China FX watchdog bares teeth on M&A financing

China’s foreign exchange regulator is toughening its stance on raising debt offshore by pledging domestic assets. The crackdown will slow outbound acquisitions.
China's foreign exchange regulator
China's foreign exchange regulator

Ever heard of Nei Bao Wai Dai? Chinese corporates and bankers often use the phrase – in Chinese pinyin form – to refer to getting an onshore bank to provide a guarantee letter in order to obtain a loan offshore, typically in Hong Kong.

The State Administration of Foreign Exchange (Safe), China’s foreign exchange watchdog, on Wednesday said on its official weibo platform that it would “severely crack down on [using] fake or malicious collateral” in the practice.

The statement marked a gradual escalation from Safe’s stance since January in fighting capital outflows via the Nei Bao Wai Dai.

It is looking at whether fraudulent or inflated claims on domestic assets were used in obtaining the bank guarantee, among other things, according to a banking source that works on the loans. More importantly, if a company is borrowing to fund an acquisition that is not in line with China’s current outbound investment policies, it will be turned down.

The announcement came as Safe denied it was probing the loan guarantees of once-prolific overseas dealmakers. Companies including Anbang, Dalian Wanda, Fosun, HNA and the Chinese owner of the AC Milan football club were earlier reported to be the target of Safe’s investigation regarding how they used the guarantees to borrow offshore. Earlier, the China Banking Regulatory Commission reportedly told Chinese banks to disclose their overseas lending made to the five groups.

The foreign exchange regulator stressed it wasn’t targeting any particular companies and would support the compliant and legitimate use of this cross-border financing structure.

“I think [the Wednesday announcement] is a warning to companies – Don’t use Nei Bao Wai Dai to get around the ODI [outbound direct investment] approval,” said a banker who is familiar with the regulatory tightening. He said the clampdown is in tandem with other capital account tightening measures.

M&A lawyers and bankers in private say Chinese companies have turned to this guaranteed financing arrangement in order to fund their overseas acquisitions amid tighter capital controls where an ODI approval has become harder to obtain and cash sweeping restricted for foreign acquisitions. The exact statistics, however, are not available as Safe does not disclose it.

“I’m aware of some cases getting done this year by using Nei Bao Wai Dai, and clients also asked whether they can do it,” a Beijing-based M&A lawyer told FinanceAsia.

“I advise not, because that’s seen as a grey-area practice in the current domestic sentiment,” he said, stressing although using the loan guarantee for overseas M&A is traditionally “ok, or at least not a regulatory probe target”, the situation has changed.

Unlike ODI, Nei Bao Wai Dai business is, strictly speaking, a bank guarantee; and as a result it generally doesn’t require a company to get an approval from the National Development Regulatory Commission and the Ministry of Commerce. Banks will disclose to Safe when processing the business.

Safe's Weibo announcement

Use of the offshore guaranteed loans are various. Industrial gas supplier Yingde Gases for example, was facing problems in its efforts to repay a maturing HK$820 million ($106 million) debt using the proceeds of a private share placement, so it secured a new offshore bank loan for debt repayment by pledging its onshore deposits in January.

However, on April 27, Safe clarified if a company is using the guarantees to fund an overseas acquisition “not in line with current regulatory regime”, banks should not provide the guarantees.

That in practice means companies, when they borrow for overseas deals, must in the mean time register with NDRC and Mofcom for ODI approval; and that if they are investing in sectors such as real estate, hotels, movie studios, entertainment and sports clubs, banks should reject them, according to a credit analyst on a team reviewing lending decisions in Hong Kong at one of the big four Chinese state banks. China has been warning against investment into these industries since late last year.

He said his bank has not accepted domestic bank guarantees to fund these investments earlier than Safe’s April clarification. “Other investments are still doable via Nei Bao Wai Dai funding,” he said, but admitted the review process has become much more stringent at the bank.

But clearly, the rules are applied more strictly to SOEs. A CFO of one of China’s biggest state-owned conglomerates told FinanceAsia on Friday that his firm could not use or pledge any domestic assets for outbound M&A in any sector, under the direction by regulators including the State-owned Assets Supervision and Administration Commission. “Either to use offshore liquidity, or to find financing offshore,” he said.

This April clarification was buried in the bottom of a supplementary document to Safe’s January announcement to open up the door for capital inflow under the Nei Bao Wai Dai scheme. It in January allowed companies to bring back the borrowing proceeds from an offshore market.

So far, listed companies’ outbound M&As funded by guaranteed offshore loans have been largely compliant, according to their public filings. Among the recent cases analysed by FinanceAsia, Chinese jewelry maker Tesiro Jewelry acquired an 81% stake in Belgium’s jeweller Leysen via its Hong Kong unit in February. It in March disclosed that the deal was funded by a 4.5 million euro ($5.3 million) loan in Hong Kong, backed by a domestic bank’s letter of guarantee. NDRC approved the case in February and Mofcom in March, according to its filing.

Aier Eye Hopistal Group, a hospital chain listed in Shanghai, announced its acquisition of Spanish healthcare company Clínica Baviera for 180 million euro ($212 million), a deal the company intended to apply for a bank loan from BNP Paribas using its domestic bank guarantee. According to a provincial Mofcom bureau’s announcement, the deal registered under ODI.

Still, some market observers believe there will be loopholes. The incentives are attractive – an onshore bank can easily expand its deposit base if a company pledges its onshore cash for a guarantee letter, and for an offshore bank, it can expand lending.

“They will be busted if caught”, said the CFO, noting the new announcement from Safe should send a stark signal. Safe didn’t respond to FinanceAsia’s question on Weibo.

¬ Haymarket Media Limited. All rights reserved.
Share our publication on social media
Share our publication on social media