Date
17 January 2017
China Construction Bank’s debt-to-equity swap program with Wuhan Iron and  Steel Group will involve the setting up of a 24 billion yuan transformation and development fund. Photo: Reuters
China Construction Bank’s debt-to-equity swap program with Wuhan Iron and Steel Group will involve the setting up of a 24 billion yuan transformation and development fund. Photo: Reuters

China kicks off debt-to-equity swap program

China has officially kicked off its debt-to-equity swap program, with the first project involving China Construction Bank and Wuhan Iron & Steel Group.

The swaps are aimed at lowering the debt levels of state-owned enterprises, speed up economic transformation and improve the asset quality of banks.

It is expected that a trillion yuan of such swaps would be conducted over the next three years.

Basically, under such swaps, banks will convert their loans to companies who failed to repay into equities and sell it to third parties to recoup the funds.

Meanwhile, China’s asset management companies (AMCs) and insurance firms are closely watching the progress of the program to seek profit opportunities.

It seems mainland media reports are fairly positive on these deals, and related stocks even posted sharp gains.

Debt-for-equity swaps were first initiated in China in 1999, when the government started transferring the bad debts of state-owned enterprises to the four major AMCs created for that purpose.

Back then, the Ministry of Finance injected 40 billion yuan (US$5.9 billion) into the program, and acted as guarantor to borrow 600 billion yuan from the People’s Bank of China.

This time, things are different. China’s State Council said the debt-to-equity swap program should be market-based and stakeholders should negotiate by themselves.

Several types of companies will be excluded from the debt-to-equity programs, including zombie firms, companies that have complicated debt structures and those with excessive capacity.

Such deals are supposed to create a win-win situation for investors, the debt-laden companies and their lenders.

For example, some companies are suffering from cyclical downturns, but the value of their assets stands a good chance of recovery over time, making them a good fit for investors like insurance firms, which typically have a very long investment horizon.

However, the program would need to raise several hundred billions of yuan from the private sector.

The big question would be how and where can a third party source such massive capital?

This article appeared in the Hong Kong Economic Journal on Oct. 17.

Translation by Julie Zhu

[Chinese version 中文版]

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RT/CG

Senior investment banker

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