Lai, who worked for more than a decade at the Chinese central bank and served for two years at the bank regulator, was not alone in taking the fall. At least three other senior Huarong executives have been arrested since Lai’s detention, each of them implicated in accepting cash gifts and property in Hong Kong or Canada worth billions of yuan, according to several people familiar with the investigations.

The mass arrest is part of the clean-up process at Huarong as it outlived its mandate and transformed from China’s biggest processor of distressed assets into one of the country’s largest debtors in the span of two decades.

Huarong was established in 1999 to process the non-performing loans on the books of the Industrial and Commercial Bank of China (ICBC), a move designed to clean the lender’s balance sheet to prepare it for tapping the capital markets. By 2006, Huarong had acquired nearly 408 billion yuan of ICBC’s bad loans, cleaning the bank’s accounts sufficiently for ICBC to qualify for an initial public offering.

Huarong would be the first and the largest of four distressed asset managers (AMCs) that were set up to each pair with one of China’s largest state-owned lenders: Great Wall for the Agricultural Bank of China, Orient for Bank of China, and Cinda for the China Construction Bank.

“The AMCs were meant to last a decade” to complete their work, but as they accumulated licences, business operations with thousands of jobs, “there was no way they could be closed down, or sold,” said Fraser Howie, co-author of Red Capitalism and Privatizing China.

“As the economy boomed and the property market boomed, the original bad loans were effectively reduced in size and Huarong jumped on the growth bandwagon,” Howie said. The asset processors turned into “fiefdoms in their own right, largely out of bank supervision and also operating in their own bubble. They could get into anything they liked within the financial sphere,” he said.

Stock brokerages, financial trusts and leasing companies, real estate developers – every company caught by soured borrowings during the 2008 global financial crisis ended up being taken over by an AMC that was associated with a bank. And so, with every additional business taken over, the AMCs grew.

With Lai at the helm since 2009, Huarong led the explosive growth among the four asset managers. In the four years since its 2013 establishment in Hong Kong, the asset size of Huarong International Financial Holdings grew fivefold to HK$1.9 trillion (US$242 billion).

The company’s growth was fuelled by unregulated lending disguised as investments, according to people familiar with the practice.

Here is how it worked: a listed company would invest a sum of money in a poor-quality firm in return for a financial advisory fee from the firm. Huarong would use a subsidiary to pay a premium to take over the firm, which would leave the listed company with a profit, but leave Huarong’s unit with the risk and potential loss.

One Hong Kong-listed company managed to get HK$30 billion of investment from Huarong with nothing more than stakes in offshore shell companies as collateral, according to two bankers familiar with the deal.

Huarong would become a linchpin of China’s anything-goes money machine during the zenith of China’s shopping spree in 2015 and 2016, financing the leveraged buyouts by some of the country’s most aggressive asset buyers.

Five of its 18 biggest clients were among China’s largest corporate borrowers, including HNA Group, the energy and financial conglomerate CEFC China Group, Huishan Dairy, Hanergy Thin Film Power Group, and Dandong Port Group, according to a list seen by the South China Morning Post.

Huarong’s client list offers a peek into how China’s financial ‘crocs and rhinos’ fund their forays

Huarong’s earnings soared, with its 2017 interim profit rising 27.7 per cent to 16.4 billion yuan. The Beijing-based company took on debt, issuing more than 30 corporate bonds including 28 US dollar-denominated bonds and one in Singapore dollars, paying 4.09 per cent on average coupon rate, according to Bloomberg data. Huarong has more than 210 billion yuan of bond repayments due by 2020 and another 52.7 billion yuan due between 2025 and 2027.

The company’s profitability quickly reversed into a loss, with Huarong International forecasting a net loss for the first six months, compared with HK$584.1 million of profit last year, according to an August 5 filing. The parent company, China Huarong Asset Management, said last week that it would report a “significant decrease” in its interim net profit.

Meanwhile, auditors are no longer willing to dress up the balance sheet, said a source close to the auditing process.

Deloitte, a leading auditor of Huarong’s offshore listed entities, declined to comment.

“The fundamental problem with China state-owned firms is the governance structure – although it looks like many are transformed into modern companies with listed status and have elected a board, they are still largely operated by the will of a certain boss,” said Sun Wujun, a professor at Nanjing University’s business school. “Because many of these bosses are laden with political ambitions, the priority for them is usually bound together with his personal promotion, not the company’s growth.”