China Presses Financial Firms to Swap More Debt for Equity
China’s central state development planner is pressing reluctant financial institutions to increase participation in market-oriented debt-for-equity swaps as part of the government’s efforts to bring down corporate leverage. The new measures may not go far enough, industry officials said.
In a notice issued Monday, the National Development and Reform Commission (NDRC) encouraged insurance companies as well as private equity funds, banks, trusts and securities and fund management firms to step up the pace of market-oriented debt-for-equity swaps.
Such swaps involve a company’s creditors accepting equity stakes in exchange for debt they are owed. Alternatively, an investor can inject capital in exchange for shares, giving a company money it can use to repay debts.
China’s swaps program was initiated by Premier Li Keqiang in 2016 to help deleverage the corporate sector and alleviate debt-servicing burdens. While banks have been the main participants, they and other investors have found it hard to raise enough money to inject into debt-ridden companies. Only a few companies have the potential to meet investors’ expectations for a return on equity, a reason the program has progressed more slowly than expected.
As of the end of June, 109 Chinese companies signed agreements on debt-for-equity swaps worth more than 1.7 trillion yuan. But only around 20%, or 346.9 billion yuan, of the deals were implemented, according to data from the NDRC. More than 80% of the swaps were conducted through banks and their asset management arms.
The NDRC’s new notice follows a series of measures to support debt-for-equity swaps, including a reduction in banks’ reserve requirement ratio in July to release about 500 billion yuan in liquidity, which lenders were told should be used to support debt-for-equity swaps.
Under the new notice, eligible insurance companies can set up private equity funds to carry out the swaps, a measure intended to address the industry’s reluctance to participate. China’s insurance regulatory agency proposed such move in May 2017 as insurance capital is highly suitable for long-term equity investments.
China Life Insurance Group Co. is so far the only insurer that has participated in debt-for-equity deals, reflecting the lack of incentive for insurance companies because of uncertainties about returns on equity investments.
Some of the equities that investors accepted in exchange for debt still amounted to debt obligations under the name of equities, one insurance asset manager told Caixin. With insurance capital exposed to equity investment risks, insurers will be very cautious, the manager said, citing a recent swap involving Chalco that cost investors more than a third of their investments.
In July, Chalco, the listed vehicle of China’s biggest state-run aluminum producer Chinalco, issued more than 2 billion shares in exchange for 12.7 billion yuan of debt held by China Life and state-run asset management companies. At the time, the shares were valued at 6 yuan each; today their value is 3.865 yuan a share. The company’s valuation decline is mostly in line with a broader sell-off in Chinese stocks and weak aluminum prices.
“Debt-to-equity swaps still mainly aim to facilitate the reform of state-owned enterprises,” the insurance asset manager said. “Investors will only be willing to participate after the operations and corporate governance are substantially improved.”
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