Jan 20, 2017 07:30 PM

Banks Give Cold Shoulder to Debt-for-Equity Swap

(Beijing) — Debt-for-equity swaps — favored by Beijing as a way to reduce financial leverage — appear to have suffered a setback as a debt-relief option after a state-owned company’s own such plan was rejected by bank creditors, who said it would erode their capital adequacy.

Trading had been suspended in April on the bonds of China Railway Materials Co. Ltd. on the interbank market because of massive losses and a potential bond payment default, a move that sent shock waves through the domestic bond market.

As of the end of the first quarter of 2016, the government-backed supplier of steel and cement for railways had incurred 56 billion yuan ($8.18 billion) in debt. Of that, nearly 18 billion yuan was borrowed from banks, and its debt-to-asset ratio was about 80%, according to bank data obtained by Caixin.

The company struck an agreement on Thursday with banks and other bondholders, nine months after the company said it was on the verge of defaulting on a debt payment.

Banks were given two options: restructure the debt payment over a longer period, or go for a debt-for-equity swap. All the bank creditors signed the debt-restructuring agreement, with not a single bank considering exchanging its share of the company’s debt for an equity stake.

“The top priority that a bank has is to avoid losses in a given financial statement,” said a source from a major bank creditor of China Railway Materials. “Half of the interest payment will be compromised, but the key part is that banks will not lose any principal, and no loans will turn sour.”

The problem with the proposed debt-to-equity swap was that “China Railway Logistics, a subsidiary of China Railway Materials, has proved to be a good asset, with a plan to go public, but the debt-for-equity swap does not involve the stakes of this company,” the source said.

Another concern that bank creditors had was the extra capital that would have been required to be set aside to cover the risks of equities that are swapped from debts. That’s because under the program, even though the banks have swapped the bad debt for equity, they still actually must hold the assets on their balance sheet after the swaps, said bank-creditor sources of China Railway Materials.

According to China’s Capital Rule for Commercial Bank, banks have to take a hefty 12.5 times the normal capital provision for the swapped equity; the weighting drops to four times involving a policy deal approved by the State Council, China’s cabinet.

Under the debt restructuring plan that all the banks chose to go with, 30% of the principal of the 17.8 billion yuan in debts held by banks will be paid within two years, and the duration of the rest of the debts will be extended by five years, according to a statement put on the website of State-Owned Assets Supervision and Administration Commission on Thursday, a regulatory authority under the State Council.

China Railway Material made a profit of 160 million yuan in 2016 after three years of losses, according to the state-run Xinhua News Agency.

Contact reporter Dong Tongjian (

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