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Illustration: Henry Wong

Brutal interventions in Sanpower’s debt workout show why China’s deleveraging campaign has long ways to go

  • Until Sanpower missed its bond payments, its acquisitions in 2014 and 2015 had mostly been spared the scrutiny of the nation’s financial regulators
  • Its debt-fuelled shopping spree underscores the challenge faced by banks as they struggle to untangle the debt owed by corporate borrowers, city governments and state enterprises in the nation’s ‘deleveraging campaign’

On a pleasant autumn morning on September 5 last year, an emergency meeting was convened by the deputy legal director of the China Banking and Insurance Regulatory Commission (CBIRC) in the Jiangsu provincial capital of Nanjing.

In attendance were representatives of 98 banks and financial institutions from all over China, Jiangsu’s deputy governor Fei Gaoyun and Nanjing’s deputy mayor Ran Hua.

The objective of the meeting was to devise a rescue plan for Sanpower Group, a hometown conglomerate with 100,000 staff on its payroll, with total liabilities estimated at more than 50.4 billion yuan (US$7.3 billion). The retailer and developer, founded by flamboyant entrepreneur Yuan Yafei in 1993, has defaulted on more than four onshore and offshore bonds as well as promissory notes worth a combined 2.6 billion yuan.

At the meeting, Jiangsu and CBIRC officials beseeched creditors to exercise “enhanced political awareness” in handling Sanpower’s debt, according to several attendees who spoke on condition their names and affiliations not be used. Creditors were urged to withdraw their lawsuits, unfreeze the company’s assets, and postpone any plan to force-sell Sanpower’s collateral, attendees said.

The intervention by local authorities – described as “brutal” and “arm-twisting” by attendees – underscores the bind that China’s banks find themselves in, as they struggle to untangle the debt owed by the corporate borrowers, city governments and state enterprises in the “deleveraging campaign”. Chinese borrowers have already missed payments on 39.2 billion yuan of local bonds in the first four months of 2019, putting them on track to beat last year’s record 116.6 billion yuan of defaults.
Already, a coordinated campaign in the summer of 2017 by the Chinese regulators of banks, insurers and securities firms forced Anbang Group, Dalian Wanda Group, HNA Group and several of the country’s most profligate asset buyers to stop their debt-fuelled shopping sprees. HNA has sold more than 30 billion yuan of assets since then to repay debt, while Wanda is about halfway through its slimming exercise, having shed US$25 billion in assets.
Britain’s Prince William (R) speaking with Sanpower’s founder Yuan Yafei, during the signing of a memorandum of understanding for the United For Wildlife charity, at Kensington Palace in London on October 21, 2015. Photo: Reuters

But beyond the spotlight occupied by Anbang, HNA and Wanda, dozens of other asset buyers like Sanpower kept buying assets locally and abroad. Until CEFC China ran afoul of Chinese law, and Sanpower missed its bond payments last year, most of these shopping sprees had escaped regulatory scrutiny.

Founded by Chongqing native Yuan, 54, the former civil servant built Sanpower into a retail giant and health care provider by gobbling up businesses, brands and assets around the world.

The Nanjing company paid £150 million (US$194 million) in 2014 to buy UK retail chain House of Fraser, only to sell it four years later for £90 million. Also in 2014, Sanpower paid US$173 million to rescue the US gadget seller Brookstone from bankruptcy. Another acquisition done in the same year was the March 2014 purchase of Natali health care Solutions, Israel’s largest health care and homecare provider for US$100 million.

The headquarters of Valeant Pharmaceuticals International in Laval, Quebec on 9 November 2015. Photo: Reuters

Sanpower even sought to become the world’s largest operator of a cord blood bank, buying China Cord Blood Corporation and Shandong Cord Blood Bank in 2016.

Its shopping spree didn’t end there. Sanpower paid US$820 million to buy the Dendreon prostate cancer treatment business from Valeant Pharmaceuticals in January 2017.

The company’s assets increased by 30 per cent over three years to 88 billion yuan at the end of 2017, 70 per cent of which was funded by borrowings of different maturities.

“When I joined in 2015, Sanpower boasted of its fast development and outstanding management. All our notebooks printed quotes of our chairman Yuan on the front page,” said Wang Xia, who remembered how the company had been trying to sell its own residential property development on Hainan island to its own staff, just before she was laid off last October as part of a corporate restructuring. “Now I understand, things started to go downward at that time. The company was running out of cash.”

A House of Fraser store. Photo: Handout

Yuan did try to revive House of Fraser’s century-old brand in China, announcing a £30 million capital injection with the plan to open 50 franchises over the next few years to tap the buying power by the world’s largest middle-class. Until Sanpower sold the brand at a loss, only two outlets were opened in Nanjing and Xuzhou, both in Jiangsu.

Brookstone fared worse. Four years after Sanpower’s bailout, the gadget seller filed for Chapter 11 bankruptcy in August 2018 and announced the closure of all its 101 US stores to focus on its online shopping option and airport stores.

On a recent Friday afternoon, two shopkeepers were seen playing with their smartphones in a freshly renovated Brookstone store at the Oriental Fraser flagship shopping centre in Nanjing. The store, with gadgets from air purifiers to household appliances on display, was devoid of any customer.

An inside look at a Brookstone gadget store inside the Oriental Fraser shopping centre in the Jiangsu provincial capital of Nanjing on April 19, 2019. Photo: Xie Yu

Besides pressing creditors to withdraw cases, the creditors’ committee, set up under the guidance of the authorities, also asked creditors to extend the maturity on their loans for two years, starting from September 26, 2018, in addition to offer a new syndicated loan worth five to six billion yuan, for liquidity recovery of the group, internal documents show.

The authorities, citing written instructions by vice-premier Liu He and Wang Yang, related resolution of the Sanpower case to the target of maintaining overall stability set by the Party’s leadership.

Out of their own concern to cap the ratio of bad loans, and having to make provisions for those bad debt, many banks are happy to cooperate with the government to give their borrowers more time, or even work together to hide problem loans, bank staff said.

“Debt problems were put off time and again and the casual response was that China can manage all this debt, don’t worry,” said Fraser Howie, co-author of Red Capitalism and Privatising China. “Yes, it can manage it but with a lot of pain, a much slower growth, and growing defaults and unemployment.”

Sanpower Group's head office in Jiangsu's provincial capital of Nanjing city, on April 19, 2019. Photo: Xie Yu

An effort to restructure Sanpower’s debts failed to come up with a viable plan after eight months of negotiations, as creditors failed to reach a consensus on whether the company was capable of repayment, according to several sources familiar with the matter.

At issue was Sanpower’s asset quality, stated as 77.9 billion yuan in a third-quarter financial report in 2018, but assessed at 5.2 billion yuan in the red by a due diligence report assigned by Jiangsu’s government to Fangda Partners, a local legal firm, and an auditor under the BDO alliance.

A Sanpower spokesperson said the number in the due diligence report, which has yet to be received by all creditors, is “unfounded,” declining to elaborate.

Sanpower did propose to turn its most valuable asset – a 95-acre (38 hectares) plot of land in Nanjing – into a residential property project for sale, but the development remains stuck because it owes the local government billions of yuan in land transfer fees.

Exterior view of Oriental Fraser, the flagship store of House of Fraser in Nanjing city, on April 19, 2019. Photo: SCMP/Xie Yu

Up to 32 financial institutions have commenced legal proceedings against Sanpower to recover their loans. Two of the claimants agreed on a workout plan with the borrower, while four agreed to withdraw their lawsuits or unfreeze Sanpower’s assets. The remaining 26 either declined or did not respond to Sanpower’s debt resolution committee.

“Debt recovery in developed markets is a process where creditors take back their money according to the ranking of their loan terms,” said BDO’s director Andrew Lam in Hong Kong. “It is a complicated process that needs a lot of tactics, because each creditor has its own concern, while uncoordinated moves could lead to the bankruptcy of the debtor.”

While interventions by local authorities help to stave off disorderly settlement of debt disputes, they invariably create moral hazard, giving state-linked debtors the advantage over other borrowers, Lam said.

It’s a problem that the Chinese government is trying to get a handle on, as the debt owed by local councils, city and provincial authorities have soared to 3.08 trillion yuan. China will implement new measures including the sale and restructuring of state assets or reorganisation of projects to help local authorities tackle their hidden debt, Chinese Finance Minister Liu Kun wrote on Thursday in Qiushi, the Communist Party’s journal on Marxist-Leninist theory.

At least one creditor has managed to move forward with a case against Sanpower. OCI International Holdings, a Hong Kong-listed investor, was awarded payments related to US$13 million of promissory notes, according to a December 20 order by Intermediate People’s Court of Nanjing.

Four months on, the Hong Kong-based company is yet to receive any payment. The company is engaged in “exhaustive talks” everyday with Sanpower, said an OCI executive who declined to be named for discussing a matter that hasn’t been publicised.

Sanpower’s case is “a reflection of how China has moved away from legal structures to an ad hoc approach to dealing with problems,” said Fraser, adding that it begs the question whether China has learned any lesson from dealing with debt.

“Here again we have total and unnecessary waste of resources,” he said. “When will China stop making the same mistakes and start allocating capital better? It’s boom and bust repeatedly.”

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