An increase in bond defaults by Chinese companies expected in 2020 means more opportunities for restructuring advisers, as domestic and global funds gear up to buy distressed assets, a senior partner at global turnaround firm Alvarez & Marsal (A&M) says.
Corporate delinquencies surged to a record high of 153.5 billion yuan (US$22 billion) last year, up from 117.1 billion in 2018, according to Wind data. The upward trend is set to continue as the government strives to strike a delicate balancing act between actively exposing firms to risk and managing the growing financial challenges they are facing, amid the slowest economic growth in nearly three decades.
The government has for the last few years allowed defaults to happen, exposing investors to credit risk, whereas in the past it would rescue any troubled company from the brink of default.
“While there could be defaults or credit issues going forward, it doesn’t necessarily mean companies will die or go insolvent. It just means that maybe there will be rescues, maybe people will take haircuts and it will lead to more meaningful restructurings,” said Ron Thompson, managing director at A&M in Hong Kong, who heads the firm’s Asia restructuring practise.
“The Chinese government is ramping up capital for taking opportunities to help companies in trouble ... there are white knights available, and offshore funds have definitely been raising capital for the opportunity,” he said in an interview. “People in the restructuring space will be busy.”
China is gradually opening up its 2.37 trillion yuan distressed-debt market to overseas players. US institutions will be able to apply for asset management licences and acquire non-performing loans directly from Chinese banks, as part of the “phase one” trade deal struck between Beijing and Washington earlier this month.
This is set to help China’s still fledgling bond market become more mature. The country only started to allow delinquencies in 2014.
As China’s economic growth slows, more companies are likely to run into liquidity problems, Thompson said. Banks are becoming more selective, leading to increasing refinancing risks, while corporate earnings and cash flow are weakening, he said.
“There’s more bond maturities in 2020 and 2021,” he said. “[The maturity schedule] goes up in 2020, 2021, to the extent that profitability and earnings will come under pressure for a particular company. They may find it harder to refinance, and look for extensions or some sort of restructuring.”
Meanwhile, recovering losses from defaulted bonds still remains a drawn-out process with little clarity in China, hindering efforts by market regulators to internationalise the onshore corporate bond market, according to Fitch Ratings.
“Most onshore defaults have yet to show a clear path towards resolution,” Fitch analysts led by Zhang Shuncheng wrote in a recent report.
Of the 98 onshore issuers that have defaulted between 2014 and 2018, 36 sold their debt via private placement. There is little public information on their post-default status. Of the remaining 62 issuers, 24 have yet to enter into any court-administered bankruptcy proceedings, nor have they made any repayments, Fitch analysts found.
That means that a quarter of the issuers remained “in limbo” in terms of their repayment status, while the public has no knowledge of the post-default status of another quarter, according to the report.
Always look for the fool in the deal. If you don’t find one, it’s you.