One of the heroes of Oscar-winning Chariots of Fire was Eric Liddell, the Scottish runner who won the 400m race at the 1924 Paris Olympics. Celebrated in the film for his speed, determination and principled stand, Liddell later died in the Chinese city of Weifang at the hands of Japanese soldiers. His grave is still there today, and is visited by those who want to pay their respects to one of the world’s more famous Olympians.
Earlier this month the little- known city in Shandong province nearly earned headlines for another reason – and for another potential fatality of sorts. This time a Rmb400 million ($63.5 million) bond almost defaulted – the first time a corporate bond would have done so in China’s modern financial era.
Then, on April 16, just as Shandong Helon was about to make its highly anticipated default, the local government in Weifang intervened. As reported by China Business News, it did so to avoid a major state-owned firm becoming the first casualty in the domestic bond market. Weifang officials asked local banks to provide Helon with the necessary funds.
Helon, one of China’s biggest makers of viscose fibres (artificial silk) has been experiencing plenty of commercial difficulties. Over the past six months its corporate credit rating has been continuously downgraded, and now stands at CCC. The firm first shocked bondholders when it forecast a net loss of over Rmb1.02 billion for the 2011 fiscal year. It likewise stunned 14 local banks when it postponed the repayment of loans totalling Rmb920 million.
But it is Helon’s habit of getting other SOEs to guarantee its debts that is proving to be the biggest revelation of the debacle.
In fact, such guarantees now cover more than half of the company’s outstanding loans, with estimates of guarantees exceeding Rmb1 billion. Problematically these parties are “not so reliable”, according to a Helon insider quoted by Global Entrepreneur.
Amazingly, the troubled firm was even able to offer its own guarantees as recently as February. In that month – in spite of several lawsuits filed against it for postponing its own loan repayments – Helon helped Weifang Special Steel Group secure Rmb120 million in borrowing, using its credit to guarantee the debt.
That was on top of Rmb510 million of loans it had earlier guaranteed for the steelmaker.
Interestingly, when reporters asked what would happen if Helon’s guarantees cannot be honoured, local entrepreneurs and financial professionals unanimously agreed that “anyhow the circle would not crash”. That blithe remark doesn’t inspire much confidence that loans are being made to SOEs on an entirely prudent basis. But it might be an accurate observation. Indeed, the local government’s bailout of Helon seems to have been a recognition of the wider implications of default. If it had defaulted on its bond, the fibre firm could have set off a chain reaction that embroiled other local SOEs, and caused a local financial panic. It seems that officials in Weifang concluded they couldn’t allow this web of loan guarantees to unravel – not now, at least.
Few believe Weifang is a unique case, with other cities around China likely to face the same problem of local SOEs cross-guaranteeing their bank debts.
Some still claim that Helon should not have been allowed to dodge default. Zhou Ruanfan, vice-president of Pengyuan Credit Service, told China Business News that it was a “tragedy” that default had not occurred. “A bond market with no tolerance for default is certainly immature,” Zhou warned.
Similarly, analysts were also looking at the case as the first major test for China’s new bankruptcy system. Understanding how many cents creditors could expect to get back on their Helong dollars would also have helped in pricing risk in future.
But that, it seems, will have to wait for another day.
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