Victor Jong, Partner, Advisory Services, PwC, is based in Shanghai and has practiced in the insolvency and corporate reorganization field since 1994. He transferred to PwC’s Shanghai office in 2004 to develop the restructuring and insolvency practice in mainland China. He has advised on numerous debt restructurings, distressed investments, receiverships and liquidation assignments in the Greater China region.
Jong sat down with China Money Network recently to reflect on the changes he has observed in this market, and where he sees attractive investment opportunities for global investors.
CMN: How has the Chinese restructuring market changed in the past few years?
Victor: There used to be very limited debt restructurings in China, as the economy was strong and Chinese companies are very good at kicking their “bad debt” can down the road. As credit tightens, the problem will eventually become too serious to hide under the carpet or ignore. The government is determined to fix the issue, hence banks are becoming more cautious and liquidity is getting tighter. It’s harder for companies to roll over their debt nowadays, and local governments are more inclined to let companies go into bankruptcy or distress.
All of these factors have resulted in an increase of in the number distressed cases we are getting involved in, including corporate bankruptcies and out-of-court restructuring cases. Bankruptcies in China, both reorganization and liquidation, reached historical highs last year. We expect the number to grow further in the next few years.
CMN: What kind of cases are you seeing these days?
Victor: Apart from large cross border cases like Mongolian Mining and Pacific Andes, PwC have been involved in a number of high profile restructuring cases that are purely domestic in recent years. For example, we are currently the joint administrator for the bankruptcy reorganization of Huishan Dairy, which has over RMB30 billion of debt in China. We are also involved in the restructuring of Bohai Steel, Dan Dong Port and more recently CEFC Group.
All these cases are very sizeable by international standards but involve primarily PRC banks and bondholders, and so the restructuring solutions have a more Chinese “flavour” involving government support and guidance and/or intervention if necessary. What we have found in each of these cases is that in many instances, this is the first true restructuring for many of the lenders and the learning curve for them is steep.
CMN: What should investors look out for when investing in debt in China?
Victor: Investors considering investing in a Chinese restructuring or enforcement situation need to fully understand the financials and fundamentals business and the options before they take action. China’s restructuring laws, foreign exchange controls and tax rules are continually evolving. Concern over social harmony continues to play an outsized role in the Chinese government’s decision making in restructuring cases. Having the right partners is the critical first step to minimize risk and maximize returns.
CMN: Where are the key investment opportunities for offshore investors?
Victor: The most mature opportunities are still in the NPL market—buying commercial loans mostly backed by real estate collateral. There have been a lot of precedents in the market and compared to other investment areas, NPLs are generally less sensitive politically and are easier to execute as their transfer to foreign investors means they have already gone through government vetting.
The key challenge of investing in NPLs nowadays is finding portfolios that meet investor return requirements and monitoring servicing. To find good portfolios you need to team up with local players like PwC. We have a dedicated NPL team that works full time to source portfolios and help investors close transactions and monitor recoveries post deal.
Buying up most of the debt of large troubled companies and restructuring and turning them around – so called “single asset” investments – is also gaining traction amongst investors. Some investors prefer such investments as they believe they can achieve higher returns through an “invest, fix and sell” approach. Hotels and real estate related projects are often key targets of such investors.
Another opportunity is restructuring offshore debt of companies with assets in China, as acquisitive Chinese corporates piled up offshore borrowings in an unsustainable manner in the past few years. Under the Chinese leadership’s policy directives, these conglomerates are rapidly going through an “unwinding” process that could offer attractive investment opportunities for foreign investors.
I believe it is still premature right now for foreign investors to fully participate in Chinese companies’ bankruptcy proceedings. Speed is critical in participating in such deals, and foreign exchange controls means investment from foreign investors is less nimble and would seem less attractive. Not to mention having to balance local political dynamics, maintain social stability and other obligations are great challenges for offshore investors.
CMN: What are the key risks for investors in this process?
Victor: Creditors in the US don’t have to care too much about people losing their jobs in a restructuring situation. Letting people go is socially acceptable. It is seen as part of the inevitable economic cycle and as a result of market conditions.
But in China, this is something investors must watch out for as the government is often very concerned about social stability and this could easily derail a restructuring. The laws on creditors’ rights in China are still developing and there are instances when creditor’s rights are not well protected or the Court just refused to accept certain cases.
Accounting fraud is rampant in China and often very difficult to discover, so investors must conduct thorough due diligence before making investment decisions. So, it is essential to have strong local partners like PwC to minimize risks, to handle government relations and manage dynamics amongst various stakeholders. In terms of foreign exchange controls and tax rules, there are also many landmines that investors need good advisors to help steer them through.