Conglomerates

Shuli Ren is a Bloomberg Gadfly columnist covering Asian markets. She previously wrote on markets for Barron's, following a career as an investment banker, and is a CFA charterholder.

Will foreign investors shoulder China Inc.'s debt burden? Beijing hopes so.

China Chengtong Holdings Group Ltd., an asset manager under the State Council, ventured into the global bond market for the first time this week. Its $500 million of five-year notes were so well received that final orders totaling $2.1 billion came in, a person familiar told Bloomberg News. The securities pay 3.625 percent, versus the 3.667 percent yield on similar maturity Chinese government bonds.

Chengtong's main mandate is to rescue struggling state-owned enterprises. In 2016, it took a 40 percent stake in China Petroleum & Chemical Corp.'s troubled investment arm after the unit racked up 477 billion yuan ($71.3 billion) of debt on questionable foreign acquisitions. Chengtong has also worked with coal giants China Shenhua Group Corp. and China National Coal Group Corp. to retire poor-quality mines, and this year set its sights on copper, another industry plagued with overcapacity.

The People's Republic knows deleveraging must go hand in hand with SOE reform. At 156 percent of GDP, China's corporate debt is the highest in the world. Government-backed companies are responsible for much of that.  

In theory, SOE debt isn't intractable. According to the Chinese Academy of Social Sciences, state enterprises controlled 227.3 trillion yuan of assets at the end of 2015 (the latest data available), and owed 124.1 trillion yuan. If just over half of their assets could be disposed of in an orderly manner, government firms could honor their obligations.

China has proposed to reclassify its SOEs into three categories -- industrial groups, investment firms and operating companies. Chengtong falls squarely into the second camp. It will be required to sell non-core and non-strategic assets, eventually.

Chengtong is coming to global markets at an opportune moment. SOE corporate profit growth is at its highest since 2011, so it's understandable international money managers are willing to help Chengtong restock its war chest.

Making Money Again
China's state-owned enterprises are seeing their highest profit growth this year since 2011
Source: Ministry of Finance, Bloomberg

But China needs to do it right this time. As with everything else, guanxi, or relationships, are important. Will Beijing genuinely divide its state firms into three separate classes? And how clearly defined is Chengtong's mandate?

Here's a case in point: Chengtong was one of six cornerstone investors in Postal Savings Bank of China Co.'s $8 billion IPO last year and still owns about 1.2 percent of the lender's shares. In return, Postal Savings injected 50 billion yuan into Chengtong's 130 billion yuan restructuring fund. But what does Postal Savings have to do with Chengtong's restructuring mandate?

Profits Peaked?
China's producer price index appears to have hit a wall
Source: National Bureau of Statistics of China, Bloomberg

Foreigners are feeling bullish on China, pushing Hong Kong's Hang Seng Index up more than 25 percent this year. But this window of optimism could be short-lived. Producer price inflation, a measure that's directly linked to firms' profit margins, may have already peaked.

If Beijing wants to make any significant dent in SOE leverage, it had better get its skates on.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Shuli Ren in Hong Kong at sren38@bloomberg.net

To contact the editor responsible for this story:
Katrina Nicholas at knicholas2@bloomberg.net