meanwhile...chances of chinese credit crunch?, page-59

And for the last time - just because i am bored:

China: the first bond default of many
by Amy Yuan Zhuang (07 March 2014)

Today marked the first domestic corporate bond default in China’s history, as Chaori Solar Energy, a solar-equipment maker in Shanghai, failed to meet an interest payment of CNY 89.8 million (EUR 10.6 million). The Chinese financial markets have been surprisingly calm. The equity markets closed with modest losses and both money market and corporate yields were little changed.

This default could be a game changer for the entire corporate bond market in China. It highlights the risk in investing in the Chinese companies, which previously was not properly priced in. We maintain our long-held view that more corporate defaults are in the pipeline, which will help realign risk and return for corporate bonds. However, the risk of a chain reaction and spill-over to the other sectors in the economy remains limited as the corporate bond sector is still small.

A first time for everything

The default, although trivial in size, has great symbolic value. It means that the Chinese authorities finally put actions behind their words of addressing moral hazard. It is also a pledge to let market forces “play a decisive role.”

Chaori Solar was not the first Chinese company with debt repayment troubles. In late January, Shanxi Zhenfu Energy Group, a mining company, declared inability to pay back principal and interests on its CNY 3 billion (EUR 354 million) trust loan. It was saved at the 11th hour by an unidentified investor, which was widely believed to be the Chinese state. Similar exercise with bailouts and debt extensions has occurred countless times. This has created a false sense of security for bond investors. Funding costs were kept low even for lower-rated enterprises. As a result, every state-connected company considered itself too big to fail, which eventually made corporate bond risk and return even more misaligned.

Chaori Solar Energy – from hero to zero

Shanghai Chaori Solar Energy Science and Technology Co. is a midsized company specialising in research, development, manufacture and distribution of solar cell modules. It is a private company and listed on the Shenzhen Stock Exchange.

Chaori Solar was once a rising star within the solar energy sector. In 2010 it realised a net profit of CNY 2,200 million (EUR 259 million). But its nightmare began in 2011, when overall solar industry was wracked by overcapacity. Net profit plunged to CNY 55 million (EUR 6.5 million) in 2011 and the asset-liability ratio rose from 31.3% in 2010 to 56.4% in 2011 and 84.2% in 2012. As a consequence, its long-term rating (by Pengyuan Credit Rating, a Chinese rating agency) was downgraded from AA in July 2011 to CCC in May 2013.

In fact, in January last year Chaori Solar experienced trouble with repaying debt and it was bailed out by the Shanghai government, which rejected involvement this time around.

Corporate default is the new normal

The incidence today fuels concerns about heightened risk of default in China, as Beijing has vowed to restructure the loss-making state-owned enterprises (SOEs) and reduce overcapacity in the heavy industrial sector. As a part of the restructuring, which is likely to begin this year, the SOEs will no longer obtain cheap funding and state subsidies. They may be forced to shut down production and face the threat of insolvency. Since 80% of all corporate bonds are issued by SOEs, the implication could be more corporate bond defaults ahead. The risk is especially large in sectors such as steel, mining, shipbuilding and materials. In manufacturing of calcium carbide the capacity utilisation was only 60% in H1 2013!

Bored, but not bored enough to keep this repetitive discussion going.