China’s First Bond Swap Ends Up in Default

Beijing Sound Environmental Engineering Co. Ltd. has failed to make part of a bond principal repayment that was due on Monday, due to tight liquidity created by higher operating costs and lost sales during the coronavirus.

The defaulted bond had been a debt swap rolled over from an earlier bond, a first for China’s onshore bond market. Such swaps are a common debt restructuring technique in offshore markets, but have just started to take off on the Chinese mainland.

In February, Beijing Sound warned (link in Chinese) bondholders that the company might not be able to repay the principal and interests on its 500 million yuan ($70 million) three-year medium-term bond on time. The company later offered investors an option in March, allowing bondholders to swap their principal in exchange for a newly issued bond, with a slightly higher coupon.

But the water and sewage treatment company said it was unable to secure sufficient funding to make a repayment of 20% of the principal of the new bond due on Monday, the first weekday after June 6, according to a statement (link in Chinese) released by the Shanghai Clearing House on Thursday. It only secured sufficient money to repay relevant interest, the statement said.

The company said it suffered from higher operating costs and fewer sources of cash flow due to tightened industry regulations and the ongoing coronavirus outbreak, according to the statement.

Under the debt swap announced (link in Chinese) on March 2, the company had said it planned to issue new one-year notes with a coupon rate of 7%, slightly higher than the earlier rate of 6.5%.

Beijing Sound had also agreed to pay 20% of the principal and relevant interest on June 6 and another 30% on Sept. 6. The new notes also gave bondholders an option to sell back the bond for the remaining principal on Dec. 6, 2020.

On March 6, Beijing Sound completed (link in Chinese) the bond exchange offer. The 11 bondholders who accepted the exchange plan swapped a combined 400 million yuan of principal, or 80% of the face value of the 500 million yuan notes, into the new bond. The remaining three bondholders didn’t accept the offer. On the same day, Beijing Sound failed to repay (link in Chinese) principal and interest on the remaining 100 million yuan to the investors.

China Chengxin International Credit Rating Co. Ltd. said it was almost impossible for Beijing Sound to repay the remaining principal and interests of the new bond on time, as the company’s cash flow hasn’t significantly improved since completion of the bond rollover, according to a statement (link in Chinese) published by the Shanghai Clearing House on Thursday. Given the recent default, the credit rating agency downgraded Beijing Sound’s rating as a bond issuer to CC from B, indicating a relatively high risk of default.

Contact reporter Tang Ziyi (ziyitang@caixin.com) and editors Doug Young (dougyoung@caixin.com) and Gavin Cross (gavincross@caixin.com)

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