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Skip Navigation LinksHome :: Back Issues :: Investors allow China an easy ride

June 2001

Investors allow China an easy ride


Issuer: People’s Republic of China Amount: $1 billion and e550 million Types of deal: Eurobonds Date: May 17 2001 Bookrunners: Goldman Sachs, JP Morgan, Morgan Stanley (for dollars) and Barclays Capital, BNP Paribas, Deutsche Bank (euros)




       
In mid-May, the People's Republic of China, which had been absent from the primary Eurobond market since December 1998, launched two separate deals - a $1 billion 10-year and e550 million five-year - each of which was heavily oversubscribed. China achieved tight pricing on bonds it hopes will provide a new benchmark for other Chinese borrowers. Instead of offering the usual new issue premium, it priced new paper inside the spreads to Libor at which China's outstanding dollar bonds were trading against swaps.
The A3/BBB rated borrower was able to take advantage of strong demand in Asia and Europe for a modest-sized deal from a name with real scarcity value. Asian demand priced the bonds, generating $3.4 billion of the total $4.6 billion of demand for the dollar deal. But European investors, keen to gain diversification in investment grade sovereign credits away from European governments, also subscribed eagerly, submitting orders for $1.2 billion of dollar bonds.
It's as well that demand was so strong and that the markets - buoyed by interest rate cuts from the Federal Reserve and the ECB - were so favourable. The deal was almost over-shadowed by an unseemly squabble between American and European investment banks which might have scuppered a transaction for a more troubled emerging market borrower in weaker markets.
The American banks, Goldman Sachs, JP Morgan and Morgan Stanley, claim that they had been mandated in 1999 by China to work on its next bond deal and to have been in discussions on and off ever since. China had envisaged a global dollar offering and began working more seriously towards this from the start of 2001.
One American banker says: "We had discussed with the ministry of finance the possibility of doing dollar and euro deals at the same time and they liked this idea. They reasoned that if they were going to roadshow in Europe for dollars, why not take euros also?"
Generating strong European demand was becoming increasingly important as it became clear that structuring a global deal that could be offered to US investors was going to be extremely difficult for technical and other reasons. China's shelf-registration documentation with the SEC would have to be re-written, bankers explain, because it had been filed before the recent so-called plain language rule, by which the SEC requires securities documentation to be intelligible to the ordinary investor, not just to lawyers. An exemption for foreign sovereign issuers on this had recently been removed. China would have to file new documentation which would then be subject to lengthy review.
At the same time, diplomatic tensions between the US and China were strained by China's detention of the crew of the US spy plane forced to land on its territory and by US arms sales to Taiwan. The prospect of angry protesters besieging Chinese roadshow meetings in the US was distinctly unappealing.
Against this troubled background came an unusual twist. Barclays Capital, BNP Paribas and Deutsche Bank suddenly announced that they too had a mandate from China to execute a euro deal.
The American banks complain that the European firms had resorted to unfair tactics, asking their governments to intervene on their behalf in order to avoid an embarrassing business setback. "The real story here is how could three American banks win a euro mandate from such a prestigious sovereign issuer," says one American banker. "I think the Europeans were asleep at the wheel.
And when they woke up they realized that if this euro deal got done by American firms then many other issuers in Asia and maybe even beyond would follow suit. So they decided to get their governments involved. What with the spy plane episode, the Chinese didn't want any problem with the European governments. But honestly I could never imagine what the response would be if I asked the US state department to intervene on our behalf."
"Nonsense," responds one European banker. "Indeed pathetic. The only reason why the American firms wouldn't need to ask for help from the state department is because they themselves employ so many ex-state department and treasury people to open doors for them across the emerging market." More to the point, say the Europeans, they too had previously been mandated by China to do a euro deal. This too had been much delayed, just like the dollar global given to the American firms.
Bankers away from the deal confirm that this is how it works. China almost never signs formal legal agreements over deals. It merely informs chosen banks that they have the right to start work on a transaction. Deals can often be shelved.
In the event, the euro and dollar deals proceeded separately, though twin roadshows in Asia and Europe were used to market both transactions. The main danger was making sure that bankers didn't outnumber investors on these roadshow stops. After that the two deals were executed without further consultation or co-ordination on the same day. "This is not the way you should do these things, not the way at all," sighs one banker.
But China's credit story came across well. Investors were enthusiastic about its strong GDP growth and massive foreign currency reserves which are building towards $200 billion.
Asked on the roadshow why China is not more highly rated, given these high levels of reserves and other robust traditional debt service ratios, vice minister of finance, Jin Liqun, mentioned an anti-Chinese ideological bias among the rating agencies. Pressed on the consequences of restructuring state-owned enterprises, the vice minister allowed that fiscal policy must permit spending to retrain redundant workers. But he insisted that bad debts from failed SOEs would be the responsibility of the banks. It seemed that investors were generally inclined to give China the benefit of the doubt and did not press as hard as perhaps they should have done on the likely size of Chinese banks' problem loans and the contingent liabilities of the sovereign. "A lot of European accounts had credit lines for China they can't even use," says one banker. "Some German accounts which would normally have gone into the euro deal went for the dollar bonds instead purely because of the extra duration. Having bought into the credit story they wanted maximum exposure."
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