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SCMP Reporter

Bankers have warned a wave of liquidations of Hong Kong-based mainland companies could be created if debt repayment problems at insolvent Guangdong Enterprises (Holdings) (GDE) are not properly resolved.

 Creditor banks and GDE, the Hong Kong investment arm of the Guangdong provincial government, have yet to come to any understanding on the thorny issue of a haircut, or a cut in loan principal repayment.

 They were told at a financial creditors' meeting last week that GDE had liabilities of HK$31.8 billion against $19.3 billion in assets as of September.

 Guangdong executive vice-governor Wang Qishan raised the prospect of a haircut at the meeting, hinting that banks would have to bear some of the costs of GDE's restructuring.

 Any reduction in principal repayment, however, would likely compel some banks to pull the plug on other debt-ridden mainland corporates, bankers said. Many of these companies were facing heavy debt repayment this year and next on loans taken during the vigorous fund-raising during the bull market of 1996 and 1997.

 The debt crisis among mainland firms could explode at any minute, bankers warned.

 Such is the precarious relationship between foreign banks and mainland companies since the People's Bank of China ordered Guangdong International Trust and Investment Corp (Gitic) shut in October.

 Beijing's publicly declared intention of establishing a healthy financial system and transparent corporate credit environment notwithstanding, the government's sharp, shock approach to cleaning up its murky financial sector has begged many questions about credibility while souring the overseas fund-raising ability of non-sovereign entities.

 No one has challenged that borrowers and lenders who have worked against rules and regulations should go unpunished, however the summary treatment being handed law-abiding institutions that conducted their businesses to the best of their understanding of mainland rules and regulations raises some sticky problems.

 The central government maintains it has never permitted local governments to provide sovereign guarantees on foreign debts and has repeatedly stated that position in recent years.

 For example, GDE's prospectuses for US$250 million and $500 million note issues in 1997 stated: 'While the company is owned and supported by the [Guangdong] government, it is not a sub-division of that government, or the central government, GDE's obligations, including its obligations under the notes, must be satisfied out of its own assets, and are not guaranteed or otherwise supported by the Guangdong government or the central government.'  Yet foreign bankers have been quick to point out that local officials regularly stressed government backing to potential creditors, often issuing non-legally binding letters of comfort or support. For example, the same two GDE note issues in which government obligations were denied carried letters of support from the Guangdong government itself. That, they argue, amounts to a moral commitment for repayment.

 Chinese government officials have criticised foreign banks for their imprudent behaviour, for placing greater weight on government backing and letters of support than the strengths of the borrowers.

 Yet foreign bankers counter few mainland corporates could provide strong and reliable financial statements that would satisfy lending criteria on a stand-alone basis. They understood the reliance on comfort letters and the assurances of respective government officials never provided legal protection, but they argue such gestures do carry moral obligation.

 Such a system of inferred responsibility is evidently over, but China's transition to openm-arket practices is likely to be rocky. Bankers are sceptical about Beijing's current claim of debt settlement in accordance with international practices.

 The current climate of inconsistency also highlights central bank failures and patchy enforcement of government policies and works against Beijing's call for a transition to a healthy credit and financial system. Apparent contradictions are numerous.

 Mr Wang, for example, has repeatedly said Gitic's liabilities were being handled in accordance with a system of accountability introduced at the national financial work conference in November 1997.

 However, Beijing historically has agreed to repay in full all foreign debts when it moved to shut down indebted financial institutions, including last year's closure of Hainan Development Bank and China Venturetech Investment.

 Such promises of full repayment confirmed for many the belief, rightly or wrongly, that implicit guarantees existed for lending to firms controlled by government agencies.

 Directives, no less statements, that would provide a credible explanation of the differences among these cases have yet to be offered.

 There is also the apparent contradiction of the central bank's decision to allow the Guangdong government to bail out GDE, but not Gitic, particularly in the absence of a set of clear guiding principles to explain how the two cases are different.

 Today's problems lie not so much in mainland policies, but in their inconsistent implementation and enforcement. This casual approach has created a wealth of uncertainty in the regulatory environment.

 And the mainland authorities now run the danger of being perceived as both rule-maker and player in domestic markets, taking on different roles as they see fit. The damage to credit-worthiness may be profound.

 Nevertheless, such inconsistencies themselves do not serve as strong arguments before the government. Bankers can only hope for a more acceptable solution from negotiations based on mutual good faith. At the end of the day, it will be left to the financial creditors and GDE to bargain at the negotiation table on how to resolve the differences.

 The outcome of the talks will have grave implications for the 1,000-plus mainland corporates in Hong Kong and across the border, which have been hard pressed by the credit squeeze.



Debt troubles at Guangdong investment arm threaten SAR