Credit Suisse ‘Dream’ Client Luckin Coffee Becomes Nightmare

(Bloomberg) -- Before the accounting scandal and the stock crash and the defaulted loans, Luckin Coffee Ltd.’s billionaire founder Lu Zhengyao was an ideal customer for Credit Suisse Group AG.

“I’ve had I don’t know how many dinners with him in Beijing and he’s absolutely the poster child for what we want to do,” Tidjane Thiam said at a conference last year when he was still head of the bank. He lauded Lu’s relationship with the firm that ranged from private banking to stock sales. “He’s a dream client.”

Luckin’s dramatic fall from grace this month blindsided some of the top names in global finance but few have seen a bigger fallout than Credit Suisse. The lender lost a high-profile Hong Kong IPO in the wake of the scandal and reported a five-fold increase in loan-loss provisions at its Asia Pacific unit, primarily due to a default by Lu. The bank is conducting an internal review of the case, and scrutiny on loans to Chinese companies has increased, according to people familiar with the matter who declined to be identified discussing private matters.

While Lu hasn’t been accused of wrongdoing, Luckin’s revelation that senior executives may have fabricated $310 million in sales underscores the risk for investment banks of doing deals in China, following a series of accounting scandals. The world’s second-biggest economy is core to Credit Suisse’s strategy to win business from rich entrepreneurs across Asia.

“Luckin is a microcosm of what can happen when weak underwriting standards are allowed to persist in the pursuit of rapid growth,” said Mark Williams, a professor at Boston University and a former U.S. Federal Reserve bank examiner. “Luckin exhibited many signs of a high-growth, high-risk business.”

A Credit Suisse spokeswoman in Hong Kong declined to comment on the story, nor elaborate on the remarks by Thiam.

No Shift

Chief Executive Officer Thomas Gottstein, who took over from Thiam in February, declined to comment on Luckin in a Bloomberg Television interview last week. The lender was still at the beginning of investigations involving auditors and lawyers, he said. “Too many parties involved to make an early conclusion.”

Gottstein signaled the Luckin stock collapse won’t prompt a strategic shift, and the bank will continue to target wealthy entrepreneurs in China.

“It’s a strategy that our firm believes in because it combines our strength in private banking and investment banking and we have had so many successes all over the world,” he said.

Close Association

Credit Suisse wasn’t the only firm caught out by the scandal at Luckin, whose offices were raided this week by Chinese regulators. Luckin’s early investors included global giants such as GIC Pte., the Singapore sovereign wealth fund. Morgan Stanley was part of the IPO group and provided some of the margin loans to Lu, as did Barclays Plc, among others. Morgan Stanley, Credit Suisse and the other IPO banks face an investor lawsuit after Luckin’s 91% collapse from its January high. The U.S. Securities and Exchange Commission is also investigating Luckin, Dow Jones reported.

Morgan Stanley, Barclays, and GIC declined to comment.

Yet, Credit Suisse had the closest ties. It was the lead underwriter for Luckin’s initial public offering last year in New York and the secondary sale in January, garnering 60% of the banking fees. That amounted to about $30 million for two deals that raised more than $1.2 billion for the coffee chain and a shareholder, according to data compiled by Bloomberg.

The bank also led a $460 million convertible bond sale in January and is on the hook for a portion of the $518 million in margin loans to Lu that are now in default. The firm has been working with the founder since taking his car rental company public six years ago.

Aside from the deals, the bank has other connections to the retailer. Luckin Chief Financial Officer Reinout Hendrik Schakel worked for eight years as an analyst and investment banker for Credit Suisse in Hong Kong until 2016. And Lu’s daughter Nancy works for Credit Suisse in Hong Kong in a role unrelated to the Luckin account, according to people familiar. She didn’t respond to phone calls and text messages, while the bank declined to comment.

Given those links, Luckin’s downfall has hit Credit Suisse harder than others. Due to the scandal, the firm was dropped from a $500 million IPO in Hong Kong for WeDoctor, the health-care startup backed by Tencent Holdings Ltd., according to people familiar. The bank has also increased scrutiny on Chinese loans in the wake of the collapse and the pandemic, people familiar said. It ended talks on joining a $1.5 billion loan to Melco Resorts and Entertainment Ltd., a U.S.-listed Macau casino operator hit hard by virus, they said. A spokeswoman at Melco declined to comment.

Thiam identified Asia as a key growth driver when he was appointed CEO in 2015. The region was carved out from Europe, giving local managers more clout over lending and capital. The move fit the global shift away from investment banking to wealth management, particularly in China, which crowns a new billionaire every three days. While multi-billionaires are well served in the U.S. and Europe, the market in Asia is just getting started.

Thiam couldn’t be reached for comment.

Credit Suisse Presentation: Goldman Sachs European Financial Conference

After years of reorganization and cost reductions, mostly in the markets division, the bank is starting to see the results of its shift. Private banking revenue rose 36% in Asia in the first quarter, while advisory, underwriting and financing revenue tumbled 78%. Pretax income in the region jumped 38% to 252 million Swiss francs ($258 million), as bank-wide profit beat estimates.

Banker Turnover

The wealth focus has come at the expense of the investment-banking team. Several senior bankers in Asia have left in recent years, including Mervyn Chow, who was at the bank for two decades, and Isabella Luan, a technology banker.

Credit Suisse has seen more turnover at its China team than some of its biggest competitors, going through four Greater China CEOs in recent years. By contrast, the China heads at UBS Group AG and Morgan Stanley have spent more than two decades at their firms.

Rivals such as UBS and Goldman Sachs have about twice the staff in China as Credit Suisse, while universal banks like JPMorgan Chase & Co. and Citigroup have broader corporate banking and treasury operations.

Helman Sitohang, who runs the Asia Pacific division at Credit Suisse, said his competitors may have “bigger muscles and balance sheets,” yet the focus on the 1,000 billionaires across Asia is paying off. “We don’t want to be the biggest,” he said at an investor day in December. “We want to be the most profitable.”

Model Client

Sitohang lauded Lu as one of the bank’s success stories. Lu started Car Inc. in 2007 and built it into China’s biggest rental company. Credit Suisse was there from the beginning, taking it public in Hong Kong in 2014, along with Morgan Stanley, and leading three U.S. bond sales totaling almost $1.2 billion.

Lu then set out to take on Starbucks Corp. in China, expanding Luckin to 4,500 stores in just two years. For a while it became a darling of U.S. investors, with the stock tripling in its first eight months of trading.

While the Luckin board said it’s focusing its probe on Chief Operating Officer Jian Liu, Lu said the company went too far too fast, going public after just 18 months in business. Liu couldn’t be reached for comment, nor could company officials.

“I’ve been blaming myself,” Lu told the National Business Daily in China, referring to the rapid growth that created “a lot of problems” for the company.

The stock remains halted on the Nasdaq pending the review, with the last trade at $4.39 on April 6, down from a January high of $51.38. The company’s convertible bonds meanwhile trade at just 24 cents on the dollar, a clear signal of distress.

In the end, Credit Suisse will move on from Luckin, even if it results in short-term losses, said Ismail Ertürk, senior lecturer in banking at Alliance Manchester Business School in the U.K. The lender will chalk it up as the “cost of doing business.”

©2020 Bloomberg L.P.