Huarong debacle tests Beijing’s resolve to bail out state groups

When the former chairman of China’s biggest troubled debt manager was executed in January, the focus was on the 1.8 billion rmb ($ 280 million) in bribes he had been found guilty of accepting.

The amount embezzled by Lai Xiaomin from Huarong Asset Management, including crimes included abuse of credit-granting power and bigamy, was the highest since the founding of the People’s Republic of China in 1949, according to the judge who presided over the case.

But investors’ attention has now turned to a number several times larger: the $ 22 billion in dollar-denominated bonds the crown corporation owes.

A Huarong bond liquidation, which was sparked by the group’s failure to release financial results in late March, has become a test for a long-held belief that Beijing will always bail out state-backed companies that borrow in international markets.

“Regulators have to decide who they are going to help and how, and while they do decide, Western investors react with shock and horror because it suddenly looks like a company 61% owned by the Ministry of Finance. Said Andrew Collier, Managing Director of Orient Capital Research.

260 billion dollars

Assets held by Huarong as of June 2020

The prices of some of Huarong’s bonds maturing in 2022 fell to 67 cents on the dollar last week. They partially recovered on Tuesday after the Chinese regulator said late last week that Huarong’s operations were “normal,” according to local media.

The company’s securities arm said via social media platform WeChat that it had repaid an onshore bond owed over the weekend. Major Western investors, including BlackRock, have invested in the company’s offshore bonds, according to Bloomberg data.

More volatility came on Tuesday night in Asia, when prices for Huarong’s dollar bonds fell after U.S. research firm Reorg Research reported that Chinese regulators were considering a restructuring, citing people familiar with the matter.

Huarong International, the unit that issues or guarantees most of the group’s offshore debt, said on the same day that it had returned to first-quarter profits in a statement posted on WeChat.

The gyrations indicated the importance the markets place on the Chinese government’s stance towards Huarong. The company did not respond to requests for comment.

The group is one of many large asset management companies in difficulty in China, founded to clean up the banking system after the Asian financial crisis of the late 1990s. It has since grown into a sprawling conglomerate with RMB 1.7 billion in assets last June, following aggressive expansion in areas such as as real estate and investment banking.

The company said its inability to release financial results was necessary to be able to close a deal, without giving further details. This tapped into a larger uncertainty surrounding the quality of Huarong’s assets and the business operations of its former chairman.

Lai Xiaomin, former head of public company Huarong Asset Management, attends the court of the Second Intermediate People’s Court in Tianjin in January © CCTV via AP

Caixin, a respected Chinese trade publication, reported around the time of Lai’s execution that his 100 properties in southern China had been distributed to his ex-wife and mistresses. According to state media, Lai had deposited Rmb 300 million into a bank account nominally owned by his mother and hid tons of cash at his home in Beijing.

Chengxin Credit, a mainland Chinese rating agency, warned last week on declining profitability and high corporate debt, while maintaining a triple A rating. Western rating agencies have stuck with good quality ratings on Huarong, but have issued similar warnings about its outlook or subjected it to a revision with a view to a downward revision. S&P said this month that there was a “high probability” that the company would have government backing.

The sale “serves as a reminder that a state-owned company being a shareholder doesn’t mean you’re taking a sovereign risk,” said Michel Lowy, managing director of SC Lowy, a troubled investor with a small position in Huarong bonds. . “It’s a short walk from that.”

Fears over Huarong’s health have been compounded by uncertainty over the assets he owns. “We’re trying to do due diligence to try to understand what were the assets that were acquired and what their true value is,” Lowy added.

The concerns extended beyond Huarong. China Orient Asset Management, another bad debt manager, said last week that it was more difficult to get rid of non-performing assets in 2020 due to the coronavirus.

“What no one seems to be talking about is that other AMCs [asset management companies] may be in trouble, ”Collier said. “We just don’t know. . . there is no transparency.

Media reports of a potential restructuring in Huarong added to investor concerns.

“Any loss on Huarong’s bond instruments will not only have an impact on the company itself, but will shake the foundations of proactive state support by the Chinese government on which the valuation of dollar bonds of Chinese financial institutions and “Other public entities are being built,” research firm CreditSights said in a note in April, although it added losses were unlikely.

Beijing’s response to Huarong will likely take into account much more than the quality of the asset manager’s balance sheet, analysts say.

The Huarong debacle “could negatively impact the way bond buying in Asia is viewed globally,” Lowy said. “The level of investor scrutiny can be higher,” he added, “and it should be.”

Additional reporting by Sherry Fei Ju in Beijing

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