Bank loans back in fashion

Businesses have had a hard time obtaining credit following the fall out from the GFC but PRC banks are opening their loan books once again. Facing a sluggish global economy, the Central Government of China has introduced policies to stimulate the Chinese economy and stoke domestic demand. And the fuel for all of this consumption? Bank loans, and lots of them.

Credit is back in fashion in China. Encouraged by the Central Government stimulus, PRC banks are gaining confidence in borrowers and their projects. ICBC reported a growth of 19.3% in RMB loans in the first half of this year - higher than the same period in past years. Similarly, China Construction Bank also reported a 19.3% growth or an increase of RMB731.41bn in total loans and advances in the first half of 2009.

Joel Rothstein, a partner in the Beijing office of Paul Hastings, said that he has definitely noticed an increase in loan transactions - and not with the traditional international financial institutional players either. “PRC banks are taking up the slack and filling the gap for those loans which were previously provided by international financial institutions,” he said.

International financial institutions, meanwhile, are now experiencing a reduction in activity as they are restricted by credit issues and policies on a global scale. “Foreign banks are having a tough time compared to domestic banks because the domestic banks are moving money very quickly. The velocity of money is faster with domestic banks and the other thing is that the domestic banks are seeing the better deals with real assets to back the loan… I haven’t seen a foreign bank closing a deal of late but I have seen a lot of closings with domestic banks,” said Rocky Lee, partner in the Beijing office of DLA Piper.

With the GFC still lingering and the harsh lessons of the credit crisis firmly imprinted on the global psyche, lawyers and banks are now more vigilant than ever. “When things were hot, people weren’t so concerned,” Rothstein said. “People are more careful this time around.” Despite their willingness to lend, Rothstein has noticed that PRC banks are now closely examining loan-to-value ratios and sponsor guarantees.

Lee has also witnessed a change.  “Historically, we were happy to look at cash flow, intangibles or intellectual property. Ever more so, there is a focus on fixed assets,” he said. In Lee’s experience, PRC banks haven’t managed risk by requesting additional covenants; they want additional collateral.

Given the fast pace in growth and the eagerness of banks to lend, in-house legal counsel for PRC banks are now faced with new challenges. “Commercial banks are encouraged to provide loans to business, but it adds more difficulties for the legal department to control risks and ensure compliance… The current market conditions have put the department’s skills and ability to balance risk management and business development to the test,” Cheng Meifen, manager of CCB’s legal department, said.

It is also crucial that law firms are aware of developments in the market, as in-house legal counsel in companies on the receiving end of bank loans will be guided by their knowledge. “External legal counsel may advise a number of clients on the same type of transaction so they know what are reasonable terms and conditions. As in-house counsel you always have to assist management make decisions, not just on legal points but on commercial issues as well. So it’s very important that external legal counsel give you an insight on what’s happening in the market,” Michelle Hung, general counsel for COSCO Pacific, said.

Whether this increase in activity will be maintained is a question that remains to be answered. The Central Government loosened restrictions on lending in China on the basis that an increase in funding would assist an economic recovery. But is there a danger that this may be a phantom recovery if lending is not directed prudently?

“I’m more concerned about where the money is going, in terms of sector, because it can trigger unintended consequences. I think that if the money is going to industry or manufacturing, that’s great, because that is what China needs to stabilise its economy and GDP growth; but going to real estate, which is more speculative, triggers alarm bells for me,” Lee said.

Regardless, transactions with PRC banks are keeping lawyers busy in China during a period where the global economy is in a fragile state. “Chinese banks have become more aggressive,” Hung said. “They are seeing [the downturn] as an opportunity to position themselves strategically.”

Recent loan transactions