by third parties, it could result in diversion of management attention and cause us to incur costs associated with defending such actions, even if such challenges are ultimately determined in our favor.

 

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Competition for employees is intense, and we may not be able to attract and retain the qualified and skilled employees needed to support our business.

 

We believe our success depends on the efforts and talent of our employees, including risk management, software engineering, financial and marketing personnel. Our future success depends on our continued ability to attract, develop, motivate and retain qualified and skilled employees. Competition for highly skilled technical, risk management and financial personnel is extremely intense. We may not be able to hire and retain these personnel at compensation levels consistent with our existing compensation and salary structure. Some of the companies with which we compete for experienced employees have greater resources than we have and may be able to offer more attractive terms of employment. In addition, we invest significant time and expenses in training our employees, which increases their value to competitors who may seek to recruit them. If we fail to retain our employees, we could incur significant expenses in hiring and training new employees, and the quality of our services and our ability to serve borrowers and our partner funding sources could diminish, resulting in a material adverse effect to our business.

 

Increases in labor costs in the PRC may adversely affect our business and results of operations.

 

The economy in China has experienced increases in inflation and labor costs in recent years. As a result, average wages in the PRC are expected to continue to increase. In addition, we are required by PRC laws and regulations to pay various statutory employee benefits, including pension, housing fund, medical insurance, work-related injury insurance, unemployment insurance and maternity insurance to designated government agencies for the benefit of our employees. We expect that our labor costs, including wages and employee benefits, will continue to increase. Unless we are able to control our labor costs or pass on these increased labor costs to borrowers by increasing the fees of our services, our financial condition and results of operations may be adversely affected.

 

If we cannot maintain our corporate culture as we grow, we could lose the innovation, collaboration and focus that contribute to our business.

 

We believe that a critical component of our success is our corporate culture, which we believe fosters innovation, encourages teamwork and cultivates creativity. As we develop the infrastructure of a public company and continue to grow, we may find it difficult to maintain these valuable aspects of our corporate culture. Any failure to preserve our culture could negatively impact our future success, including our ability to attract and retain employees, encourage innovation and teamwork and effectively focus on and pursue our corporate objectives.

 

We do not have any business insurance coverage.

 

Insurance companies in China currently do not offer as extensive an array of insurance products as insurance companies in more developed economies. Currently, we do not have any business liability or disruption insurance to cover our operations. We have determined that the costs of insuring for these risks and the difficulties associated with acquiring such insurance on commercially reasonable terms make it impractical for us to have such insurance. Any uninsured business disruptions may result in our incurring substantial costs and the diversion of resources, which could have an adverse effect on our results of operations and financial condition.

 

If we fail to implement and maintain an effective system of internal controls, we may be unable to accurately or timely report our results of operations or prevent fraud, and investor confidence and the market price of our ADSs may be materially and adversely affected.

 

Since the completion of our initial public offering, we have become a public company in the United States subject to the Sarbanes-Oxley Act of 2002. Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, requires that we include a report from management on our internal control over financial reporting in our annual report on Form 20-F beginning with this annual report for the fiscal year ending December 31, 2022. In addition, once we cease to be an “emerging growth company” as such term is defined in the JOBS Act, our independent registered public accounting firm must attest to and report on the effectiveness of our internal control over financial reporting. Our management may conclude that our internal control over financial reporting is not effective. Moreover, even if our management concludes that our internal control over financial reporting is effective, our independent registered public accounting firm, after conducting its own independent testing, may issue a report that is qualified if it is not satisfied with our internal controls or the level at which our controls are documented, designed, operated or reviewed, or if it interprets the relevant requirements differently from us. In addition, since we have become a public company, our reporting obligations may place a significant strain on our management, operational and financial resources and systems for the foreseeable future. We may be unable to timely complete our evaluation testing and any required remediation.

 

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During the course of documenting and testing our internal control procedures, in order to satisfy the requirements of Section 404, we may identify weaknesses and deficiencies in our internal control over financial reporting. In addition, if we fail to maintain the adequacy of our internal control over financial reporting, as these standards are modified, supplemented or amended from time to time, we may not be able to conclude on an ongoing basis that we have effective internal control over financial reporting in accordance with Section 404. Generally speaking, if we fail to achieve and maintain an effective internal control environment, we could suffer material misstatements in our financial statements and fail to meet our reporting obligations, which would likely cause investors to lose confidence in our reported financial information. This could, in turn, limit our access to capital markets, harm our results of operations and lead to a decline in the trading price of our ADSs. Additionally, ineffective internal control over financial reporting could expose us to increased risk of fraud or misuse of corporate assets and subject us to potential delisting from the stock exchange on which we list, regulatory investigations and civil or criminal sanctions.

 

We identified a material weakness in our internal control over financial reporting as part of management’s assessment, and if we are unable to remediate and improve our internal controls, we may not be able to accurately or timely report our future financial results.

 

In the course of preparing our consolidated financial statements in the prior years, we identified one material weakness which has not been remedied in our internal control over financial reporting. A “material weakness” is a deficiency, or a combination of deficiencies, in internal control, such that there is a reasonable possibility that a material misstatement of our annual or interim financial statements will not be prevented or detected on a timely basis. The material weakness that was identified related to our lack of sufficient financial reporting and accounting personnel with appropriate experience of U.S. GAAP and SEC reporting requirements and our failure to establish and clearly communicate acceptable policies regarding U.S. GAAP financial reporting. We are in the process of implementing a number of measures to address the material weakness that has been identified, including hiring more qualified internal auditors to strengthen our overall governance, and providing relevant training to our accounting personnel. We also plan to take other steps to strengthen our internal control over financial reporting, including formalizing a set of comprehensive U.S. GAAP accounting manuals and upgrading our financial reporting system to streamline monthly and year-end closings and integrate financial and operating reporting systems. Although we plan to implement these measures to address the material weakness, implementation of these measures may not fully remediate the material weakness in a timely manner, and there is no assurance that we will not have material weaknesses or significant deficiencies in the future.

 

We will continue to incur increased costs as a result of being a public company, particularly after we cease to qualify as an “emerging growth company.”

 

Since the completion of our initial public offering, we have become a public company and have incurred significant legal, accounting and other expenses that we did not incur as a private company. The Sarbanes-Oxley Act of 2002, as well as rules subsequently implemented by the SEC and the New York Stock Exchange, impose various requirements on the corporate governance practices of public companies. As a company with less than US$1.07 billion in revenues for our last fiscal year, we qualify as an “emerging growth company” pursuant to the JOBS Act. An emerging growth company may take advantage of specified reduced reporting and other requirements that are otherwise applicable generally to public companies. These provisions include exemption from the auditor attestation requirement under Section 404 of the Sarbanes-Oxley Act of 2002, or Section 404, in the assessment of the emerging growth company’s internal control over financial reporting. The JOBS Act also permits an emerging growth company to delay adopting new or revised accounting standards until such time as those standards apply to private companies. However, we have elected to “opt out” of this provision and, as a result, we will comply with new or revised accounting standards as required when they are adopted for public companies. This decision to opt out of the extended transition period under the JOBS Act is irrevocable.

 

We expect these rules and regulations to increase our legal and financial compliance costs and to make some corporate activities more time-consuming and costly. After we are no longer an “emerging growth company,” we expect to incur significant expenses and devote substantial management effort toward ensuring compliance with the requirements of Section 404 and the other rules and regulations of the SEC. For example, as a result of becoming a public company, we will need to increase the number of independent directors and adopt policies regarding internal controls and disclosure controls and procedures. We also expect that operating as a public company will make it more difficult and more expensive for us to obtain director and officer liability insurance, and we may be required to accept reduced policy limits and coverage or incur substantially higher costs to obtain the same or similar coverage. In addition, we will incur additional costs associated with our public company reporting requirements. It may also be more difficult for us to find qualified persons to serve on our Board of Directors or as executive officers. We are currently evaluating and monitoring developments with respect to these rules and regulations, and we cannot predict or estimate with any degree of certainty the amount of additional costs we may incur or the timing of such costs.

 

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We have granted, and may continue to grant, share incentives, which may result in increased share-based compensation expenses.

 

We adopted an equity incentive plan in 2018, or the 2018 Plan, for the purpose of granting share-based compensation awards to employees, officers, directors and consultants to incentivize their performance and promote the success of our business.

 

We account for compensation costs for all share-based awards using a fair-value-based method and recognize expenses in our consolidated statements of comprehensive income in accordance with U.S. GAAP. Under the 2018 Plan, we are authorized to grant options, restricted stock units and other types of awards the administrator of the 2018 Plan decides. Under the 2018 Plan, the maximum aggregate number of shares which may be issued pursuant to all awards is 307,608,510 shares. As of the date of this annual report, options to purchase a total of 307,608,510 ordinary shares were outstanding under the 2018 Plan. We believe the granting of share-based awards is of significant importance to our ability to attract and retain key personnel and employees, and we will continue to grant share-based awards in the future. As a result, our expenses associated with share-based compensation may increase, which may have an adverse effect on our results of operations.

 

Certain of our existing shareholders have substantial influence over our company, and their interests may not be aligned with the interests of our other stockholders.

 

CISG Holdings Ltd., a company incorporated in the British Virgin Islands, holds approximately 18.5% of our ordinary shares. Kylin Investment Holdings Limited, a company incorporated in the British Virgin Islands, holds approximately 17.8% of our ordinary shares. As a result, each shareholder has significant influence over our business, including decisions regarding mergers, consolidations, liquidations and the sale of all or substantially all of our assets, election of directors and other significant corporate actions. This concentration of ownership may also have the effect of discouraging, delaying or preventing a future change of control, which could deprive our stockholders of an opportunity to receive a premium for their shares as part of a sale of our company, and might reduce the price of our ADSs.

 

Failure to make adequate contributions to various employee benefits plans as required by PRC regulations may subject us to penalties.

 

Companies operating in China are required to participate in various government-sponsored employee benefit plans, including social insurance plans, unemployment insurance, medical insurance, work-related injury insurance, maternity insurance, housing provident fund and other welfare-oriented payment obligations, and contribute to the plans in amounts equal to certain percentages of salaries, including bonuses and allowances, of employees up to a maximum amount specified by the local government from time to time at locations where our employees are based. The requirement of employee benefit plans has not been implemented consistently by the local governments in China given the different levels of economic development in different locations. Our failure in making adequate contributions to various employee benefit plans and in complying with applicable PRC labor-related laws may subject us to late payment penalties, and we could be required to make up the contributions for these plans as well as to pay late fees and fines. If we are subject to late fees or fines in relation to the underpaid employee benefits, our financial condition and results of operations may be adversely affected.

 

Our branches have not made full contributions to the social insurance plans and the housing provident fund for employees as required by the relevant PRC laws and regulations. As of the date of this annual report, we are not aware of any notice from regulatory authorities or any claim or request from these employees in this regard. However, we cannot assure you that the relevant regulatory authorities will not require us to pay outstanding amounts and impose late payment penalties or fines on us, which may materially and adversely affect our business, financial condition and results of operations.

 

The inconsistency of domicile and place of business of our PRC subsidiaries may have a material adverse effect on our business and operations.

 

Substantially all of our assets and operations are located in China. We have developed a network of 63 branches and sub-branches in over 50 cities in China. According to the PRC laws and regulations, the domicile and the place of business of our PRC subsidiaries should be the same. As our business grows rapidly, we may change the place of business according to market development strategy. We cannot assure you that the domicile of all the PRC subsidiaries, branches and sub-branches are consistent with the place of their business. In the event that our PRC subsidiaries, branches and sub-branches cannot be reached by relevant regulatory authorities at the domicile or place of business they provided, such subsidiaries, branches or sub-branches may be included in the unusual operation enterprise list, and may be required to rectify or may be imposed with penalties, which may adversely affect our business and results of operations.

 

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From time to time we may evaluate and enter into strategic alliances, which could divert significant management attention and resources, disrupt our business and adversely affect our financial results.

 

We may from time to time evaluate and enter into strategic alliances with various third parties. Strategic alliances with third parties could subject us to a number of risks, including the potential failure to achieve the expected benefits of the alliance, risks associated with potential leakage of proprietary information, non-performance by the counterparty and an increase in expenses incurred in establishing new strategic alliances, any of which may materially and adversely affect our business. Strategic alliances will also divert the management’s time and resources from our normal operations and we may have to incur unexpected liabilities or expenses.

 

Risks Related to Our American Depositary Shares

 

The trading price of our ADSs may be volatile, which could result in substantial losses to investors.

 

The trading price of our ADSs have been, and is likely to continue to be, volatile and could fluctuate widely due to factors beyond our control. This may happen because of broad market and industry factors, including the performance and fluctuation of the market prices of other companies with business operations located mainly in China that have listed their securities in the United States. In addition to market and industry factors, the price and trading volume for our ADSs may be highly volatile for factors specific to our own operations, including the following:

 

variations in our earnings and cash flows;

 

announcements of new investments, acquisitions, strategic partnerships or joint ventures by us or our competitors;

 

announcements of new offerings, solutions and expansions by us or our competitors;

 

changes in financial estimates by securities analysts;

 

detrimental adverse publicity about us, our services or our industry;

 

announcements of new regulations, rules or policies relevant for our business;

 

additions or departures of key personnel;

 

our share repurchase program;

 

release of lockup or other transfer restrictions on our outstanding equity securities or sales of additional equity securities; and

 

potential litigation or regulatory investigations.

 

Any of these factors may result in large and sudden changes in the volume and price at which our ADSs will trade. In particular, since the COVID-19 outbreaks, concerns over the economic slowdown resulting from the COVID-19 have led to a significant decrease in the major indices of the U.S. capital markets and an increase in market volatility, which have adversely affected, and may continue to, adversely affect, the market price of our ADSs. For risks related to the COVID-19, see “—Risks Related to Our Business and Industry—We face risks related to natural disasters, health epidemics and other outbreaks of contagious diseases.”

 

In the past, shareholders of public companies have often brought securities class action suits against those companies following periods of instability in the market price of their securities. If we were involved in a class action suit, it could divert a significant amount of our management’s attention and other resources from our business and operations and require us to incur significant expenses to defend the suit, which could harm our results of operations. Any such class action suit, whether or not successful, could harm our reputation and restrict our ability to raise capital in the future. In addition, if a claim is successfully made against us, we may be required to pay significant damages, which could have a material adverse effect on our financial condition and results of operations.

 

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If securities or industry analysts do not publish research or reports about our business, or if they adversely change their recommendations regarding the ADSs, the market price for the ADSs and trading volume could decline.

 

The trading market for the ADSs will be influenced by research or reports that industry or securities analysts publish about our business. If one or more analysts who cover us downgrade the ADSs, the market price for the ADSs would likely decline. If one or more of these analysts cease to cover us or fail to regularly publish reports on us, we could lose visibility in the financial markets, which in turn could cause the market price or trading volume for the ADSs to decline.

 

Substantial future sales or perceived potential sales of our ADSs in the public market could cause the price of our ADSs to decline.

 

Sales of our ADSs in the public market, or the perception that these sales could occur, could cause the market price of our ADSs to decline significantly. As of December 31, 2021, we had 1,371,643,240 ordinary shares outstanding. Among these shares, 288,485,480 ordinary shares are in the form of ADSs. All of our ADSs sold in our initial public offering will be freely transferable by persons other than our “affiliates” without restriction or additional registration under the U.S. Securities Act of 1933, as amended, or the Securities Act. All of the other ordinary shares outstanding will be available for sale, upon the expiration of the lock-up periods described elsewhere in this annual report beginning from May 5, 2019 (if applicable to such holder), subject to volume and other restrictions as applicable under Rules 144 and 701 under the Securities Act. Any or all of these ordinary shares may be released prior to the expiration of the applicable lock-up period at the discretion of the designated representatives. To the extent shares are released before the expiration of the applicable lock-up period and sold into the market, the market price of our ADSs could decline significantly.

 

Certain major holders of our ordinary shares have the right to cause us to register under the Securities Act the sale of their shares, subject to the applicable lock-up periods in connection with our initial public offering. Registration of these shares under the Securities Act would result in ADSs representing these shares becoming freely tradable without restriction under the Securities Act immediately upon the effectiveness of the registration. Sales of these registered shares in the form of ADSs in the public market could cause the price of our ADSs to decline significantly.

 

We adopted an equity incentive plan in 2018, or the 2018 Plan, under which we have the discretion to grant a broad range of equity-based awards to eligible participants. See “Item 6. Directors, Senior Management and Employees—B. Compensation—Share Incentive Plan.” We have registered certain ordinary shares that we may issue under our share incentive plans and intend to register all ordinary shares that we may issue under our share incentive plans. Once we register these ordinary shares, they can be freely sold in the public market in the form of ADSs upon issuance, subject to volume limitations applicable to affiliates and relevant lock-up agreements. If a large number of our ordinary shares or securities convertible into our ordinary shares are sold in the public market in the form of ADSs after they become eligible for sale, the sales could reduce the trading price of our ADSs and impede our ability to raise future capital. In addition, any ordinary shares that we issue under our share incentive plans would dilute the percentage ownership held by the investors who purchased ADSs.

 

We cannot guarantee that any share repurchase program will be fully consummated or that any share repurchase program will enhance long-term shareholder value, and share repurchases could increase the volatility of the price of our ordinary shares and/or ADSs and could diminish our cash reserves.

 

On March 16, 2022, our board of directors authorized a share repurchase program whereby our company was authorized a share repurchase program under which the Company may repurchase up to US$20.0 million of its ordinary shares in the form of American depositary shares during a period of up to 12 months commencing on March 16, 2022, which had not been fully consummated as of the date of this annual report:

 

Our board of directors also has the discretion to authorize additional share repurchase programs in the future. The share repurchase programs do not obligate us to repurchase any specific dollar amount or to acquire any specific number of ADSs and/or shares. We cannot guarantee that any share repurchase program will enhance long-term shareholder value. The share repurchase programs could affect the price of our listed securities and increase volatility and may be suspended or terminated at any time, which may result in a decrease in the trading price of our ordinary shares and/or ADSs. Furthermore, share repurchases could increase the volatility of the price of our ordinary and/or ADSs could diminish our cash reserves.

 

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Techniques employed by short sellers may drive down the market price of the ADSs.

 

Short selling is the practice of selling securities that the seller does not own but rather has borrowed from a third party with the intention of buying identical securities back at a later date to return to the lender. The short seller hopes to profit from a decline in the value of the securities between the sale of the borrowed securities and the purchase of the replacement shares, as the short seller expects to pay less in that purchase than it received in the sale. As it is in the short seller’s interest for the price of the security to decline, many short sellers publish, or arrange for the publication of, negative opinions regarding the relevant issuer and its business prospects in order to create negative market momentum and generate profits for themselves after selling a security short. These short attacks have, in the past, led to selling of shares in the market.

 

Public companies that have substantially all of their operations in China have been the subject of short selling. Much of the scrutiny and negative publicity has centered on allegations of a lack of effective internal control over financial reporting resulting in financial and accounting irregularities and mistakes, inadequate corporate governance policies or a lack of adherence thereto, and, in many cases, allegations of fraud. As a result, many of these companies are now conducting internal and external investigations into the allegations and, in the interim, are subject to shareholder lawsuits and/or SEC enforcement actions.

 

It is not clear what effect such negative publicity could have on us. If we were to become the subject of any unfavorable allegations, whether such allegations are proven to be true or untrue, we could have to expend a significant amount of resources to investigate such allegations and/or defend ourselves. While we would strongly defend against any such short seller attacks, we may be constrained in the manner in which we can proceed against the relevant short seller by principles of freedom of speech, applicable state law or issues of commercial confidentiality. Such a situation could be costly and time-consuming, and could distract our management from growing our business. Even if such allegations are ultimately proven to be groundless, allegations against us could severely impact our business operations, and any investment in the ADSs could be greatly reduced or even rendered worthless.

 

Because we do not expect to pay dividends in the foreseeable future, you must rely on a price appreciation of the ADSs for a return on your investment.

 

We currently intend to retain most, if not all, of our available funds and any future earnings to fund the development and growth of our business. As a result, we do not expect to pay any cash dividends in the foreseeable future. Therefore, you should not rely on an investment in the ADSs as a source for any future dividend income.

 

Our Board of Directors has complete discretion as to whether to distribute dividends, subject to certain requirements of Cayman Islands law. In addition, our shareholders may, subject to the provisions of our amended and restated memorandum and articles of association, by ordinary resolution, declare a dividend, but no dividend may exceed the amount recommended by our directors. Under Cayman Islands law, a Cayman Islands company may pay a dividend out of either profit or share premium account, provided that in no circumstances may a dividend be paid if this would result in our being unable to pay its debts as they fall due in the ordinary course of business. Even if our Board of Directors decides to declare and pay dividends, the timing, amount and form of future dividends, if any, will depend on our future results of operations and cash flow, our capital requirements and surplus, the amount of distributions, if any, received by us from our subsidiaries, our financial condition, contractual restrictions and other factors deemed relevant by our Board of Directors. Accordingly, the return on your investment in the ADSs will likely depend entirely upon any future price appreciation of the ADSs. There is no guarantee that the ADSs will appreciate in value or even maintain the price at which you purchased the ADSs. You may not realize a return on your investment in our ADSs and you may even lose your entire investment in the ADSs.

 

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You may face difficulties in protecting your interests, and your ability to protect your rights through U.S. courts may be limited, because we are incorporated under Cayman Islands law.

 

We are an exempted company with limited liability incorporated under the laws of the Cayman Islands. Our corporate affairs are governed by our amended and restated memorandum and articles of association, the Companies Act (as amended) of the Cayman Islands and the common law of the Cayman Islands. The rights of shareholders to take action against our directors, actions by our minority shareholders and the fiduciary duties of our directors to us under Cayman Islands law are governed by our amended and restated memorandum and articles of association, the Companies Act (as amended) of the Cayman Islands and the common law of the Cayman Islands. The common law of the Cayman Islands is derived in part from comparatively limited judicial precedent in the Cayman Islands (as compared to U.S. law) as well as from the common law of England. The decisions of the English courts are of highly persuasive authority, but are not binding, on a court in the Cayman Islands (except for those decisions handed down from Judicial Committee of the Privy Council to the extent that these have been appealed from the Cayman Islands courts. The rights of our shareholders and the fiduciary duties of our directors under Cayman Islands law are broadly similar to those in other common law jurisdictions, but there may be differences in the statutes or judicial precedent in some jurisdictions in the United States. In particular, the Cayman Islands has a less developed body of securities laws than the United States. Some U.S. states, such as Delaware, have more fully developed and judicially interpreted bodies of corporate law than the Cayman Islands. In addition, if shareholders want to proceed against the Company outside of the Cayman Islands, they will need to demonstrate that they have standing to initiate a shareholders derivative action in a federal court of the United States.

 

Shareholders of Cayman Islands exempted companies like us have no general rights under Cayman Islands law to inspect corporate records or to obtain copies of lists of shareholders of these companies save for some exceptions. Our directors have discretion under our amended and restated memorandum and articles of association to determine whether or not, and under what conditions, our corporate records may be inspected by our shareholders, but are not obliged to make them available to our shareholders. This may make it more difficult for you to obtain the information needed to establish any facts necessary for a shareholder motion or to solicit proxies from other shareholders in connection with a proxy contest.

 

Your rights to pursue claims against the depositary as a holder of ADSs are limited by the terms of the deposit agreement.

 

Under the deposit agreement, any action or proceeding against or involving the depositary, arising out of or based upon the deposit agreement or the transactions contemplated thereby or by virtue of owning the ADSs may only be instituted in a state or federal court in New York, New York, and you, as a holder of our ADSs, will have irrevocably waived any objection which you may have to the laying of venue of any such proceeding, and irrevocably submitted to the exclusive jurisdiction of such courts in any such action or proceeding. Notwithstanding the foregoing, the depositary may, in its sole discretion, elect to institute any action, controversy, claim or dispute directly or indirectly based on, arising out of or relating to the deposit agreement or the ADRs or the transactions contemplated thereby in any competent court in the Cayman Islands, Hong Kong, the People’s Republic of China and/or the United States, or, by having such disputes referred to and finally resolved by an arbitration either in New York, New York or in Hong Kong, subject to certain exceptions solely related to the aspects of such claims that are related to U.S. federal securities law, in which case the resolution of such aspects may, at the option of such registered holder of the ADSs, remain in state or federal court in New York, New York. Also, we may amend or terminate the deposit agreement without your consent. If you continue to hold your ADSs after an amendment to the deposit agreement, you agree to be bound by the deposit agreement as amended. See “Item 12. Description of Securities Other Than Equity Securities—American Depositary Shares” for more information.

 

ADSs holders may not be entitled to a jury trial with respect to claims arising under the deposit agreement, which could result in less favorable outcomes to the plaintiff(s) in any such action.

 

The deposit agreement governing the ADSs representing our ordinary shares provides that, to the fullest extent permitted by applicable law, ADSs holders waive the right to a jury trial of any claim they may have against us or the depositary arising out of or relating to our shares, the ADSs or the deposit agreement, including any claim under the U.S. federal securities laws. The waiver to right to a jury trial of the deposit agreement is not intended to be deemed a waiver by any holder or beneficial owner of ADSs of our or the depositary’s compliance with the U.S. federal securities laws and the rules and regulations promulgated thereunder.

 

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If we or the depositary opposed a jury trial demand based on the waiver, the court would determine whether the waiver was enforceable based on the facts and circumstances of that case in accordance with the applicable state and federal law. The enforceability of a contractual pre-dispute jury trial waiver in connection with claims arising under the federal securities laws has not been finally adjudicated by the United States Supreme Court. However, we believe that a contractual pre-dispute jury trial waiver provision is generally enforceable, including under the laws of the State of New York, which govern the deposit agreement. In determining whether to enforce a contractual pre-dispute jury trial waiver provision, courts will generally consider whether a party knowingly, intelligently and voluntarily waived the right to a jury trial. We believe that this is the case with respect to the deposit agreement and the ADSs. It is advisable that you consult legal counsel regarding the jury waiver provision before investing in the ADSs.

 

If you or any other holders or beneficial owners of ADSs bring a claim against us or the depositary in connection with matters arising under the deposit agreement or the ADSs, including claims under federal securities laws, you or such other holder or beneficial owner may not be entitled to a jury trial with respect to such claims, which may have the effect of limiting and discouraging lawsuits against us and/or the depositary. If a lawsuit is brought against us and/or the depositary under the deposit agreement, it may be heard only by a judge or justice of the applicable trial court, which would be conducted according to different civil procedures and may result in a different outcome than a trial by jury would have had, including results that could be less favorable to the plaintiff(s) in any such action.

 

Certain judgments obtained against us by our shareholders may not be enforceable.

 

We are a Cayman Islands exempted company with limited liability and substantially all of our assets are located outside of the United States. Substantially all of our current operations are conducted in China. In addition, most of our current directors and officers are nationals and residents of countries other than the United States. Substantially all of the assets of these persons are located outside the United States. Further, our directors and officers are located outside of the Cayman Islands. Service of court documents on a Cayman Islands company can be effected by serving the documents at the Company’s registered office and it may be possible to enforce foreign judgments in the Cayman Islands against a Cayman Islands company, subject to some exceptions. However, if investors wish to serve documents on and/or enforce foreign judgments against our directors and officers, they will need to ensure that they comply with the rules of the jurisdiction where the directors and officers are located. As a result, it may be difficult or impossible for you to bring an action against us or against these individuals in the United States in the event that you believe that your rights have been infringed under the U.S. federal securities laws or otherwise. Even if you are successful in bringing an action of this kind, the laws of the Cayman Islands and of China may render you unable to enforce a judgment against our assets or the assets of our directors and officers, depending on where the directors and officers are located.

 

Walkers (Hong Kong), our counsel as to Cayman Islands law, has informed us that there is no guarantee that the courts of the Cayman Islands will automatically allow shareholders of our company to originate actions in the Cayman Islands based upon securities laws of the United States. In addition, there is no guarantee with regard to Cayman Islands law that a judgment obtained from the U.S. courts under civil liability provisions of U.S. securities laws will be determined by the courts of the Cayman Islands as penal or punitive in nature. If such a determination is made, the courts of the Cayman Islands will not recognize or enforce a judgment predicated upon the civil liability provisions of the federal securities laws of the United States or any state, so far as the liabilities imposed by those provisions are taxes, fines or penal in nature, or otherwise contrary to public policy, including punitive damages. Walkers (Hong Kong) has further informed us that although there is no statutory enforcement in the Cayman Islands of judgments obtained in the federal or state courts of the United States (and the Cayman Islands are not a party to any treaties for the reciprocal enforcement or recognition of such judgments), a judgment obtained in such jurisdiction will be recognized and enforced in the courts of the Cayman Islands at common law, without any reexamination of the merits of the underlying dispute, by an action commenced on the foreign judgment debt in the Grand Court of the Cayman Islands, provided such judgment (a) is given by a foreign court of competent jurisdiction, (b) imposes on the judgment debtor a liability to pay a liquidated sum for which the judgment has been given, (c) is final, (d) is not in respect of taxes, a fine or a penalty, and was not obtained in a manner and is not of a kind the enforcement of which is contrary to natural justice or the public policy of the Cayman Islands.

 

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Our PRC legal advisor, Merits & Tree Law Offices, advises us that there is uncertainty as to whether the courts of the PRC would enforce judgments of United States courts or Cayman courts obtained against us or these persons predicated upon the civil liability provisions of the United States federal and state securities laws. Our PRC legal advisor further advises us that the recognition and enforcement of foreign judgments are provided for under PRC Civil Procedures Law. PRC courts may recognize and enforce foreign judgments in accordance with the requirements of PRC Civil Procedures Law based either on treaties between China and the country where the judgment is made or on reciprocity between jurisdictions. China does not have any treaties or other form of reciprocity with the United States or the Cayman Islands that provides for the reciprocal recognition and enforcement of foreign judgments. In addition, according to the PRC Civil Procedures Law, courts in the PRC will not enforce a foreign judgment against us or our directors and officers if they decide that the judgment violates the basic principles of PRC law or national sovereignty, security or public interest. As a result, it is uncertain whether and on what basis a PRC court would enforce a judgment rendered by a court in the United States or in the Cayman Islands.

 

The voting rights of holders of ADSs are limited by the terms of the deposit agreement, and you may not be able to exercise your right to direct the voting of your ordinary shares underling your ADSs.

 

Holders of ADSs do not have the same rights as our registered shareholders. As a holder of our ADSs, you will not have any direct right to attend general meetings of our shareholders or to cast any votes at such meetings. You will only be able to exercise the voting rights which attach to the ordinary shares underlying your ADSs indirectly by giving voting instructions to the depositary in accordance with the provisions of the deposit agreement. Under the deposit agreement, you may vote only by giving voting instructions to the depositary, as holder of the ordinary shares underlying your ADSs. Upon receipt of your voting instructions, the depositary may try to vote the ordinary shares underlying your ADSs in accordance with your instructions. If we ask for your instructions, then upon receipt of your voting instructions, the depositary will try to vote the underlying ordinary shares in accordance with those instructions. If we do not instruct the depositary to ask for your instructions, the depositary may still vote in accordance with instructions you give, but it is not required to do so. You will not be able to directly exercise any right to vote with respect to the underlying ordinary shares unless you withdraw the shares and become the registered holder of such shares prior to the record date for the general meeting. When a general meeting is convened, you may not receive sufficient advance notice of the meeting to enable you to withdraw the shares underlying your ADSs and become the registered holder of such shares prior to the record date for the general meeting to allow you to attend the general meeting and to vote directly with respect to any specific matter or resolution to be considered and voted upon at the general meeting. In addition, under our post-offering articles of association, for the purposes of determining those shareholders who are entitled to attend and vote at any general meeting, our directors may close our register of members and/or fix in advance a record date for such meeting, and such closure of our register of members or the setting of such a record date may prevent you from withdrawing the ordinary shares underlying your ADSs and becoming the registered holder of such shares prior to the record date, so that you would not be able to attend the general meeting or to vote directly. Where any matter is to be put to a vote at a general meeting, the depositary will notify you of the upcoming vote and to deliver our voting materials to you. We cannot assure you that you will receive the voting material in time to ensure you can direct the depositary to vote your shares. In addition, the depositary and its agents are not responsible for failing to carry out voting instructions or for their manner of carrying out your voting instructions. This means that you may not be able to exercise your right to direct how the shares underlying your ADSs are voted and you may have no legal remedy if the shares underlying your ADSs are not voted as you requested.

 

You may experience dilution of your holdings due to the inability to participate in rights offerings.

 

We may, from time to time, distribute rights to our shareholders, including rights to acquire securities. Under the deposit agreement, the depositary will not distribute rights to holders of ADSs unless the distribution and sale of rights and the securities to which these rights relate are either exempt from registration under the Securities Act with respect to all holders of ADSs, or are registered under the provisions of the Securities Act. The depositary may, but is not required to, attempt to sell these undistributed rights to third parties, and may allow the rights to lapse. We may be unable to establish an exemption from registration under the Securities Act, and we are under no obligation to file a registration statement with respect to these rights or underlying securities or to endeavor to have a registration statement declared effective. Accordingly, holders of ADSs may be unable to participate in our rights offerings and may experience dilution of their holdings as a result.

 

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You may be subject to limitations on the transfer of your ADSs.

 

Your ADSs are transferable on the books of the depositary. However, the depositary may close its books at any time or from time to time when it deems it expedient in connection with the performance of its duties. The depositary may close its books in emergencies, and on weekends and public holidays. The depositary may refuse to deliver, transfer or register transfers of our ADSs generally when our share register or the books of the depositary are closed, or at any time if we or the depositary thinks it is advisable to do so because of any requirement of law or of any government or governmental body, or under any provision of the deposit agreement, or for any other reason.

 

We are an emerging growth company within the meaning of the Securities Act and may take advantage of certain reduced reporting requirements.

 

We are an “emerging growth company,” as defined in the JOBS Act, and we may take advantage of certain exemptions from requirements applicable to other public companies that are not emerging growth companies, including, most significantly, not being required to comply with the auditor attestation requirements of Section 404 of the Sarbanes-Oxley Act of 2002 for so long as we remain an emerging growth company. As a result, if we elect not to comply with such auditor attestation requirements, our investors may not have access to certain information they may deem important.

 

We are a foreign private issuer within the meaning of the rules under the Exchange Act, and as such we are exempt from certain provisions applicable to U.S. domestic public companies.

 

Because we qualify as a foreign private issuer under the Exchange Act, we are exempt from certain provisions of the securities rules and regulations in the United States that are applicable to U.S. domestic issuers, including:

 

the rules under the Exchange Act requiring the filing with the SEC of quarterly reports on Form 10-Q or current reports on Form 8-K;

 

the sections of the Exchange Act regulating the solicitation of proxies, consents or authorizations in respect of a security registered under the Exchange Act;

 

the sections of the Exchange Act requiring insiders to file public reports of their stock ownership and trading activities and liability for insiders who profit from trades made in a short period of time; and

 

the selective disclosure rules by issuers of material nonpublic information under Regulation FD.

 

We will be required to file an annual report on Form 20-F within four months of the end of each fiscal year. In addition, we intend to publish our results on a quarterly basis as press releases, distributed pursuant to the rules and regulations of the NYSE. Press releases relating to financial results and material events will also be furnished to the SEC on Form 6-K. However, the information we are required to file with or furnish to the SEC will be less extensive and less timely compared to that required to be filed with the SEC by U.S. domestic issuers. As a result, you may not be afforded the same protections or information that would be made available to you were you investing in a U.S. domestic issuer.

 

As an exempted company incorporated in the Cayman Islands, we are permitted to adopt certain home country practices in relation to corporate governance matters that differ significantly from the New York Stock Exchange corporate governance listing standards. These practices may afford less protection to shareholders than they would enjoy if we complied fully with the New York Stock Exchange corporate governance listing standards

 

As a Cayman Islands exempted company listed on the New York Stock Exchange, we are subject to New York Stock Exchange corporate governance listing standards. However, New York Stock Exchange rules permit a foreign private issuer like us to follow the corporate governance practices of its home country. Certain corporate governance practices in the Cayman Islands, which is our home country, may differ significantly from the New York Stock Exchange corporate governance listing standards. To the extent we choose to follow home country practice in the future, our shareholders may be afforded less protection than they otherwise would enjoy under New York Stock Exchange corporate governance listing standards applicable to U.S. domestic issuers.

 

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Although the matter is not entirely clear, we were likely a passive foreign investment company (a “PFIC”) for our 2021 taxable year, and we will likely be a PFIC for 2022 and our future taxable years, which could result in adverse U.S. federal income tax consequences to U.S. taxpayers.

 

In general, a non-U.S. corporation will be a PFIC for U.S. federal income tax purposes for any taxable year in which (i) 75% or more of its gross income consists of passive income or (ii) 50% or more of the average value of its assets (generally determined on a quarterly basis) consists of assets that produce, or are held for the production of, passive income. For purposes of the above calculations, a non-U.S. corporation that directly or indirectly owns at least 25% by value of the equity interests of another corporation or partnership is treated as if it held its proportionate share of the assets of the other corporation or partnership and received directly its proportionate share of the income of the other corporation of partnership.  Passive income generally includes interest, income equivalent to interest, rents, dividends, royalties and gains from financial investments.

 

It is not entirely clear how the PFIC rules should apply to a company with a business such as ours. For example, although the loans issued through our consolidated trusts plans are shown in their entirety as our assets on our balance sheet, it is not clear whether for purposes of the PFIC rules we should be treated as owning only our subordinated interests in the trusts plans, and earning only the portion of the trust plans’ interest income attributable thereto. If we are treated as owning only the subordinated units and the portion of the trust plans’ loans attributable thereto, our PFIC status for any taxable year may depend on the relative values of the loans we are treated as owning and our other passive assets on the one hand, and the value of our goodwill (to the extent attributable to the services we provide) and fee receivables on the other hand. The extent to which our goodwill should be treated as an active asset is not entirely clear. Moreover, the value of our goodwill may be determined by reference to our market capitalization, which has been, and may continue to be, volatile. In addition, we provide loan facilitation, loan administration and other services in connection with the loans issued by our consolidated trust plans and we charge our consolidated trust plans service fees that are eliminated in, and therefore not shown on, our consolidated income statement. Therefore, our PFIC status for any taxable year may depend on the relative amounts of our fee and interest income (which may be less than the amount of interest income shown on our income statement, if we are treated as owning only a portion of the trusts’ loans). Furthermore, it is not entirely clear whether a portion of the interest income earned by the trust plans could be treated as payable in part for services to the borrowers. Although our PFIC status for any taxable year is not entirely clear, based on the composition of our income and assets and the manner in which we currently operate our business, we were likely a PFIC for our 2021 and prior taxable years, and will likely be a PFIC for our 2022 taxable year and future taxable years, subject to the discussion in the subsequent paragraph regarding the Active Financing Exception, as defined below. U.S. taxpayers should consult their tax advisors regarding the proper application of the PFIC rules to us and our PFIC status for any taxable year.

 

For purposes of the PFIC rules “passive income” is defined by way of a cross-reference to Section 954(c) of the Internal Revenue Code of 1986, as amended (the “Code”), which applies for purposes of the Code’s “controlled foreign corporation”(“CFC”) rules. A different provision under the CFC rules (namely Section 954(h) of the Code) sets forth an exception for interest income derived by “eligible CFCs” that are “predominantly engaged” in the active conduct of a financing or similar business (the “Active Financing Exception”). Because the Active Financing Exception addresses eligible CFCs, there has been uncertainty as to whether it could apply to determine the PFIC status of companies that are not CFCs, such as our company. Proposed Treasury regulations promulgated in 2019 (the “2019 Proposed Regulations”) provided that the Active Financing Exception could apply to determine the PFIC status of such companies. However, in 2020 these regulations were finalized (the “2020 Final Regulations”) without addressing the Active Financing Exception. Although the 2020 Final Regulations are silent on the availability of the Active Financing Exception to companies like us, in the preamble to the 2020 Final Regulations Treasury expressed its position that under current law the Active Financing Exception does not apply in determining the PFIC status of a company that is neither a CFC nor a bank. The 2020 Final Regulations apply to taxable years of shareholders beginning on or after January 14, 2021. Treasury indicated in the preamble to the 2020 Final Regulations that taxpayers can rely on the 2019 Proposed Regulations to apply the Active Financing Exception for any open taxable year ending on or before December 31, 2020. Concurrently with the issuance of the 2020 Final Regulations, Treasury issued proposed regulations (the “2020 Proposed Regulations”) that would state explicitly that the Active Financing Exception is available only if the tested non-U.S. corporation is a bank. The 2020 Proposed Regulations have not been finalized yet. Based on the foregoing, our ADS holders and shareholders (i) generally are permitted to apply the Active Financing Exception for a taxable year ending on or before December 31, 2020 (provided that we in fact satisfied the exception’s conditions for the relevant year), (ii) should expect that the Internal Revenue Service will not agree with a return positon that applies the Active Financing Exception for any subsequent taxable year, and (iii) should be aware that if the 2020 Proposed Regulations are finalized in their current form they will not be able to take the position that the Active Financing Exception applies for any taxable year to which the regulations will apply. If we were “predominantly engaged” in the active conduct of a financing or similar business (as defined for purposes of the Active Financing Exception) and met all of the exception’s requirements then we would not be a PFIC for any taxable year with respect to which taxpayers validly applied the Active Financing Exception, if applicable. U.S. owners of our ADSs or ordinary shares should be aware that we have not determined whether these requirements were in fact satisfied. Moreover, if any of our consolidated trust plans is treated as a partnership for U.S. federal income tax purposes, and if such trust’s senior unit holders are treated as owning interests in such partnership other than as creditors, the characterization of our interest income as active under the Active Financing Exception may also depend, in part, on whether we owned 25% or more of the value of such trust for the relevant taxable years. U.S. owners of our ADSs or ordinary shares should consult their tax advisers as to whether the Active Financing Exception could apply to us with respect to any taxable year prior to the finalization of the 2020 Proposed Regulations, and whether it is advisable to take this position in light of Treasury’s views, as described above.

 

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A U.S. taxpayer that owns our ADSs or ordinary shares during any year in which we are a PFIC will generally be subject to adverse U.S. federal income tax consequences. See “Item 10. Additional Information—E. Taxation—Material U.S. Federal Income Tax Considerations—Passive Foreign Investment Company” in this annual report. U.S. taxpayers should consult their tax advisers regarding our PFIC status for any taxable year and the tax considerations relevant to owning shares or ADSs of a PFIC.

 

ITEM 4. INFORMATION ON THE COMPANY

 

4.A. History and Development of the Company

 

We started our operations in 1999 through Fanhua Chuang Li Information Technology (Shenzhen) Co., Ltd., which became our onshore holding company of the main operating subsidiaries in the PRC. In 2000, we formed our wholly owned Hong Kong subsidiary, China Financial Services Group Limited (“CFSGL”), as the offshore holding company of our PRC subsidiaries. In 2006, we were spun off from Fanhua Inc., a company listed on NASDAQ (symbol: FANH), and formed Sincere Fame International Limited (“SFIL”) under the laws of British Virgin Islands as the holding company of CFSGL. In January 2014, CNFinance Holdings Limited was incorporated under the laws of Cayman Islands. CNFinance Holdings Limited became our holding company through share exchanges with the shareholders of SFIL in March 2018. We conduct our business in the PRC primarily through Shenzhen Fanhua United Investment Group Co., Ltd., Guangzhou Heze Information Technology Co., Ltd., and their subsidiaries and consolidated affiliated entities.

 

In November 2018, we completed an initial public offering of 7,060,460 ADSs (including the ADSs sold upon the exercise of the over-allotment option granted to the underwriters), representing 141,209,200 of our ordinary shares. On November 7, 2018, our ADSs were listed on the New York Stock Exchange under the symbol “CNF.”

 

Our principal executive offices of our main operations are located 44/F, Tower G, No. 16 Zhujiang Dong Road, Tianhe District, Guangzhou City, Guangdong Province 510620, People’s Republic of China. Our telephone number at this address is +86 (020) 6231-6688. Our registered office in the Cayman Islands is located at the offices of Walkers Corporate Limited, 190 Elgin Avenue, George Town, Grand Cayman KY1-9008, Cayman Islands.

 

SEC maintains an internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC on www.sec.gov. You can also find information on our website, http://ir.cashchina.cn/.

 

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4.B. Business Overview

 

Overview

 

We are a leading home equity loan service provider in China. We, through our operating subsidiaries in China, conduct business by collaborating with sales partners and trust company partners. Sales partners are responsible for recommending micro- and small-enterprise (“MSE”) owners with financing needs to us and we introduce eligible borrowers to our trust company partners who will then conduct their own risk assessments and make credit decisions. We have established a national network of 63 branches and sub-branches in over 50 cities in China. In 2019 and 2020, we originated home equity loans with an aggregate principal amount of RMB6.3 billion and RMB8.8 billion, respectively, representing an increase of 39.5%. In 2021, we originated home equity loans with an aggregate principal amount of RMB12.8 billion, representing an increase of 45.2% from 2020 due to the development of the collaboration model.

 

Our primary target borrower segment is MSE owners who own real properties in Tier 1 and Tier 2 and other major cities in China. We originated home equity loans for 12,790, 17,703 and 22,060 borrowers in 2019, 2020 and 2021, respectively. These MSE owners typically have quick cash flow turnover from their business operations with high demand for working capital. Their financing needs are often unpredictable, time-sensitive and frequent. We believe our target borrowers are underserved by traditional financial institutions due to various reasons. Traditional financial institutions often impose stringent and inflexible loan application requirements designed for large corporations, making it difficult for MSE owners to meet such requirements. In addition, time-consuming and cumbersome requirements often limit MSE owners’ ability to meet their imminent financing needs. Moreover, unlike in the United States where home equity loans commonly serve as a financing alternative, traditional lenders in China, such as banks, typically do not grant loans secured by second lien interests and are generally less incentivized to introduce innovative home equity loan products.

 

We aim to serve our target borrowers by facilitating home equity loans and providing tailored services. Our standardized and integrated online and offline credit application and assessment process shorten the time of loan disbursement, providing expeditious financing solutions to MSE owners. We offer home equity loans to MSE owners that allow them to repay only the interests by installments and repay the full principal amount when due. In addition, we also facilitate home equity loans to MSE owners in the form of installment loans with a monthly contractual interest rate typically ranging from 1.04% to 1.75% and a tenor typically ranging from one to three years, assisting borrowers’ short-term and long-term business planning. In 2019, 2020 and 2021, the average tenor of the home equity loans we originated was 22, 24 and 15 months with the weighted average effective interest rate (inclusive of interests and financing service fees, if applicable, payable by the borrowers) of 19.4%, 17.3% and 16.5% per annum, respectively. Such loan products are secured by first or second lien interests on real properties. 56.4%, 56.3% and 60.5% of our total home equity loan origination volume in 2019, 2020 and 2021, respectively, was secured by second lien interests. Depending on the value of the collateral and the creditworthiness of the borrower, we offer flexible loan principal typically ranging from RMB100,000 to RMB5,000,000.

 

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Our risk mitigation mechanism is embedded in the design of our loan products, supported by an integrated online and offline process focusing on risks of both borrowers and collateral and further enhanced by effective post-loan management procedures. Our business infrastructure supports our operations by providing various offline services, such as on-site visits, interaction with local real property bureau and debt collection. Collateral for loans we facilitate is geographically dispersed in Tier 1 and Tier 2 and other major cities in China. We offer home equity loan products that allow borrowers to repay only the interests by installments and repay the full principal amount when due. In addition, we also provide home equity loan products that require monthly payments comprising principal and interests repayments, which permits us to assist our trust company partners to monitor borrowers’ credit status. Our practical risk assessment focuses on both credit risks of borrowers and quality of the collateral. We have also established strict guidelines on the characteristics and quality of collateral, including, among others, an LTV ratio capped at 70%.

 

The loans we facilitate are primarily funded through a trust lending model with our trust company partners, who are well-established trust funds in China with sufficient funding sources and have licenses to engage in lending business nationwide. This structure provides us with stable funding sources. Under the trust lending model, our trust company partners set up trust plans and acquire funding from their investors. Trust plans are typical investment vehicles in which investors participate by subscribing to trust units and receive a return as set out in subscription agreements. Each trust plan issues multiple trust products which are funded with senior and subordinated units at a pre-determined ratio with a term of one to three years. The loans funded by the trust products, however, have terms typically ranging from one to three years. For details of matching our funding sources and loans we facilitate, please refer to “Item 4. Information on the Company—B. Business Overview—Our Funding Model—Matching of Terms of Funding Sources and Loans.” The contractual ratio of the senior units and subordinated units of trust plans or products is determined pursuant to our collaboration agreements with our trust company partners, which set the upper limit to such ratio at a range of no higher than 3:1. For details, please refer to “Item 4. Information on the Company— B. Business Overview—Our Funding Model—Terms of the Trust Plans” and “—Funding Partners.” As part of the collaboration we have with our trust company partners, we are required to subscribe to all of the subordinated units of trust plans. By subscribing to subordinated units, we are entitled to the residual value from trust plans after certain payments to senior unit holders, trust company partners and third-party service providers. Payments to senior unit holders consist of expected investment returns which are usually paid quarterly and principal amounts which are repaid upon borrowers’ payments of underlying loans. We as subordinated unit holders are paid each quarter after the quarterly payment of interest returns to senior unit holders and upon maturity after the payment of principal amounts to senior unit holders. Our financing costs for the senior units, excluding the trust administrative fees, ranged from 7.0% to 12.7% per annum of the issuance number of senior units in 2021, and our financing costs for subordinated units under repurchase arrangements with financial institutions was 8% per annum of the transfer prices for such subordinated units in 2021. Our cost of the subordinated units as measured by the investment amount was RMB3,150.5 million, RMB3,045.2 million and RMB2,919.4 million as of December 31, 2019, 2020 and 2021, respectively. Our investment return from the subordinated units was RMB663.2 million, RMB658.8 million and RMB578.7 million (US$90.8 million) in 2019, 2020 and 2021, respectively.

 

In December 2018, we introduced our collaboration model under which our sales partners recommend borrowers to us by direct cooperation with us or joining limited partnerships. Sales partners contribute an amount equal to 10% to 25% of the loans issued to the borrowers introduced by them and will receive incentive fees upon a pre-agreed schedule and other conditions. As of the date of this annual report, we have around 1,999 contracted sales partners in total, among which around 1,267 are effective sales partners.

 

To a lesser extent, we also had a direct lending model through which we lend directly under our small loan licenses to borrowers with our own funding or funding we acquire from transfer of rights to earnings in loans principal, interest and financing service fee receivables to third parties with a repurchase arrangement.

 

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For details of our repurchase agreements with third parties under both the trust lending and direct lending models, please refer to “—Our Funding Model—Funding Sources” and “—Small Loan Direct Lending.” We generally rely on and will continue to rely primarily on our trust lending model, which is supplemented with our direct lending model.

 

In order to expand our financing channels, we launched in 2021 a new funding model in cooperation with commercial banks, under which our commercial bank partners are responsible for reviewing and approving the loan while we charge a service fee for our loan facilitation services. We remain the ultimate risk bearer under this funding model as we are obliged to ultimately repurchase any defaulted loans. For details, please refer to “— Our Funding Model— Commercial Bank Partnership.”

 

We acquire our borrowers primarily through our sales partners. In 2019, 2020 and 2021, over 99.5% of our borrowers were introduced to us by our sales partners under the collaboration model. For details, please refer to “—Collaboration Model.” Through our sales partners and our established network and branch offices, we reach prospective MSE borrowers and assess their creditworthiness and collateral. If these borrowers meet our requirements, we refer them to our trust company partners who make their own independent credit assessment and decisions before directly lending to qualified borrowers. We help trust company partners sign loan agreements with borrowers directly, and assist borrowers in pledging collateral for the benefit of trust company partners. We are designated as the service provider and provide post-loan services such as payment monitoring, debt collection and release of collateral as the need arises. We provide top-up arrangement to trust plans associated with our subscription of subordinated units. Under this arrangement, we are required to manage the NPLs by repurchasing or replacing NPLs, or providing additional funding sufficient to cover outstanding principal and interests of NPLs. We receive a performance-based service fee up to 8% per annum of the size of the trust plan charged to the trust plans for the services we provide.

 

Our total operating income decreased from RMB1,614.7 million in 2019 to RMB887.9 million in 2020, representing a decrease of 45.0%, and decreased to RMB196.5 million in 2021, representing a decrease of 77.9%. Our net income decreased from RMB534.6 million in 2019 to RMB114.9 million in 2020, representing a decrease of 78.5%, and decreased to RMB65.2 million in 2021, representing a decrease of 43.3%.

 

Transaction Overview

 

We provide a convenient and user-friendly transaction process, which is implemented through our standardized home equity loan application procedures across our local offices. Our standardized transaction process under trust lending model is illustrated below.

 

 

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Step 1: Sales partners recommend borrowers for loan application

 

The transaction process begins with the submission of a loan application by a prospective borrower introduced by a sales partner either online or at one of our local offices. The application asks for information such as the borrower’s identity card information, contact, business and prospective collateral. The applicant typically also consents to access to his or her credit report generated by third parties while submitting the application.

 

Step 2: Risk assessment

 

After an application is submitted, our proprietary risk management system collects credit and valuation data from a number of internal and external sources. We and our sales partners then proceed with our risk assessment involving both online and offline processes focusing on both the creditworthiness of borrowers and quality of collateral. For details, please refer to “—Risk Management—Dual-factor risk assessment with integrated online and offline processes.”

 

Step 3: Credit decisioning

 

Once we have performed rigorous risk assessments on both applicant and collateral, we recommend qualified applicants with suggested loan principal amount to our trust company partners who proactively conduct their own independent credit assessment and make credit decisions on the loan applications we recommend. Specifically, our trust company partners are independently responsible for, reviewing loan applications and verifying applicants’ personal, business and collateral information collected by us through various procedures. Our trust company partners are responsible for approving the loan application.

 

Step 4: Credit extension

 

Our trust company partners will make the credit decision based on its own credit assessment. We will notify the applicants once we receive approvals from our trust company partners. We then assist the borrowers in signing loan agreements with the trust companies.

 

Step 5: Collateral pledge and CRMP collection

 

As part of our services, we help the trust companies set up security interests on the collateral by assisting with relevant documentation and registering security interests with local real property bureau. Once the process of collateral pledge is completed, sales partners will need to submit CRMP for underlying loans.

 

Step 6: Loan disbursement

 

Our trust company partners sign loan agreements and confirm receipt of relevant title documents and perfected security interests before disbursement of loan proceeds to the borrowers’ bank accounts. Funding occurs promptly after the documentary conditions precedent to the settlement are fulfilled.

 

Step 7: Post-loan management process

 

We are also designated as the service provider and provide post-loan management services to our trust company partners, including assist them in monitoring repayment activities and collateral status and performing debt collection in an event of default on behalf of the trust companies. For details, please refer to “—Risk Management—Effective post-loan management procedures.” Once the loans are fully paid off, we assist the trust company partners release the collateral.

 

Our Borrowers

 

Borrower Base

 

We strategically target MSE owners who own properties in Tier 1 and Tier 2 and other major cities in China. These MSE owners typically have quick cash flow turnover from their business operations with high demand for working capital. MSE owners often also have financing needs that are unpredictable, time-sensitive and frequent. We believe target borrowers are underserved by traditional financial institutions, whose often stringent and inflexible loan application requirements that are designed for large corporations make it difficult for MSE owners to fulfill. In addition, time-consuming and cumbersome requirements often limit MSE owners’ ability to meet their imminent financing need.

 

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In addition, unlike in the United States where home equity loans serve as a common financing alternative, traditional lenders in China such as banks typically do not grant loans secured by second lien interests. Providing second lien home equity loans or title loans is limited for commercial banks in China, given the high level of regulatory supervision from relevant regulatory authorities. These products have instead been developed by non-traditional financial institutions like us to fulfill the unserved demand.

 

We originated home equity loans for 12,790, 17,703 and 22,060 borrowers in 2019, 2020 and 2021, respectively. Our borrowers have presence in over 70 Tier 1 and Tier 2 and other major cities in China and are geographically dispersed.

 

Borrower Acquisition

 

Under the Collaboration Model, we acquire our borrowers primarily through our sales partners. In 2019, 2020 and 2021, over 99.5% of our borrowers were introduced to us by our sales partners under the collaboration model. For details, please refer to “—Collaboration Model.”

 

Under our partnership with commercial banks, borrowers are engaged through our local offices and word-of-mouth marketing. Our local staff works with various local resources. We align the incentive of our local staff by offering a commission equal to a pre-determined fixed rate of the loan origination amount.

 

Collaboration Model

 

We have switched to a collaboration business model since December 2018 to broaden our prospective borrower bases. Under the collaboration model, we generally require sales partners to contribute from a range of 10% to 25% of the loan principal they introduced (such contribution, the “CRMP”). The percentage of loan principal as the CRMP charged to sales partners is mainly determined based on the sales partner’s business scale, risk control capabilities and liquidity of funds investigated by us through market research and multiple negotiations with the local loan practitioners’ association in various cities in China, including four Tier 1 cities, key cities in the Pearl River Delta and the Yangtze River Delta. As of the date of this annual report, we have around 1,999 contracted sales partners in total, among which around 1,267 are effective sales partners.

 

Under such collaboration model, we will pay incentive fees, or collaboration cost, to each sales partner upon a pre-agreed schedule and conditions, which will be re-distributed to the sales partners. The collaboration cost we pay to sales partners is an agreed percentage of the loan principal amount, calculated by subtracting the project cost from interest and fees income received from borrowers. For each loan, the project cost is agreed between us and sales partners. The project cost is typically between 10.0%-15.8% of the loan principal, and the percentage varies based on different collaboration model types and the terms of the loan. The project cost in the loan agreement will not change once determined. The collaboration cost is settled monthly as agreed in the collaboration agreement. We only pay the incentive fee to the sales partner according to the pre-agreed schedule when the borrower repays the loan on time, in which case the sales partner is not obligated to return such incentive fee, and the collaboration costs are not subject to reimbursement.

 

In the event of loans issued to the borrowers acquired under such collaboration model are in default, the respective sales partners who introduced such borrowers will share the credit risks with us by choosing from the following options, including (i)(1) full repayment to us for the total unpaid principal and accrued and overdue interests under the respective loan agreement and acquiring respective credit rights, (i)(2) repayment in installments to us for the total unpaid principal and accrued and overdue interests under the respective loan agreement, and a payment of fund possession fee to us following a pre-determined schedule and acquiring respective credit rights under each installments; (ii) repayment to us for the unpaid principal and accrued and overdue interests under the respective loan agreement on behalf of the borrower, and if the borrower pays the payments under the loan agreement, the repayment by the sales partner on behalf of the borrower will be refunded to the sales partner; or (iii) relinquishing the respective CRMPs for such loan. Upon relinquishing its CRMPs, the sales partner is deemed to be released from its repayment obligations under the collaboration agreement.

 

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When a loan defaults, we will inform the sales partner the overdue status of the loan through the mobile app and require the sales partners to choose among the above-mentioned options to perform its repayment obligations within an agreed time table. When the sales partner selects option (i)(1), we receive the payment for purchasing the outstanding defaulted loan including all outstanding principal and the accrued and overdue interests, and we will refund the outstanding CRMPs to the sales partner. When the sales partner selects option (i)(2), it repurchases the delinquent loan by installments with the purpose to repurchase the entire outstanding principal and the accrued and overdue interests in the future. CRMPs will be refunded after entire amount of the overdue loan principal and interests are settled. When the sales partner selects option (ii), it repays the overdue loan principal and interests for the borrower according to the borrower’s repayment schedule. If borrower repays in the subsequent period, we need to return the payment from borrower to the sales partner according to the collaboration agreement. If the sales partner chooses to fulfill the repayment obligation according to option (i)(1), (i)(2) or (ii) above, it still maintains the rights to claim the collaboration cost (incentive fees) for the current period.

 

When the sales partner refuses to fulfill its repayment obligation according to option (i)(1), (i)(2) or (ii) above, and selects option (iii), CRMPs related to the defaulted loan (or all CRMPs related to the specific sales partner if the CRMPs it provides can be shared in all loans introduced under the collaboration agreement as described below) are surrendered to us. Upon the confiscation of CRMPs, the sales partner is deemed to be released from its repayment obligations under the collaboration agreement, and the sales partner can no longer claim the outstanding collaboration cost (incentive fees) of the referred loan.

 

As described above, the percentage of loan principal as the CRMP charged to sales partners is mainly determined based on the sales partner’s business scale, risk control capabilities and liquidity of funds, as elaborated below.

 

Sales partners who pay 10% of the loan principal as the CRMP are mainly loan service providers with strong risk control and management capabilities in Tier 1 and Tier 2 cities. The sales partners are required to pay a minimum CRMP upfront and the CRMP put up by these sales partners can be shared in all loans introduced, meaning that the CRMP can be used to offset all defaulting loans introduced by the sales partner. In third- and lower-tier cities, the percentage of loan principal as the CRMP charged to this type of sales partners will be raised to 15%.

 

Sales partners who pay 20% of the loan principal as the CRMP are mainly individual and smaller-scale loan service providers in Tier 1 and Tier 2 cities. Each CRMP put up by these sales partners can only be used to offset a specific loan in default. In third- and lower-tier cities, the percentage of loan principal as the CRMP charged to this type of sales partners will be raised to 25%.

 

Sales partners enter into strategic cooperation directly with us and contribute the CRMP directly to a designated account, which is fully refundable upon repayment of the loan that the CRMP is associated with. If at any time the balance of CRMP provided by sales partners is lower than the agreed percentage of the principal amount of the loans it introduced, the sales partner is required to make up the balance reach the agreed CRMP percentage.

 

As of December 31, 2021, the percentage of options (i)(1), (i)(2), (ii) and (iii) selected by the sales partners on defaulting loans accounted for 19.0%, 59.8%, 15.2% and 6.0% respectively. As of December 31, 2020, the percentage of options (i)(1), (i)(2), (ii) and (iii) selected by the sales partners on defaulting loans accounted for 12.0%, 50.8%, 35.9% and 1.3% respectively. The percentage of the option selected is calculated based on the total loans principal amount (excluding any accrued interests) under each option selected by the sales partners divided by the total loans principal amount (excluding any accrued interests) under all options selected by the sales partners.

 

We believe such collaboration model will decrease our risk exposure. Since in the event that loans issued under the collaboration model are in default, the respective sales partners will share the credit risks with us by choosing from the above-mentioned options. Besides, the CRMPs from sales partners, by their nature, will also mitigate our exposure to credit losses.

 

Our Products

 

The home equity loans we facilitate permit borrowers to borrow relatively large amounts up to 70% LTV ratio. Our weighted average LTV ratio was 57.9%, 54.6% and 58.5% for home equity loans originated in 2019, 2020 and 2021, respectively. In 2019, 2020 and 2021, we originated home equity loans of RMB6.3 billion, RMB8.8 billion and RMB12.8 billion, respectively.

 

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The home equity loans we facilitate are typically secured by apartments, houses or commercial properties owned by borrowers. Unlike most commercial banks, the home equity loans we facilitate can be secured with second lien interests on top of the first lien interests with banks, offering additional financing to MSE owners not otherwise readily available to them.

 

We facilitate home equity loans with flexible tenors typically ranging from one to three years enabling borrowers’ short-term and long-term business planning. In 2019, 2020 and 2021, the average tenor of the home equity loans we originated was 22, 24 and 15 months, respectively. The slightly longer average tenor of outstanding loans in 2020 than that of 2019 is mainly attributable to the fact that borrowers we acquired in 2020 preferred loans with longer tenor with lower monthly installment since their liquidity is affected by the COVID-19 pandemic. The shorter average tenor of outstanding loans in 2021 than that of 2020 is mainly due to the fact that the majority of loans we facilitated in 2021 were short-term loans with a one-year maturity. The difference in tenor of home equity loans originated over the past three years was mainly driven by the reasons described above and not driven by type of collateral, type of borrower, credit quality or some other factors.

 

The home equity loans we originate are also competitively priced, with a weighted average contractual interest rate of 19.4%, 17.3% and 16.5% per annum in 2019, 2020 and 2021, respectively. We offer home equity loan products that allow borrowers to repay only the interests by installments and repay the full principal amount when due. In addition, we also provide home equity loan products that require monthly payments comprising principal and interests repayments, making it easier for borrowers to manage their cash flow and for us to timely monitor borrowers’ creditworthiness. Under this arrangement, the weighted average effective interest rate (inclusive of interests and financing service fees, if applicable, payable by the borrowers) of the home equity loan products we originated was 19.4%, 17.3% and 16.5% per annum in 2019, 2020 and 2021, respectively. Borrowers are obligated to pay directly to the trust plans in full the principal amount plus interest when due. We offer a flexible repayment schedule for installment loans, including but not limited to (i) an equal monthly installment comprising principal and interests evenly distributed throughout the life of the loan, (ii) a monthly installment comprising principal and interests in accordance with a pre-agreed step-down schedule, where a borrower starts with a higher equal monthly installment that decreases after a defined period and (iii) a monthly installment of interests only and full repayment of loan principal when due.

 

To foster our home equity loan business, we also provide bridge loan products, which are generally unsecured short-term loans, to pay off borrowers’ existing loans secured by real property. As a result, such real property will be released from existing loans and can be used as collateral for the home equity loans we facilitate. Once borrowers obtain home equity loans facilitated by us, the bridge loans granted by us will be repaid in full. We granted bridge loans of RMB15.2 million, RMB86.4 million and RMB71.4 million in 2019, 2020 and 2021, respectively. We may continue to originate bridge loans going forward as the need arises.

 

Our Funding Model

 

We have explored various funding models and have focused on collaboration with our trust company partners starting in 2014. To a lesser extent, we historically utilized a direct lending model through our small loan subsidiaries. In 2021, we launched a new funding model in cooperation with commercial banks to expand our financing channels. As the commercial bank partnership model currently accounts for only a very small portion of our business, the loan origination volume and outstanding loan principal under such funding model are not included in the financial tables in this annual report, unless otherwise indicated. In 2019, 2020 and 2021, 100.0%, 100.0% and 99.8%, respectively, of the total home equity loan origination volume was originated under the trust lending model.

 

The following table illustrates the breakdown of the home equity loan origination volume (excluding the loan originated under the commercial bank partnership) by funding model in the periods indicated.

 

    For the Year Ended December 31,  
    2019     2020     2021  
    Amount
(RMB in
millions)
    %
of total
    Amount
(RMB in
millions)
    %
of total
    Amount
(RMB in
millions)
    %
of total
 
Loan origination volume by funding model                                    
Trust lending     6,340       100.0 %     8,846       100.0 %     12,816       99.8 %
Direct lending           0.0 %           0.0 %     22       0.2 %
Total     6,340       100.0 %     8,846       100.0 %     12,838       100.0 %

 

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The following table illustrates our funding capital (excluding the loan originated under the commercial bank partnership) from different sources as of December 31, 2019, 2020 and 2021, respectively.

 

    As of December 31, 2021  
    2019     2020     2021  
    Amount
(RMB in
millions)
    %
of total
    Amount
(RMB in
millions)
    %
of total
    Amount
(RMB in
millions)
    %
of total
 
Funding capital by sources                                    
Trust lending                                    
Senior tranche     6,562       63.2 %     5,580       63.5 %     7,985       73.2 %
Subordinated tranche                                                
Own funds     2,875       27.7 %     2,645       30.1 %     2,874       26.4 %
Transferred to third parties     276       2.6 %     400       4.5 %     45       0.4 %
Direct lending                                                
Own funds     50       0.5 %     50       0.6 %     0       0.0 %
Transferred to third parties     627       6.0 %     117       1.3 %     0       0.0 %
Total     10,390       100.0 %     8,792       100.0 %     10,904       100.0 %

 

Trust Lending

 

In July 2014, we began cooperating with trust companies to fund loans to borrowers through trust plans established in collaboration with these trust companies. In December 2018, we have started to explore the collaboration model under which we collaborate with sales partners who introduce borrowers and receive incentives. The following chart illustrates a typical arrangement among sales partners, borrowers, trust plans, trust plan investors and us.

 

 

 

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Terms of the Trust Plans

 

Pursuant to our collaboration agreements, our trust company partners establish long-term trust plans which issue multiple trust products, ranging from one to three years. Investors in these trust plans can subscribe to the trust units, which provides them with returns as provided in the subscription agreements. Once borrowers’ loan applications submitted through us are approved by trust company partners, they enter into loan agreements with borrowers and trust plans disburse loan proceeds to borrowers directly. Borrowers are required to repay the principal, interest and other fees, if applicable, directly to the account of the trust plan, and the trust company partner as trustee of the trust plan distributes the funds to unit holders according to the trust agreements. We are designated as the service provider for these trust plans, and in this role we assist our trust company partners acquire and screen borrowers and perform credit assessment pursuant to collaboration agreements with our trust company partners. We are also responsible for providing loan facilitation and post-loan management services for service fees charged directly to the trust plans.

 

Each trust product issued under the long-term trust plan is funded with senior and subordinated units at a predetermined contractual structural leverage ratio with the upper limit of no higher than 3:1. For details, please refer to “—Funding Partners.”

 

As part of the collaboration we have with our trust company partners, we are required to subscribe to all of the subordinated units of each trust product issued under the long-term trust plans. Our cost of the subordinated units as measured by the investment amount was RMB3,150.5 million, RMB3,045.2 million and RMB2,919.4 million as of December 31, 2019, 2020 and 2021, respectively. The trust plans typically pay senior unit holders an amount that equals (i) an expected rate of investment return, which is usually paid quarterly, plus (ii) the principal amount invested, which is the prompt repayment to trust companies after borrowers made payments for the underlying loans. The expected rate of investment return is provided in the subscription agreements of the senior units, to which we are not a party. Such rate of investment return is usually determined by our trust company partners based on market conditions and presented as an estimate. If the expected rate of investment return is not met, our trust company partners are not under any contractual obligation to top up for any shortfalls while we as the subordinated unit holders are required to manage the underlying NPLs to make up the shortfalls pursuant to our credit strengthening services. For details, please refer to “—Credit Strengthening Services.” We as subordinated unit holders are paid each quarter after the quarterly payment of investment returns to senior unit holders and upon maturity after the payment of principal amounts to senior unit holders. The trust company partner is responsible for administering the trust plan and is paid a trust administrative fee.

 

We are responsible for maintaining the asset quality and receive a performance-based service fee of up to 8% per annum of the size of the trust plan for the services we provide, which decreases with the growth of percentage of NPLs in the amount of loans we facilitated. We as the subordinated unit holder also retain any residual value in trust plans after deducting (i) repayment of principal amount invested by senior unit holders, (ii) financing costs for the senior units, which primarily consist of the expected rate of return to the senior unit holders, (iii) administrative fee payments to trust companies and certain fee payments to third-party service providers (mainly depositary fees charged by the banks) and (iv) a performance-based service fee to us as service provider of up to 8% per annum of the size of the trust plan. Our financing costs for the senior units, excluding the trust administrative fees, ranged from 7.0% to 12.7% per annum of the issuance number of senior units in 2021.

 

We received performance-based fee payments of RMB760.5 million, RMB505.9 million and RMB440.1 million in 2019, 2020 and 2021, respectively. Our investment return from the subordinated units was RMB663.2 million, RMB658.8 million and RMB578.7 million (US$90.8 million) for the same periods.

 

Credit Strengthening Services

 

Historically, we provided the following services pursuant to the terms of our agreements with trust company partners:

 

credit enhancement arrangement: provide credit enhancement services for loans we facilitate, which requires us to pay outstanding loan principal and interests to trust plans upon borrowers’ default; and
     
top-up arrangement: as subordinated unit holder, top up any shortfall if payments by borrowers are less than the amount that equals (i) the agreed financing costs for the senior units and (ii) the principal amount invested by senior unit holders, so that senior unit holders receive the total amount specified under the subscription agreements.

 

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Due to recent regulatory changes, we have been working with FOTIC to implement the 2018 FOTIC Funding Arrangements, under which our historical credit enhancement and top-up arrangement are replaced with credit strengthening services. Under the 2018 FOTIC Funding Arrangements, when there is an NPL under a trust product, we, as the subordinated unit holder, are required to adopt one of the following measures to ensure sufficient capital to repay the principal amount and the agreed financing costs for the senior units, which primarily consist of expected rate of investment return to the senior unit holders:

 

purchase NPLs funded with senior units in an amount equal to the outstanding loan principal and interests;
     
purchase additional subordinated units in an amount sufficient to cover the outstanding loan principal and interests of the NPLs; or
     
replace such NPLs with non-delinquent loans or equal amount funded with our subordinated units.

 

We have implemented similar changes with respect to our collaboration agreements with other trust companies. Since March 2018, the newly established trust plans do not provide credit enhancement or top-up arrangement. The existing trust plans, however, still operates under the historical funding arrangements. For details, please refer to “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—Our historical credit enhancement arrangements to our trust company partners and current credit strengthening services to the trust plans as the subordinated unit holder might be subject to challenges by relevant regulatory authorities, and we may potentially be required to obtain licenses.”

 

Under the 2018 FOTIC Funding Arrangements, we are not required to provide credit enhancement and top-up arrangements as the loan facilitator except for current outstanding loans under the existing FOTIC trust products and loans to be granted thereunder. In return, we adopted the 2018 FOTIC Service Fee Structure, under which our service fee charged to a trust plan is performance-based and up to 8% per annum of the size of the trust plan decreases with the growth of the NPLs in the loans we facilitated.

 

Funding Partners

 

As of the date of this annual report, we have formed partnership with well-established trust companies under our trust lending model, including FOTIC, Zhonghai Trust, Zhongyuan Trust, Bairui Trust, Hunan Chasing Trust, Shaanxi International Trust, Bohai Trust, Everbright Trust, Shaanxi International Trust and National Trust. Through these collaborative partnerships, we have access to flexible funding of RMB8.0 billion sourced from the senior unit holders as of December 31, 2021. 71.4%, 69.3% and 62.1% of the loans we originated in 2019, 2020 and 2021, respectively, were funded through FOTIC, mainly due to our familiarity and long-standing relationship with FOTIC. We also work with other leading trust partners to diversify our funding sources.

 

Funding Sources

 

Our trust company partners have developed various trust plans to provide home equity loans to borrowers we acquire and recommend. For the years ended December 31, 2019, 2020 and 2021, home equity loans we facilitated under the trust lending model amounted to RMB6.3 billion, RMB8.8 billion and RMB12.8 billion, respectively. Each trust plan issues multiple trust products which are funded with senior and subordinated units at a predetermined ratio. The trust company partners may also transfer the underlying loans of trust products with repurchase arrangements to third parties at a specified annual rate of return when the original trust products become due. From May to December 2018, one trust company partner entered into contracts to transfer an aggregate amount of approximately RMB2.0 billion of loans to third-party transferees at annual rates of return of approximately 12.1% (including fees payable to the trust company partner). As of December 31, 2021, the balance of these transferred loans was nil. We subscribe to subordinated units in the trust plans through our wholly owned subsidiaries. Our financing costs for the senior units, excluding the trust administrative fees, ranged from 7.0% to 12.7% per annum of the issuance number of senior units in 2021.

 

Each trust plan sets a predetermined contractual structural leverage ratio between senior units and subordinated units. We may be required to subscribe to additional subordinated units upon request of the trustee to maintain the contractual structural leverage ratio. To date, we have not been obligated to purchase additional subordinated units under this requirement. Other than our obligation to maintain the contractual structural leverage ratio or provide credit strengthening services, which is discussed in more details under “—Credit Strengthening Services,” we are not contractually obligated to provide additional funding. There are no exceptions or reliefs available to the aforementioned additional funding obligation.

 

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We fund our subscription of the subordinated units with (i) cash on hand and (ii) proceeds received through repurchase agreements with third parties with respect to subordinated units. Pursuant to such agreements, we transfer to third parties our rights to earnings in subordinated units up to an agreed investment return for a transfer price and are obligated to repurchase such right at a fixed repurchase price. Under such agreements, we continue to bear the risk of loss on the subordinated units and enjoy the upside on any return above the agreed investment return. The terms of our repurchase agreements may vary, such as obligating us to pay an expected investment return each quarter and the principal amount on or before the maturity date or requiring us to pay a lump sum amount within a specified period of time (generally within 360 days). In 2019, 2020 and 2021, we transferred our rights to earnings in subordinated units to a private equity fund and to certain third parties.

 

We utilize multiple funding sources to support our business, some of which may be subject to challenges by regulatory authorities from time to time under the evolving legal environment. For details, please refer to “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—Some of our funding sources are highly regulated and are subject to the changing regulatory environment. If any of the funding sources is deemed to violate the PRC laws and regulations, we may need to secure new funding, failure of which may result in a material and adverse impact on our business, financial condition, results of operations and prospects.”

 

Matching of Terms of Funding Sources and Loans

 

We forecast our cash flows each month to determine our use and need of cash for the next month and take into account the amount of loans becoming due, amount of trust products becoming due and target size of loan products to be facilitated. When our monthly cash flow forecasts indicate a need for additional funding to ensure the matching of terms of funding sources and loans, we coordinate with our trust company partners to acquire additional funding through the transfer of loans with repurchase arrangements or through other permitted means, such as bridge loans.

 

Under our trust lending model, once a trust product matures, the trustee strives to repay the expected rate of investment return and principal to the senior unit holders. Under our previous credit strengthening services, we were required to make up for any shortfalls if the proceeds from loans were less than the principal amount invested by the senior unit holders and the agreed financing costs for the senior units, which primarily consist of the expected rate of investment return to the senior unit holders. We ceased to provide such credit strengthening services since March 2018. The trust products set up under long-term trust plans usually have a term of one to three years. The loans we facilitate have tenors typically ranging from one to three years. Historically, majority of the loans we facilitated were repaid within the first two years.

 

As of December 31, 2019, 2020 and 2021, the balance of loans that exceeded the terms of the underlying trust products was RMB89.8 million, nil and nil, respectively, as measured by the amount of senior units whose outstanding terms are shorter than the remaining tenor of the underlying loans.

 

To strengthen the matching of terms of loans and funding sources, FOTIC has implemented the 2017 FOTIC Loan Agreement, which gives FOTIC an option to demand repayment of outstanding loan principal and unpaid accrued interests before the maturity of the underlying trust funding. Such an option is clearly explained to the borrowers at the outset. Since 2018, FOTIC and our other trust partners have also modified their collaboration with us, which ensures that there is no duration mismatch for new loans entered into under the new model. With this arrangement, maturity of the trust products should generally match the terms of loans granted thereunder. We do not believe such arrangement will have material adverse effect on our business or results of operations. For details, please refer to “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—We have a limited operating history and our business practice continues to evolve, which makes it difficult to evaluate our future prospects.”

 

Our trust company partners have also implemented the pass-through repayment method in certain of the trust plans to help resolve the duration mismatch. Under the pass-through repayment method, loan repayment proceeds are usually distributed to the senior unit holders on a monthly basis to repay both the financing costs for the senior units and the principal amount invested by the senior unit holders after deducting relevant fees. Under the pass-through repayment method, the principal amount invested in the trust products is repaid as the underlying loans are repaid. As a result, terms of the underlying trust funding generally match tenor of the loans.

 

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Small Loan Direct Lending

 

Historically, we supplement our trust lending model with direct lending by our small loan subsidiaries in Beijing, Shenzhen and Chongqing. Our subsidiaries typically enter into loan agreements that are secured by real property and have similar terms to home equity loans we facilitate under the trust lending model. We enter into loan agreements with borrowers directly. We finance our direct lending business with our own funds or funds we receive from third parties by transferring our rights in the loans together with a repurchase arrangement.

 

Small loan direct lending business in China requires a license granted by local regulatory authorities and is subject to leverage constraints. Our three small loan subsidiaries in Beijing, Shenzhen and Chongqing have relevant licenses to conduct direct lending business since 2012, 2012 and 2011, respectively. Subject to various regulations, some of our direct lending business is limited to certain regions for which we have a license to engage in such business. Due to regulatory financing/net capital ratio constraints and for liquidity reasons, we expect that direct lending will remain a fairly limited and immaterial part of our business in the near future. For the years ended December 31, 2019, 2020 and 2021, our loan origination volume through direct lending was nil, nil and 22 million respectively. The balances of the borrowings that were funded by third parties for the small loan direct lending business were RMB37.5 million, RMB9.3 million and nil as of December 31, 2019, 2020 and 2021, respectively.

 

Commercial Bank Partnership

 

In order to expand our financing channels, we launched in 2021 a new funding model in cooperation with commercial banks, under which our commercial bank partners are responsible for reviewing and approving the loan while we charge a service fee for our loan facilitation services. Under this new funding model, we work with a guarantor company and provide matching services to our commercial bank partners for small and micro enterprises borrowers who seek business loans in exchange for real estate properties as collateral. The borrowers are obliged to mortgage their real estate properties to the commercial bank partner as collateral, while the guarantor is obliged to provide the guarantee deposit and be responsible for preliminary review of the borrower, other pre-loan inspections and forward transfer services of past due loans as credit enhancement. Before making any decision, each of our commercial bank partner, the guarantor and ourselves will conduct a risk assessment of the borrower and the commercial bank partner holds the ultimate power to approve or reject a borrower. Once the loan is successfully granted by the commercial bank, we will receive a service fee and the guarantor company will receive a guarantee fee based on a pre-determined schedule. We remain the ultimate risk bearer by being obliged to ultimately repurchase any defaulted loans. See “Risk Factors – Risks Related to Our Business – If we are unable to achieve low delinquency ratio for loans originated by us, our business and results of operations may be materially and adversely affected.” and “Risk Factors – Risks Related to Our Business – If our or our trust company partners’ or our commercial bank partners’ risk management system fails to perform effectively, such failure may materially and adversely impact our operating results.”

 

The loan origination volume in 2021 under this new funding model with commercial banks was approximately RMB41.6 million and the outstanding loan principal at the end of 2021 was RMB31.3 million. As the commercial bank partnership currently accounts for only a very small portion of our business, the loan origination volume and outstanding loan principal under such funding model are not included in the financial tables in this annual report, unless otherwise indicated.

 

Our standardized transaction process under this new funding model is illustrated below.

 

Step 1: Borrower assessment

 

After obtaining the list of qualified borrowers, we first perform due diligence on such borrowers and then share those customer information with the guarantor company we work with for its own risk assessment.

 

Step 2: Loan application referral

 

After passing the guarantor’s risk assessment, the borrower will be introduced to our commercial bank partner. Such commercial bank partner will perform its own risk assessment and the borrower may be rejected even if the borrower passed the previous risk assessment by the guarantor.

 

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Step 3: Credit decision shared through internal system

 

After the loan is either approved or rejected by the commercial bank partner, the information will be timely reflected back to the guarantor and us through internal systems for further actions and services.

 

Step 4: Guarantee Agreement

 

If the commercial bank partner decides to grant a loan, it will inform the guarantor to issue a guarantee agreement indicating that the guarantor is obliged to provide post-origination services and take legal responsibilities of any accidents that may happen relating to the borrower, including default risks. Additionally, for security purposes, the guarantor is obliged to provide a guarantee deposit as illustrated in Step 7 below.

 

Step 5: Pledging collaterals

 

Before releasing the loan to the borrower, the commercial bank partner entrusts the guarantor to assist the borrower completing the process of mortgaging their real estate properties, notarizing the loan contracts and obtaining encumbrance certificates. The guarantor is then obliged to send these documents directly back to the commercial bank partner.

 

Step 6: Loan agreement

 

After receiving the documents mentioned in Step 5, the commercial bank partner will proceed to the contract-signing process with the borrower.

 

Step 7: Guarantee deposit

 

After receiving all the required legal documents and signing the loan agreement, the commercial bank partner releases the loan to the borrower. For security purposes, the guarantor is obliged to pay a fixed percentage of total remaining loan balance as guarantee deposit to the commercial bank partner.

 

Step 8: Service fee

 

We will receive facilitation service fee for our loan facilitation services. Under different collaboration arrangements, the borrower could pay such service fee directly to us on the due date of each installment or submit both the service fee and installment to the commercial bank and the commercial bank will disburse such service fee to us.

 

Step 9: Repayment of loan principal and interest

 

The borrower repays all principal and interest directly to the commercial bank partner. After the borrower settles the principal and interest of the loan in advance or at maturity, the commercial bank partner will issue a settlement report, and the borrower can apply for collateral release with the assistance from the guarantor. The guarantor can confirm this information with the commercial bank partner and the commercial bank partner will issue the required documents to release the collateral. These legal documents will be delivered to us within 3 business days from the date when the borrower applies to release the collateral, and the guarantor and we are responsible for the releasing process.

 

Business Infrastructure

 

Since our inception, we have strategically developed a network of branches and sub-branches in over 50 cities in China. Specifically, we have carefully selected the geographic location of our offices with 14 branches and sub-branches in the Pearl River Delta region, 7 branches and sub-branches in the Yangtze River Delta region, and 42 branches and sub-branches in other areas. We prioritize expanding into cities that have stable housing market synergetic to our established network.

 

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In practice, regulatory regime on property-backed loans and mortgages may differ from region to region. Experiences of interacting with regulatory authorities in different regions need to be acquired through long-time business practice. Under the current regulatory framework, it is crucial for home equity loan service providers to have local knowledge and resources. Benefiting from our extensive network, we have developed deep local knowledge and resources throughout the loan service process from loan origination to security interest perfection, and to debt collection. Our local team works closely with local authorities and has gained recognition for our business operations and established good working relationships with them.

 

We have also developed a cooperative relationship with our experienced sales partners who work with local real estate brokers and banks who cannot accommodate second lien collateral to acquire high-quality borrowers.

 

Risk Management

 

As a core component of our sustainable business model, we have developed a rigorous and robust risk management system. We focus on assessing both credit risks of borrowers and quality of collateral with our integrated online and offline processes. Our risk management system helps assist our trust company partners perform their own independent credit assessment. As of December 31, 2021, we had 443 employees in our risk management team. We impose strict guidelines on loan approvals and separation of loan approval and risk management. The loans we originated are divided into different categories by amount and are reviewed by various levels of seniority.

 

Our risk management is based on our institutional knowledge and is well tested and evidenced by historical performance and based on our product design, dual-factor risk assessment and effective post-loan management procedures. As of December 31, 2019, 2020 and 2021, the NPL ratio was 13.7%, 11.7% and 9.4%, respectively.

 

Credit risk mitigation embedded in product design

 

The home equity loans we facilitate primarily take real properties located in Tier 1 and Tier 2 and other major cities as collateral. Our loan portfolio spreads over 70 cities across China. We believe that such geographic diversification better protects us against deterioration of local housing and economic conditions. To further limit credit risk, we devoted to control home equity loans up to 70% LTV ratio with weighted average LTV ratio of 57.9%, 54.6% and 58.5% for home equity loans originated in 2019, 2020 and 2021, respectively, to ensure recovery in the event of borrower default. The LTV ratio varies for different types of real properties and is also adjusted pursuant to a borrower’s credit history and quality of the collateral and may be lowered in the event of a past default.

 

We offer home equity loan products that allow borrowers to repay only the interests by installments and repay the full principal amount when due. In addition, we also provide home equity loan products that require monthly payments comprising principal and interests repayments. This strategic design allows us to timely monitor borrowers’ creditworthiness and initiate collection process at an early stage. We review a borrower’s monthly cash flow to determine the tenor of the loan. Borrowers with stronger cash flow will have the option of shorter tenors, which may require larger payment on each installment. Borrowers with weaker cash flow are usually encouraged to take loans of longer tenor, so as to lower the amount of each installment. We may also require deposit payment for borrowers with past default. In addition, the maximum tenor of the loan is determined by the term of the relevant trust plan.

 

Dual-factor risk assessment with integrated online and offline process

 

We perform rigorous risk assessment on prospective borrowers and collateral in the following order:

 

Step 1: Collecting data on loan applicants

 

The first step of our borrower risk assessment process is to collect data on applicants upon approval by the borrower. This is typically done through information directly provided by applicants in our standardized application package, and information we aggregate from a number of sources, including various databases and the Credit Reference Center of the People’s Bank of China.

 

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Step 2: Verification of information collected on loan applicants

 

The second step of our borrower risk assessment process is to verify the information collected in Step 1. This is done through our offline identity authentication procedures conducted by local office staff together with corresponding sales partners, which typically consist of site visits to applicants’ residences and business premises.

 

Step 3: Valuation of proposed collateral

 

We also perform risk assessment on the proposed real property collateral. The proposed real property collateral is appraised by independent leading online property appraisers and refined by us on specifics such as liquidity value, location, neighborhood, type, facing direction, floor plan and size.

 

Step 4: Verification of collateral condition

 

We also take measures to verify the condition of proposed collateral. Local office staff together with sales partners visit the property that a loan applicant intends to pledge. As part of the collateral assessment, we cross-check the preliminary valuation provided by our appraisal company partners with local real estate agents and bank mortgage documents.

 

After obtaining the authorization from the loan applicant, we check its credit report and determine its outstanding first lien loan amount and the identity of lender to the first lien loan.

 

If our verification procedure on either a loan applicant or collateral reveals significant discrepancies from the information provided by such applicant, we will not recommend such applicant to our trust company partners.

 

We determine the loan amount permitted to grant the loan applicant based on the applicant’s credit status and collateral value. If both our trust partner and the loan applicant agree to the loan amount we advised, we will facilitate the signing of loan agreements and pledge agreement between them.

 

Step 5: Perfection of collateral

 

The last step of our collateral risk assessment process is to register the pledge over real properties under the names of trust company partners with the local real property bureau.

 

Immediately before the pledge of collateral is processed, we conduct a final lien search on the property to confirm if its lien status remains the same as previously reviewed. In the case that the lien status has not changed, we assist the borrower to pledge the collateral under the trust partner’s name. A representative from our company submits both the loan agreement and the pledge agreement to the local Housing Administration Bureau for the collateral pledge, specifying that such collateral is exclusively pledged for protection of such loan. The Housing Administration Bureau will issue a warrant that clearly states the lender and the amount of the mortgage.

 

After successfully receiving the “deposit receipt” issued by the Housing Administration Bureau, we transfer the receipt to our trust partner and inform the trust partner to release the loan to the borrower. Borrowers are obligated to return loan proceeds if the pledge is not successfully registered under extreme circumstances.

 

Judicial foreclosure of the collateral

 

We usually suggest our trust partners pursue foreclosure for loans more than 90 days past due. In 2019, 2020 and 2021, 21.1%, 7.4% and 3.3% of the delinquent loans the Company facilitated entered into foreclosure process, respectively. The amount where the foreclosure was ultimately concluded was RMB223.8 million, RMB114.5 million and RMB108.2 million in 2019, 2020 and 2021, respectively, among which RMB18.0 million, RMB6.1 million and RMB4.1 million had additional losses beyond what was already recorded in the allowance for credit losses in 2019, 2020 and 2021, respectively. The amount of such additional losses was RMB3.4 million, RMB1.9 million and RMB1.5 million in 2019, 2020 and 2021, respectively.

 

In 2021, the total loan amount disposed through judicial foreclosures were RMB108.2 million, including RMB46.6 million of first lien loans and RMB61.6 million of second lien loans. We recovered a total loan amount of RMB113.3 million through judicial foreclosures in 2021, including first lien amount of RMB49.3 million and second lien amount of RMB64.0 million. The corresponding allowances in 2021 by first lien and second lien were RMB19.5 million and RMB40.4 million, respectively.

 

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According to the loan agreement, when a loan defaults, our trust partner are entitled to the full recovery of the delinquent principal, delinquent interest and penalties if any. If the proceeds from judicial disposal of the collateral is sufficient to cover the aforementioned full recovery amounts, we will obtain the amount of which may exceed the principal of the delinquent loan.

 

When calculating the impairment loss, we consider various expenses that may be incurred during the debt collection process, such as litigation fees, attorney fees, and other costs directly related to the collection process. The collection process to settle a past due loan generally takes one and a half to two years.

 

In 2021, the amount of loans where the Company abandoned the foreclosure process was RMB50.6 million. We abandon foreclosure when the defaulting borrower has regenerated ability to repay its debt by financing efforts or selling the collateral on its own and seeks to settle with the Company.

 

Effective post-loan management procedures

 

Under the agreements with our trust company partners, we are responsible for assisting our trust company partners in monitoring collection of overdue principal and interest, and are authorized by our trust company partners to oversee the collection process.

 

Monitoring repayments. We help our trust company partners closely monitor loan repayments. and help our sales partners closely monitor the real-time repayment status by posting them on the mobile app. Our system generates automatic payment reminders through SMSs one week before the due date. Collaborating with multiple sources of credit reference agencies, we help our trust company partners closely monitor if borrowers are involved in any new litigations.

 

Monitoring collateral status. We help our trust company partners selectively conduct searches against real property collateral depending on principal amount outstanding and nature and location of collateral. Such searches are supplemented with online revaluation of collateral through our appraisal company partners and the search results will be shared real-time with sales partners through the mobile app.

 

Debt collection. In an event of default, we help our trust company partners utilize different collection measures with our integrated online and offline process, and with the assistance of our sales partners.

 

Within three to five business days past due, we and our sales partners will contact defaulting borrowers through SMSs or by phone to understand reasons for the nonpayment and inform them of past-due penalties.
     
After a loan is past due for over six days, we and our sales partners will arrange a site visit to further assess the situation. If agreeable with the defaulting borrower, we will arrange for quick disposal plans, or disposal of collateral voluntarily by the borrower and repay the defaulted loans with the proceeds. Meanwhile, we will conduct an online judgment search against the defaulting borrowers and a lien search against the collateral. Once payment is 20 days past due, we will assist the trust partner to start preparing documents and materials for arbitration. Once payment is 30 days past due, we will assist the trust partner to initiate judicial proceedings against the defaulting borrower and inform the relevant sales partners of the situation. Once payment is 30 to 90 days past due, we and our sales partners will continue the collecting efforts, including initiating private negotiations with the borrower and requesting the borrower to repay the loan through self-raising of money or voluntary sale of the collateral, transferring the defaulted loans to the third parties, and move forward with the arbitration process.
     
Typically, when payment is over 60 days past due, we will keep the sales partners informed and the sales partners shall choose from the following options, including (i)(1) full repayment to us for the total unpaid principal and accrued and overdue interests under the respective loan agreement on behalf of the borrower and acquiring respective credit rights, (i)(2) repayment in installments to us for the total unpaid principal and accrued and overdue interests under the respective loan agreement on behalf of the borrower and acquiring respective credit rights under each installments (this option was introduced since the first quarter in 2020 recognizing the fact that the sales partners’ cash flow may be affected by the COVID-19 pandemic and may need to make repayment to us in installments); (ii) repayment to us for the unpaid principal and accrued and overdue interests under the respective loan agreement on behalf of the borrower, and if the borrower pays the payments under the loan agreement, the repayment by the sales partner on behalf of the borrower will be refunded to the sales partner; or (iii) relinquishing the respective CRMPs for such loan. If the sales partners do not choose to fully repay us as mentioned in (i) and (ii) above, we will confiscate the CRMP corresponding to the loan in default. Meanwhile, we will continue the collecting efforts and move forward with the judicial process or quick disposal plans. As of December 31, 2021, for all of the loans with payment over 60 days past due, our sales partners have either fulfilled or are in the process of fulfilling their obligations under our agreements with them.

 

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We have implemented detailed debt collection guidance and code of conduct for our local staff to ensure our debt collection methods are ethical and in compliance with laws and regulations, and we share such materials with our sales partners for them to adjust their debt collection procedures accordingly. We recovered loan principal, interest and penalties which equal to 100.1%, 102.4% and 83.3% of the actual outstanding loan principal of these delinquent loans in 2019, 2020 and 2021, respectively.

 

Transferring default loans to third parties is one of our loan recovery methods. If sales partners choose to fulfill their obligations to provide guarantee for the loans they introduced by repurchasing the delinquent loans according to the collaboration agreements signed between us and the sales partners, we would assist the trust partner to fully transfer the outstanding loan and related rights to the collateral to the sales partners at current market fair value. Under the circumstances of selling delinquent loans to local investment asset management companies, experienced law firms or other entities, our post-loan department conducts a final check to determine the probability of recovering those loans by other collecting methods in shorter time before making the final decision on whether to sell those loans to a third party.

 

Collateral

 

The borrowers pledge their real properties to our trust company partners in the case of trust lending and to our small loan subsidiaries in case of direct lending. We have developed detailed guidelines for real property collateral. The LTV ratios are also adjusted based on the type of property (residential or commercial), floor plan, age and credit history of property owners. As of December 31, 2021, the updated LTV as of the most recent balance sheet date was 56.0%, with 45.7% for the first lien loans and 58.6% for the second lien loans, which is calculated by the percentage of outstanding loan principal of the re-appraised collateral value as of December 31, 2021. In the circumstances where we are facilitating the second lien loans, we have to obtain a prior authorization from the borrower before it checks the borrower’s credit status for the updated first lien balance, which is not practical in daily operation. Therefore, we use outstanding first lien balance at origination in the above calculation.

 

The following table illustrates the weighted average LTV ratio of all home equity loans we originated for the periods or as of the dates indicated, and a breakdown by collateral type.

 

    For the Year Ended December 31,  
    2019     2020     2021  
Weighted average LTV ratio by collateral type                  
First lien                  
Apartment     56.0 %     54.7 %     55.6 %
House     47.9 %     44.4 %     44.1 %
Commercial property     43.9 %     40.7 %     36.6 %
Total     54.8 %     53.8 %     54.9 %
                         
Second lien                        
Apartment     60.8 %     59.8 %     61.4 %
House     50.0 %     45.9 %     48.9 %
Commercial property     45.5 %     50.9 %     49.4 %
Total     60.2 %     58.8 %     60.8 %
                         
Total     57.9 %     54.6 %     58.5 %

 

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The following table illustrates distribution of our outstanding loan principal (excluding loans held for sale) by city tier as of December 31, 2019, 2020 and 2021, respectively.

 

    As of December 31,
    2019     2020     2021  
   

Amount
(RMB in
millions) 

   

%

of total 

   

Amount
(RMB in
millions) 

   

%

of total 

   

Amount
(RMB in
millions) 

   

%

of total 

 
Outstanding loan principal (excluding loans held for sale) by collateral city tier                                    
Tier 1     2,611       24.5 %     2,202       24.4 %     2,851       30.3 %
Tier 2     7,344       68.8 %     6,080       67.2 %     5,992       63.7 %
Others     712       6.7 %     760       8.4 %     565       6.0 %
Total     10,667       100.0 %     9,042       100.0 %     9,408       100.0 %

 

The process for updating collateral values during the period the loan is held includes the following: (i) regular review and reappraisal of collateral value based on the data from multiple external online appraisal firms; (ii) if the difference between the reappraised value and the value at origination exceeds 20%, we will determine whether such difference is due to regional market fluctuations and accept such reappraised value if the difference is determined to result from regional market fluctuations, and (iii) if the value difference is determined to be isolated from regional market fluctuations, we will check with recognized housing agent companies for the latest market sales price for properties with similar conditions such as locations, floorplans and ages, and use the average value of such similar properties as the ultimate reappraised value of the collateral.

 

The following table illustrates the breakdown of our home equity loan origination volume originated by first lien and second lien in the periods indicated.

 

    For the Year Ended December 31,  
    2019     2020     2021  
    Amount     %
of total
    Amount     %
of total
    Amount     %
of total
 
    (RMB in millions)  
Loan origination volume by first/second lien                                    
First lien     2,764       43.6 %     3,864       43.7 %     5,065       39.5 %
Second lien     3,576       56.4 %     4,982       56.3 %     7,773       60.5 %
Total     6,340       100.0 %     8,846       100.0 %     12,838       100.0 %

 

The following table illustrates distribution of our outstanding loan principal (excluding loans held for sale) generated by first lien and second lien in the periods indicated.

 

    As of December 31,  
    2019     2020     2021  
    Amount     %
of total
    Amount     %
of total
    Amount     %
of total
 
    (RMB in millions)  
Outstanding loan principal (excluding loans held for sale) by first/second lien                                    
First lien     4,360       40.9 %     3,874       42.8 %     3,513       37.3 %
Second lien     6,308       59.1 %     5,168       57.2 %     5,895       62.7 %
Total     10,668       100.0 %     9,042       100.0 %     9,408       100.0 %

  

The percentage of loans originated by first lien decreased from 43.7% for the year 2020 to 39.5% for the year 2021, while the percentage of outstanding loan principal generated by first lien decreased from 43.4% for the year 2020 to 37.3% for the year 2021.

 

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In 2020, the Company revised its charge-off policy. Upon the revision, the Company considers loans principal, interest and financial service fee receivables of loans that are 180 days past due uncollectable and the balance shall be charged down to net realizable value (fair value of collaterals, less estimated cost to sell), unless such loans are well-secured and already in the process of re-collection. The tables below illustrate the amount of loans (excluding loans held for sale) subject to the collaboration agreements by types of underlying collateral and by first lien and second lien as of December 31, 2019, 2020 and 2021, respectively, and the 2020 and 2021 results are presented based on the revised charge-off policy, while the 2019 results are presented on the basis prior to the revision:

 

    As of December 31, 2021
    (RMB in thousands)
Loans principal (excluding loans held for sale)   The
traditional
facilitation
model
    The
collaboration
 model
    Total  
                   
First lien                  
Apartment     35,250       3,264,112       3,299,362  
House     1,552       126,960       128,512  
Commercial property     4,550       80,301       84,851  
Total     41,352       3,471,373       3,512,725  
                         
Second lien                        
Apartment     34,236       5,569,525       5,603,761  
House     4,038       239,387       243,425  
Commercial property     1,084       47,348       48,432  
Total     39,358       5,856,260       5,895,618  
                         
Total     80,710       9,327,633       9,408,343  

 

    As of December 31, 2020  
    (RMB in thousands)  
Loans principal (excluding loans held for sale)   The
traditional
facilitation
model
    The
collaboration
model
    Total  
                   
First lien                  
Apartment     614,819       2,850,699       3,465,518  
House     18,172       144,707       162,879  
Commercial property     120,283       124,968       245,251  
Total     753,274       3,120,374       3,873,648  
                         
Second lien                        
Apartment     872,112       3,964,981       4,837,093  
House     56,476       174,230       230,706  
Commercial property     33,462       66,601       100,063  
Total     962,050       4,205,812       5,167,862  
                         
Total     1,715,324       7,326,186       9,041,510  

 

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    As of December 31, 2019  
    (RMB in thousands)  
Loans principal (excluding loans held for sale)   The
traditional
facilitation
model
    The
collaboration
model
    Total  
                   
First lien                  
Apartment     1,869,949       1,827,803       3,697,752  
House     71,965       118,405       190,370  
Commercial property     322,514       148,999       471,513  
Total     2,264,428       2,095,207       4,359,635  
                         
Second lien                        
Apartment     3,098,213       2,689,406       5,787,619  
House     221,417       158,521       379,938  
Commercial property     137,327       2,724       140,051  
Total     3,456,957       2,850,651       6,307,608  
                         
Total     5,721,385       4,945,858       10,667,243  

 

Technology

 

Our technology departments is composed of 21 employees as of December 31, 2021. We utilize our home equity loan information technology system to support our standardized credit application process. Through our information technology system, we are able to connect with third-party service providers’ systems, including credit risk evaluation systems and leading property appraisers, to automatically collect data generated from their systems. In addition, our local staff uploads information collected during the due diligence process on a timely basis to supplement external credit data and ensure efficient approval process. Furthermore, we exchange loan application and approval information through our information technology system with our trust company partners’ systems. Our sales partners could acquire borrowers, upload due diligence files, track risk assessment processes and check their incentives online using this system.

 

We collect and store user personal information, including names, phone numbers, addresses, identification information and financial information for the sole purpose of individual credit assessment. We retrieve such information with consent and have safeguards designed to protect such information. We store our data in encrypted form, which offers an additional layer of protection. We also verify data interchange with our funding partners using digital signatures, which enhances the security of such interchange. We also limit employees’ access to such information and monitor authorized access.

 

Sales and Marketing

 

We acquire borrowers primarily through our sales partners. In 2019, 2020 and 2021, over 99.5% of our borrowers were introduced to us by our sales partners under the collaboration model. For details, please refer to “—Our Borrower—Borrower Acquisition.”

 

Intellectual Property

 

We rely on a combination of patent, copyright, trademark and trade secret laws and restrictions on disclosure to protect our intellectual property rights. We have registered 17 software copyrights in China, including our proprietary loan management software and financial data analytics software. We have registered our domain name, cashchina.cn. As of December 31, 2021, we had eight registered trademarks, including our “CNFH” and company logo.

 

Despite our efforts to protect our intellectual property rights, unauthorized parties may attempt to obtain and use our intellectual property. Monitoring unauthorized use of our intellectual property is difficult and costly, and we cannot be certain that the steps we have taken will prevent misappropriation of our intellectual property. From time to time, we may have to resort to litigation to enforce our intellectual property rights, which could result in substantial costs and diversion of our resources. In addition, third parties may initiate litigation against us alleging infringement of their proprietary rights or declaring their non-infringement of our intellectual property rights. In the event of a successful claim of infringement and our failure or inability to develop non-infringing technology or license the infringed or similar technology on a timely basis, our business could be harmed. Even if we are able to license the infringed or similar technology, license fees could be substantial and may adversely affect our results of operations. See “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—Any failure to protect our own intellectual property rights could impair our brand, negatively impact our business or both” and “Item 3. Key Information—D. Risk Factors—Risks Related to Our Business—We may be sued by third parties for alleged infringement of their proprietary rights, which could harm our business.”

 

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Data Policy

 

We have adopted a strict internal data policy relating to confidential information of our borrowers and business partners, as well as our own confidential information. This policy establishes day-to-day data protection and use requirements, data and information classification, backup requirements, approval procedures and user control. This policy also specifies the manner in which data must be stored. We require each of our employees to agree in writing to abide by the data policy and protect the confidentiality of our data.

 

Competition

 

As a leader in China’s home equity loan service industry, we face competition from other national or regional home equity loan providers and home equity loan service providers, as well as from commercial banks and other traditional financial institutions. As our business continues to grow, we also face significant competition for highly skilled personnel, including management, marketing team and risk management personnel. The success of our growth strategy depends in part on our ability to retain existing personnel and recruit additional highly skilled employees.

 

Insurance

 

We provide social security insurance including pension insurance, unemployment insurance, work-related injury insurance and medical insurance for our employees. We also purchased employer’s liability insurance and additional commercial health insurance to increase insurance coverage of our employees. We do not maintain property insurance to protect our equipment and other properties essential to our business operation against risks and unexpected events. We do not maintain business interruption insurance or general third-party liability insurance, nor do we maintain product liability insurance or key-man insurance. We consider our insurance coverage sufficient and in line with market practice for our business operations in China.

 

Regulation

 

This section sets forth a summary of the most significant rules and regulations affecting our business that we operate in China.

 

As a home equity loan service provider, we facilitate loans by connecting borrowers with our trust company partners, and, to a lesser extent, we also lend directly to borrowers through our small loan subsidiaries. We have established three small loan subsidiaries in Beijing, Chongqing and Shenzhen that are permitted to operate small loan businesses.

 

Regulations Relating to Foreign Investment

 

The establishment, operation and management of companies in China is governed by the PRC Company Law, as amended in 2005, 2013, and 2018. According to the PRC Company Law, companies established in the PRC are either limited liability companies or joint stock limited liability companies. The establishment procedures, organizational form, organizational structure and rules of conduct of a wholly foreign-owned enterprise are subject to PRC Foreign Investment Law and its Implementing Regulations, that came into effect on January 1,2020, which provide that foreign investors shall not invest in the fields or industries prohibited for foreign investment access listed in the negative list, and shall comply with the conditions or requirements when investing in the restricted fields listed in the negative list, and foreign investors investing in the fields and industries not listed in the negative list are treated equally with the domestic investors. The organizational form, organizational structure, and rules of conduct of foreign-invested enterprises shall be governed by the PRC Company Law, the PRC Partnership Enterprise Law and other applicable laws.

 

On December 24, 2021, the Standing Committee of the 13th National People’s Congress issued the draft Amendment to the PRC Company Law (“draft”), which expands the scope of capital contributions to include equity and creditor’s rights. The draft improves the provisions of duties of loyalty and diligence for directors, supervisors, and senior managers, and tighten their responsibilities to maintain the Company’s capital. The draft increases the reporting obligations of related party transactions and expands the scope of related parties to include family relatives of directors, senior management and supervisors as well as units or individuals associated with them.

 

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On December 30, 2019, the MOFCOM and the State Administration for Market Regulation (“SAMR”) jointly issued the Measures for the Reporting of Foreign Investment Information (“Measures”), which came into effect on January 1, 2020, replacing the Interim Measures for the Administration of the Establishment and Change of Foreign-Invested Enterprises. The Measures provides that in terms of investing directly or indirectly in the PRC, foreign investors or foreign-invested enterprises shall submit investment information to the competent commercial authority in accordance with the Measures. The competent commercial authority shall supervise and inspect the fulfillment of information reporting obligations of foreign investors and foreign-invested enterprises. If investment information is not filed in accordance with the Measures, foreign-invested enterprises may be required to make corrections or be subject to fines.

 

Special Administrative Measures for Access of Foreign Investment (Negative List) (2021 Version)

 

The Negative List uniformly lists special administrative measures on foreign investment access such as requirements on equity interest and management. Foreign investors investing in the fields and industries not listed in the negative list are treated equally with the domestic investors. The Negative List lists the transitional period for removing or relaxing access restrictions in certain fields and industries. After the transitional period, the investment access restrictions will be cancelled or relaxed. Our business is currently not listed in the Negative List (2021 Version).

 

According to Measures for Security Review of Foreign Investment, which was promulgated by the NDRC and the Ministry of Commerce in December 2020 and has been come into effect in January 2021, the Foreign Investment Security Review Mechanism, or the Security Review mechanism, in charge of organization, coordination and guidance of foreign investment security review is thereunder established. A working mechanism office shall be established under the NDRC and led by the NDRC and the Ministry of Commerce to undertake routine work on the security review of foreign investment. According to the Security Review Mechanism, foreign investment activities falling in the scope such as important cultural products and services, important information technologies and internet products and services, important financial services, key technologies and other important fields that concern state security while obtaining the actual control over the enterprises invested in, a foreign investor or a party concerned in the PRC shall take the initiative to make a declaration to the working mechanism office prior to making the investment.

 

Regulations Relating to Small Loan

 

Under the Guiding Opinions of the CBRC and the PBOC on the Pilot Operation of Small Loan Companies which was promulgated by the CBRC and the PBOC on May 4, 2008, or the Guiding Opinions on Small Loan Companies, a small loan company is a company that specializes in operating a small loan business with investments from natural persons, legal entities or other social organizations, and which does not accept public deposits. The establishment of a small loan company is subject to the approval of the competent government authority at the provincial level. The major sources of funds for a small loan company are limited to capital paid by shareholders, donated capital and capital borrowed from up to two financial institutions. Furthermore, the balance of the capital borrowed by a small loan company from financial institutions must not exceed 50% of the net capital of such small loan company, and the interest rate and term of the borrowed capital are required to be determined by us with the banking financial institutions upon consultation, and the interest rate on the borrowed capital must be determined by using the Shanghai Interbank Offered Rate as the base rate. With respect to the grant of credit, small loan companies are required to adhere to the principle of “small sum and decentralization.” The outstanding balance of the loans granted by a small loan company to one borrower cannot exceed 5% of the net capital of such company. The interest ceiling used by a small loan company may be determined by such companies, but in no circumstance shall it exceed the restrictions prescribed by the judicatory authority, and the interest floor is 0.9 times the base interest rate published by the PBOC. Small loan companies have the flexibility to determine the specific interest rate within the range depending on market conditions. In addition, according to the Guiding Opinions on Small Loan Companies, small loan companies are required to establish and improve their corporate governance structures, the loan management systems, the financial accounting systems, the asset classification systems, the provision systems for accurate asset classification and their information disclosure systems, and such companies are required to make adequate provision for impairment losses and are required to accept public scrutiny supervision and are prohibited from carrying out illegal fund-raising in any form.

 

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On September 7, 2020, China Banking and Insurance Regulatory Commission issued the Circular of General Office of the China Banking and Insurance Regulatory Commission on Strengthening the Supervision and Administration of Micro-loan Companies, namely the Circular on Micro-loan Companies. Circular on Micro-loan Companies aims to promote the regulated and healthy development of micro-loan industry, and notifies the relevant matters as follows: (1) regulating business operations and improving service capabilities, (2) improving business management and promoting healthy development, (3) strengthening supervision and administration and rectifying the order of the industry, and (4) increasing support and creating a good environment. Accordingly, micro-loan companies are required to adhere to the principle of small amounts and dispersion, monitor the loan purposes, standardizing debt collection, etc. Furthermore, Circular on Micro-loan Companies endows the regulatory authorities the power to increase penalties upon violations of relevant laws and regulations. If the relevant laws and regulations do not contain penalty provisions or the micro-loan company in violation of laws and regulations does not reach the penalty standards, the regulatory authorities may take such regulatory measures as conducting a regulatory interview, issuing a warning letter, ordering the Company to make rectifications, circulating a notice of criticism, and recording the violations of laws and regulations into the information database of illegal business behavior.

 

Circular 141, outlines general requirements on the “cash loan” business conducted by network small loan companies, banking financial institutions and online lending information intermediaries. Circular 141 requires network small loan companies to cautiously manage their funding sources and shall not (1) engage in any illegal fundraising or absorbing public deposits, (2) sell, transfer or substantively transfer its credit assets through internet platform or any kind of local financial exchange, and (3) raise any funds through the Peer-to-Peer Lending Information Intermediaries. Funds raised by the transferring of credit assets and asset securitization shall be calculated in a consolidation manner within the balance sheet, and the ratio of total amount of fundraising and net capital shall be executed temporarily according to the local ratio. The local authorities shall not further relax the ratio of fundraising by the small loan companies.

 

Any violation of Circular 141 may result in penalties, including but not limited to suspension of operation, orders to make rectification, condemnation, revocation of license, order to cease business operation and criminal liabilities.

 

Our small loan subsidiaries are not network small loan companies, and we are not subject to the restrictions under the aforesaid regulation. But whether the relevant regulatory authorities will have a more limited explanation or make further restrictions on small loan businesses remains uncertain at this stage.

 

Implementary Measures of Small Loan Companies in Beijing

 

The Implementary Measures of the Pilot Small Loan Companies in Beijing was issued by the People’s Government of Beijing Municipality on January 4, 2009. The Interim Measures of Supervisal Regulations on Pilot Small Loan Companies of Beijing was issued by the Finance Bureau of Beijing Municipality on May 31, 2011. The key regulations of small loan companies in Beijing are as follows:

 

no single largest shareholder (including its affiliates) may hold shares that exceed 30% of total registered capital of the small loan company; any other single shareholder and its affiliates may hold shares that exceed 1% but no more than 20% of total registered capital of the small loan company; and the shareholders of the small loan company shall be natural persons, legal entities and other social organizations in China, among others. The largest shareholder shall be a local natural person, legal entity or other social organization on a county basis;

 

if a small loan company is a limited liability company, its registered capital must be at least RMB50 million; and if it is a company limited by shares, its registered capital must be at least RMB100 million. All registered capital shall be valid and legal, paid in cash and paid in full by the contributors or promotors at one time; and

 

the funds of a small loan company mainly come from the capital contributed and funds donated by shareholders as well as funds raised from no more than two banking financial institutions and other fund resources approved by the relevant authorities, and the balance of funds obtained by a small loan company from banking financial institutions may not exceed 50% of its net capital.

 

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Interim Administrative Measures of Small Loan Companies in Shenzhen

 

The Interim Administrative Measures of the Pilot Small Loan Companies of Shenzhen was issued by the People’s Government of Shenzhen Municipality on September 3, 2011. The Notice on Further Reinforcement and Regulation on Interim Guidance on Pilot Entry and Approval of the Small Loan Companies was issued by the Finance Development Service Office of Shenzhen Municipality on April 3, 2013. The Notice on the Pilot Business of Financing Innovation for Small Loan Companies in Shenzhen was issued by the People’s Government of Shenzhen Municipality Financing Development Service Office on February 20, 2014. The key regulations of small loan companies in Shenzhen are as follows:

 

if a small loan company is a limited liability company, its registered capital must be at least RMB300 million; if it is a company limited by shares, its registered capital must be at least RMB400 million;

 

the balance of funds obtained by a small loan company from external legitimate channels may not exceed 200% of its net capital the previous year;

 

the main promotor of a small loan company shall (1) have net assets no less than RMB200 million and an asset-liability ratio of no more than 65%, and, in principle, the long-term investment amount after investing in this project shall be no more than 60% of net assets (on a consolidated financial statements basis); and (2) have continuous positive earnings for three years with a total net profit of no less than RMB60 million, and the total tax contribution shall be no less than RMB18 million (on a consolidated financial statements basis);

 

enterprise, social organization or economic organization as other contributors shall be divided into two categories: (1) if the ratio of investments is 30% or more, it shall be subject to the approval process as the main promotor; and (2) if the ratio of investments is no more than 30%, it shall be subject to the following conditions: having been incorporated for more than three years with net assets no less than RMB100 million and an asset-liability ratio no more than 65%, and, in principle, the long-term investment amount after investing on this project shall be no more than 60% of net assets, having continuous positive earnings for two years with a total net profit of no less than RMB20 million, and the total tax contribution shall be no less than RMB6 million (on a consolidated financial statement basis);

 

if a foreign financial institution or small loan credit company (or other similar entity) is the main promotor, it shall be subject to the following conditions: (1) having total assets no less than RMB2 billion (on a consolidated financial statement basis); (2) having been engaged in financial business and continuously operating for no less than 10 years with sufficient analysis and research on the small loan market in China; and (3) shall obtain the approval of the financial regulation authorities as a bank financing institution;

 

the key management personnel may hold no more than 5% of shares of the small loan company, and, as a temporary restriction, no other social natural person may contribute to the small loan company;

 

the main promoter shall contribute no less than 30% of the total registered capital and shall control the Company relatively, other contribution by other entities shall be no less than 5% of the total registered capital; and

 

the equity interests of a small loan company may be transferred, but no transfer or pledge is allowed in the first three years following the incorporation of the small loan company. Equity interests held by the directors or senior managers of the small loan company shall not be transferred during the term of office. As the time expires, the transferee shall have qualifications as the transferor, and the transferee shall not transfer its shares within three years following the date of change of registration of shares.

 

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Guidance on Small Loan Companies in Chongqing

 

Guidance on Chongqing’s Promotion of Pilot Operation of Small Loan Companies was issued by the People’s Government of Chongqing Municipality on August 1, 2008. The Notice on Issues Concerning the Adjustment of Interim Measures of Chongqing Municipality for the Administration of Pilot Operation of Small Loan Companies was issued by the People’s Government of Chongqing Municipality on April 27, 2009. The Notice on Further Promoting the Development of Small Loan Companies was issued by the People’s Government of Chongqing Municipality on April 12, 2011. The Notice on Interim Supervision Regulations on Chongqing Small Loan Companies Financing Supervision was issued by Chongqing Financing Business Office on June 4, 2012. The Guidelines for the Supervision of the Establishment and Change of Chongqing Small Loan Company (Trial Implementation) was issued by the Chongqing Finance Office, and implemented on July 1st, 2013. The Notice on Adjusting Regulations of Chongqing Small Loan Company was issued by the Chongqing Finance Office on October 27, 2016. On November 15, 2019, Chongqing Local Financial Supervision Administration (CQLFSA) issued the Guideline for Disclosure of Service Information of Chongqing Small Loan Companies. On November 26, 2019, CQLFSA issued the Notice on Guiding Small Loan Companies to Reduce Loan Interest Rates. On February 17, 2020, CQLFSA issued the Notice on Guiding Small Loan Companies to Support Epidemic Prevention and Control to Provide Financial Services for the Real Economy, which was effective until June 30, 2020. The key regulations of small loan companies in Chongqing are as follows:

 

if a small loan company is a foreign investment company, its registered capital must be at least US$30 million, and the shareholding of the foreign investor must be more than 50%;

 

for small loan companies with sound corporate management and strong risk management ability, the balance of the capital borrowed from banking financial institutions can be 100% of its net capital;

 

the balance of loans granted to a single borrower by a small loan company must not exceed 10% of the net capital of the Company and the balance of credit limit granted to a single client as a group enterprise must not exceed 15% of the net capital of the small loan company;

 

support qualified small loan companies to increase their capital and shares, as well as mergers and acquisitions to enhance their capital strength; and

 

support small loan companies to list on domestic and overseas capital markets, and make good use of cross-border financing channels such as cross-border loans and overseas bond issuance under the China-Singapore (Chongqing) Strategic Interconnection Demonstration Project to obtain low-cost and long-term overseas funds.

 

Regulations Relating to Loan Facilitator

 

Circular 141 imposes several requirements on financial institutions engaged in the “cash loan” business. With respect to the loan business conducted in cooperation with third-party entities, such financial institutions must not outsource their core business function (including credit assessment and risk control) and must not accept any credit enhancement services, whether or not in a disguised form (including the commitment to taking default risks) provided by any third-party entities that lack the qualification to provide guarantee services. Such financial institutions must require and ensure that such third-party entities do not charge any interest or fees from the borrowers. We historically provided credit enhancement to our trust company partners, such arrangement with FOTIC trust plans will be limited to existing loans and loans to be issued under existing trust products under the 2018 FOTIC Funding Arrangements. We historically charged a financing service fee from the borrower under our trust lending model and small loan direct lending model, but we ceased charging such financing service fee starting from August 2017.

 

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Regulations Relating to Loans and the Interest Rate

 

Part III Contracts of Civil Code of People’s Republic of China, which became effective in January 2021, or the Contract Part, governs the formation, validity, performance, enforcement and assignment of contracts. The Contract Part requires that the interest rates charged under a loan agreement must not violate the applicable provisions of the PRC laws and regulations. In accordance with the Decision of the Supreme People’s Court on Revising the Provisions on Several Issues concerning the Application of Law in the Trial of Private Lending Cases (2nd Revisions in the year of 2020) issued by the PRC Supreme People’s Court in December 2020 and effective since January 2021, or the Revised Private Lending Judicial Interpretations, private lending refers to the act of financing among natural persons, legal persons and unincorporated organizations.

 

The revised Private Lending Judicial Interpretations required to reduce the maximum annual interest rate allowed on private lending to four times of the one-year loan prime rate (LPR). The one-year LPR refers to the one-year loan market quoted interest rate issued by the National Bank Interbank Funding Center, which was authorized by the PBOC, on the 20th of each month since August 20, 2019.

 

According to the Official Reply of the Supreme People’s Court to the Issues concerning the Scope of Application of the New Judicial Interpretation on Private Lending, The Revised Private Lending Judicial Interpretations on private lending shall not apply to disputes arising from engagement in relevant financial business by small loan companies.

 

Regulations Relating to Financing Guarantee

 

In March 2010, CBRC, NDRC, MIIT, MOFCOM, PBOC, SAIC and the Ministry of Finance of PRC promulgated the Tentative Administrative Measures for Financing Guarantee Companies. The Tentative Administrative Measures for Financing Guarantee Companies requires an entity or individual to obtain a prior approval from the relevant regulatory body to engage in the financing guarantee business and defines “financing guarantee” as an activity whereby the guarantor and the creditor, such as a financial institution in the banking sector, agree that the guarantor shall bear the guarantee obligations in the event that the secured party fails to perform its financing debt owed to the creditor.

 

In August 2017, the State Council promulgated the Regulations on the Supervision and Administration of Financing Guarantee Companies, or the Financing Guarantee Regulations, which became effective on October 1, 2017. The Financing Guarantee Regulations define “financing guarantee” as a guarantee provided for debt financing (including but not limited to the extension of loans or issuance of bonds) and set out that the establishment of a financing guarantee company or engagement in the financing guarantee business without approval may result in several penalties, including but not limited to banning, an order to cease business operation, confiscation of illegal gains, fines of up to RMB1,000,000 and criminal liabilities. The Financing Guarantee Regulations also set forth that the outstanding guarantee liabilities of a financing guarantee company shall not exceed 10 times its net assets and that the outstanding guarantee liabilities of a financing guarantee compacities of the same guaranteed party shall not exceed 10% of the net assets of the financing guarantee company, while the outstanding guarantee liabilities of a financing guarantee company in respect of the same guaranteed party and its affiliated parties shall not exceed 15% of its net assets.

 

The Supplementary Provisions stipulate that any institution, which provides services such as customer recommendation and credit evaluation for different kinds of lending institutions, shall not provide any financing guarantee services directly or in a disguised way, without approval. As for an institution which has no business license for financing guarantee business but actually engages in the financing guarantee business, the competent supervision and administration department shall ban it in accordance with the Regulation on Financing Guarantee Companies and order it to properly settle the stock business. If the institution intends to continue to engage in the financing guarantee business, it shall establish a financing guarantee company pursuant to the Regulation on Financing Guarantee Companies.

 

The Circular of the China Banking and Insurance Regulatory Commission on Issuing the Procedures for the Off-site Supervision of Financing Guarantee Companies (the Off-site Supervision Circular) was promulgated on July 14, 2020 and took effect on September 1, 2020. The Off-site Supervision Circular stipulates that financing guarantee companies should establish and implement an off-site supervision information filing system, and file the off-site supervision data and non-data information according to the requirement of regulatory authorities in time. If the financing guarantee companies do not comply with the requirement of regulatory authorities, regulatory authorities can exert penalties in compliance with relevant laws and regulations.

 

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Regulations Relating to Illegal Fundraising

 

Raising funds by entities or individuals from the general public must be conducted in strict compliance with applicable PRC laws and regulations to avoid administrative and criminal liabilities. The Notice on Relevant Issues Concerning the Penalty on Illegal Fundraising issued by the General Office of the State Council in July 2007 explicitly prohibit illegal public fundraising. The main features of illegal public fundraising include: (i) illegally soliciting and raising funds from the general public by means of issuing stocks, bonds, lotteries or other securities without obtaining the approval of relevant authorities, (ii) promising a return of interest or profits or investment returns in cash, properties or other forms within a specified period of time and (iii) using a legitimate form to disguise an unlawful purpose.

 

To further clarify the criminal charges and punishments relating to illegal public fundraising, the Supreme People’s Court promulgated the Judicial Interpretations to Issues Concerning Applications of Laws for Trial of Criminal Cases on Illegal Fundraising, or the Illegal Fundraising Judicial Interpretations, which came into force in January 2011. Decision of the Supreme People’s Court on Revising the Interpretations of the Supreme People’s Court on Certain Issues Concerning the Specific Application of Law in the Trial of Criminal Cases Involving Illegal Fund Raising came into force on March 1, 2022. The Illegal Fundraising Judicial Interpretations provides that a public fundraising will constitute a criminal offense related to “illegally soliciting deposits from the public” under the PRC Criminal Law if it meets all the following four criteria: (i) taking in funds without license of the relevant authority or under the disguise of lawful business operations; (ii) publicizing by means of Internet, media, recommendation fairs, leaflets or mobile phone text messages, or other means; (iii) promising to repay the principal and interests or make payments in forms such as currency, real objects or equities, within a certain time limit; and (iv) absorbing funds from the general public, namely unspecified people. An illegal fundraising activity can incur a fine or prosecution in the event it constitutes a criminal offense. Pursuant to the Illegal Fundraising Judicial Interpretations, an offender that is an entity will be subject to criminal liabilities if it illegally solicits deposits from the general public or illegally solicits deposits in disguised form (i) with the amount of deposits involved exceeding RMB1,000,000, (ii) with over 150 fundraising targets involved, (iii) with direct economic loss caused to fundraising targets exceeding RMB500,000, or (iv) the illegal fundraising activities have caused baneful influences to the public or have led to other severe consequences. In addition, any entity that, while knowingly aware that another party deceptively issue securities, illegally accepts deposits from the general public, issues stocks and corporate bonds without permission, practice fund-raising fraud, or carry out fund-raising criminal activities such as organizing and leading pyramid sales activities, provides publicity such as advertising to such party, shall be convicted and punished as an accomplice for committing the relevant crime. In accordance with the Opinions of the Supreme People’s Court, the Supreme People’s Procurator and the Ministry of Public Security on Several Issues concerning the Application of Law in the Illegal Fundraising Criminal Cases, the administrative proceeding for determining the nature of illegal fundraising activities is not a prerequisite procedure for the initiation of criminal proceedings concerning the crime of illegal fundraising, and the administrative departments’ failure in determining the nature of illegal fundraising activities does not affect the investigation, prosecution and trial of cases concerning the crime of illegal fundraising. According to “the Notice of the Supreme People’s Court, the Supreme People’s Procuratorate and the Ministry of Public Security on the Promulgation of Opinions on Several Issues in Handling Criminal Cases of Illegal Fundraising” issued in January 2019, the determination of the “illegality” of fundraising shall be based on the laws and regulations of the national financial management. If there are only general stipulations in the laws and regulations of the national financial management, the “illegality” could be determined in accordance with the spirit of laws and regulations and the provisions on regulatory documents such as regulations, measures, and implementation rules of the People’s Bank of China, the China Insurance Regulatory Commission, the China Securities Regulatory Commission.

 

According to Regulations on Preventing and Dealing with Illegal Fundraising, which came into effect in May 2021, illegal fundraising involves collecting funds from non-specific targets with promised principal and interest or other investment returns, without lawful permission from the State Council’s financial management departments or in violation of China’s financial management rules. Provincial-level governments should have overall responsibility for anti-illegal fundraising efforts within their respective administrative regions, and local governments should build necessary work mechanisms. Financial and non-banking payment institutions should report large-value and suspicious transactions as required, and analyze and identify related accounts having suspected association with illegal fundraising.

 

Regulations Relating to Mortgage

 

The principal regulations governing mortgage include the Part II Property Rights (including Security Rights) of Civil Code of the PRC and their respective Interpretations of the Supreme People’s Court. Under these laws and regulations, in order to create a legal and executable mortgage, the parties concerned shall conclude a written mortgage contract and complete the mortgage registration formalities with applicable real estate registration authorities. Mortgage interests shall be created at the time of registration.

 

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Under the Part II Property Rights of Civil Code of the PRC, a mortgage contract shall include, amongst others, the following terms: (1) type and amount of the secured debt; (2) term for performance of debt obligations by the debtor; (3) mortgaged property’s description, quality, quantity, condition, location, ownership or ownership of the right to use the mortgaged property; and (4) scope of the guarantee. In March 2019, the PRC Ministry of Land and Resources revised the Implementation Regulations for the Provisional Regulations on Real Estate Registration, according to which the mortgage contract is one of the required registration materials to be submitted to the real estate registration authorities.

 

Anti-money Laundering Regulations

 

The PRC Anti-money Laundering Law, which became effective in January 2007, sets forth the principal anti-money laundering requirements applicable to financial institutions as well as nonfinancial institutions with anti-money laundering obligations, including the adoption of precautionary and supervisory measures, establishment of various systems for client identification, retention of clients’ identification information and records and reports on large transactions and suspicious transactions.

 

In June, 2021, the PBOC issued the draft revision of the PRC Anti-Money Laundering Law (draft) for public comments. According to the draft of Anti-money Laundering Law, predicate acts of money laundering include not only criminal activities, but also newly include illegal activities. The draft of Anti-money Laundering Law also includes in the scope of Anti-money Laundering monitoring activities that conceal the nature of the proceeds of illegal activities and the source of their proceeds.

 

The Measures for Supervision and Administration of Anti-Money Laundering and Anti-Terrorism Financing of Financial Institutions, or the Anti-Money Laundering Measures for Financial Institutions, which became effective in April 2021, clarified that the following financial institutions duly established within the PRC territory are subjected to fulfill anti-money laundering related obligations: (a) developmental financial institution, policy banks, commercial banks, rural cooperative banks, rural credit cooperatives and village/township banks; (b) securities companies, futures companies and fund management companies; (c) insurance companies and insurance asset management companies; (d) trust companies, financial asset management companies, finance companies of enterprise groups, financial leasing companies, auto finance companies, consumer finance companies, currency brokerage companies and wealth management subsidiaries of commercial banks; and (e) other financial institutions. Besides, such obligations also apply to the non-bank payment institutions, banks card organization, fund clearing center, microcredit companies engaging in the internet microcredit lending business and the institutions engaging exchange business, funds sales business, insurance agency and brokers business. The PBOC and its branches shall carry out the supervision and administration of the financial institutions’ work with regard to the anti-money laundering and anti-terrorism financing pursuant to the relevant laws and regulations. The Anti-Money Laundering Measures for Financial Institutions require the financial institutions to draft and improve the anti-money laundering and anti-terrorism financing internal control policy, evaluate the anti-money laundering and anti-terrorism financing risks, establish the risks management mechanism according to its risks conditions and operation scale, construct anti-money laundering information system, and set up or appoint institutions equipped with qualified staff, to perform its anti-money laundering and anti-terrorism financing obligations.

 

Regulations Relating to Internet Information Security and Privacy Protection

 

Internet content in China is regulated and restricted from a state security standpoint. On December 28, 2000, the Standing Committee of the PRC National People’s Congress introduced and enacted the Decisions on Maintaining Internet Security, which was amended on August 27, 2009 and may subject violators to criminal punishment in China for any effort to: (i) use the internet to market fake and substandard products or carry out false publicity for any commodity or service; (ii) use the internet for the purpose of damaging the commercial goodwill and product reputation of any other person; (iii) use the internet for the purpose of infringing on the intellectual property of any person; (iv) use the internet for the purpose of fabricating and spreading false information that affects the trading of securities and futures or otherwise jeopardizes the financial order; or (v) create any pornographic website or webpage on the internet, providing links to pornographic websites, or disseminating pornographic books and magazines, movies, audiovisual products or images. The Ministry of Public Security has promulgated measures that prohibit use of the internet in ways which, among other things, result in a leakage of state secrets or a spread of socially destabilizing content and require internet service providers to take proper measures, including anti-virus, data backup and other related measures, and keep records of certain information about the users (including user registration information, log-in and log-out time, IP address, content and time of posts by users) for at least 60 days, and detect illegal information, stop transmission of such information and keep relevant records. If an internet information service provider violates these measures, the Ministry of Public Security and the local security bureaus may revoke its operating license and shut down its websites.

 

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PRC government authorities have enacted laws and regulations on internet use to protect personal information from any unauthorized disclosure. In December 2012, the Standing Committee of the PRC National People’s Congress promulgated the Decision on Strengthening Network Information Protection to enhance the legal protection of information security and privacy on the internet. In July 2013, the MIIT promulgated the Provisions on Protection of Personal Information of Telecommunication and Internet Users to regulate the collection and use of users’ personal information in the provision of telecommunication services and internet information services in China. Telecommunication business operators and internet service providers are required to establish their own rules for collecting and use of users’ information and cannot collect or use users’ information without their consent. Telecommunication business operators and internet service providers are prohibited from disclosing, tampering with, damaging, selling or illegally providing others with, collected personal information.

 

On November 7, 2016, the Standing Committee of the PRC National People’s Congress published Cyber Security Law of the PRC, which took effect on June 1, 2017 and requires network operators to perform certain functions related to cybersecurity protection and the strengthening of network information management. For instance, under the Cyber Security Law, network operators of key information infrastructures shall store within the territory of the PRC all the personal information and important data collected and produced within the territory of the PRC, and their purchase of network products and services that may affect national securities shall be subject to national cybersecurity review. On April 13, the Cyberspace Administration of China issued Measures for Cybersecurity Review, which took effect on June 1, 2020, to provide more detailed rules regarding cybersecurity review requirements.

 

In addition, the Guidelines to Promote the Health Growth of the Internet Finance, or the Internet Finance Guidelines, requires internet finance service providers, including online finance platforms, among other things, to improve technology security standards and safeguard customer and transaction information. The State Council, the PBOC and other relevant regulatory authorities will jointly adopt the implementing rules and technology security standards.

 

On November 28, 2019, the Secretary Bureau of the State Internet Information Office, the General Office of the MIIT, the General Office of the Ministry of Public Security, and the General Office of the SAMR issued the Identification Methods for Collection and Use of Personal Information in Violation of Laws by Applications, which enumerates the conducts to be including those with no published rules, no explicit purpose, method and scope when collecting and using personal information, collection and use of personal information without user consent, violation of “necessary principle”, collection of personal information unrelated to the services provided, and provision of personal information to others without consent, failure to provide the function of deleting or correcting personal information as required by law, or no published information for complaints and reporting methods.

 

On May 28, 2020, the National People’s Congress adopted the Civil Code, which came into effect on January 1, 2021. According to the Civil Code, the personal information of a natural person shall be protected by the law. Any organization or individual shall legally obtain such personal information of others when necessary and ensure the safety of such information, and shall not illegally collect, use, process or transmit personal information of others, or illegally purchase or sell, provide, or disclose personal information of others.

 

On June 10, 2021, the Standing Committee of the National People’s Congress adopted the Data Security Law, which took effect on September 1, 2021. The Data Security Law mainly sets forth specific provisions regarding establishing basic systems for data security management, including data classification management system, risk assessment system, monitoring and early warning system, and emergency disposal system. In addition, the Data Security Law clarifies the data security protection obligations of organizations and individuals carrying out data-related activities and implementing data security protection responsibility.

 

In August 2021, The Personal Information Protection Law was passed by the Standing Committee of the National People’s Congress and was effective from 1 November 2021.

 

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The Personal Information Protection Law is the first piece of legislation in China dedicated to the protection of personal information. It establishes individuals’ consents as the principal legal basis for processing personal information. It requires that the processing of personal information shall abide by the principles of legality, fairness, good faith, minimum necessity, openness, and transparency. There shall also be specific and reasonable purposes of processing. Individuals shall have the right to access and obtain a copy of their personal information from the processors of personal information. Individuals can also request the processors of personal information to rectify or delete their personal information, as well as to provide them with means to transfer their personal information to other processors. Processors of personal information which need to transfer personal information out of the Mainland China shall obtain separate consent from individuals, and meet certain requirements, such as passing the security assessment made by the state cyberspace authorities, obtaining the required certification, or entering into a standard contract as prescribed by the state cyberspace authorities.

 

The Personal Information Protection Law contains provisions on extraterritorial application. Foreign organizations which process personal information of individuals in PRC for the purposes of offering products or services to them, or analyzing and assessing their behaviors, shall be subject to this law. These foreign organizations shall also establish designated agencies or appoint representatives in PRC. A processor of personal information which contravenes the requirements under the Personal Information Protection Law is liable to a maximum fine of RMB50,000,000 or 5% of its annual turnover of the preceding year. Other penalties may include suspension of operation for rectification, cancellation of business permits or licenses, etc.

 

On November 14, 2021, the Cyberspace Administration of China (CAC) released the draft of Regulations on Network Data Security Management for public comments. It clarifies how network data should be categorized and provides illustrations of what would constitute important data. It requires that processors of important data (including those processing personal data of more than 1 million individuals) to comply with special obligations, which includes conducting an annual security assessment (either through a self-assessment, or by a qualified third party), and submitting the annual assessment report to the local CAC by 31 January of the following year. It requires obtaining consent from the local supervising authority for the industry concerned or the local CAC before engaging in the sharing, trading, or processing through third parties of important data. The Regulations on Network Data Security Management clarify the conditions that trigger a cybersecurity review required by the CSL, including data processing activities that affect or could affect national security.

 

Regulations Relating to Credit Reporting Business

 

The Measures for Credit Reporting Business (“Measures”) was issued by the PBOC in September 2021and was promulgated in January 2022. The Measures define “credit information” as information that “serves the financial and other activities and is used to determine individuals and enterprises credit status, and information originated from analysis and evaluation of individuals and enterprises’ credit status based on the foregoing information”. It applies to entities that carry out credit reporting business and “activities relating to credit reporting business” in China as well as such activities carried out outside China but targeting Chinese residents. It provides rules on credit reporting business and credit reporting agencies, requiring that any institution shall obtain the permission for a personal credit reporting agency from the People’s Bank of China in accordance with the law to engage in personal credit reporting business; handle the record-filing of a corporate credit reporting agency in accordance with the law to engage in corporate credit reporting business; or handle the record-filing of a credit rating agency in accordance with the law to engage in credit rating business. The Measures require financial institutions to be prohibited from cooperating with unauthorized institutions. If relevant institutions have already cooperated with unauthorized institutions, they should complete compliance rectification within 18 months from January 1, 2022.

 

Regulations on Intellectual Property Rights

 

The PRC has adopted comprehensive legislation governing intellectual property rights, including copyrights, patents, trademarks and domain names.

 

Copyright and Software Products

 

The National People’s Congress adopted the Copyright Law in 1990 and amended it in 2001, 2010 and 2020 respectively. The amended Copyright Law extends copyright protection to internet activities, products disseminated over the internet and software products. In addition, there is a voluntary registration system administered by the China Copyright Protection Center.

 

In order to further implement the Computer Software Protection Regulations promulgated by the State Council on December 20, 2001 and amended on January 30, 2013, the State Copyright Bureau issued the Computer Software Copyright Registration Procedures on February 20, 2002, which applies to software copyright registration, license contract registration and transfer contract registration.

 

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Trademarks

 

Trademarks are protected by the PRC Trademark Law adopted in 1982 and subsequently amended in 1993, 2001, 2013, and 2019 as well as the Implementation Regulation of the PRC Trademark Law adopted by the State Council in 2002 and amended on April 29, 2014. The Trademark Office under the SAIC handles trademark registrations and grants a term of 10 years to registered trademarks and another 10 years if requested upon expiry of the first or any renewed 10-year term. Trademark license agreements must be filed with the Trademark Office for record. The PRC Trademark Law has adopted a “first-to-file” principle with respect to trademark registrations. Any malicious application for trademark registration not for the purpose of use shall be rejected. Where a trademark for which a registration has been made is identical or similar to another trademark which has already been registered or been subject to a preliminary examination and approval for use on the same kind of or similar commodities or services, the application for registration of such trademark may be rejected. Any person applying for the registration of a trademark may not prejudice the existing right first obtained by others nor may any person register in advance a trademark that has already been used by another party and has already gained a “sufficient degree of reputation” through such party’s use. Trademark license agreements should be filed with the Trademark Office or its regional offices.

 

Domain Names

 

Internet domain name registration and related matters are primarily regulated by the Measures on the Administration of Domain Names for the Chinese Internet, issued by the MIIT on November 5, 2004 and effective as of December 20, 2004, which was replaced by the Measures on Administration of Internet Domain Names issued by the MIIT as of November 1, 2017 and the Implementing Rules on Registration of National Top-level Domain Names issued by China Internet Network Information Center in June, 2019. Domain name registrations are handled through domain name service agencies established under the relevant regulations, and the applicants become domain name holders upon successful registration.

 

As of December 31, 2021, we had eight registered trademarks with the Trademark Office under the State Administration for Industry and Commerce. We have 17 registered Copyright of Software Products and one registered Domain Name.

 

Regulations Relating to Employment

 

Pursuant to the Labor Law of PRC, promulgated by the NPC in July 1994, and most recently amended on December 29, 2018, or the Labor Law, and the Labor Contract Law of PRC, promulgated by the Standing Committee of the NPC in June 2007 and amended in December 2012, or the Labor Contract Law, employers must execute written employment contracts with full-time employees. If an employer fails to enter into a written employment contract with an employee within one year from the date on which the employment relationship is established, the employer must rectify the situation by entering into a written employment contract with the employee and pay the employee twice the employee’s salary for the period from the day following the lapse of one month from the date of establishment of the employment relationship to the day prior to the execution of the written employment contract. All employers must compensate their employees with wages equal to at least the local minimum wage standards. Violations of the PRC Labor Law and the Labor Contract Law may result in the imposition of fines and other administrative sanctions, and serious violations may result in criminal liabilities.

 

Enterprises in China are required by the Social Insurance Law of PRC promulgated by the Standing Committee of the NPC in October 2010, which became effective in July 2011, as most recently amended on December 29, 2018, or the Social Insurance Law, the Regulations on Management of Housing Provident Fund released by the State Council in March 2002, and most recently amended on March 24, 2019 and other related rules and regulations, to participate in certain employee benefit plans, including social insurance funds, namely a pension plan, a medical insurance plan, an unemployment insurance plan, a work-related injury insurance plan and a maternity insurance plan and a housing provident fund, and contribute to the plans or funds in amounts equal to certain percentages of salaries, including bonuses and allowances, of the employees as specified by the local government from time to time at locations where they operate their businesses or where they are located. Failure to make adequate contributions to various employee benefit plans may be subject to fines and other administrative sanctions. According to the Social Insurance Law, an employer that fails to make social insurance contributions may be ordered to rectify the noncompliance and pay the required contributions within a stipulated deadline and be subject to a late fee of 0.05% per day, as the case may be. If the employer still fails to rectify the failure to make social insurance contributions within the deadline, it may be subject to a fine ranging from one to three times the amount overdue. According to the Regulations on Management of Housing Fund, an enterprise that fails to make housing fund contributions may be ordered to rectify the noncompliance and pay the required contributions within a stipulated deadline; otherwise, an application may be made to a local court for compulsory enforcement.

 

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We have not made adequate contributions to employee benefit plans as required by applicable PRC laws and regulations. See “Item 3. Key Information—D. Risk Factors—Risks Related to Doing Business in China—Failure to make adequate contributions to various employee benefit plans as required by PRC regulations may subject us to penalties.”

 

Regulations Relating to Tax

 

Enterprise Income Tax

 

PRC enterprise income tax is calculated based on taxable income, which is determined under (i) the PRC Enterprise Income Tax Law, or the EIT Law, promulgated by the NPC and implemented in January 2008, and most recently amended on December 29, 2018, and (ii) the implementation rules to the EIT Law promulgated by the State Council and implemented in January 2008, and most recently amended on April 23, 2019. The EIT Law imposes a uniform enterprise income tax rate of 25% on all resident enterprises in the PRC, including foreign-invested enterprises and domestic enterprises, unless they are qualified for certain exceptions. According to the EIT Law and its implementation rules, the income tax rate of an enterprise that has been determined to be a high and new technology enterprise may be reduced to 15% with the approval of relevant tax authorities.

 

In addition, according to the EIT Law, enterprises registered in countries or regions outside the PRC but have their “de facto management bodies” located within China may be considered as PRC resident enterprises and are therefore subject to PRC enterprise income tax at the rate of 25% on their worldwide income. Though the implementation rules of the EIT Law define “de facto management bodies” as “establishments that carry out substantial and overall management and control over the manufacturing and business operations, personnel, accounting, properties, etc., of an enterprise,” the only detailed guidance currently available for the definition of “de facto management body” as well as the determination and administration of tax residency status of offshore incorporated enterprises are set forth in the Notice Regarding the Determination of Chinese-Controlled Overseas Incorporated Enterprises as PRC Tax Resident Enterprises on the Basis of De Facto Management Bodies, or the Circular 82, promulgated by the State Administration of Taxation (the “SAT”) in April 2009, and the Administrative Measures for Enterprise Income Tax of Chinese-Controlled Overseas Incorporated Resident Enterprises (Trial Version) issued by the SAT in July 2011, or Bulletin No. 45, which provides guidance on the administration as well as the determination of the tax residency status of a Chinese-controlled offshore incorporated enterprise, defined as an enterprise that is incorporated under the law of a foreign country or territory and that has a PRC company or PRC corporate group as its primary controlling shareholder.

 

According to Circular 82, a Chinese-controlled offshore-incorporated enterprise will be regarded as a PRC resident enterprise by virtue of having its “de facto management body” in China and will be subject to PRC enterprise income tax on its global income only if all of the following conditions are met:

 

the primary location of the day-to-day operational management and the places where they perform their duties are in the PRC;

 

decisions relating to the enterprise’s financial and human resource matters are made or are subject to approval of organizations or personnel in the PRC;

 

the enterprise’s primary assets, accounting books and records, company seals and board and shareholder resolutions are located or maintained in the PRC; and

 

50% or more of voting board members or senior executives habitually reside in the PRC.

 

Bulletin No. 45 further clarifies certain issues related to the determination of tax resident status and competent tax authorities. It also specifies that when provided with a copy of Recognition of Residential Status from a resident Chinese-controlled offshore incorporated enterprise, a payer does not need to withhold income tax when paying certain PRC-sourced income such as dividends, interest and royalties to such Chinese-controlled offshore-incorporated enterprise.

 

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Value-Added Tax and Business Tax

 

According to the Provisional Regulations on Value-added Tax, which was promulgated by the PRC State Council on December 13, 1993 and amended in November 2008, February 2016 and November 2017, and the Implementing Rules of the Provisional Regulations on Value-added Tax, which were promulgated by the MOF on December 18, 2008 and subsequently amended by the MOF and the SAT on October 28, 2011, all taxpayers selling goods, providing processing, repairing or replacement services or importing goods within the PRC must pay value-added tax.

 

Since January 1, 2012, the MOF and the SAT have implemented the VAT Pilot Plan, which imposes VAT in lieu of business tax for certain “modern service industries.” According to the implementation circulars released by the MOF and the SAT on the VAT Pilot Plan, the “modern service industries” include research, development and technology services, information technology services, cultural innovation services, logistics support, lease of corporeal properties, attestation and consulting services. According to the Notice of the Ministry of Finance and the SAT on Implementing the Pilot Program of Replacing Business Tax with Value-Added Tax in an All-round Manner which became effective on May 1, 2016, entities and individuals engaged in the sale of services, intangible assets or fixed assets within the PRC territory are required to pay value-added tax instead of business tax. Following the implementation of the VAT Pilot Plan, most of our PRC subsidiaries and affiliates have been subject to VAT, instead of business tax. From April 1, 2019, according to “The Notice on Policies for Deepening the Value-added Tax Reform” issued by the Ministry of Finance and the State Taxation Administration and the General Administration of Customs in March 2019 and “The Notice on Adjusting the Value-Added Tax Rate” issued by the Ministry of Finance and the State Taxation Administration in April 2018, most of our Chinese companies and subsidiaries used to pay a Value-added Tax rate of 3% or 6%. Under the impact of COVID-19 pandemic, the Ministry of Finance and the State Taxation Administration issued“Announcement on the Value-added Tax Policy in Support of Resumption of Work and Business among Individual Businesses” in February 2020 and “Announcement on Extending the Applicable Period of the Value-added Tax Reduction and Exemption Policy for Small-scale Taxpayers” in April 2020 to reduce the Value-added Tax rate from 3% to 1% and start to implement such policy from March 1, 2020. In March 2021, the Ministry of Finance and the State Taxation Administration further issued “Announcement on Continuously Implementing Some Tax Preferential Policies in Response to COVID-19 Epidemic” to extend the implementation of “1% Value-added Tax rate” policy to December 31, 2021.

 

Stamp Tax

 

As regulated in the Stamp Tax Law, which will come into effect on July 1, 2022, the taxable items include contracts, documents of transfer of property rights, and business account books, and the transfer of stocks and depositary receipts issued based on stocks that are traded on stock exchanges legally formed and other national securities trading venues approved by the State Council. The effect of this law will have an impact on our tax situation.

 

Regulations Relating to Foreign Exchange

 

Regulation on Foreign Currency Exchange

 

The principal regulations governing foreign currency exchange in China are the Foreign Exchange Administration Regulations, most recently amended in August 2008. Under the PRC foreign exchange regulations, payments of current account items, such as profit distributions, interest payments and trade and service-related foreign exchange transactions, can be made in foreign currencies without prior approval from SAFE by complying with certain procedural requirements. By contrast, approval from or registration with appropriate government authorities is required where RMB is to be converted into foreign currency and remitted out of China to pay capital account items, such as direct investments, repayment of foreign currency-denominated loans, repatriation of investments and investments in securities outside of China. On February 13, 2015, the SAFE promulgated the Notice on Further Simplifying and Improving the Administration of the Foreign Exchange Concerning Direct Investment, or SAFE Notice 13. After SAFE Notice 13 became effective on June 1,2015, instead of applying for approvals regarding foreign exchange registrations of foreign direct investment and overseas direct investment from SAFE, entities and individuals will be required to apply for such foreign exchange registrations from qualified banks. The qualified banks, under the supervision of the SAFE, will directly examine the applications and conduct the registration.

 

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In August 2008, SAFE issued the Circular on the Relevant Operating Issues Concerning the Improvement of the Administration of the Payment and Settlement of Foreign Currency Capital of Foreign-Invested Enterprises, or SAFE Circular 142, regulating the conversion by a foreign-invested enterprise of foreign currency-registered capital into RMB by restricting how the converted RMB may be used. SAFE Circular 142 provides that the RMB capital converted from foreign currency-registered capital of a foreign-invested enterprise may only be used for purposes within the business scope approved by the applicable government authority and may not be used for equity investments within the PRC. In addition, SAFE strengthened its oversight of the flow and use of the RMB capital converted from foreign currency-registered capital of foreign-invested enterprises. The use of such RMB capital may not be changed without SAFE’s approval, and such RMB capital may not in any case be used to repay RMB loans if the proceeds of such loans have not been used. Violations may result in severe monetary or other penalties.

 

In November 2012, SAFE promulgated the Circular of Further Improving and Adjusting Foreign Exchange Administration Policies on Foreign Direct Investment, which substantially amends and simplifies the current foreign exchange procedure. Pursuant to this circular, the opening of various special purpose foreign exchange accounts, such as pre-establishment expenses accounts, foreign exchange capital accounts and guarantee accounts, the reinvestment of RMB proceeds derived by foreign investors in the PRC and remittance of foreign exchange profits and dividends by a foreign-invested enterprise to its foreign shareholders no longer requires the approval or verification of SAFE, and multiple capital accounts for the same entity may be opened in different provinces, which was not possible previously. In addition, SAFE promulgated another circular of the State Administration of Foreign Exchange on Printing and Distributing the Administrative Provisions on Foreign Exchange in Domestic Direct Investment by Foreign Investors and Relevant Supporting Documents in May 2013, which specifies that the administration by SAFE or its local branches over direct investment by foreign investors in the PRC must be conducted by way of registration, and banks must process foreign exchange business relating to the direct investment in the PRC based on the registration information provided by SAFE and its branches.

 

On June 9, 2016, the SAFE promulgated Circular of the State Administration of Foreign Exchange on Reforming and Regulating Policies on the Control over Foreign Exchange Settlement of Capital Accounts, or Circular 16, which expands the application scope from only the capital of the foreign-invested enterprises to the capital, the foreign debt fund and the fund from overseas public offerings. Circular 16 allows that the discretionary settlement of foreign exchange receipts under capital accounts refers to the case in which the foreign exchange receipts under capital accounts (including foreign exchange capital, foreign debts, and repatriated funds raised through overseas listing) subject to discretionary settlement as expressly prescribed in the relevant policies may be settled with banks according to the actual need of domestic institutions for business operations. Where the current regulations contain any restrictive provisions on the foreign exchange settlement of foreign exchange receipts under capital accounts of domestic institutions, such provisions shall prevail. Domestic institutions may, at their discretion, settle up to 100% of foreign exchange receipts under capital accounts for the time being. The SAFE may adjust the above proportion in due time according to balance of payments. In addition, Circular 16 specifies the use of foreign exchange receipts under capital accounts of a domestic institution and the RMB funds obtained thereby from foreign exchange settlement shall be subject to the following provisions: (i) they shall not, directly or indirectly, be used for expenditure beyond the enterprise’s business scope or expenditure prohibited by laws and regulations of the State; (ii) unless otherwise specified, they shall not, directly or indirectly, be used for investments in securities or other investment than banks’ principal-secured products; (iii) they shall not be used for the granting of loans to non-affiliated enterprises, except where it is expressly permitted in the business license; and (iv) they shall not be used for the construction or purchase of real estate for purposes other than self-use (except for real estate enterprises). Where there is any contractual stipulation on the use scope of revenue under capital accounts between a domestic institution and other parties concerned, the relevant funds shall not be used beyond such scope. Unless otherwise specified, such stipulation shall not conflict with this Circular. Moreover, Circular 16 allows the enterprises to use their foreign exchange capitals under capital accounts allowed by the relevant laws and regulations.

 

In January 2017, the SAFE promulgated the Circular on Further Improving Reform of Foreign Exchange Administration and Optimizing Genuineness and Compliance Verification, or Circular 3, which stipulates several capital control measures with respect to the outbound remittance of profit from domestic entities to offshore entities, including (i) under the principle of genuine transaction, banks shall check board resolutions regarding profit distribution, the original version of tax filing records and audited financial statements; and (ii) domestic entities shall hold income to account for previous years’ losses before remitting profits. Moreover, pursuant to Circular 3, domestic entities shall make detailed explanations of the sources of capital and utilization arrangements, and provide board resolutions, contracts and other proof when completing the registration procedures in connection with an outbound investment.

 

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On October 23, 2019, SAFE issued the Circular on Further Promoting Cross-border Trade and Investment Facilitation, or SAFE Circular 28. Among others, SAFE Circular 28 relaxes the prior restrictions and allows the foreign-invested enterprises without equity investment as in their approved business scope to use their capital obtained from foreign exchange settlement to make domestic equity investment as long as the investments are real and in compliance with the foreign investment-related laws and regulations. In addition, SAFE Circular 28 stipulates that qualified enterprises in certain pilot areas may use their capital income from registered capital, foreign debt and overseas listing, for the purpose of domestic payments without providing authenticity certifications to the relevant banks in advance for those domestic payments. According to the Circular on Optimizing the Administration of Foreign Exchange to Support the Development of Foreign-related Business issued by the SAFE on April 10, 2020, eligible enterprises are allowed to make domestic payments using the income under their capital accounts generated from their capital, foreign debt and overseas listing, without providing materials for each transaction evidencing the authenticity in advance, provided that the capital usage is authentic and compliant with the current capital account income usage management regulations.

 

Regulations on Foreign Exchange Registration of Overseas Investment by PRC Residents

 

The SAFE issued the SAFE Circular on Relevant Issues Relating to Domestic Resident’s Investment and Financing and Round Trip Investment through Special Purpose Vehicles, or SAFE Circular 37, that became effective in July 2014, replacing the previous SAFE Circular 75. SAFE Circular 37 regulates foreign exchange matters in relation to the use of special purpose vehicles, or SPVs, by PRC residents or entities to seek offshore investment and financing or conduct round trip investment in China. Under SAFE Circular 37, a SPV refers to an offshore entity established or controlled, directly or indirectly, by PRC residents or entities for the purpose of seeking offshore financing or making offshore investment, using legitimate onshore or offshore assets or interests, while “round trip investment” refers to direct investment in China by PRC residents or entities through SPVs, namely, establishing foreign-invested enterprises to obtain the ownership, control rights and management rights. SAFE Circular 37 provides that, before making contributions into an SPV, PRC residents or entities are required to complete the foreign exchange registration with the SAFE or its local branch.

 

PRC residents or entities who had contributed legitimate onshore or offshore interests or assets to SPVs but had not obtained registration as required before the implementation of the SAFE Circular 37 must register their ownership interests or control in the SPVs with qualified banks. An amendment to the registration is required if there is a material change with respect to the SPV registered, such as any change of basic information (including change of the PRC residents, name and operation term), increases or decreases in investment amount, transfers or exchanges of shares, and mergers or divisions. Failure to comply with the registration procedures set forth in SAFE Circular 37 and the subsequent notice, or making misrepresentation on or failure to disclose controllers of the foreign-invested enterprise that is established through roundtrip investment, may result in restrictions being imposed on the foreign exchange activities of the relevant foreign-invested enterprise, including payment of dividends and other distributions, such as proceeds from any reduction in capital, share transfer or liquidation, to its offshore parent or affiliate, and the capital inflow from the offshore parent, and may also subject relevant PRC residents or entities to penalties under PRC foreign exchange administration regulations.

 

In February 2015, the SAFE released the Notice of the State Administration of Foreign Exchange on Further Simplifying and Improving the Policies of Foreign Exchange Administration Applicable to Direct Investment, or Circular 13, which has amended Circular 37 by requiring PRC residents or entities to register with qualified banks rather than the SAFE or its local branch in connection with their establishment or control of an offshore entity established for the purpose of overseas investment or financing.

 

Share Option Rules

 

Pursuant to Circular 37, PRC residents who participate in share incentive plans in overseas non-publicly listed companies may submit applications to the SAFE or its local branches for the foreign exchange registration with respect to offshore special purpose companies. In addition, under the Notice of the State Administration of Foreign Exchange on Issues Related to Foreign Exchange Administration in Domestic Individuals’ Participation in Equity Incentive Plans of Companies Listed Abroad issued by SAFE in February 2012, or the Share Option Rules, PRC residents who are granted shares or share options by companies listed on overseas stock exchanges under share incentive plans are required to (i) register with the SAFE or its local branches, (ii) retain a qualified PRC agent, which may be a PRC subsidiary of the overseas listed company or another qualified institution selected by the PRC subsidiary, to conduct SAFE registration and other procedures with respect to the share incentive plans on behalf of the participants, and (iii) retain an overseas institution to handle matters in connection with their exercise of share options, purchase and sale of shares or interests and funds transfers.

 

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Regulations on Dividend Distribution

 

Under our current corporate structure, our Cayman Islands holding company may rely on dividend payments from our PRC subsidiaries, which are wholly foreign-owned enterprises incorporated in China, to fund any cash and financing requirements we may have. The principal laws and regulations governing the distribution of dividends of foreign-invested enterprises include the PRC Foreign Investment Law and its Implementing Regulations, both of which came into effect on January 1, 2020, and other applicable laws, according to which a foreign investor may, in accordance with the law, freely transfer into or out of the PRC its contributions, profits, capital earnings, income from asset disposal, intellectual property rights royalties acquired, compensation or indemnity legally obtained, income from liquidation, etc., made or derived within the territory of the PRC in RMB or any foreign currency, subject to no illegal restriction by any entity or individual in terms of the currency, amount, frequency of such transfer into or out of the PRC, etc.

 

Regulations on Overseas Listing

 

On August 8, 2006, six PRC regulatory agencies, including the CSRC, adopted the Regulations on Mergers and Acquisitions of Domestic Enterprises by Foreign Investors (the “M&A Rules”), which became effective on September 8, 2006 and were amended on June 22, 2009. Foreign investors shall comply with the M&A Rules when they purchase equity interests of a domestic company or subscribe to the increased capital of a domestic company and thus change the nature of the domestic company into a foreign-invested enterprise; or when the foreign investors establish a foreign-invested enterprise in the PRC, purchase the assets of a domestic company and operate the assets; or when the foreign investors purchase the assets of a domestic company, establish a foreign-invested enterprise by injecting such assets and operate the assets. The M&A Rules purport, among other things, to require offshore special purpose vehicles formed for overseas listing purposes through acquisitions of PRC domestic companies and controlled by PRC companies or individuals, to obtain approval from the CSRC prior to publicly listing their securities on an overseas stock exchange.

 

On March 1, 2020, Securities Law of the People’s Republic of China (Revised in 2019) became effective. It stipulates that any securities issuance and trading activities outside the People’s Republic of China that disrupt the domestic market order in the PRC and damage the legitimate rights and interests of domestic investors shall be investigated for legal liability in accordance with the relevant laws. This gives the China Securities Regulatory Commission, public security organs and judicial organs “long-arm jurisdiction” over overseas securities market activities.

 

On July 6, 2021, the General Office of the State Council and General Office of the Central Committee of the Communist Party of China issued Opinions on Strictly Cracking Down Illegal Securities Activities in Accordance with the Law. The opinions emphasized the need to strengthen the administration over illegal securities activities and the supervision on overseas listings by China-based companies and proposed to take effective measures, such as promoting the construction of relevant regulatory systems to deal with the risks and incidents faced by China-based overseas-listed companies. On December 24, 2021, the CSRC published the draft Administrative Provisions of the State Council on the Overseas Issuance and Listing of Securities by Domestic Companies (Draft for Comments), or the Administrative Provisions and the draft Measures for the Overseas Issuance and Listing of Securities Record-filings by Domestic companies (Draft for Comments), or the Draft Measures for public comments. Pursuant to these drafts, PRC domestic companies that directly or indirectly offer or list their securities in an overseas market, including a PRC company limited by shares and an offshore company whose main business operations are in China and intends to offer shares or be listed in an overseas market based on its onshore equities, assets or similar interests, are required to file with the CSRC within three business days after submitting their listing application documents to the regulator in the place of intended listing. Failure to complete the filing under the Administrative Provisions may subject the domestic enterprise to a warning or a fine of one to ten million RMB. If the circumstances are serious, the domestic enterprise may be ordered to suspend its business or suspend its business pending rectification, or its permits or businesses license may be revoked. The Draft Measures also provide that a PRC domestic company must file with the CSRC within three business days for its follow on offering of securities or issue of securities to purchase assets after it is listed in an overseas market. However, there is no timetable as to when these drafts will be enacted.

 

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On December 24, 2021, the CSRC published the draft Administrative Provisions of the State Council on the Overseas Issuance and Listing of Securities by Domestic Companies (Draft for Comments), or the Administrative Provisions and the draft Measures for the Overseas Issuance and Listing of Securities Record-filings by Domestic companies (Draft for Comments), or the Draft Measures for public comments. Pursuant to these drafts, PRC domestic companies that directly or indirectly offer or list their securities in an overseas market, including a PRC company limited by shares and an offshore company whose main business operations are in China and intends to offer shares or be listed in an overseas market based on its onshore equities, assets or similar interests, are required to file with the CSRC within three business days after submitting their listing application documents to the regulator in the place of intended listing. Failure to complete the filing under the Administrative Provisions may subject the domestic enterprise to a warning or a fine of one to ten million RMB. If the circumstances are serious, the domestic enterprise may be ordered to suspend its business or suspend its business pending rectification, or its permits or businesses license may be revoked. The Draft Measures also provide that a PRC domestic company must file with the CSRC within three business days for its follow on offering of securities or issue of securities to purchase assets after it is listed in an overseas market. However, there is no timetable as to when these drafts will be enacted.

 

On April 2, 2022, the CSRC released the revised Provisions on Strengthening Confidentiality and Archives Administration of Overseas Securities Offering and Listing by Domestic Companies (Draft for Comments) (the “ Draft Archives Rules”). The Draft Archives Rules is open for public consultations until April 17, 2022. The Draft Archives Rules includes both overseas direct offerings and overseas indirect offerings. The Draft Archives Rules provide that, among other things, (i) in relation to the overseas listing activities of domestic enterprises, the domestic enterprises are required to strictly comply with the relevant requirements on confidentiality and archives management, establish a sound confidentiality and archives system, and take necessary measures to implement their confidentiality and archives management responsibilities; (ii) if during the course of an overseas offering and listing, if a domestic enterprise needs to publicly disclose or provide to securities companies, accounting firms or other securities service providers and overseas regulators, any materials that contain relevant state secrets or that have a sensitive impact (i.e. be detrimental to national security or the public interest if divulged), the domestic enterprise should complete the relevant approval/filing and other regulatory procedures; and (iii) working papers produced in the PRC by securities companies and securities service institutions, which provide domestic enterprises with securities services during their overseas issuance and listing, should be stored in the PRC, and the transmission of all such working papers to recipients outside of the PRC is required to be approved by competent authorities of the PRC. As of the date of this annual report, we have not provided files or copies of files outside China that involve national secrets, national security, vital interests, or have important preservation value to the nation and society. However, we cannot guarantee that relevant government agencies of China, including the China Securities Regulatory Commission, will have the same opinion as ours. The above-mentioned consultation draft has not yet come into effect, and there are still uncertainties in the interpretation and implementation of this provision.

 

As of the date of this annual report, we have not received any inquiry, notice, warning, sanctions or regulatory objection from the CSRC.

 

Summaries of the National Conference for the Work of Courts in the Trial of Civil and Commercial Cases

 

Summaries of the National Conference for the Work of Courts in the Trial of Civil and Commercial Cases circulated by the Supreme People’s Court On November 8, 2019 (“Summaries”),provides that, in the trust documents and relevant contracts, the beneficiaries are divided into different categories, such as preferential beneficiaries and inferior beneficiaries, and it is stipulated that the preferential beneficiaries will subscribe for trust plan shares with their asset, and after the trust expires, the inferior beneficiaries bear the obligation to make up the difference between the benefit obtained from the trust property by the preferential beneficiaries plus its investment principal and the agreed proceeds. The people’s court shall legally support preferential beneficiaries’ claims for the liability borne by inferior beneficiaries as agreed. The agreement on the rights and obligations of different types of beneficiaries in the trust documents will not affect the determination of the legal trust relationship between the beneficiary and the trustee. In addition, the Summaries provided for the nature of credit enhancement documents, i.e., where any party which are not parties to the trust contract provides similar commitment documents such as making up differences by this third party, fulfillment of the repurchase obligations at maturity instead, and liquidity support as credit enhancement measures, the contents of which comply with the provisions of the law on guarantees, the people’s court shall determine that a guarantee contractual relationship is established among the parties. If the contents do not comply with the provisions of the law on guarantees, the corresponding rights and obligations shall be determined according to the specific content of the commitment document, and the corresponding civil liability shall be determined according to the facts of the case.

 

Notice on Further Regulating Financial Marketing and Publicity Activities

 

The People’s Bank of China, the China Banking Insurance Regulatory Commission, the China Securities Regulatory Commission, and the State Administration of Foreign Exchange have issued notices on further regulating financial marketing and publicity activities on December 20, 2019, which took effect on January 25, 2020. It is stipulated it is illegal to engage in financial business without a business license or beyond the permitted business scope, and market entities that fail to obtain relevant financial business qualifications shall not conduct marketing and publicity activities relating to the financial business, except that information release platforms and media entrusted by relevant financial business qualifications carry out financial marketing and publicity activities for them.

 

As this notice is relatively new, in the cooperation agreements we signed with the trust companies, there is no specific agreement on the marketing and publicity activities of financial products. At present, we have started to communicate with the trust partners on financial product marketing and publicity issues. We will improve the cooperation model to ensure that marketing activities and those of our sales partners are legal and in compliance.

 

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Administrative Measures for Online Marketing of Financial Products (Draft for Comment)

 

The “Administrative Measures for Online Marketing of Financial Products (Draft for Comment)” was published on December 31, 2021, requiring financial institutions to conduct online marketing of financial products on their own or entrust Internet platform companies to conduct online marketing of financial products within the scope of business permitted by the financial regulatory authorities. Any institution or individual is prohibited from providing online marketing for illegal financial activities such as illegal fundraising.

 

4.C. Organizational Structure

 

The following diagram illustrates our corporate structure with material subsidiaries as of the date of this annual report. For a complete list of our subsidiaries, please refer to note 1 to our consolidated financial statements as of and for the years ended December 31, 2019, 2020 and 2021 included elsewhere in this annual report. We subscribe to the subordinated units of the trust products issued under long-term trust plans through three of our wholly owned subsidiaries, Guangzhou Heze Information Technology Co., Ltd., Guangzhou Chengze Information Technology Co., Ltd., and Shenzhen Fanhua United Investment Group Co., Ltd. From an accounting perspective, we are exposed to the risk and variability of returns from activities of the trust plans and are therefore required to consolidate the financial results of the trust plans, including the results related to the senior units. Financial data of a trust plan is consolidated as if the trust plan is a subsidiary. Income and expenses of the trust plans are consolidated on our consolidated statements of comprehensive income while assets and liabilities of the trust plans are consolidated on our consolidated balance sheet. We do not, however, have ownership interest in the trust plans from a legal perspective other than in the subordinated units that account for only a portion of the total outstanding amount of the trust plans. For details of the contractual structural leverage ratio of each trust plan, please refer to “Item 4. Information of the Company—B. Business Overview—Our Funding Model.”

 

 

 

Notes:

 

(1) Guangzhou Heze Information Technology Co., Ltd. is one of the entities through which we subscribe to subordinated units of trust products.

 

(2) Guangzhou Chengze Information Technology Co., Ltd. is one of the entities through which we subscribe to subordinated units of trust products.

 

(3) Shenzhen Fanhua United Investment Group Co., Ltd. operates our loan services business through various subsidiaries in the PRC and operates our small loan business through Beijing Fanhua Micro-credit Company Limited and Shenzhen Fanhua Micro-credit Co., Ltd.

 

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4.D. Property, Plant and Equipment

 

Our corporate headquarters are located in Guangzhou, China, where we lease 1,855 square meters of office space pursuant to a lease expiring in September 2022. We also maintain leased properties ranging from 30 square meters to 1,855 square meters in over 50 cities. The lease term varies from five months to five years. We believe that our existing facilities are generally adequate to meet our current needs, but we expect to seek additional funding as needed to accommodate future growth.

 

ITEM 4A. UNRESOLVED STAFF COMMENTS

 

None.

 

ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS

 

You should read the following discussion and analysis of our financial condition and results of operations in conjunction with our consolidated financial statements and the related notes included elsewhere in this annual report. This discussion contains forward-looking statements that involve risks and uncertainties. Our actual results and the timing of events could differ materially from those anticipated in these forward-looking statements as a result of various factors, including those we describe under “Item 3.D. Risk Factors” and elsewhere in this annual report.

 

5.A. Operating Results

 

Overview

 

We are a leading home equity loan service provider in China. We facilitate loans by connecting MSE owners with our funding partners. Our primary target borrower segment is MSE owners who own real properties in Tier 1 and Tier 2 and other major cities in China.

 

We have established a national network of 63 branches and sub-branches in over 50 cities in China. We acquire our borrowers primarily through our sales partners. In 2019, 2020 and 2021, over 99.5% of our borrowers were introduced to us by our sales partners under the collaboration model. For details, please refer to “Item 4. Information on the Company—B. Business Overview—Our Borrowers—Collaboration Model.” In 2019 and 2020, we originated home equity loans with an aggregate principal amount of RMB6.3 billion and RMB8.8 billion, representing an increase of 39.5% from 2019. In 2021, we originated home equity loans with an aggregate principal amount of RMB12.8 billion, representing an increase of 45.5% from 2020. We originated home equity loans for 12,790 and 17,703 borrowers in 2019 and 2020, respectively, representing an increase of 38.4%. In 2021, we originated home equity loans for 22,060 borrowers, representing an increase of 24.6% from 2020. In 2019, 2020 and 2021, the average tenor of the home equity loans we originated was 22, 24 and 15 months with the weighted average effective interest rate (inclusive of interests and financing service fees, if applicable, payable by the borrowers) of 19.4%, 17.3% and 16.5% per annum, respectively. The decrease in the weighted average effective interest rate is due to an effort to comply with recent rules and regulations issued by relevant PRC regulatory authorities, including the Decisions of the Supreme People’s Court to Amend the Provisions on Several Issues concerning the Application of Law in the Trial of Private Lending Cases issued in August 2020, although we do not believe we are regulated by the Amendment as a loan facilitator in collaboration with licensed trust company partners, we have voluntarily adjusted the interest rates on the loan products we facilitate to comply with the new standards under the Amendment.

 

Our practical risk assessment procedure focuses on both credit risks of borrowers and quality of the collateral. We have also established guidelines on characteristics and quality of collateral, including, among others, an LTV ratio capped at 70%. The weighted average LTV ratio of the home equity loan origination volume was 57.9%, 54.6% and 58.5% in 2019, 2020 and 2021, respectively. As of December 31, 2019, 2020 and 2021, our NPL ratio was 13.75%, 11.66% and 9.42%, respectively. Charge-off ratio in 2019, 2020 and 2021 was 1.61%, 11.30% and 3.66%, respectively.

 

93

 

 

Our total operating income decreased from RMB1,614.7 million in 2019 to RMB887.9 million in 2020, representing a decrease of 45.0%, and decreased to RMB196.5 million in 2021, representing a decrease of 77.9%. Our net income decreased from RMB534.6 million in 2019, representing a decrease of 78.5% to RMB114.9 million in 2020, and decreased to RMB65.2 million in 2021, representing a decrease of 43.2%.

 

Under the contractual arrangements with our trust company partners, we subscribe to subordinated units of trust plans and provide services to trust plans. As a result, we are entitled to (i) the investment return payable to us as subordinated unit holder and (ii) a performance-based service fee up to 8% per annum of the size of trust plans payable to us for our services provided to trust plans. Our cost of the subordinated units as measured by the investment amount was RMB3,150.5 million, RMB3,045.2 million and RMB2,919.4 million as of December 31, 2019, 2020 and 2021, respectively. Our investment return from the subordinated units was RMB663.2 million, RMB658.8 million and RMB578.7 million in 2019, 2020 and 2021, respectively.

 

As a subordinated unit holder, we are exposed to variability of returns from activities of trust plans and are therefore required to consolidate the financial results of trust plans on our consolidated financial statements, including those of the senior units. Therefore, the service fee charged to trust plans is considered inter-company transaction and is eliminated together with management service expenses of trust plans for accounting purposes. In 2019, 2020 and 2021, we generated service fees charged to trust plans of RMB760.5 million, RMB505.9 million and RMB440.1 million, respectively.

 

Key Factors Affecting Our Results of Operations

 

Ability to maintain and expand borrower base

 

Due to the nature of our business, our ability to increase our loan origination volume largely depends on our ability to acquire new borrowers for the loans we facilitate. Since December 2018, we have been acquiring borrowers primarily through our sales partners under the collaboration model. For details, please refer to “Item 4. Information on the Company—B. Business Overview—Our Borrowers—Collaboration Model.” Our sales partners are typically local loan facilitators who have their own sales and marketing teams, they use such teams to reach to qualified candidates and recommend them to our platform. In 2019, 2020 and 2021, over 99.5% of our borrowers were introduced to us by our sales partners under the collaboration model. We originated home equity loans for 12,790, 17,703 and 22,060 borrowers in 2019, 2020 and 2021, respectively. Our results of operations and ability to sustain and increase loan volumes will depend on our ability to maintain and expand borrower base.

 

Effective risk management

 

Our operating income and profitability are largely affected by our and our trust company partners’ risk management capabilities. We are exposed to credit risks under the trust lending model as a result of subscription of subordinated units and credit strengthening services and being a lender under the direct lending model. As such, the ability of us and our trust company partners to accurately assess default risks through our and our trust company partners’ credit analysis system directly affects our loan delinquency ratios and profitability. Any significant weakness in our or our trust company partners’ risk management system will directly or indirectly result in an increase in delinquency of loans originated by us or a failure of our loan servicing to recover losses. For a detailed discussion of our risk management, please refer to “Item 4. Information of the Company—B. Business Overview—Risk Management.”

 

Relationship with our funding partners

 

Our collaborative relationships with our funding partners are critical to our operations. We mainly collaborate with our trust company partners through trust lending model. In 2019, 2020 and 2021, approximately 100.0%, 100% and 99.8% of our total home equity loan origination volume was originated under trust lending model, respectively. The availability of funds from our funding partners affects our liquidity and the amount of loan transactions that we can facilitate, which directly affects our profitability. Terms of our collaboration agreements with our funding partners generally set the financing costs of our home equity loan business. Our financing costs for senior units excluding the trust administrative fees, ranged from 7.0% to 12.7% per annum of the issuance number of senior units in 2021. The interest charged by trust company partners to our borrowers affects our profitability. If we fail to maintain or deepen our existing relationships with our trust company partners, our liquidity and profitability may be adversely affected. A general deterioration of our relationships with our funding partners will result in a significant decrease in liquidity or in our service fees charged to trust plans, and we may not be able to secure alternative financing on terms acceptable to us or our borrowers, or at all. This may result in a decrease in the volume of loans we facilitate, which has a material adverse impact on our business and results of operations. For detailed discussion relating to our relationship with our funding partners, please refer to “Item 4. Information on the Company—B. Business Overview—Our Funding Model.”

 

94

 

 

China’s macroeconomic environment

 

Our business depends on the growth of MSE owners’ demand for home equity loan financing, which in turn depends on China’s macroeconomic environment. General economic factors, including the real estate prices, credit environment for MSEs, interest rate environment and unemployment rates, may affect borrowers’ willingness to seek home equity loans and/or repayment capability. For example, significant increase in interest rates could cause prospective borrowers to defer obtaining loans as they wait for interest rates to decrease. Additionally, a slowdown in the economy, resulting in a rise in the unemployment rate and/or a decrease in real income, may affect MSEs’ revenue. All these factors may affect borrowers’ repayment capability and their willingness to seek loans, which may potentially affect delinquency ratios. Further, the COVID- 19 outbreak had and may continue to have a negative impact on China’s macroeconomic environment which may continue to result in a material negative impact on our business and results of operations. For details, please see “Item 3.D. Key Information—Risk Factors—Risks Related to Our Business— We face risks related to natural disasters, health epidemics and other outbreaks of contagious diseases.”

 

Government regulations and policies

 

The regulatory environment for China’s financial market is developing and evolving, creating both challenges and opportunities that could affect our financial performance. We must adapt to developments in regulations and policies and may have to adjust our business practices, funding structures and product offerings from time to time. For an overview of applicable laws and regulations and risks relating to our business, see the sections headed “Item 4. Information of the Company—B. Business Overview—Regulation” and “Item 3. Key Information—D. Risk Factors.”

 

Loan Performance Data and Trend Analysis

 

Our operating results and financial condition are directly affected by the performance of the loans we originate. We focus mainly on the NPL ratio as home equity loans over 90 days past-due are more difficult and time-consuming to recover.

 

 

    As of and for the Year
Ended December 31,
 
Loan performance metrics (including loans held for sale)   2019     2020     2021  
Delinquency ratio (1)     21.08 %     22.63 %     24.11 %
NPL ratio (2)     13.75 %     11.66 %     9.42 %
Allowance ratio (3)     9.05 %     6.80 %     11.91 %
NPL provision coverage ratio (4)     65.84 %     58.44 %     126.49 %

 

    As of and for the Year
Ended December 31,
 
Loan performance metrics (excluding loans held for sale)   2019     2020     2021  
Delinquency ratio (1)     16.66 %     17.22 %     16.17 %
NPL ratio (2)     9.26 %     6.06 %     2.13 %
Allowance ratio (3)     7.40 %     6.71 %     10.36 %
NPL provision coverage ratio (4)     79.91 %     110.68 %     487.21 %

 

Notes:

 

(1) Delinquency ratio represents total balance of outstanding loan principal for which any installment payment is one or more days past-due as a percentage of the outstanding loan principal as of the date.

 

(2) NPL ratio represents total balance of outstanding loan principal for which any installment payment is over 90 calendar days past-due as a percentage of the outstanding loan principal as of the date.

 

(3) Allowance ratio represents amount of allowance for loan principal, interest and financing service fee receivables as a percentage of the outstanding loan principal, interest and financing service fee receivables as of the date.

 

(4) NPL provision coverage ratio represents amount of allowance for loan principal, interest and financing service fee receivables as a percentage of the outstanding balance of NPL principal as of the date.

 

95

 

 

Our delinquency ratio has increased from 21.08% as of December 31, 2019 to 22.63% as of December 31, 2020, and further increased to 24.11% as of December 31, 2021. The increase in the delinquency ratio from December 31, 2020 to December 31, 2021 was due to the fact that the borrowers’ ability to service their debts was negatively affected in 2021 due to the COVID-19 pandemic.

 

Our NPL ratio had decreased from 13.75% as of December 31, 2019 to 11.66% as of December 31, 2020, and further decreased to 9.42% as of December 31, 2021. The decrease of NPL ratio from December 31, 2020 to December 31, 2021 was primarily attributable to the fact that (a) borrowers’ ability to service their debts was negatively affected in 2020 due to the COVID-19 pandemic under the collaboration model; and (b) the Company accelerated the disposal of NPLs under the traditional facilitation model by transfer to third parties.

 

Our allowance ratio has decreased from 9.05% as of December 31, 2019 to 6.80% as of December 31, 2020, and increased to 11.91% as of December 31, 2021, while our NPL provision coverage ratio has decreased from 65.84% to 58.44% and increased to 126.49% as of the same dates. Increases in allowance ratio and NPL provision coverage ratio from December 31, 2020 to December 31, 2021 were primarily attributable to the current expected credit loss (CECL) model that took into account the COVID-19 pandemic’s continuous impact on the repayment abilities of borrowers.

 

In 2020, the Company revised its charge-off policy. Upon the revision, the Company considers loans principal, interest and financial service fee receivables of loans that are 180 days past due uncollectable and the balance shall be charged down to net realizable value (fair value of collaterals, less estimated cost to sell), unless such loans are well-secured and already in the process of re-collection. The tables below illustrate the delinquency and NPL ratios for loans introduced under the collaboration model and the loans under the traditional facilitation model by first lien and second lien as of December 2019, 2020 and 2021, respectively. The 2020 and 2021 results are presented based on the revised charge-off policy, while the 2019 results are presented on the basis prior to the revision.

 

    As of December 31, 2021  
(Including loans held for sale)   The traditional
facilitation model
    The
collaboration model
    Total  
First lien                  
Delinquency Ratio     76.01 %     29.11 %     30.11 %
NPL Ratio     59.19 %     12.48 %     13.48 %
                         
Second lien                        
Delinquency Ratio     75.80 %     19.49 %     20.27 %
NPL Ratio     64.25 %     6.01 %     6.81 %

 

96

 

 

    As of December 31, 2021  
(Excluding loans held for sale)   The traditional
facilitation model
    The
collaboration model
    Total  
First lien                  
Delinquency Ratio     49.66 %     18.93 %     19.29 %
NPL Ratio     14.39 %     2.96 %     3.10 %
                         
Second lien                        
Delinquency Ratio     46.04 %     14.09 %     14.31 %
NPL Ratio     20.27 %     1.42 %     1.55 %

 

    As of December 31, 2020  
(Including loans held for sale)   The traditional
facilitation model
    The
collaboration model
    Total  
First lien                  
Delinquency Ratio     47.03 %     18.00 %     24.38 %
NPL Ratio     38.19 %     6.72 %     13.64 %
                         
Second lien                        
Delinquency Ratio     43.16 %     15.62 %     21.29 %
NPL Ratio     31.60 %     4.59 %     10.15 %

 

    As of December 31, 2020  
(Excluding loans held for sale)   The traditional
facilitation model
    The
collaboration model
    Total  
First lien                  
Delinquency Ratio     35.21 %     14.07 %     18.18 %
NPL Ratio     24.39 %     3.06 %     7.21 %
                         
Second lien                        
Delinquency Ratio     33.34 %     12.66 %     16.51 %
NPL Ratio     19.82 %     1.86 %     5.20 %

 

97

 

 

    As of December 31, 2019  
(Including loans held for sale)   The traditional
facilitation model
    The
collaboration model
    Total  
First lien                  
Delinquency Ratio     35.78 %     4.61 %     21.74 %
NPL Ratio     25.96 %     0.45 %     14.47 %
                         
Second lien                        
Delinquency Ratio     32.69 %     4.65 %     20.61 %
NPL Ratio     22.84 %     0.55 %     13.24 %

 

    As of December 31, 2019  
(Excluding loans held for sale)   The traditional
facilitation model
    The
collaboration model
    Total  
First lien                  
Delinquency Ratio     27.61 %     4.61 %     16.55 %
NPL Ratio     17.07 %     0.45 %     9.08 %
                         
Second lien                        
Delinquency Ratio     26.72 %     4.63 %     16.74 %
NPL Ratio     16.69 %     0.53 %     9.38 %

 

We have ceased facilitating loans under the traditional facilitation model starting from December of 2018, which has caused the delinquency ratio and NPL ratio of loans under the traditional facilitation model to rise from 2019 to 2021. We believe such ratios do not accurately reflect the loan performance and could no longer be used as a measure of our risk assessment and post-loan management abilities.

 

The following tables illustrate the amount of loans we facilitate by collateral type for which we have an allowance determined based on the fair value of collateral, less cost to sell and the related allowance for credit losses for each applicable collateral category as of December 31, 2019, 2020 and 2021, respectively. The 2020 and 2021 results are presented based on the revised charge-off policy, while the 2019 results are presented on the basis prior to the 2020 revision.

 

 

    As of December 31, 2021  
    (RMB in thousands)  
    Loan     Allowance     Allowance Ratio  
Apartment     193,021       60,308       31.2 %
House     3,824       729       19.1 %
Commercial Property     3,159       443       14.0 %
Total     200,004       61,480       30.7 %

 

    As of December 31, 2020  
    (RMB in thousands)  
    Loan     Allowance     Allowance Ratio  
Apartment     484,354       64,125       13.2 %
House     18,520       2,866       15.5 %
Commercial Property     45,274       5,007       11.1 %
Total     548,148       71,998       13.1 %

 

98

 

 

    As of December 31, 2019  
    (RMB in thousands)  
    Loan     Allowance     Allowance Ratio  
Apartment     830,701       381,254       45.9 %
House     62,936       26,249       41.7 %
Commercial Property     94,322       41,971       44.5 %
Total     987,959       449,474       45.5 %

 

The drastic decrease of allowance ratio of all three types of collaterals from 2019 to 2020 was mainly attributable to the revision of the Company’s charge-off policy in 2020 as mentioned above. Increases in allowance ratio from December 31, 2020 to December 31, 2021 were primarily attributable to the current expected credit loss (CECL) model that took into account the COVID-19 pandemic’s continuous impact on the repayment abilities of borrowers.

 

We incur losses and charge-off loans when we determine that the loan is uncollectable. We consider loans principal, interest and financing service fee receivables meeting any of the following conditions as uncollectible and the balance shall be written down to net realizable value (fair value of collaterals, less estimated cost sell):

 

(i) death of the borrower;

(ii) identification of fraud, and the fraud is officially reported to and filed with relevant law enforcement departments;

(iii) sales of loans to third parties;

(iv) settlement with the borrower, where the Company releases irrecoverable loans through private negotiations with the borrower where the borrower cannot repay the loan in full through self-funding or voluntary sale of the collateral;

(v) disposal through legal proceedings, including but not limited to online arbitrations, judicial auctions and court enforcements; or

(vi) loans are 180 days past due unless both well-secured and in the process of collection.

 

The following table sets forth our charge-off ratio for the periods indicated.

 

    For the Year Ended December 31,  
    2019     2020     2021  
Charge-off ratio     1.61 %     11.30 %     3.66 %

 

Our charge-off ratio was 1.61%, 11.30% and 3.66% in 2019, 2020 and 2021. The increase of charge-off ratio in 2020 was mainly attributable to the revision of the Company’s charge-off policy in 2020 as mentioned above. We continue to dispose of collateral through judicial or arbitration proceedings and utilize other quick disposal plans available to manage NPLs. Meanwhile, we also transfer loans to third parties in exchange for proceeds upfront to quickly recover overdue loans, and the related gains or losses from such sale will be accounted for as other gains/(losses) in our consolidated statements of comprehensive income.

 

The tables below set forth the amortized cost of the loans (including loans held for sale) that were resolved by the different charge-off scenario above, the allowances recorded on those loans at the time of charge-off, additional provision for loan losses recorded at the time of the time of the scenario, in addition to the charge-off amounts as of December 31, 2019, 2020 and 2021:

 

    As of December 31,  
    2021  
    Charge-off     Amortized
cost of the
loans
    Allowance     Additional
provision (1)
 
    RMB in thousands  
Sales of loans to third parties(2)     132,847       1,717,145       185,459       (113,887 )
Settlement with the borrower     2,827       94,074       16,385       (3,196 )
Disposal through legal proceedings     5,633       53,258       1,732       (1,514 )
Death of the borrower     -       -       -       -  
Identification of fraud     -       -       -       -  
Loans that are 180 days past due(3)     226,182       895,013       -       -  
                                 
Total     367,489       2,759,490       203,576       (118,597 )

 

99

 

 

    As of December 31,  
    2020  
    Charge-off     Amortized
cost of the
loans
    Allowance     Additional
provision (1)
 
    RMB in thousands  
Sales of loans to third parties(2)     232,892       680,315       274,841       (41,765 )
Settlement with the borrower     12,017       71,333       24,699       (4,232 )
Disposal through legal proceedings     8,610       17,436       16,170       (1,877 )
Death of the borrower     -       -       -       -  
Identification of fraud     -       -       -       -  
Loans that are 180 days past due(3)     929,870       1,128,557       -       -  
                                 
Total     1,183,389       1,897,641       315,710       (47,874 )

 

    As of December 31,  
    2019  
    Charge-off     Amortized
cost of the
loans
    Allowance     Additional
provision (1)
 
    RMB in thousands  
Sales of loans to third parties(2)     192,567       484,156       241,621       (42,000 )
Settlement with the borrower     8,720       48,835       12,362       (3,877 )
Disposal through legal proceedings     16,175       33,732       24,175       (3,396 )
Death of the borrower     39       389       395       -  
Identification of fraud     498       498       -       (498 )
                                 
Total     218,000       567,609       278,554       (49,771 )

 

Notes:

 

(1) Additional provisions refer to the total amount of additional losses of individual loans, which is beyond what was already recorded in the allowance for credit losses at the point of charge-off in different scenarios.

 

(2) The loans sold to third parties are generally the ones that are over 90 days past due, which we have made a commercially reasonable effort to collect. In order to efficiently allocate resources and timely collect funds on impaired loans, we believe it is effective and efficient to sell certain loans that are over 90 days past due to third parties as we can save relevant costs that may occur during the time-consuming collection process. The delinquent loans are generally sold in bulk. The purchasers are all third parties and consist of (i) sales partners who choose to repurchase the delinquent loans they introduced according to their agreements signed with us, and (ii) local investment asset management companies, experienced law firms or other entities with legal, collection and disposal teams to handle delinquent loans and relevant collaterals. We have two approaches for the sale of loans to third parties, including (i) the sale that we do not retain any rights or obligations and such loans will be charged off from our balance sheet at the point of the sale and (ii) the sale that we retain certain rights or obligations such as an obligation to repurchase the loans after a certain period, and such loans sold are recorded as borrowings under agreements to repurchase in our balance sheet.

 

(3) In 2020, the Company revised its charge-off policy. Upon the revision, the Company considers loans principal, interest and financial service fee receivables of loans that are 180 days past due uncollectable and the balance shall be charged down to net realizable value (fair value of collaterals, less estimated cost to sell), unless such loans are well-secured and already in the process of re-collection.

 

100

 

 

Selected Income Statement Items

 

Total operating income

 

Our total operating income represents the sum of (i) net interest and fees income after collaboration cost and (ii) total non-interest income. Net interest and fees income after collaboration cost represents total interest and fees income netting of total interest and fees expenses and collaboration cost for sales partners. In 2019, 2020 and 2021, we generated net interest and fees income after collaboration cost of RMB1,486.3 million, RMB698.4 million and RMB581.0 million (US$91.2 million), respectively. Total non-interest income/(losses) comprises net gains/(losses) on sales of loans, net realized gains on sales of investments and other gains, net. In 2019, 2020 and 2021, we generated total non-interest income of RMB128.5 million, non-interest income of RMB189.5 million, and non-interest losses of RMB384.5 million (US$60.3 million), respectively.

 

Under the contractual arrangements with our trust company partners, we subscribe to subordinated units of the trust plans and also provide services to trust plans. As a result, we are entitled to (i) the investment return payable to us as subordinated holder and (ii) a performance-based service fee of up to 8% per annum of the size of trust plans payable to us for our services provided to trust plans. As subordinated unit holder, we are exposed to variability of returns from activities of trust plans and are therefore required to consolidate the financial results of trust plans. Therefore, the service fee charged to trust plans is considered inter-company transaction and is eliminated together with service expenses of trust plans for accounting purposes. As a result, the total payments to us under our trust lending model, together with the interest spread under our small loan direct lending model and certain non-interest income, is reflected on our consolidated financial statements as total operating income.

 

The following table sets forth a breakdown of our total operating income for the periods indicated.

 

    For the Year Ended December 31,  
    2019     2020     2021  
    RMB     RMB     RMB     US$  
Interest and fees income                        
Interest and financing service fees on loans     2,953,480,997       1,828,687,910       1,770,351,645       277,806,805  
Interest on deposits with banks     16,680,498       16,133,918       11,973,675       1,878,931  
Total interest and fees income     2,970,161,495       1,844,821,828       1,782,325,320       279,685,736  
                                 
Interest and fees expenses                                
Interest expenses on interest-bearing borrowings     (1,309,835,699 )     (731,315,365 )     (775,565,615 )     (121,703,169 )
Interest expenses paid to related parties                        
Total interest and fees expenses     (1,309,835,699 )     (731,315,365 )     (775,565,615 )     (121,703,169 )
Net interest and fees income     1,660,325,796       1,113,506,463       1,006,759,705       157,982,567  
Collaboration cost for sales partners     (174,042,054 )     (415,104,428 )     (425,736,650 )     (66,807,371 )
Net interest and fees income after collaboration cost     1,486,283,742       698,402,035       581,023,055       91,175,196  
Non-interest income/(losses)                                
Realized gains on sales of investments, net     46,126,258       20,153,659       19,170,436       3,008,260  
Net gains/(losses) on sales of loans     75,959,140       149,631,456       (450,721,346 )     (70,728,015 )
Other gains, net     6,375,348       19,762,053       47,031,532       7,380,274  
Total non-interest income/(losses)     128,460,746       189,547,168       (384,519,378 )     (60,339,481 )
Total operating income     1,614,744,488       887,949,203       196,503,677       30,835,715  

 

101

 

 

Interest and fees income

 

Interest and financing service fees on loans

 

Our interest and financing service fees on loans represents interest payment from borrowers under our trust lending model and direct lending model, and historical financing service fee charged on borrowers for the loan services we provide. Financing service fee is deferred and amortized over the average life of the related loans using the effective interest method. Due to recent regulatory changes, we ceased charging such financing service fee starting from August 2017.

 

Interest on deposits with banks

 

Our interest on deposits with banks represents interest generated from our cash deposits with banks.

 

Interest and fees expenses

 

We recorded interest and fees expenses of RMB1,309.8 million, RMB731.3 million and RMB775.6 million (US$121.7 million) in 2019, 2020 and 2021, respectively.

 

Our interest and fees expenses consists of interest expenses on interest-bearing borrowings and interest expenses paid to related parties. In 2019 and 2020, the interest expenses on interest-bearing borrowings was RMB1,309.8 million and RMB731.3 million, accounting for 100% and 100%, respectively, of our total interest and fees expenses for the same periods. In 2021, the interest expenses on interest-bearing borrowings was RMB775.6 million (US$121.7 million), accounting for 100% of our total interest and fees expenses for the same period.

 

Interest expenses on interest-bearing borrowings

 

Interest expenses on interest-bearing borrowings consists primarily of financing costs payable to (i) senior unit holders, (ii) third parties to whom we transferred rights to earnings in certain of our subordinated units in trust plans with a repurchase arrangement, and (iii) third parties to whom we transferred certain rights to earnings in loans principal, interest and financing service fee receivables with a repurchase arrangement.

 

Interest expenses paid to related parties

 

Fanhua Inc. held 20.6% of our equity interest and granted us loans in 2017. Such transaction was priced on arm’s length. These borrowings bore an interest rate of 7.3% per annum and were repayable on demand. These borrowings had been fully repaid in 2017. There were no other loans due to related parties since 2018. In 2018, Fanhua Inc. and its subsidiaries transferred all their senior units and intermediate units to a third party. After the transfer, the amounts due to related parties were nil as of December 31, 2019, 2020 and 2021. No interest expense was paid to related parties in 2021.

 

Collaboration cost for sales partners

 

Collaboration cost for sales partners represents sales incentives paid to sales partners. It has increased from RMB415.1 million in 2020 to RMB425.7 million (US$66.8 million) in 2021, primarily due to the increase in average daily outstanding loan principal under the collaboration model as compared to the same period of 2020.

 

Non-interest income/(losses)

 

Realized gains on sales of investments

 

Realized gains on sales of investments consist of realized gains and losses from the disposal of investment securities, presented on a net basis.

 

Net gains/(losses) on sales of loans

 

Net gains/(losses) on sales of loans refer to any gains and losses from the disposal of loans.

 

Other gains, net

 

Other gains, net mainly consists of gains of confiscating CRMPs as well as fund possession fees received from sales partners who choose to repurchase delinquent loans by installments.

 

Operating expenses

 

Our operating expenses consist of employee compensation and benefits, share-based compensation expenses, taxes and surcharges, operating lease cost, offering expenses and other expenses.

 

102

 

 

The following table sets forth our operating expenses, in absolute amounts and as percentages of total operating income, for the periods indicated.