22 January 2019

China Cinda risks lurk in lending shadows

The share price of China Cinda Asset Management Co. Ltd. (01359.HK) has risen by more than half since it debuted in Hong Kong last month at an offering price of HK$3.58 (46.15 US cents). Cinda was for more than a decade the designated financial institution for receiving non-performing loans from China Construction Bank Corp. (00939.HK). But what are the risks and potential in the policy bank’s business model? The Hong Kong Economic Journal’s investor diary column took a look.

According to the company’s prospectus, Cinda altogether took on 1.1 trillion yuan (US$181.82 billion) worth of non-performing loans from 1999 to 2012. It’s also collected 276 billion yuan from those debts, representing a cash recovery ratio of about 25 percent, slightly better than the 23 percent average of the four asset-management firms.

But Cinda did not reveal how much it paid for those bad loans, making it difficult to assess its operational efficiency and profitability.

Yet one thing is for sure — the company’s cash recovery ratio does not fully reflect its business potential. During the debt recovery process, the company received shares in 400-plus state-owned enterprises through debt-for-equity swaps, and the value of those stocks could far exceed what it says on the books.

In the disclosure related to Cinda’s Hong Kong listing, American Appraisal China valued these equity stakes at 62.3 billion yuan. Cinda booked them at slightly less than half of that value.

That could be exactly what attracted cornerstone investment from the king of distressed-debt, private equity fund Oaktree Capital Management LLC, and American hedge fund Och-Ziff Capital Management. Both companies could have detected potential to unleash asset value from investing and restructuring indebted enterprises.

Asia’s richest man Li Ka-shing tried to do something similar more than a decade ago. He sought to tap into US firms by investing in the non-performing loan portfolios of the Columbia Savings and Loan Association back in 1999. But without the blessing from US authorities, the deal did not go through.

Nevertheless, investors should bear in mind that today’s Cinda no longer functions merely as a bad bank that dismantles non-performing assets of financial institutions, but also as a shadow bank that extends short-term loans to non-financial institutions.

Reflecting the importance of this new business, Cinda’s receivables ballooned to 80 billion yuan from zero in 2010. Related income almost quadrupled year on year to 4.2 billion yuan in the six months to June, representing 22 percent of its revenue during the period.

The risks cannot be overlooked given that Cinda has raised 20 times more debt over the past three years to top 104.1 billion as of June 2013, suggesting threats from adverse interest rate movements and bad debt levels of its own lending.

Who then will clear Cinda’s bad debt should it run into trouble?

Cinda is still 69.6 percent-owned by the Ministry of Finance and there is more than enough reason to believe Cinda cannot reject a government call for it to do its duty by absorbing bad debt in the fallout of another major credit event, such as a local government default. Can Cinda stick to market principles and negotiate the best terms? Or will it have to yield to administrative orders and put the public interest first?

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EJ Insight writer

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