Is struggling shipbuilder China Rongsheng too big to fail?

Is struggling shipbuilder China Rongsheng too big to fail?

5:05pm EDT

By Koh Gui Qing and Yimou Lee

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HONG KONG/BEIJING (Reuters) – An appeal for government financial support from China’s biggest private shipbuilder presents authorities with some stark choices between protecting a big employer and its jobs or letting the firm go under to ease pressure on a sector suffering from overcapacity and sharply falling new orders. Since Beijing appears intent on telling investors it is serious about changing the investment-led growth model of the world’s second-biggest economy and controlling a credit splurge, it may seem like the writing is on the wall for China Rongsheng Heavy Industries Group (1101.HK:QuoteProfileResearchStock Buzz). Yet analysts say the government is more likely than not to judge that Rongsheng, which employs around 20,000 workers and has received state patronage, is too big and well connected to fail.Supporting Rongsheng will not mean China’s economic reform plans are derailed, they say. Instead, it will mean reforms will be gradual and the government will cherry-pick firms it wants to support, which will exclude the small, private shipbuilders that have been folding in waves.

“Rongsheng is a flagship in the industry,” said Lawrence Li, an analyst with UOB Kay Hian in Shanghai. “The government will definitely provide assistance if companies like this are in trouble.”

Analysts say Rongsheng is possibly the largest casualty of a sector that has grown over the past decade into the world’s biggest shipbuilding industry by construction capacity. Amid a global shipping downturn, new orders for Chinese builders fell by half last year. In Rongsheng’s case, it won orders worth $55.6 million last year, compared with a target of $1.8 billion.

Rongsheng appealed for government aid on Friday, saying it was cutting its workforce and delaying payments to suppliers to deal with tightened cash flow.

It also called on its shareholders for financial help and said it was in talks with banks and other financial institutions to renew existing credit lines. Its 2012 annual report shows its short-term borrowings were about eight times bigger than its cash and cash equivalents.

It flagged losses for the first half of 2013, having posted an annual net loss in 2012 of 572.6 million yuan ($93.47 million), its worst on record.

Annual reports show that Rongsheng has received state subsidies since 2010, when it listed in Hong Kong.

In the prospectus for its initial public offer, Rongsheng said it received 520 million yuan of subsidies from the Rugao city government in the southern province of Jiangsu, where the company is based.

The state funds paid for research and development of new types of vessels, and were based in part on the “essential role we play in the local economy”, Rongsheng said.

“We cannot assure you that we will be able to receive similar government subsidies in the future,” it said. “If we do not receive such subsidies, our profit and profit margin may be substantially less than if we were to receive such subsidies.”

The company said it got state funds of 830 million yuan in 2010, 1.25 billion yuan in 2011, and 1.3 billion yuan in 2012.

As China’s economy grinds towards its slackest growth in at least 14 years, more firms like Rongsheng are foundering.

Suntech Power Holdings (STP.N: QuoteProfileResearchStock Buzz), a solar panel maker also based in Jiangsu, is waiting to be bailed out by the government after it was crushed by falling demand and a supply glut, a source with knowledge of the matter said in March. The government wants to find a way to rescue Suntech to avoid an embarrassing collapse that damages its reputation, the source said.

SHIPBUILDING DREAMS

China’s shipbuilding woes are partly of its own making. A global downturn in demand has hammered the sector since 2008, but a national obsession for global dominance in some industries led China to declare in the early 2000s that it wanted to be the world’s top shipbuilding nation by 2015.

A state-induced spike in the number of Chinese shipbuilders followed as the country led a three-fold rise in new global shipbuilding capacity in the past decade.

As the world’s largest shipbuilder, it had 1,647 shipyards in 2012, data from China Association of the National Shipbuilding Industry showed. Over 60 percent of its shipbuilders are based in Rongsheng’s province of Jiangsu.

In contrast, China’s main rivals South Korea and Japan have only 10 and 15 active shipyards, respectively, French shipping broker BRS says.

The rapid increase in capacity combined with a global shipping downturn is now taking its toll. A fifth of China’s shipbuilders lost money in 2012, data from the association of shipbuilders showed, nearly doubling from 2011.

In the Jiangshu city of Yangzhou, up to 80 percent of small, private shipbuilders have gone bankrupt in recent years, an industry official said. He declined to be named as he is not authorized to speak to the media.

There is no official data on job losses resulting from the collapse of small- and medium-sized shipbuilders.

Despite this, the government is providing support for the industry, a sign it will also support Rongsheng given its prominence in the sector, analysts said.

Export-Import Bank of China, which lends in support of government policy goals, said in January it will increase lending for the buying or leasing of ships by around $3 billion this year to support Chinese shipbuilders.

Beijing also devised a plan last year to subsidize early disposal of ships in use for over 15 years, with the state paying for 20 percent of the cost incurred, the Economics Information Daily, a newspaper run by state news agency Xinhua, said this month. The paper said the plan had not been announced due to conflicting views. It was not clear if China’s new government had vetoed the plan designed by their predecessors.

CONNECTIONS

The new central government, installed in March, has been signaling that it will push forward with reforms that broadly are aimed at reducing the economy’s reliance on investment-led growth and exports and gearing it more towards a consumer-led expansion.

Just last week Premier Li Keqiang said the government wanted to bring about orderly closures of some factories plagued by overcapacity. A statement from the State Council, or cabinet, did not specify any particular industries or companies.

Analysts say what separates Rongsheng from many other companies are its connections with the government and state banks. Rongsheng’s Chief Executive Chen Qiang, for example, enjoys “special government allowances” granted by China’s cabinet, the firm’s annual reports say.

Rongsheng also said in its IPO prospectus that it has two five-year financing deals with Export-Import Bank of China that end in 2014 and in 2015, and a 10-year agreement with Bank of China (3988.HK: QuoteProfile,ResearchStock Buzz) starting from 2009.

Experts say Rongsheng’s strong networks suggest the local governments will not let it fail, even if Beijing does not approve of a bailout.

After all, local government coffers will suffer the biggest blow if Rongsheng goes bust. The firm had 168 million yuan of deferred income taxes in 2012.

“Do people expect one of the largest shipyards in the world is going to stop building ships completely with state-of-the-art, brand new facilities?” said Martin Rowe, managing director of global shipping services provider Clarkson Asia Ltd. “I think it’s highly unlikely.”

July 7, 2013, 12:26 p.m. ET

China Rongsheng Shipyard’s Struggles Illustrate Beijing’s Dilemma

CHAO DENG and COLUM MURPHY

RUGAO, China—An anxious shipyard worker named Li and the deserted shops around him offer a glimpse of the tough choices that many of China’s most bloated industries present to Beijing.

The 46-year-old Mr. Li, who gave only his surname, said he works for China Rongsheng Heavy Industries Group Holdings Ltd. 1101.HK -12.36% The company Friday said it is struggling to pay employees and suppliers and is in talks with its bankers for more credit. Rongsheng also is seeking financial help from the government and shareholders amid a prolonged industry slump.

Mr. Li, speaking in a quiet supermarket in this eastern Chinese city centered on shipbuilding, said he is waiting for months of back pay.

“If something happens within the family and there’s no money, then there is no hope,” said the father of two, who migrated from Yunnan province to work in the Rongsheng shipyard.

The struggles of Rongsheng, its workers and its hometown illustrate the hard choices China’s government faces in trying to overhaul its economy. Ranked among the biggest three Chinese shipbuilders, Rongsheng offers a potential test of Beijing’s willingness to allow a major employer to fail as China’s economy restructures. While overcapacity in several industries threatens to become a drag on China’s economic growth, many of the companies in those sectors are big employers, important to social stability in their communities.

Early last week frustrated workers blockaded the gates to Rongsheng’s Rugao shipyard demanding that the company pay unpaid salaries for April and May, according to workers interviewed over the weekend. Mr. Li said many workers are talking about halting work again in August if overdue salaries aren’t paid.

“It is always important for us to be deeply concerned about the welfare of our workers,” a Rongsheng spokesman said, declining further comment.

China’s slowdown—the economy grew at a 7.7% annual rate in the first quarter, compared with 7.9% in the fourth quarter—appears to be fueling labor tensions. China Labour Bulletin, a labor-rights group based in Hong Kong, said 201 labor disputes took place in China in the first four months of this year, almost double the figure a year earlier.

“China’s credit crunch, a lack of export orders and the general economic slowdown have made the problem worse over the last couple of years,” said Geoffrey Crothall, a spokesman for China Labour Bulletin. “When orders dry up, workers are often the first ones not to get paid.”

Rugao is feeling the effects.

Across the street from the shipyard’s main gates, an ad hoc town had sprung up to serve the once bustling facility, which at its peak employed around 28,000 people. A company representative last week said that its workforce now has about 12,000 people.

On a street near the shipyard over the weekend, the majority of storefronts were locked up and windows taped over. Few customers hung around the remaining restaurants and stores, which sell items ranging from household appliances and company uniforms to train tickets for workers to return to their hometowns.

“Business has declined by 67% this year. We can’t even afford the rent,” said barbershop-owner Yu Zhaoqiao, who moved to the neighborhood four years ago. “At one point, we had 13 on staff. Now it’s just me.”

Mr. Yu has converted one of his two rooms into an electronics shop because there weren’t enough barbershop customers, but he says the entire operation will close if business doesn’t improve.

Upstairs from his shops, dormitories that once were filled with Rongsheng workers appear empty. “Now it’s the rats that live there,” Mr. Yu said.

A man who gave his surname as Chen said he and his friends have invested hundreds of thousands of dollars of their own money and bank loans into the supermarket since its opening last September across the street from the shipyard.

“Business has not been good since the beginning of the year,” the 34-year-old said. He said nearby mom-and-pop shops starting closing in March and so, too, will his supermarket if the Rongsheng shipyard shuts down. “We wouldn’t be able to find workers to hire even if we wanted to” because most of his employees were wives of Rongsheng workers, he said.

A Rongsheng contract worker with the surname Wu said his salary was between 4,000 yuan and 5,000 yuan, or roughly $650 to $800, a month. “We’re a lot less busy, than before,” said Mr. Wu, 40. “We used to work Saturdays and Sundays, and now we never work on weekends. Last year it was at least 30 days a month.”

He said he has got some odd jobs to tide him over until he gets his back pay and that he planned to stay in the area until the Rongsheng issue was resolved. “It’s not easy to get your salary if you leave,” Mr. Wu said.

Back at the supermarket, Mr. Li, the Rongsheng worker from Yunnan, already was thinking of an alternative. “If the shipbuilding industry is not good, maybe I can go work at a shoe factory,” he said.

About bambooinnovator
Kee Koon Boon (“KB”) is the co-founder and director of HERO Investment Management which provides specialized fund management and investment advisory services to the ARCHEA Asia HERO Innovators Fund (www.heroinnovator.com), the only Asian SMID-cap tech-focused fund in the industry. KB is an internationally featured investor rooted in the principles of value investing for over a decade as a fund manager and analyst in the Asian capital markets who started his career at a boutique hedge fund in Singapore where he was with the firm since 2002 and was also part of the core investment committee in significantly outperforming the index in the 10-year-plus-old flagship Asian fund. He was also the portfolio manager for Asia-Pacific equities at Korea’s largest mutual fund company. Prior to setting up the H.E.R.O. Innovators Fund, KB was the Chief Investment Officer & CEO of a Singapore Registered Fund Management Company (RFMC) where he is responsible for listed Asian equity investments. KB had taught accounting at the Singapore Management University (SMU) as a faculty member and also pioneered the 15-week course on Accounting Fraud in Asia as an official module at SMU. KB remains grateful and honored to be invited by Singapore’s financial regulator Monetary Authority of Singapore (MAS) to present to their top management team about implementing a world’s first fact-based forward-looking fraud detection framework to bring about benefits for the capital markets in Singapore and for the public and investment community. KB also served the community in sharing his insights in writing articles about value investing and corporate governance in the media that include Business Times, Straits Times, Jakarta Post, Manual of Ideas, Investopedia, TedXWallStreet. He had also presented in top investment, banking and finance conferences in America, Italy, Sydney, Cape Town, HK, China. He has trained CEOs, entrepreneurs, CFOs, management executives in business strategy & business model innovation in Singapore, HK and China.

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