Cross guarantees between companies a significant risk in certain parts of China, according to S&P

Cross guarantees between companies are a source of significant risk in certain parts of China, analysts from rating agency Standard & Poor’s said on Monday. As Beijing pushes ahead with cuts in capacity and top-down financial market clearing leads to tightening in liquidity, it is the smaller private companies that have been hit hardest, which has increased the chances of a domino of defaults.

A cross guarantee essentially means that two or more companies provide guarantees for each other’s

debt. Since 2013, external debt guarantees have increased by 15 per cent each year among the issuers surveyed by S&P, and represent up to 25 per cent of their total adjusted debt.

Most their external debt guarantees are cross guarantees, according to a report issued by the rating agency on Monday.

“It is more prevalent in some regions, like Shandong and Zhejiang, as local banks may have been encouraging these to enhance the credit profiles of some private companies. Although, we could not rule out the involvement of local governments,” said Cliff Kurz, an S&P Global ratings credit analyst.

Smaller companies that experience funding gaps could set off a chain effect by triggering