These company-to-company loans, known as entrusted lending, have emerged as the fastest-growing part of China's shadow-banking system, which provides credit outside of formal banking channels. Net outstanding entrusted loans increased by 715.3 billion yuan ($115.4 billion) in the first three months of 2014 from a year earlier, according to the most recent data from China's central bank.
The increase in entrusted loans last year was equivalent to nearly 30% of local-currency loans issued by banks—almost double the portion in 2012. The jump is all the more pronounced since China's total social financing, a broad measure of overall new credit, shrank 561.2 billion yuan over the same period, largely because other forms of shadow credit declined as Beijing sought to rein in runaway debt growth.
The growing popularity of such company-to-company lending offers a fresh—and to regulators, troubling—look at the rapid buildup of debt in China. In its latest report on the country's financial stability, issued Tuesday, the central bank singled out entrusted lending as a problem, saying it is being used by banks to evade regulatory restrictions on lending. Banks, while generally not risking their own capital directly, act as middlemen in these transactions.
China's debt levels have climbed in recent years at a pace similar to increases in the U.S., euro zone and South Korea before those economies fell into their most recent recessions. The concern among some economists and analysts is that debt will continue to balloon in China, exposing the country to greater financial risks as its economy slows down.
Officials at the People's Bank of China, the central bank, have warned that much of the intercompany lending is flowing to sectors where the regulators have urged banks to reduce lending: the property market, infrastructure and other areas burdened by excess capacity. In central Shanxi province, 56% of entrusted loans in the past few years have gone to power producers, coking companies and steelmakers, among others, according to a recent paper byYan Jingwen, an economist at the PBOC.
Access to entrusted loans allows struggling companies to hang on longer than they otherwise could, delaying the consolidation that the government and some economists say is needed in a swath of industries.
Big publicly traded companies with access to credit—such as the shipbuilder Sainty Marine Corp. and specialty-chemicals producer Zhejiang Longsheng Group — are among the most active providers of entrusted loans. These companies, instead of investing in their core businesses, lend funds at hand to cash-strapped businesses at several times the official interest rate.
Officials at Zhejiang Longsheng declined to comment, while Sainty Marine didn't respond to requests for comment.
Companies provide funds to make the entrusted loans. To get around an official ban on direct lending to other companies, they need to use an intermediary—typically a bank—to lend the money out.
Banks, which in theory shouldn't use any of their own funds in the process, make money by charging fees to both the lending company and the borrower, and they don't have to record the loans on their balance sheets. However, in practice, some banks have disguised loans made with their own capital as entrusted loans, thereby helping them skirt regulatory limits on lending, according to officials at China's central bank. That has helped banks hide "credit risks," the PBOC said in the Tuesday report.
In an analysis for The Wall Street Journal, ChinaScope Financial, a data provider partly owned by Moody's Corp., found that 10 publicly traded Chinese banks disclosed that the value of entrusted loans facilitated by them reached 3.7 trillion yuan last year, up 46% from the previous year. Compared with 2011, the amount was more than two-thirds higher.
China Construction Bank Corp., one of the country's biggest state-owned banks, led the pack, with 1.4 trillion yuan of such loans outstanding at the end of 2013, according to its annual report. The bank said in the report that it doesn't bear the repayment risks for those loans. Bank officials declined to comment further.
Still, analysts say, defaults on entrusted loans could have knock-on effects if it turns out companies that have made the loans can't collect and are unable to repay other funds they have borrowed from banks.
One particular concern is loans to real-estate developers. With property prices starting to fall in some cities, many debt-laden developers are struggling to repay what they owe.
In mid-April, Sainty Marine, based in the eastern city of Nanjing, said an entrusted loan it made had gone bad, with a local property developer failing to repay 90 million yuan, plus interest. Sainty Marine said a court had ordered the city government to seize a commercial development Nanjing Fudi Property Developing Co. had used as collateral. Sainty Marine was charging interest of 18%, almost three times the central bank's one-year benchmark rate, the company said. Neither company responded to requests for comment.
A lack of disclosure makes it difficult to tell if companies are using money borrowed from banks or raised from selling bonds to lend out at higher interest rates. Sainty Marine, for instance, owed 2.3 billion yuan to banks at the end of last year, despite making its own 90 million yuan loan to Nanjing Fudi, according to the company.
"Some large and medium sized firms, especially listed companies, are earning a spread between taking bank loans and making entrusted loans, to the detriment of the development of the real economy," Wang Jiahui, an analyst at the central bank's Shanghai branch, said in a paper published in May 2013.
Source: Wall Street Journal by Lingliing Wei and Dinny McMahon
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