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Lax risk control cited in China Aviation's downfall

Lack of proper risk management controls and a mistaken bet that oil prices would fall led China Aviation Oil (中國航油) to collapse under the weight of massive speculative trading losses, an independent report released yesterday showed.

The Chinese jet fuel trader, which sought court protection from creditors in November after losing US$550 million, had also mis-stated its financial results for 2003 and last year, according to auditor PricewaterhouseCoopers (PwC).

PwC was appointed by Singapore stock market authorities to investigate China Aviation following its massive losses.

In its report, PwC said there was an "absence of proper and stringent, and in some instances, basic risk management procedures and controls specifically for speculative options trading."

It also noted a "failure by the company to value its options portfolio in accordance with industry standards."

PwC said China Aviation had wrongly bet that oil prices would trend down from the fourth quarter of 2003 when in fact they soared to record highs last year.

The company assumed "imprudent and unwarranted risks" through options restructurings in a bid to avoid recording losses.

"Once the company was facing potential and imminent losses on its options portfolio in January 2004, the significant risks that it assumed in the restructurings that followed proved to be its undoing as it eventually lost its financial capacity to meet margin calls in a rising market," the report said.

Singapore-listed China Aviation sought the protection of the High Court in November last year after reporting the losses.
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