China's 'charming towns' plan turns into a nightmare for investors

An artist's impression of the Crayfish Town, created by JC Group.
PHOTO: Handout

China's "thousand charming towns" initiative was supposed to dot the vast countryside with beautiful, liveable and themed villages, carrying names as eclectic and zany as Crayfish Town, Asian Games Town, Poetry Town, Fairyland Town, and Happy Town, which would come complete with a "sex park".

But last week's collapse of a private company behind many of these developments has seen dozens of senior executives detained by police and thousands of investors scrambling for answers, desperate to recoup their money. The sudden failure of JC Group, based in the city of Hangzhou in Zhejiang province, marked another bankrupt fundraising programme in China and exposed the huge risks behind the country's state-led, debt-fuelled development drive.

There are thought to be 3,800 individual investors exposed to JC Group's collapse, and while no figure has been put on the expected total losses, the minimum threshold for these investments was set at 1 million yuan (S$202,000).

It also brought into sharp focus the so-called "grey rhino" risks which haunt China's economy. The term refers to big and neglected financial risks, such as the 2008 financial crisis, which are usually telegraphed in advance, but which are not stopped until it is too late.

JC Group, established by businessman Wei Jie in 2008, acted as an agent between local governments eager to raise funds to develop the local economy and affluent Chinese investors searching for high returns.

JC Group signed agreements with local governments to to develop more than 50 charming town projects across the country. Among them was Happy Town, which was to be built in the sleepy riverside town of Yucheng, in the Yangtze River Delta.

JC Group, which collapsed last week. Photo: Handout

When visited by the South China Morning Post in 2017, Happy Town's blueprints for a sex toy shopping street, a sex exhibition centre and an "adult-only" hotel, seemed a world away from the town's traditional sights of grapes, mulberry trees and turtle ponds. The project had a price tag of 10 billion yuan.

But despite the often bizarre nature of these developments, the money poured in.

JC Group used its local government agreements as a selling point to raise funds from investors via China's unregulated "shadow banking" channels. The company sold at least 350 "private funds" to designated investors, raising billions of yuan by promising annual returns as high as 12 per cent.

One document from JC Fortune, a wealth management arm of JC Group, said it had 70 billion yuan in assets under management as of September 2017.

However, the gravy train came to an abrupt stop on April 28, when the police bureau of Gongshu, a district in the city of Hangzhou, the capital of China's eastern Zhejiang province, issued a statement saying it had detained Wei and other senior JC Group executives on charges of "illegal fundraising" - a criminal offence that carries a maximum punishment of life in prison.

The police statement asked JC Group investors to register their complaints using an online system, but warned them not to engage in any "illegal demonstration activities".

However, the scorned investors decided to take action despite the warnings of the authorities.

Hundreds of disgruntled investors signed a petition addressed to the public security department of Hangzhou and the provincial government of Zhejiang last week, demanding that local governments take responsibility for either endorsing and signing deals with JC, or for failing to supervise the company's fundraising methods.

Fishing boats line the riverbank in Yucheng, Zhejiang province. Yucheng, the town government, which wants to turn it into a one-stop market for adult products, signed a 10 billion yuan (S$2 billion) deal with a Chinese company to develop a "Happy Town" that will include a sex toy shopping street, a sex exhibition centre and an "adult-only" hotel. Photo: South China Morning Post

"JC Group is very high-profile in Hangzhou and even in Zhejiang province. It has its own building there and it has been focusing on financing public-private partnership (PPP) projects for years. It paid a large amount of taxes to local authorities there," said Jay Li, an investor from Guangzhou who put money into JC's charming towns fund.

Li, who runs two Cantonese restaurants in Guangzhou, was sold on the idea of investing in charming towns by a good friend, a former banker, who eventually became a sales manager at JC Group.

The pair travelled to visit the site of the proposed Crayfish Town, in Jiangsu province, and found a booming crayfish industry and what appeared to be a solid business opportunity. Li was sold on the idea, as was his friend, the JC salesman, who invested his family's life savings.

Wei's arrest, however, put paid to their optimism. The thought of having invested in an illegal scheme has enraged Li, since these schemes often result in heavy losses.

"Why did it suddenly become illegal fundraising?" Li asked. "If JC has long-standing violations for illegal fundraising and fraud, all the local governments signing deals with the company owe us an explanation, as do Zhejiang's securities regulators, industry and commerce departments, and tax authorities."

Liu Lijia is a successful businessman in Hangzhou in his forties who invested 1 million yuan in a JC Group fund for an Asian Games Town, named after the games set to take place in Zhejiang in 2022. The prospect of losing this investment has devastated him.

Constructions for the proposed Happy Town near Zhuangchai Lake in Yucheng Town. Photo: South China Morning Post

Liu was contacted by a JC Group salesperson in June 2017, who sold him on the idea of investing in a town constructed around the theme of one of Asia's premier sporting events. Wary of losing his money, he conducted his own due diligence by visiting the city of Huzhou in Zhejiang, which will host some parts of the games.

"Before signing a contract with JC, I even went to the construction site to have a look with a few other potential investors," Liu said. "We went through all the PPP documents carefully, including a resolution released by the local people's congress to bless the partnership between JC and the local government."

However, since Wei's arrest, phone calls to the Huzhou government have gone unanswered. Few local governments that have signed deals with JC Group had made any public statements about the situation.

Both Li and Liu have experienced countless sleepless nights. They have created several WeChat groups to share their stories and connect with other investors. They are worried that if Wei is sentenced for illegal fundraising, JC's assets will be sold for a fraction of what they were marketed for, therefore affecting their investments.

Liu is one of 3,800 individual investors who stand to lose their principal investment in JC products. He said he is not an aggressive investor. While he thought investing in private business products and property development was too risky, he thought JC Group would be a safe bet, given that the funds were to be used in PPP projects backed by local governments.

"I thought it was smart and safe to invest in projects backed and promoted by the Chinese authorities, like the 'Belt and Road Initiative' or new urbanisation (projects)," Liu said.

The "thousand charming towns" strategy fits with President Xi Jinping's desire to modernise and urbanise much of China by 2050. The target brought enthusiastic responses from village and towns across China, where local governments have been scrambling to come up with a "theme" of their own, since the initiative was conceived in 2016.

An artist's impression of Asian Games Town, JC Group. Photo: Handout

Around the same time, Beijing also began to vigorously promote PPP projects, where private companies bid for and take over public projects to boost infrastructure investment with private capital, therefore relieving pressure from already heavily-indebted local governments.

However, the PPP model soon became a means of hiding local government debt. In March 2019, China's Ministry of Finance issued a document tightening the rules around local government PPP projects to prevent local governments from accumulating hidden debt via PPP projects. In addition, local governments cannot pledge more than 10 per cent of their fiscal budget to PPP projects.

Beijing's attitude towards the charming towns project has also changed, since it has clearly deviated from the initial aim of transforming parts of China into a "beautiful country".

In Suichang County, near the city of Lishui in Zhejiang province, plans were afoot to build a "rural e-commerce entrepreneurship town" in partnership with JC Group.

When contacted by the Post, a member of staff at the county's bureau of commerce said: "It's not a good time to comment on JC right now," adding that "the development of Suichang's e-commerce town was our key project, but it is suspended now".

Simon Zhao, founding director of the International Centre of China Studies in Hong Kong University, said that the rush to build charming towns was unsustainable and that there was no economic logic behind many of the plans.

"Local governments just used the name to display loyalty to President Xi's initiative of new urbanisation," Zhao said. "Most of the projects lack returns and legal protections for private investors - investment products offering high annual interests for such low return projects are surely risky."

At a meeting in early-April, China's National Development and Reform Commission, the country's powerful economic planning agency, said the government will support "orderly development" of towns but "phase out fake towns abusing the concept".

For investors who have already pumped their money into China's charming towns, this decree may be too little, too late.

This article was first published in South China Morning Post.