China bankruptcy cases surge as economy slows

Tom Hancock
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Bankruptcy cases surged in China last year, indicating growing economic stress as well as progress in the ruling Communist party's efforts to use the country's courts to deal with indebted "zombie" companies and reduce industrial overcapacity.

Chinese courts accepted 5,665 bankruptcy cases in 2016, an increase of 54 per cent from the year before, the country's top court said on Friday. About 3,600 of those cases were resolved, with 85 per cent of the resolved cases resulting in liquidation.

"It is linked to getting rid of zombie companies and making the economy more efficient," said Susan Finder, law scholar in residence at Peking University's Shenzhen Graduate School. "Provincial courts state this when they report the number of bankruptcy cases. The idea is to save the companies that can be saved and liquidate the ones that can't."

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The court did not give full regional figures but companies from China's eastern regions, which are known for manufacturing by small and medium-sized enterprises, appeared to contribute a large chunk of cases, with more than 1,600 coming from the provinces of Zhejiang and Jiangsu alone.

Many of the cases were also from economically troubled north-east China, with 346 coming from Liaoning province, which recorded a 23 per cent decline in nominal gross domestic product last year amid a downturn in heavy industry. The province was home to one of last year's highest profile bankruptcy cases, when Dongbei Special Steel Group formally entered into a restructuring process in October following serial bond defaults.

China is home to thousands of economically unviable "zombie" enterprises that survive with the support of local governments and state-owned banks. China's top state-owned asset regulator last year compiled a list of central government-owned zombie enterprises, identifying 2,041 entities with total assets of Rmb3.1tn.

China's legislature approved a modern bankruptcy law in 2007 but for years it was seldom used. Debt disputes were often handled through backroom negotiations, mainly because local officials are typically more worried about the prospect of creating unemployment than they are about angering creditors.

"China's economy is on a downward trend that increases the number of bankruptcy cases," said Ye Zengsheng, a law professor at Zhejiang University. Overall, the number of bankruptcy case numbers remained low as governments used "roguish methods" such as debt-for-equity swaps and private-public partnerships to keep insolvent firms alive, he added.

China's 6.7 per cent growth last year was the lowest since 1990.

Just under 20,000 bankruptcy cases in total were accepted between 2008 and 2015. For each insolvency case accepted by China's courts, another 100-250 enterprises are estimated to have gone out of business, mostly through deregistration and business licence cancellation, the International Monetary Fund said in a working paper last year.

The ruling Communist party has increased calls for the courts to take on more bankruptcy proceedings since 2015. Special divisions have been set up in lower-level courts to handle liquidation and bankruptcy cases.

But legal experts say most legal bankruptcies involve SMEs, where the social impact is limited, while party-controlled courts still face strong incentives to keep larger companies operating rather than rule them insolvent.