INTERNET: SouFun Joins Corruption Clean-Up

Bottom line: SouFun should be commended for its proactive and open approach to a recent crackdown on internal corruption, which could provide some potential upside to its shares after negative publicity subsides.

SouFun clamps down on corruption

Real estate services provider SouFun (NYSE: SFUN) has become the latest Chinese Internet firm to join a national anti-corruption campaign, with its issue of a slightly cryptic statement that looks related to a scandal that rocked the company earlier this month. That scandal saw media report that SouFun had fired a number of salespeople over vague allegations of inflating their business. (previous post)

More than 2 weeks after those reports broke, SouFun has just issued a statement outlining a recent internal probe that netted an unspecified number of employees who were engaged in corrupt practices. I have to commend SouFun for taking the action and also being relatively open about what it’s doing, even though this particular statement isn’t extremely clear and was almost certainly prompted by the earlier reports.

At the end of the day, corruption has no place in a major company like SouFun, even though practices like bribery and accepting kickbacks are quite common in the Chinese corporate world. The problem is far worse in big state-run companies, which have been at the heart of a nationwide anti-corruption crackdown over the last 2 years led by Chinese President Xi Jinping. But corruption is also relatively common at private companies, where employees often use their position for personal gain.

Such clean-ups don’t come without a cost, and SouFun’s shares have lost about 7 percent of their value since the scandal first broke in mid October, including a 4 percent drop earlier this week. But as I noted when the initial scandal broke, this kind of corruption only undermines a company over the longer term. Thus SouFun and others taking similar steps are being prudent by becoming more proactive about tackling the problem.

According to its vaguely worded statement, SouFun says inappropriate employee behavior began to occur after its recent expansion beyond its core business of acting as middle-man by offering real estate services from other companies. Like many Chinese Internet companies, SouFun is hoping to stabilize its business by becoming more diversified, and in this case has been expanding into e-commerce by selling products and services directly to consumers as part of that drive.

Lacking Integrity

SouFun says it began the push into e-commerce early this year, becoming directly involved in selling homes and home furnishings, rather than only acting as a broker for third parties. But in the process, the company said, it had to start firing some employees who did not behave in accordance with its own policies for “honesty and integrities in dealing with end consumers.” (company announcement)

It doesn’t take too much interpretation to de-code this statement as meaning that some employees were probably taking kickbacks from customers in exchange for preferential access or prices for SouFun’s newer e-commerce products and services. The earlier reports about SouFun’s firings were equally vague, saying only that the company had taken action against employees for inflating their sales orders. In this case it’s almost certain the earlier reports and now this new vague statement refer to the same firings.

SouFun certainly isn’t the only company conducting this kind of internal probe. Telecoms giant Huawei was one of the first to begin disciplining employees for corrupt business practices, and leading search engine Baidu (Nasdaq: BIDU) has conducted similar probes. (previous post) E-commerce leader Alibaba (NYSE: BABA) was also forced to conduct a similar clean-up several years ago after a scandal broke involving fake stores on its original B2B site.

Shareholders are understandably worried about SouFun’s internal problems, even though I can say quite definitively that such issues are common among all Chinese companies. The fact that SouFun is being relatively proactive in tackling the problem looks like a good step in my view, meaning perhaps we could see some upside in the company’s stock once the negative publicity starts to subside.

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