Dongbei Steel Threatens All Local SOEs as Creditors Lose Confidence

Recently, the default of the "great" Dongbei Special Steel Group Co., Ltd. (hereinafter referred to as "Dongbei Special Steel") brings the company to the brink. North China's largest state-owned special steel enterprise, in less than four months has defaulted seven consecutive times, totaling 4.77 billion yuan, but has not yet given any solution.

After experiencing two bondholders meeting, the creditors of the local state-owned enterprises are furious, the negative response has been unbearable, no accident, then, the creditors' meeting July 21 will have multiple bondholders. Will investors buy the debt-to-equity turnaround program? We may soon find out if the Dongbei Special Steel credit crisis has already made investors lose confidence in local state-owned enterprises.

From market participants, how the serial defaults of Dongbei Special Steel are resolved will set the benchmark.
As covered in the past two days, creditors have called for Liaoning province to be cut out of financial markets. See: It's A Depression: Creditors Revolt as Dongbei Steel Defaults For 8th Time and CDB Denies It Asked Regulators to Shut Down Financing to Liaoning Province. The latter post was first (July 18), the former was from July 19 and the sources for those posts seemed to indicate while the China Development Bank may not want its name attached, the creditors did agree to declare financial war on Liaoning. This latest iFeng article confirms this storyline:
July 18, media reports said, CDB motion to suspend the initiative of the three will be the Liaoning provincial government and corporate finance in Liaoning Province.

But that evening, CDB website published a clarification announcement said that these false reports as CDB "itself does not have filed the motion functions and powers." However, the statement also stressed that "CDB is one of Dongbei Special Steel bond underwriters, will continue to carry out due diligence responsibilities, and urged relevant departments and Dongbei Special Steel debt-service obligations as soon as possible, the maximum extent possible to protect the legitimate rights and interests of bond investors, maintain regional financial security. "

A state-owned bank's financial markets department head, told the "Financial Times", although CDB made a denial, the message is certainly not groundless, presumably had voiced such things in the meeting. This reflects the Dongbei Special Steel serial defaults for creditors has reached the point of "if this is tolerated, what won't be? Enough is enough."
The creditors meeting on July 21 (tomorrow) could be a barn burner:
According to July 18 China Money bulletin, on July 21, Dongbei Special Steel bondholders' meeting will probably focus on "liquidation".
A better translation of "liquidation" might be "expose and criticize," which would suggest like the prior news, the meeting will focus on the greater problem of the government.

Another problem in the Dongbei Steel case is the creditors are not buying the debt-to-equity swap and Liaoning wants 70 percent debt-to-equity:
Market doesn't buy debt-to-equity swap

Since March this year, Dongbei Special Steel's first debt default, has held two holders meeting, but has not given any solution.

Media reports said that the current provincial government is lobbying the central government, in the hope Northeast Special Steel's financial obligations in the proportion of 70% converted to equity.

In fact, in the beginning, entitled "Provincial Coordination Leading Dongbei Special Steel Group meeting to convey the spirit of the outline" has been widely circulated on the Internet. It is mentioned that the meeting discussed and approved the northeast steel restructuring turnaround program of work, the main contents as "debt." The specific content of the "financial debt converted to equity ratio by 70%, 30% retained after the completion of debt after the original creditor can be traded or assets into the listed company through the Northeast Special Steel in the overall capital market exit."

However, the majority of creditors rejected this plan. Moreover, just a month ago Dongbei Special Steel also issued a statement that promised not to pursue a debt-to-equity swap, not to default, and guaranteed to pay all bond principal and interest.
Creditors don't see an exit in part because Dongbei Steel is unlisted:
In the creditors' opinion, Dongbei Special Steel is not a listed company, after the debt-equity swap, how creditors can recover the investment is a big problem, what's the exit channel in future? In particular, for overcapacity enterprises, it is impossible for China to allow future large-scale investment in their expansion, to spur substantial growth in profits, for the creditors, once they accepted this program it means almost certain loss.
The push to reduce overcapacity is in conflict with the concept of debt-to-equity swaps. The purpose of debt-to-equity is to allow a debt-free competitive company to emerge and grow, but China doesn't want these firms to grow, it wants them to shrink. This may be why nothing has been done with the policy. Although one plan was submitted for Sinosteel in April, no restructuring plan has been put into effect. Furthermore, on May 9, an article in the People's Daily by an "authoritative person" reversed the debt-to-equity rhetoric and said companies that are bankrupt should go bankrupt:
May 9, authorities in the "People's Daily" published an article it clear that "for those companies who really can not be saved, those which should go be closed should be firmly closed, the bankrupt should go bankrupt, do not do debt-to-equity swaps, do not engage in 'matchmaker' reorganization, as the cost is too high, self-deception, sooner or later is a big burden." This was considered a reversal on debt-to-equity.
Another problem is there's no mechanism for local governments to go bankrupt:
"It is inevitable in China because there is no mechanism provided for bankrupt local governments. This has brought a very negative impact on the development of China's credit market." Preceding financial state-owned bank head of markets told reporters.
This is causing a wider risk to all local SOEs:
Great Risk for Local SOEs

Benchmark significance embodied in the Dongbei Special Steel crisis: this is a large local state-owned enterprise, in the development of bond markets in the past few decades, investors were convinced that companies like this would not default. And now we find that when default occurs, the really difficult ones to deal with are precisely the local state-owned enterprises.
Whereas private businesses face market punishment and need to guard their reputation, in addition to having clear property rights, with government there's a very unequal balance in favor of the state:
Peng Xing Yun told reporters, "When state-owned enterprises default, the creditors are facing even higher risk than with private companies." This risk is reflected in private enterprises due to the relatively clear property rights, business managers are also the owners, if completely lost credit, market-based financing will become more difficult in the future, so private companies would be more concerned with their own reputation.

"Once the local governments involved, local business loans or public debt defaults, the cost borne by the financial institutions, that is, the cost can be passed on to the government, but the borrower has brought tangible benefits that the local government enjoyed, this is the unequal benefits and costs. "Peng Xingyun on," said first Financial Daily "reporters.
Peng Xing Yun told reporters: "I really am concerned about the solvency of local state-owned enterprises, for that matter, local state-owned debt risk may be even greater than the average company's risk."
China's ability to extend and pretend is over, if only because the creditors won't be screwed over by local and provincial governments. Since some of the creditors are as powerful or more powerful than all but the most powerful provinces, this ultimately may be settled by the central government. Everyone is watching though. The settlement of Dongbei Steel will be seen as the blueprint. If creditors are shafted, the bond market will collapse. If local governments get the short-end of the stick, muni bonds will crater. If the central government bails everyone out, the renminbi will tumble. The bill for China's credit bubble is coming due.

iFeng: 东北特钢四面楚歌:47.7亿债券连环违约 债权人围剿

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