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Dagong Grants Small Firms AAA Grade Denied to U.S.: China Credit

An employee of Dagong Global Credit Rating Co. Ltd., walks through the company's office in Beijing. Photographer: Nelson Ching/Bloomberg
An employee of Dagong Global Credit Rating Co. Ltd., walks through the company's office in Beijing. Photographer: Nelson Ching/Bloomberg

Sept. 8 (Bloomberg) -- At a time when China is cracking down on lending, small and medium-sized enterprises in the nation are being granted AAA credit ratings denied to the U.S.

Chengdu Tianbao Heavy Industry Co., a BBB rated engineering company in southwestern Sichuan province, was part of a group that received an AAA grade for 180 million yuan ($28 million) of 7.2 percent bonds on Aug. 11, according to data compiled by Bloomberg. The securities, backed by a state-owned insurer, got the top ranking from Beijing-based Dagong Global Credit Rating Co., five levels higher than its rating for U.S. Treasuries.

While China is restricting credit after the rate of inflation rose to a three-year high, it is encouraging thousands of insurers to guarantee the debt of small- and mid-sized companies that contribute as much as 60 percent of gross domestic product in the world’s fastest-growing major economy. Dagong is assigning top rankings based on the insurers’ ratings, even after cutting the U.S. one level to A last month. Standard & Poor’s downgraded the U.S.’s top grade to AA+ on Aug. 5.

“Because of funding difficulties, 20 percent of SMEs have already shut down or are not working at full capacity,” said Zhou Dewen, head of Wenzhou’s trade association for small and medium-sized enterprises in the coastal province of Zhejiang. Insurers are “helping SMEs get funds, extending their life,” he said.

Monetary Tightening

China’s small businesses are on course to sell a record amount of bonds after they were among the worst hit by monetary tightening. Policy makers pushed up borrowing costs and drained funds from the financial system to curb inflation, which accelerated to 6.5 percent in July.

SMEs issued three-year bonds at yields as low as 5.03 percent since the start of 2011. Chinese government debt of that tenor yields 3.9 percent while U.S. Treasuries yield 0.32 percent, according to data compiled by Bloomberg.

Two-thirds of industrial output is generated by SMEs, which contribute 50 percent of tax revenue and employ 80 percent of China’s workers, according to the government, which is trying to ensure policies aimed at preventing speculative investments don’t choke off their funding. The credit shortage for such firms is worse than during the 2008 financial crisis, according to a survey conducted by the All-China Federation of Industry & Commerce in 16 provinces.

The Finance Ministry and the Industry and Information Ministry issued a notice in May last year encouraging insurers to guarantee SME debt, while the banking regulator urged financial institutions in June to ease lending criteria.

Supporting SMEs

Shanghai will set up three funds with combined assets of 3 billion yuan to support SMEs, the municipal government said in a Sept. 6 statement. One billion yuan will be invested in insurers, known as guarantee companies in China, the government said.

SMEs have formed groups to sell 5.1 billion yuan of notes this year, following a record 5.3 billion yuan last year, Bloomberg data show. Outstanding loans to the businesses, including bank bill financing, surged 18 percent to 20.1 trillion yuan in the year to June, the central bank said in its second-quarter monetary policy report last month.

The credit insurance is similar to the U.S., where companies such as Ambac Financial Group Inc. and MBIA Inc. guarantee debt sold by states and municipalities, giving them AAA ratings. Units of Ambac and MBIA were stripped of their top rankings in 2008 amid losses on notes backed by subprime mortgages.

Slowing Growth

The People’s Bank of China raised interest rates five times in the past year, taking the benchmark one-year lending rate to 6.56 percent, and increased banks’ reserve requirements on nine occasions. The economy grew 9.5 percent in the second quarter, the slowest pace since 2009, as faltering growth in developed nations cooled demand for the country’s exports. Expansion will slow to 8.75 percent in 2012, according to the median estimate of economists surveyed by Bloomberg.

“If the Chinese economy has some kind of a hard landing those guarantee companies will have to face big risks,” said Shen Minggao, head of China research for Citigroup Inc. in Hong Kong. “If the Chinese government can manage a soft landing I think the risk is manageable.”

Five year credit-default swaps insuring China’s sovereign debt against default rose the most in two years last month as slowing growth heightened concerns that the banking system will need to be bailed out should loans to local governments turn sour. The contracts fell 4.7 basis points yesterday to 115 basis points, according to CMA, which is owned by CME Group Inc. and compiles prices quoted by dealers in the privately negotiated market.

Market Repudiation

Contracts on U.S. debt dropped one basis point to 51 yesterday. Default-swaps pay the buyer face value in exchange for the underlying securities or the cash equivalent should a borrower renege on their debt.

The bond market has repudiated the decision by New York-based S&P and Dagong to downgrade the U.S., as yields on Treasuries tumbled to record lows. Investor demand for 10-year government notes, the benchmark for everything from corporate borrowing to mortgage rates, drove yields to a record-low of 1.91 percent on Sept. 6.

The yield on China’s 10-year government bonds was unchanged yesterday at 4.03 percent, the lowest level in more than a week. The yuan gained 0.1 percent to 6.3877 per dollar as of 9:47 a.m. in Shanghai, according to the China Foreign Exchange Trade System.

Insurer Backing

S&P’s move conflicted with Moody’s Investors Service and Fitch Ratings, which retained their top ratings on America’s debt. The new ranking puts the U.S. on the same level as Belgium, which hasn’t had a government since June 2010, and two levels above China, which is rated AA- by S&P.

Jiangsu Re-Guarantee, a Nanjing-based insurer owned by the government of eastern Jiangsu province, had guaranteed about 23.5 billion yuan of debt as of December 2010, nine times its assets, according to the prospectus for a bond sale it backed in May. The guarantee company has a credit line of 108 billion yuan from five banks and its ability to re-pay the debt is “quite weak,” according to the prospectus.

Two phone calls to the main number listed on the company’s website seeking comment were unanswered yesterday. Dagong did not respond to e-mailed questions.

Shenzhen Small & Medium Enterprises Credit Financing Guarantee Group Co., rated AA, backed 7,989 projects with a total of 38.3 billion yuan as of September 2010, according to a prospectus for bonds issued by Zhengzhou Small & Medium Enterprise. The insurer’s assets were 1.69 billion yuan as of Sept. 30, 2010, and it received 94.68 million yuan in fees for guaranteeing debt in the first three quarters of last year. The company was not available for immediate comment yesterday.

Land, Apartments

The insurer also backed Henan Shangdu Biological Technology Co., a Zhengzhou, north-central China-based maker of animal feed products, which got a 28 million yuan one-year loan in August 2010 from Ping An Bank Co. The SME put up land and nine apartment blocks as collateral and the total rate for the loan was 5.84 percent, according to the prospectus. The benchmark lending rate at the time was 5.31 percent.

A total of 160 SMEs had sold bonds as of June, with 11.37 billion yuan of notes outstanding, the central bank said in an Aug. 10 report. This year, three were rated AAA, and the rest either AA or AA+.

Wuhan Small & Medium Size Enterprise’s 380 million yuan of three-year bonds were sold by a group of four firms in the central city of Wuhan in June and rated AAA by Shanghai Brilliance Credit Rating & Investors Service Co. The firms are rated BBB- to A-, according to the prospectus.

Guarantee Companies

The document didn’t disclose what fee was paid to insure the 5.5 percent notes. The average cost for Chinese companies ranked BBB+ to issue three-year debt is 9.5 percent, 144 basis points more than at the end of last year, Chinabond data show.

Guarantee companies had backed about 689.4 billion yuan of loans by the end of last year, an increase of almost 70 percent from 2009, Zhu Yongyang, deputy director of the financial guarantee department at the China Banking Regulatory Commission, wrote in the Sept. 7 issue of China Finance, the official magazine of the central bank.

SMEs usually deposit 10 percent of the sum they are borrowing with the lending bank, with insurers guaranteeing the remainder for a 3 percent annual fee, according to Antony Cheng, an analyst at Hong Kong-based Oriental Patron Securities Ltd.

It will be “very hard” for SMEs to get loans without such backing, Cheng said. “Most of them do not have bank borrowing records, and with loan guarantees they can shorten banks’ approval processes, which usually takes over a month.”

Many of the SMEs have already turned to the “underground” lending market, and in some cases the guarantee companies have become lenders themselves, Wenzhou’s Zhou said.

“The private lending rate is very high,” he said. “Some companies can borrow in the short-term, but in the long-term it will greatly increase their cost of capital.”

To contact Bloomberg News staff for this story: Henry Sanderson in Beijing at

To contact the editor responsible for this story: Shelley Smith at

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