CNFinance(CNF) - 2023 Q4 - Annual Report

PART I ITEM 3. KEY INFORMATION This section outlines the principal risks of CNFinance's China-based operations, including PRC government oversight, regulatory uncertainties, potential U.S. delisting, and PFIC classification Risk Factors The company faces substantial risks from its China operations, including regulatory changes, high leverage, and potential delisting or PFIC classification for ADS holders - The PRC government's significant oversight and potential changes in laws regarding overseas listings, cybersecurity, and anti-monopoly regulations could materially impact operations and stock value[35][38][59] - Trading of the company's securities may be prohibited under the Holding Foreign Companies Accountable Act (HFCAA) if the PCAOB cannot inspect the auditor for two consecutive years, despite the 2021 negative determination being vacated[37][41][114] - The company was likely a Passive Foreign Investment Company (PFIC) for 2023 and expects to remain so, leading to adverse U.S. federal income tax consequences for ADS holders[46][293][296] - The company's high leverage ratio of 4.1 times as of December 31, 2023, exposes it to liquidity risk and may limit future capital expenditures[168][169] - The collaboration model with sales partners, involving Credit Risk Mitigation Positions (CRMP), faces potential challenges from PRC regulators as illegal fundraising or disguised loans, risking fines and penalties[148][150][152] ITEM 4. INFORMATION ON THE COMPANY CNFinance is a leading home equity loan service provider in China, connecting MSE owners with funding partners through a national network and sales partner collaboration, operating within a complex regulatory environment History and Development of the Company The company, originating in 1999 and spun off from Fanhua Inc. in 2006, incorporated in the Cayman Islands in 2014 and completed its NYSE IPO in November 2018 - CNFinance Holdings Limited was incorporated in the Cayman Islands in January 2014 and became the holding company in March 2018[299] - The company completed its IPO on the NYSE under the symbol "CNF" in November 2018[300] Business Overview CNFinance provides home equity loan services to MSE owners in China, utilizing trust and commercial bank lending models, acquiring borrowers through sales partners, and operating under extensive PRC regulations Loan Origination Volume (2021-2023) | Year | Loan Origination (RMB billions) | YoY Growth | |:---|:---:|:---:| | 2021 | 12.8 | - | | 2022 | 14.7 | 14.8% | | 2023 | 17.3 | 17.7% | Loan Origination by Funding Model (2021-2023) | Funding Model | 2021 (%) | 2022 (%) | 2023 (%) | |:---|:---:|:---:|:---:| | Trust lending | 99.5% | 82.7% | 70.7% | | Bank lending | 0.3% | 17.2% | 29.0% | | Direct lending | 0.2% | 0.1% | 0.3% | - The company's primary business models include the trust lending model and a newer commercial bank partnership model, introduced in 2021 to diversify funding channels[306][309][364] - Borrower acquisition is primarily driven by a collaboration model with sales partners, who introduced over 99.7% of borrowers under the trust lending model and 77.4% under the commercial bank partnership model in 2023[310][315][409] - The company is subject to extensive PRC regulations covering foreign investment, small loans, private lending interest rates, data security (Cyber Security Law, Data Security Law, PIPL), and overseas listings (CSRC Overseas Listing Trial Measures)[417][433][452] Organizational Structure CNFinance Holdings Limited, a Cayman Islands holding company, operates through subsidiaries primarily in the PRC, consolidating various trust plans as VIEs where it is deemed the primary beneficiary - The company is a Cayman Islands holding company with its main operating subsidiaries located in the PRC[508] - From an accounting perspective, the company consolidates the financial results of the trust plans it works with, as it is considered the primary beneficiary and exposed to the variability of returns[508] Property, Plant and Equipment The company leases its current 1,855 square meter Guangzhou headquarters until September 2024, has purchased a new 2,600 square meter office in Guangzhou, and maintains smaller leased properties in over 50 cities - The company leases its current headquarters in Guangzhou and has purchased a new, larger office space in the same city, expected to be acquired by August 2024[512] ITEM 5. OPERATING AND FINANCIAL REVIEW AND PROSPECTS This section analyzes CNFinance's 2023 financial performance, highlighting increased operating and net income driven by loan origination growth, and discusses key performance factors, loan quality, liquidity, capital, and critical accounting policies like CECL Operating Results For fiscal year 2023, CNFinance's total operating income grew 2.8% to RMB 770.1 million, and net income increased 21.6% to RMB 164.6 million, driven by higher loan origination, despite a rise in the NPL ratio including loans held for sale Key Financial Performance (2021-2023) | Metric (RMB in millions) | 2021 | 2022 | 2023 | |:---|---:|---:|---:| | Total Operating Income | 176.2 | 749.2 | 770.1 | | Net Income | 65.2 | 135.3 | 164.6 | | Diluted EPS (RMB) | 0.05 | 0.09 | 0.11 | Loan Performance Metrics (excluding loans held for sale) | Metric (%) | As of Dec 31, 2021 | As of Dec 31, 2022 | As of Dec 31, 2023 | |:---|:---:|:---:|:---:| | Delinquency Ratio | 16.17 | 18.26 | 15.54 | | NPL Ratio | 2.13 | 1.12 | 1.11 | - Net revenue from the commercial bank partnership model grew significantly by 52.6% to RMB 87.9 million in 2023, reflecting successful funding channel expansion[644] - Provision for credit losses decreased to RMB 183.2 million in 2023 from RMB 238.1 million in 2022, primarily due to a lower delinquency ratio and increased protection from sales partners' CRMPs[647] - Total operating expenses increased by 12.6% in 2023, driven mainly by higher fees to local channels for referring sales partners and increased service fees for third-party post-loan management[650][652] Liquidity and Capital Resources The company's liquidity primarily stems from financing and operating activities, with RMB 2.0 billion in cash and equivalents as of December 31, 2023, though PRC regulations restrict fund transfers from subsidiaries, and capital expenditures increased due to a new office purchase Summary of Cash Flows (RMB in millions) | Cash Flow Activity | 2021 | 2022 | 2023 | |:---|---:|---:|---:| | Net Cash from Operating Activities | 689.7 | 919.3 | 1,705.8 | | Net Cash used in Investing Activities | (2,350.6) | (1,098.2) | (2,483.9) | | Net Cash from/(used in) Financing Activities | 1,932.6 | (288.2) | 1,005.5 | - As of December 31, 2023, the company held RMB 2.0 billion in cash and cash equivalents, an increase from RMB 1.8 billion at year-end 2022[670] - As a holding company, CNFinance relies on dividends from its PRC subsidiaries, but PRC regulations restrict cash transfers abroad; as of year-end 2023, aggregate retained earnings of PRC subsidiaries were RMB 3.12 billion[672][693] - Capital expenditures increased to RMB 114.5 million in 2023 from RMB 89.9 million in 2022, primarily due to the purchase of a new office in Guangzhou[682] Research and Development The company continues to invest in its technology system for platform scalability and flexibility, with R&D expenses increasing to RMB 1.8 million in 2023 from RMB 0.8 million in 2022 R&D Expenses (2021-2023) | Year | R&D Expenses (RMB in millions) | |:---|:---:| | 2021 | 1.6 | | 2022 | 0.8 | | 2023 | 1.8 | Critical Accounting Estimates The company's critical accounting estimates, including allowance for credit losses and guaranteed liabilities, are determined using the CECL methodology (ASC 326), requiring significant judgment on default probabilities, loss given default, and macroeconomic scenarios - The estimation of the Allowance for Credit Loss (ACL) is a critical accounting estimate, based on the CECL model which incorporates historical data, current conditions, and forward-looking macroeconomic forecasts[704] ITEM 6. DIRECTORS, SENIOR MANAGEMENT AND EMPLOYEES This section details the company's leadership, compensation, board structure, and workforce, including the six-member Board of Directors, 2023 executive compensation, share incentive plan, 897 employees as of December 31, 2023, and significant share ownership by key executives Directors and Senior Management The company is led by Chairman and CEO Bin Zhai, with a Board of Directors comprising two executive and four independent directors, and a senior management team experienced in China's finance industry - The Board of Directors is composed of six members: Bin Zhai (Chairman & CEO), Jun Qian (Director & VP), and four independent directors (Fengyong Gao, Lin Xu, Xi Wang, Ge Yang)[707] Compensation In fiscal year 2023, the company paid RMB 5.7 million in cash compensation to executive officers and maintains a 2018 Share Incentive Plan authorizing up to 307,608,510 ordinary shares for equity awards - For the fiscal year ended December 31, 2023, the aggregate cash compensation paid to executive officers was RMB 5.7 million (US$0.8 million)[716] - The 2018 Share Incentive Plan authorizes the issuance of up to 307,608,510 ordinary shares, with options for the entire amount outstanding as of the report date[725][249] Board Practices The Board of Directors, comprising six members, has established Audit, Compensation, and Nominating and Corporate Governance committees, with the Audit Committee consisting entirely of independent directors, including an audit committee financial expert - The Board has three committees: Audit, Compensation, and Nominating and Corporate Governance[735] - The Audit Committee is composed of three independent directors, satisfying NYSE and SEC requirements[736] Employees As of December 31, 2023, CNFinance had 897 employees, with Risk Management being the largest department at 50% of the workforce, and maintains good employee relations without labor unions Employees by Function (as of Dec 31, 2023) | Function | Number of Employees | % of Total | |:---|:---:|:---:| | Risk Management | 510 | 50% | | Sales and Marketing | 191 | 21% | | General and Administration | - | 10% | | Finance | - | 12% | | Others | - | 7% | | Total | 897 | 100% | Share Ownership As of March 31, 2024, Chairman and CEO Bin Zhai beneficially owned 20.1% of ordinary shares, while Kylin Investment Holdings Limited, controlled by executive officers, is the largest principal shareholder with 17.8% ownership Beneficial Ownership (as of March 31, 2024) | Shareholder | Number of Shares | Percentage (%) | |:---|:---:|:---:| | Bin Zhai (Chairman & CEO) | 283,949,380 | 20.1% | | Kylin Investment Holdings Limited | 243,949,380 | 17.8% | ITEM 7. MAJOR SHAREHOLDERS AND RELATED PARTY TRANSACTIONS This section details major shareholders by reference and describes related party transactions, primarily employment agreements and share incentive grants to directors and officers, with no other material transactions in 2023 - The company's related party transactions are mainly employment agreements and share incentive grants to directors and executive officers[754][756] - There were no other material related party transactions during the fiscal year 2023[756] ITEM 8. FINANCIAL INFORMATION This section presents the company's consolidated financial statements, noting no material legal proceedings and a dividend policy of retaining earnings for business expansion without near-term payouts - The company is not currently a party to any material legal or administrative proceedings[758] - The company has no plan to declare or pay dividends in the near future, intending to retain earnings to fund business growth[759] ITEM 10. ADDITIONAL INFORMATION This section provides supplementary details on exchange controls, taxation, and material contracts, including tax structures in the Cayman Islands, PRC, and Hong Kong, and U.S. federal income tax considerations for ADS holders, notably the high likelihood of PFIC classification Taxation The company is not subject to Cayman Islands tax, while its PRC subsidiaries face a 25% enterprise income tax rate; for U.S. investors, the company was likely a PFIC for 2023 and expects to remain so, with the Active Financing Exception unlikely to apply - The company's PRC subsidiaries are subject to a 25% enterprise income tax rate, and dividends paid from PRC entities to non-resident enterprises are subject to a 10% withholding tax[770][582] - The company was likely a PFIC for its 2023 taxable year and expects to be a PFIC for 2024 and future years, resulting in significant adverse U.S. federal income tax consequences for U.S. Holders[779][781] - Due to recent Treasury regulations and guidance, the "Active Financing Exception" to the PFIC rules is not expected to apply to the company for recent or future taxable years[781] ITEM 11. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The company's primary market risks include interest rate risk affecting borrowing and funding costs, and foreign exchange risk due to RMB-denominated revenues and functional currencies in HKD and USD, while China's inflation has not been material - The company is exposed to interest rate risk, as changes can affect borrower demand and the company's own funding costs[803] - Substantially all revenues are denominated in Renminbi (RMB), exposing the company to foreign exchange risk from fluctuations between the RMB, U.S. dollar, and Hong Kong dollar[805][806] ITEM 12. DESCRIPTION OF SECURITIES OTHER THAN EQUITY SECURITIES This section details the fees and expenses for the company's American Depositary Shares (ADSs), administered by JPMorgan Chase Bank, N.A., listing various charges applicable to ADS holders for services like issuance, cancellation, and cash distributions - ADS holders are subject to various fees charged by the depositary, including up to $5.00 per 100 ADSs for issuance or cancellation and up to $0.05 per ADS for cash distributions[809][811] PART II ITEM 15. CONTROLS AND PROCEDURES Management concluded that the company's disclosure controls and internal control over financial reporting were effective as of December 31, 2023, having successfully remediated a prior material weakness related to U.S. GAAP and SEC reporting expertise - Management concluded that as of December 31, 2023, the company's disclosure controls and procedures were effective[820] - A material weakness identified in prior years concerning a lack of sufficient U.S. GAAP and SEC reporting experience was remediated as of December 31, 2023[822][823] - Management concluded that the company's internal control over financial reporting was effective as of December 31, 2023, and KPMG Huazhen LLP issued an unqualified opinion on its effectiveness[824][826] ITEM 16 This section covers corporate governance and compliance, including the audit committee financial expert, code of ethics, accountant fees, share repurchase program, differences from NYSE governance standards as a foreign private issuer, and cybersecurity risk management overseen by the board Principal Accountant Fees and Services The company paid KPMG Huazhen LLP a total of RMB 8.9 million for services in 2023, primarily for audit fees, with all services pre-approved by the audit committee Auditor Fees (RMB in thousands) | Service Type | 2022 | 2023 | |:---|---:|---:| | Audit Fees | 6,620 | 8,900 | | Other Fees | 100 | 7 | | Total | 6,720 | 8,907 | Purchases of Equity Securities by the Issuer and Affiliated Purchasers The company has an active US$20.0 million share repurchase program, authorized in March 2022 and extended in March 2023, with approximately US$1.5 million remaining available as of March 31, 2024 - The company has a US$20.0 million share repurchase program, extended for 12 months starting March 16, 2023[834] - From April 2023 to March 2024, the company repurchased a total of 1,424,360 ADSs in the open market[836][837] Corporate Governance As a foreign private issuer, CNFinance follows Cayman Islands corporate governance practices, differing from NYSE standards by not requiring a majority of independent directors on the board or fully independent compensation and nominating committees - The company follows home country (Cayman Islands) practices, which differ from NYSE standards, particularly regarding director independence on the board and certain committees[838][839][841] Cybersecurity The company maintains a cybersecurity risk management program overseen by its board and managed by a dedicated team, which includes assessing, mitigating, and reporting threats, with no material threats identified in 2023 - The Board of Directors has overall oversight responsibility for the company's cybersecurity risk management program[844] - In 2023, no cybersecurity threats were identified that had a material effect on the company's business strategy, results of operations, or financial condition[845] PART III ITEM 18. FINANCIAL STATEMENTS This section presents CNFinance Holdings Limited's audited consolidated financial statements for fiscal years 2021-2023, prepared under U.S. GAAP, including balance sheets, income statements, equity changes, and cash flows, with an unqualified opinion from KPMG Huazhen LLP on both financial statements and internal control effectiveness Consolidated Balance Sheet Highlights (As of Dec 31) | (RMB in millions) | 2022 | 2023 | |:---|---:|---:| | Total Assets | 14,481.9 | 16,364.3 | | Total Liabilities | 10,544.2 | 12,355.4 | | Total Shareholders' Equity | 3,937.7 | 4,008.9 | Consolidated Income Statement Highlights (Year Ended Dec 31) | (RMB in millions) | 2021 | 2022 | 2023 | |:---|---:|---:|---:| | Net Interest and Fees Income | 1,040.2 | 946.6 | 1,031.5 | | Total Operating Income | 176.2 | 749.2 | 770.1 | | Net Income | 65.2 | 135.4 | 164.6 | - The independent auditor, KPMG Huazhen LLP, issued an unqualified opinion on the consolidated financial statements and the effectiveness of internal control over financial reporting as of December 31, 2023[856] - A critical audit matter identified was the assessment of the allowance for credit losses (ACL), involving complex and subjective judgments regarding models, macroeconomic forecasts, and other assumptions used to estimate potential losses[864][866]