The American private equity firm Newbridge Capital Ltd. has completed a deal to purchase an 18 percent stake in China's Shenzhen Development Bank, marking the first time a foreign company has taken effective control of a Chinese lender, according to an announcement Monday in the state-controlled China Securities Journal.
"This is a major development in China's overall banking restructuring," said Dong Tao, an economist at Credit Suisse First Boston in Hong Kong. "Strategic partnerships are one way for China's banks to move toward the direction where they are acting more like market-oriented banks."
By the government's reckoning, China's banks are burdened with more than $225 billion in bad loans. Private economists peg the real number at more than $500 billion, exceeding 40 percent of the country's annual economic output. Worries about China's lenders lie at the center of broader concerns about the health of the country's economy.
Newbridge is not the first foreign investor to take a slice of a Chinese bank. Citibank holds a roughly 5 percent stake in Shanghai Pudong Development Bank, with which it began issuing co-branded Visa credit cards this year. HSBC Holdings PLC is seeking to purchase a one-fifth stake in China's fifth-largest lender, the Bank of Communications, according to reports published in Britain. In March, Newbridge landed another deal, buying a 5 percent stake in Minsheng Bank.
But this week's announcement was unique in one key regard: In purchasing slices of the Shenzhen Development Bank from four separate owners, the American firm became the single largest shareholder, enabling it to appoint a majority of the board members and giving it control over the bank. Seventy-two percent of the shares will continue to be publicly traded.
Government officials in China have focused on banking reform, because they fear that if skyrocketing real estate prices were to fall significantly, banks -- now deeply invested in property -- could be left holding untold billions more bad debt. That could imperil the ability of even Chinese companies to gain needed credit.
Fixing the banking system has long been among China's primary economic goals, and it's no easy task. The reformers must essentially take a financial system built to nurture state-owned companies regardless of the companies' performance and turn it into one that dispenses credit on commercial terms alone, lending only to companies able to repay debts.
The tally of bad loans is partly the result of widespread corruption, but it is also a function of the banks' traditional role as agents of state policy. Bank officials are expected to lend in support of major public works projects blessed by the government. They are also pressured by local authorities to lend to state-owned companies in support of job creation and pension obligations.
In recent years, Beijing has encouraged banks to lay off employees, close redundant branches and limit bad debts. Key to this campaign has been the role of foreign capital. Two of China's four largest state-owned banks, Bank of China and China Construction Bank, are preparing to sell shares on foreign stock markets. The government injected $45 billion into their balance sheets late last year to allow them to write off bad loans and make themselves more attractive to potential investors.
Part of the problem for Chinese banks has been what economists refer to as moral hazard -- the fact that no individual or group has an incentive to operate the banks profitably because the government can be counted on to bail them out. Reformers portray clear ownership as key to fixing the system.
"The truth is, nobody really owns China's banks now," said Tao, the Credit Suisse First Boston economist. "Even smaller shareholders would improve that, because then at least someone cares about their money."
Some observers once considered the Newbridge-Shenzhen deal impossible. Negotiations began in the fall of 2002 but appeared to collapse last year when Newbridge accused its Chinese counterparts of breaking an agreement. The American firm filed arbitration proceedings with the Paris-based International Chamber of Commerce and demanded compensation.
But Newbridge withdrew the complaint in April, the Shenzhen bank said. Over the weekend, a fresh round of negotiations ended in an agreement, according to the announcement.
The bank is headquartered in Shenzhen, a rapidly developing city across from Hong Kong that has served as a laboratory for China's market-embracing economic reforms. Terms of the deal were not disclosed in the Shenzhen Bank's announcement, and Newbridge declined to comment.