China's bad-loans market has failed to live up to expectations for investors looking for multi-billion-dollar deals. However for those with smaller war chests, there is action at the local level. Hope even flickers for large bad-debt deals this year.
These deals run around RMB50m-300m (US$6m-$36m) generally drawing no-name investors in Asia, mainly from Hong Kong, Europe and the US. "There are a lot of medium-sized NPL deals offered by the local branches of the AMCs to local and foreign investors," said David Yu, a partner with Shanghai law firm Llinks. "Our firm is actively involved in these deals."
Last year he was busy working on 50 deals. Meanwhile at the thick end of the wedge, tens of billions in potential bad debt remains locked up under the four state-owned asset management companies created to relieve the state-owned banks – Agricultural Bank of China, Bank of China, and China Construction Bank – of their bad debts, helping them shape up for more competition from foreign players when WTO opens the doors in 2007.
"Right now not very much is happening. Although a lot of investors would be happy to buy NPLs, the supply just isn't there," said Gregory Wells, managing partner with lawyers Paul, Hastings, Janofsky & Walker in Shanghai. "There is an apparent steady stream of small deals."
But it can be a dangerous game. "It's not a business for the faint-hearted, you need a lot of experience and you've got to know what you're doing," said Ted Osbourne, a distressed-assets consultant with PricewaterhouseCoopers in Hong Kong.
Back in the late 1990s foreign bankers saw China as a huge warehouse of high-profit bad debt deals that would keep the bonuses rolling as work-outs in Japan, Korea and Taiwan wound up. "Mistake number one: assuming the Chinese are the same as other countries. They don't play by others' rules," said Tim Clissold, a restructuring consultant in Beijing who formerly worked on distressed assets in China for a major Wall Street investment bank.
Many foreign bankers and analysts, looking through the lens of Western capitalism, are sure China's bad loans are, on paper, worth around US$500bn; Beijing's accountants reckon about half-that, perhaps with some justification.
China only began building a modern banking system in the 1980s, before that the People's Bank of China often handed out money but not as loans. "The bank originally was just a mechanism for transferring money out to the provinces. They weren't even really loans, just transfers of money," Clissold said.
Transfers morph into loans
Along the way those transfers somehow became loans, got mixed up with the real sour loans, and ended up as bad debt. "It's a huge exercise to try to understand the value of the portfolios," he explained. "It's also very tightly controlled because it's very politically sensitive handing over state-owned assets for foreigners to capitalize on."
With over US$500bn in foreign reserves, some analysts think the bad loan problem is overblown. Beijing seems content, until now at least, to deal with around US$70bn without the help of foreign investors. It wants the four banks ship-shape come 2007, when they will face unrestricted competition at home from lean foreign players like Citigroup, HSBC and Standard Chartered Bank.
Better-run banks without the millstone of bad debt will find raising money in global markets easier and cheaper. They will also receive a better reception from investors when the time comes for initial public offerings.
Generally, foreign investors seem to be taking a longer term view on the NPLs they go after. Chinese investors are more likely to be mixing-and-matching their NPL packages before reselling to make a quick yuan or two.
"I've only seen it done by local players, where PRC domestic entities will acquire a portfolio of distressed loans, resolve those they can and then sell the rump to additional investors, normally a joint-venture between a local and a foreign party. But I haven't seen it from the foreign side yet. I don't see it happening until there's a lot more foreign transactions," Osbourne said.
After a few quiet years, some are quietly optimistic the market in big NPL deals may stir this year. "They've recently streamlined some of the rules regarding remittance; second, you've got these asset management companies with a lot of stock that have been criticized in China for not disposing of stock quickly enough; third, you have the other banks in China that are streamlining, which could lead to more opportunities."