Firm says 'systemic breakdown' led to organized attack

Alibaba.com Ltd, China's largest e-commerce company, said both Chief Executive Officer David Wei and Chief Operating Officer Elvis Lee resigned after an internal investigation found over 2,000 member suppliers engaged in fraudulent sales activities.

The two top executives quit to take responsibility for the "systemic breakdown" in the company's culture of integrity, though they were not involved in the activities that led to fraud, Alibaba said Monday in a statement filed with the Hong Kong Stock Exchange.

Jonathan Lu, who heads the Taobao.com affiliate, has been named Wei's replacement.

An internal probe found that 1,219 of the company's member suppliers who signed up in 2009 and 1,107 suppliers who signed up in 2010 engaged in fraud against online buyers.

These suppliers account for approximately 1.1 percent and 0.8 percent of the total number of the company's "gold suppliers" as of end-2009 and end-2010, respectively, Alibaba said.

The probe found that "the vast majority of these storefronts were set up to intentionally defraud global buyers", the e-commerce operator said.

The methods of the fraudsters suggest that they have engineered an organized and systemic attack on the integrity of the Alibaba.com platform for illegal gains. The fraudulent storefronts generally offered high-demand consumer electronics at very attractive prices, a low minimum order quantity and less reliable payment transfer methods. The average value per claim by buyers against fraudulent suppliers was less than $1,200, Alibaba said.

The company has terminated all of the storefronts of these fraudulent suppliers and will take actions against any other suppliers who exhibit a high risk of fraud based on its fraud detection model, Alibaba said.

The investigation also found that about 100 sales people, out of a field sales force of about 5,000, as well as a number of supervisors and sales managers, are directly responsible for either intentionally or negligently allowing the fraudsters to evade the company's authentication and verification measures and systematically establish fraudulent storefronts on its international marketplace.

Alibaba said "the pursuit of short-term financial gain at all cost had tainted parts of our sales organization, risking serious damage to our company's core values".

The frauds, noticed by senior management from late 2009, have not had a "material financial impact" on the company during the period involved, Alibaba said.

But, analysts believe the findings could be a blow to Alibaba.com, whose site is used by companies from Wal-Mart Stores Inc to Procter & Gamble Co to find Chinese exporters.

"This is not good news" for Alibaba.com's stock, said Muzhi Li, who rates the shares "buy" at Mizuho Securities Co in Hong Kong. In the long term, the company will likely benefit from Lu's leadership as the executive is experienced in e-commerce, Li said.

Alibaba.com shares slumped 3.5 percent to close at HK$16.68 in Hong Kong Monday before the announcement was made. The stock underperformed those of Chinese Internet rivals including Tencent Holdings Ltd and Baidu Inc last year.

China Daily - Bloomberg

(HK Edition 02/22/2011 page3)