The year 2019 brought positive headlines for the Chinese bond market. It marked the first-time sovereign bonds and policy bank debt were included in global indices. The international rating agencies were given licences to operate independently in China as well. Foreign holdings of renminbi-denominated debt reached Rmb2.2 trillion ($315 billion) by the end of December, up 26% from a year earlier.
There were conflicting signals too. Nearly all the financial data aggregators concluded that bond defaults broke records. Bloomberg, for one, reported that corporate defaults surged to Rmb130 billion last year, moving past Rmb122 billion in 2018.
Then there’s the bigger picture: China’s rate of GDP growth had already fallen to a three-decade low last year – long before the impact of the Covid-19 crisis on the economy would start to become clear. For investors, the question now is how far the epidemic will batter the bond market, as well as its most indebted firms. Candidate number one on that list currently is HNA, China’s troubled aviation conglomerate.
Will HNA Group be nationalised?
This question has been doing the rounds since Bloomberg reported in mid-February that the provincial government of Hainan, where HNA is headquartered, was in talks to take over the sprawling corporate.
HNA is one of the primary examples of an aggressively acquisitive Chinese firm transforming into a debt bomb. Citing “unidentified people” in the know, Bloomberg suggested the struggling company would sell the bulk of its airline assets to the big three carriers – including state-controlled Air China – to clear the worst of its debts.
HNA quickly rebuffed the report, yet in a public statement published last week also said that a “joint working group” with the Hainan government had been “tasked with assisting and promoting HNA Group’s risk disposition”.
The group is led by Gu Gang, a 42 year-old financial technocrat who is also chairman of Hainan Development Holdings, an investment firm controlled by the Hainan government. Three of Gu’s deputies are government officials, including a representative from CAAC, the aviation regulator, and an employee of China Development Bank’s credit management bureau.
HNA has also reshuffled its board of directors. Chairman Chen Feng keeps his position but Gu (also a former vice-mayor of Haikou, Hainan’s provincial capital) is now the company’s executive chairman.
Gu and another Hainan government official will sit on HNA’s seven-person board.
A number of HNA’s listed subsidiaries then followed up with stock exchange circulars insisting that the group was not being nationalised and that there was no change in their parent firm’s shareholding structure (at least for the time being). The Hainan government would “extend a helping hand” but not “take possession of” the company, HNA said.
How indebted is HNA?
The closely-held firm had kept its bankers happy for years with a $50 billion M&A binge that briefly made it the top shareholder in global brands like Hilton and Deutsche Bank. But Beijing’s crackdown on overseas deals, which started in 2017, has left all of the most leveraged of China’s acquirors looking deeply exposed. Firms such as Wanda Group have scrambled for cash (see WiC395) and insurance giant Anbang was nationalised following the arrest of its chairman Wu Xiaohui (see WiC371).
The China Banking and Insurance Regulatory Commission said last week that it had ended its two-year ‘stewardship’ of Anbang, although the insurer has since been restructured into a new entity known as Dajia Insurance (which means ‘commonly owned’). Dajia is close to a decision on introducing new investors, the statement added, without shedding light on the progress in disposing of some of Anbang’s trophy buys, like the Waldorf Astoria hotel in New York.
Onlookers have been expecting a harder landing for HNA as well. Rumours of problems at the firm were hardly helped by the shocking death of co-founder Wang Jian in 2018, who plunged to his death taking photos in Provence (see WiC417).
Nevertheless Chen Feng kept HNA soldiering on. At the company’s annual meeting in December he also assured employees (some of whom were waiting for their salaries to be paid) that 2020 would prove “a decisive year” in solving the group’s liquidity crisis.
HNA was already in the process of returning to its aviation roots, announcing a division of its businesses into airlines, aviation leasing and airports, with the remainder going into a “non-aviation asset management” unit.
Despite a number of earlier asset disposals, HNA was still sitting on more than Rmb700 billion worth of debt as of June last year, Tencent News reported. It still holds about Rmb900 billion in assets, external auditors have estimated. However, its quick ratio (the ability to pay short term liabilities with cash or liquid assets) has effectively been reduced to zero because of the damage done to its core aviation business by the coronavirus outbreak. This is also why the new team is being assembled to look at its financial options.
So how might the Hainan government help?
The government’s involvement should shore up some of the market’s confidence in HNA’s ability to wade through the crisis, CBN, a newspaper, suggested. Another task force of representatives from major creditors – mainly state-owned banks – was dispatched by the Hainan government to work with HNA in 2018. These arrangements explained the vital “blood transfusion” that it received from the policy banks, including a Rmb4 billion syndicated loan led by China Development Bank two months ago.
The newer task force, stacked with senior officials from Hainan, implies a higher level of government intervention in HNA’s debt restructuring. However, Hainanese officials will be determined that the province’s most iconic firm stays afloat. Inevitably, HNA’s business scope is going to be scaled back to concentrate more on Hainan, which might come as good news for creditors, given that some see rosy economic prospects for Hainan following the island’s status elevation into China’s biggest “special trade port” (see WiC405).
Clearly this is the line that HNA executives are taking too. “The smooth risk disposition [by HNA] can directly promote development in Hainan’s free trade port, including the island’s banking, tourism and property-related industries,” an insider close to the restructuring plan told CBN this week.
Local governments always stand up for the largest, best-connected firms in their jurisdictions, meaning that there will be hard bargaining in the days ahead. International assets like aircraft lessor Avolon Holdings and tech company Ingram Micro seem likely to be the first to be sold, especially as CBN claims (citing more company insiders) that HNA is against any restructuring of its core aviation business that might involve state-owned airlines, aka Air China, China Eastern and China Southern.
HNA was once best known as China’s biggest ‘private sector’ aviation firm (probably inaccurately – at the very least its relationship with the Hainanese government is very close). It has equity investments in 14 airlines of which the large majority are carriers headquartered in China. Unfortunately that’s a major weakness when local airlines have been forced to ground much of their fleets during the coronavirus crisis (reducing China’s aviation market to a smaller size than Portugal’s, sector specialist OAG Aviation Worldwide calculated).
Since the beginning of February HNA has been forced to cancel more than 600 of its own flights from Hainan Airlines, its flagship carrier, and its other subsidiaries. That’s 65% of its schedule at a standstill. The cash impact would be corrosive for any airline, but it’s even worse for one already in dire financial straits. Hence HNA executives must now raise at least Rmb80 billion in fresh finance, Tencent News reports – with an accompanying debt restructuring proposal to be made shortly.
Are the other carriers suffering?
Most of China’s airlines are struggling to navigate the toughest period for their industry since the SARS outbreak 17 years ago (see WiC483).
The annual rush back to hometowns during the Chinese New Year holidays usually underpins a lucrative season for the carriers. But flights through Wuhan, a transport hub, and to all the other Hubei cities in quarantine have been suspended since late January. Elsewhere in the country people are understandably reluctant to travel. As a result between January 25 and February 14 the airlines carried only a quarter of those who flew last year, the transport ministry said.
The disruption might have cost the carriers a total of Rmb42 billion (and still counting), or up to 60% of their combined revenues in 2018, Securities Times estimated – with flights on previously popular routes being offered at what local media calls “cabbage prices”. A ticket to fly from Shenzhen to Chongqing costs just Rmb50 on nearly any day this month, Securities Times noted, adding that most local airlines have been flying at 10% of their capacity.
Will it get any easier for Chinese carriers to raise funds?
Recognising their role in getting the economy moving again, the leading airlines are being allowed to tap the bond markets to ease their own liquidity concerns. China Eastern and its unlisted parent China Eastern Air Holding (CEAH), for example, have raised Rmb17 billion by selling short-term notes since January. Two tranches of these issuances, due in 183 days, came with a coupon rate of as low as 1.7%. A six-month corporate bank loan, in comparison, carries interest rates as high as 4.75%.
China Southern has raised about Rmb13 billion during the same period. The 90-day bill that airline issued came with a coupon rate of just 1.5%.
A slew of regional airlines have also tapped the bond markets, although the size of their issuances has been smaller. Most of these fixed income sales are known as “virus prevention and control bonds”, one of the many short-term measures that financial regulators have come up with to channel more liquidity into virus-hit areas of the economy. The green light for these bonds was only given a month ago but Times Weekly reports that firms have already raised more than Rmb200 billion via 249 issuances.
Regulators are approving the bonds at unusually fast speeds, but the issuer must promise to deploy at least 10% of the proceeds to fight the outbreak. For instance, Shenzhen Airlines says it is planning to raise Rmb600 million to transport medical materials and to meet demands for ticket refunds.
So far global investors don’t seem so keen on the new asset class. Most of the demand for the ‘virus bonds’ – unsurprisingly – is coming from state lenders. Nor would it be a great surprise if HNA or a few of its main airline units tap the virus bond market soon, perhaps as part of its restructuring plan. But even with the low interest rates on offer, something more radical is going to be required to right HNA’s tailspin over the longer term.
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