Local SOEs to get more options in debt issuance

China is widening financing channels for local State-owned enterprises in order to ease the growing debt burden on local governments, sources familiar with the matter say.

The measures include allowing more enterprises to issue short-term debt in the domestic market and to raise capital via so-called "dim sum bonds" in overseas renminbi markets.

A company with a sound record - with a credit rating of AA+ or above - will be allowed to sell short-term debt that matures in 270 days or less, Bloomberg reported, citing unidentified sources with the National Association of Financial Market Institutional Investors, which regulates the sales.

Only companies that have sold at least three bonds that raised a minimum 5 billion yuan ($822 billion) over the past three years will be allowed to issue the debt.

The restriction keeps heavily indebted companies from selling short-term commercial paper, the sources said, adding that few local governments' financing vehicles for funding infrastructure projects can currently get that rating.

Only companies controlled by China's central government are currently allowed to sell the short-term bonds.

Sales of domestic corporate bonds totaled 876 billion yuan in the first nine months, more than double the total annual sales of 2010, according to data compiled by Bloomberg.

In addition, the country may soon allow a more diverse group of companies, including those owned by local governments, to issue overseas renminbi bonds (dim sum bonds) on the Hong Kong market.

"We believe the Chinese government will soon implement initiatives that will expand the dim sum bond pilot scheme to enable more China-based issuers to issue dim sum bonds directly," said Ivan Chung, vice president of Moody's and senior credit officer.

"Chinese issuers are looking for alternative funding channels, and institutional investors are seeking renminbi-denominated financial assets," Chung said. The issuance of dim sum bonds amounted to 40 billion yuan in the first nine months of 2013, equaling 165 percent of 2012's total amount.

Moody's pointed out the key challenges in developing the dim sum market are disclosure of operational and financial information, relatively weaker covenant protections and the lack of secondary market liquidity.

But the agency noted that China has launched various policy measures in the past 18 months to improve the transparency of the local governments' financial situations, which may lead to upgrading the ratings of local SOEs.

The measures to expand the financing channels came after the National Audit Office launched in August an audit of the local governments' debt scale.

That report is expected to paint a clearer picture of the debt issue, which is considered one of the major challenges facing the Chinese economy.

The last update of the comprehensive scale of China's local governments' debt was 10.7 trillion yuan at the end of 2010, which equals 27 percent of the country's GDP, though some analysts believe the level may already have reached 60 percent.

Liu Jiayi, head of the National Audit Office, reiterated on Monday that the nation is capable of solving its debt issue.

"China's debt-to-GDP ratio is not incredibly high by global standards, but the question is: Who pays for the debt, ultimately?" asked Simon Baptist, Asia regional director with the Economist Intelligence Unit.

Baptist said that while China's central government can afford to pay local governments' debt, it is not clear whether it will make all the payments, because it could lead to a moral hazard, that of encouraging local authorities to take bigger risks.

"But if local governments have to pay for themselves, it could lead to regional economic crises, as in Greece," he added.

China's response to local governments' debt issues shouldn't be an ad hoc one but a package solution that encompasses financial and fiscal reform, Baptist said, explaining that such reform may force officials to give up their dependency on land sales and unprofitable projects.