asia pacific distressed debt 2010

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ASIA-PACIFIC DISTRESSED DEBT OUTLOOK 2010 DECEMBER 2009

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The financial crisis has reshaped the debt landscape in Asia-Pacific, and despite soaring equity markets,increasing property prices and booming hard commodities, scepticism still exists as to whether economic recovery is here to stay. Against this backdrop, Debtwire, in association with Clifford Chance andRothschild, canvassed the opinion of 100 people involved in distressed debt on their views of the Asia-Pacific distressed debt market in 2010.

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Page 1: Asia Pacific Distressed Debt 2010

ASIA-PACIFICDISTRESSED DEBTOUTLOOK 2010

DECEMBER 2009

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Page 2: Asia Pacific Distressed Debt 2010

CONTENTS

Foreword 1

Research methodology 1

Survey findings 2

Guns N' Roses and the Chinese bankruptcy law 16

Looking ahead to 2010 20

Contacts 23

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FOREWORD

Asian equity markets have soared, hard commodities boomed and Hong Kong property priceszoomed, and yet, as this survey shows, there is plenty of scepticism that the global economicrecovery now underway is sustainable.

RESEARCH METHODOLOGY

In October 2009, Debtwire canvassed the opinion of 100 people involved in distressed debt on their views of the Asia-Pacific distressed debt market in 2010. All responses are presentedanonymously and in aggregate.

But the respondents to the survey are more sanguine about Asia’sprospects: almost everyone surveyed - 95% to be precise - think that Asian economies will outperform the US and Europe in the coming year.

That doesn’t mean that Asia won’t provide distressed investors with theopportunities they are looking for.

The majority of the respondents to this survey expect the number ofdefaults in Asia to either remain the same or increase in 2010. But at thesame time, these participants indicated that finding actionable investmentopportunities is a problem. Indeed, 59% of those surveyed stated that lessthan 25% of the situations they have explored represented an actionableand attractive investment opportunity.

There are a number reasons for this, but no doubt, the fact that there areso little debt trades in Asia is the main factor which prevents investors fromtaking advantage of so many situations.

Regulatory issues are also at work too: 57% of the respondents stated that regulatory restrictions against lending directly to onshore companies,particularly in China, means that enforcing rights over security isextremely difficult.

Because of these regulations, offshore investors have, over the past fewyears, been ‘forced’ to lend to the offshore holding companies of Chinesedomestic companies, the ultimate beneficiaries of such loans. However, asthe FerroChina and Asia Aluminum cases underscored this year, offshorelenders in such situations often find that they are structurally subordinatedto onshore (Chinese) banks that are quick to freeze the borrower’s assets at the first sign of unruly foreign creditor behaviour.

Indeed, this year’s survey indicates that a large majority of investors now see China as the most difficult market in which to operate, whereas in the previous two years’ surveys, China could only tie with, or take second place, to Indonesia for this dubious award.

China also stands out in this year’s survey as being the country that is likely to be the source of more defaults than any other country in Asia. But it also ranks second (behind Australia and ahead of Japan) as havingthe most attractive distressed debt opportunities in Asia. No doubt,investors see the massive amounts of liquidity in the Chinese bankingsystem and the government’s determination to reflate the country’seconomy as providing more investment opportunities in the year ahead.

Regulatory restrictions and dysfunctional legal systems are cited as thebiggest factors behind the difficulties in enforcing security rights in Asia, but investors clearly blame bad loan structures for the problems they havein recovering value: A whopping 94% of survey participants stated thatsecurity pledges over shares and other collateral in India, Indonesia andChina had not proved as effective as had been expected when the loandeals were entered into. Meanwhile, 81% said the structured loan products,such as private placed loans arranged during the 2006-2008 boom years,did not provide adequate protection to creditors.

In this context, it’s difficult to see where the most risky emerging marketdebtors will find new funding, particularly if the rally in Asian high yieldbond and equity markets doesn’t hold up in 2010.

And without those markets, creditors could find them stuck in the sametrap of having to ‘amend, extend, and pretend’ for much longer than theyhad anticipated.

Luc MongeonEditor, Debtwire Asia

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SURVEY FINDINGS

Who was surveyed?

Please describe yourself:

Private equity investor

Hedge fund

Proprietary trading desk at bank or investment bank

Legal advisor

Financial advisor

Bank/investment bank creditrisk management/creditworkout dept34%

31%

11% 13%

5%

6%

Opportunities in the Real Estate sector areexpected to increase the most in 2010

Do you expect opportunities for distressed investors in the followingsectors to increase, decrease or stay the same in 2010?

• Echoing sentiments expressed in last year’s Distressed Debt Outlook, onceagain an overwhelming number of respondents - 84% of those surveyed -believe that opportunities for distressed investors would increase in the RealEstate sector. Interestingly, this is the largest percentage group to expectopportunities in any given sector to increase.

• Compared to 2008, the largest drop in expected opportunities is in theConsumer space. Last year 68% of respondents expected opportunities inthis space to increase. This year a mere 10% expect opportunities to increase while the rest of the respondents are almost evenly split betweenexpecting opportunities to either remain the same (49%) or decrease (41%).

• However, one respondent cautioned, saying “even when the economy is recovering, [the] consumer industry might still be in distress due tolagging effects.”

• In 2008, respondents expected distressed debt opportunities to increase orremain unchanged in most sectors as a result of the financial crisis. In thisyear's survey, a subset of investors are predicting that opportunities will infact decrease, a sign that markets are recovering.

10 49 41

84 10 6

62 36 2

58 24 18

52 37 11

47 45 8

40 51 9

39 49 12

37 51 12

38 47 15

27 53 20

16 75 9

16 73 11

8 84 8

0 10 20 30 40 50 60 70 80 90 100

Percentage of respondents

Real Estate

Oil, gas and mining

Manufacturing

Financial Services

Technology

Auto manufactures/Suppliers

Retail

Industrials and chemicals

Construction

Transportation

Paper and packaging

Telecom

Utilities

Consumer products

Increase

Remain the same

Decrease

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68% of respondents expect refinancings to be the most likely source of distressedproducts in the coming yearWhat type of situation will be the most likely source ofdistressed products in 2010?

• Similar to last year’s findings, an overwhelming majority of respondents said refinancings will offer the lion's share of distressed situations in 2010.The number of respondents expecting distressed situations to arise out ofrefinancings increased from 61% last year to 68% this year.

• 11% of the respondents expect LBOs to be the most likely source ofdistressed products in 2010. One respondent said he felt LBO situations in Australia would be particularly affected.

• The number of respondents who expect private placements to be the mostlikely sources of distressed products has more than halved to 6% in thisyear's survey, down from 15% in last year’s edition.

“Whilst there are undoubtedly numerous distressedsituations in China, we are yet to see many investors buyinto distressed debt with a view to forcing a restructuringon the debtor and shareholders. To the extent thatopportunities exist, it is more likely to be found in fundingshareholders in buying debt back at a steep discount,given the creditor side execution risks in China.”

Scott Bache, Partner, Clifford Chance

Refinancings

LBOs

Pre-IPO financings

Private placements

Equity-linked notes

Other

Share-backed financings

68%

9%

2%1%

11%

3%

6%

Most respondents predict that China willoffer significant distressed debt opportunities

Rate each country based on its expected distressed debtopportunities in 2010

• China, Indonesia and Australia are again at the top of the list ofcountries expected to witness significant levels of distressed debtopportunities of debt to emerge in the coming year. However, in lastyear’s report the clear majority believed that these countries wouldoffer significant distressed debt opportunities, while in this year’sreport more respondents state that they see only some distresseddebt opportunities.

• One respondent stated that “export-oriented countries” would offer the majority of distressed debt opportunities and added that this iswhere firms are looking for debt financing in a short time frame to meet their needs”.

• In relation to China, which overall is seen as the country that willoffer most distressed debt opportunities, one respondent said that“there will be countries like China where there are lots of distressedsituations, but it does not necessarily mean there are opportunitiesfor investors”.

• Japan is interesting in that it is a mixed bag: while 17% ofrespondents believe the country will offer significant distressed debtopportunities, 14% believe it will in fact offer no distressed debtopportunities at all.

0 10 20 30 40 50 60 70 80 90 100

Percentage of respondents

58 16 16 2 8China

35 31 27 5 2Indonesia

21 36 38 5India

36 8 38 11 7Australia

15 8 63 13 1Thailand

16 5 58 18 3South Korea

6 11 66 14 3Hong Kong

4 12 71 10 3Taiwan

5 3 80 10 2Malaysia

17 8 43 18 14Japan

2 80 15 3New Zealand

22 70 22 4Philippines

13 69 19 8Singapore

2 11 57 11 19Vietnam

Significant distresseddebt opportunities

Distressed debtopportunities

Some distressed debt opportunities

Few distressed debt opportunties

No distressed debt opportunities

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SURVEY FINDINGS

Increase

Remain the same

Decrease

49%

28%

23%

0 10 20 25 505 15 30 35 40 45

China

Indonesia

Japan

Australia

India

Korea

Vietnam

Thailand

Philippines

Malaysia

49%

26%

23%

17%

16%

5%

2%

2%

1%

1%

Percentage of respondents

(Respondents may have chosen more than one answer)

A slim majority predict that the amount ofdefaulted debt in Asia will increase in 2010

Do you expect the amount of defaulted debt in Asia (inclusive of Japan and Australia) in 2010 to:

• Just under a half (49%) of respondents expect that the amount ofdefaulted debt in Asia to increase in 2010.

• One of these respondents took a particularly gloomy view saying that“the recovery is very far away. Many companies are in trouble but didnot announce it, so they will gradually come up next year”. Anotherrespondent, who also felt that the amount of defaulted debt wouldincrease, put his opinion in context saying that while he felt it wouldincrease “the rate would be slowing down”.

• Meanwhile, 23% of respondents said they expect the amount ofdefaulted debt in Asia to remain the same. One of those surveyed saidthat “the worst [was] over in 2009”.

• At the other end of the spectrum, over a quarter of the respondentspredict that the amount of defaulted debt in Asia will decrease in 2010with one respondent even saying that “most of the problems [have been] resolved by government”.

China is also predicted to see the largestincrease in defaults say 49% of the respondents

Which countries do you expect to see the largest increase in defaults?

• 49% of those surveyed believed that China will see the largest increase in defaults. One of those who responded this way linked their opinionspecifically to performance in the property sector.

• Indonesia, a country that already sees a fair share of distressed debtsituations, is expected by 26% of the respondents to see the largest increase in defaults in the coming year.

• Only 2% of the respondents believed that Vietnam will see the largestincrease in defaults, explaining that “local investment pools are small[and it is] not easy to raise money”.

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Australia is predicted to see the smallestincrease in defaults, but interestingly comparedto the previous chart, 21% of respondentsbelieve it will in fact be ChinaWhich countries do you expect to see the smallest increase in defaults?

• 49% of those surveyed believe that Australia will see the smallest increase in defaults. One of those surveyed linked his opinion to the mining boom experienced by Australia.

Tellingly, 46% of those surveyed believe that Australia will offer the most attractivedistressed debt opportunities, followed by ChinaWhich countries offer the most attractive distressed debt opportunities?

• Despite being described by so many people as the least likely countryto see an increase in defaults, 46% of respondents believe thatAustralia will offer the most attractive distressed debt opportunities.One of these respondents qualified his statement by linking it to thelocal legal system that meant that distressed debt opportunities inAustralia, as well as in Thailand, Korea, Malaysia and Singapore, were most attractive.

• One respondent who invests in Asian distressed debt said “I actually donot think Asia is a good place to invest in distressed debt. The lawsand situation on security is just not good enough to protect investors.”

• Interestingly, this question also elicited the response that opportunitiesare “more corporate-specific than geography [related]”.

0 10 20 25 505 15 30 35 40 45

Australia

China

Japan

India

Singapore

Indonesia

Taiwan

New Zealand

Vietnam

Brunei

49%

21%

19%

11%

6%

4%

3%

1%

1%

1%

Percentage of respondents

(Respondents may have chosen more than one answer)

0 10 20 25 505 15 30 35 40 45

Australia

China

Japan

Indonesia

India

Korea

Singapore

Malaysia

Thailand

Vietnam

46%

33%

20%

20%

9%

6%

3%

2%

2%

1%

Percentage of respondents

(Respondents may have chosen more than one answer)

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SURVEY FINDINGS

The majority of respondents see light at theend of the tunnel and expect sustainablerecovery within a year

When will the global economy enter a sustainable recovery?

Opinion is almost evenly split between those who predict a W- and an L-shaped globaleconomic recovery

What kind of global economic recovery do you think is beingexperienced, or will be seen?

• The jury is out on what kind of economic recovery will be experienced: 40% of respondents expect a W-shaped recovery, while a similar number of respondents (38%) expect recovery to be L-shaped.

• Those in the L-camp further say that they expect a “painfully slow recovery”and that they foresee “strong growth and a slow steady recovery which willbe over a longer period of time”.

• Meanwhile, those in the W-camp say the “back-end will not be as low asbefore” and predict that the “second dip will be less severe”.

• The majority of those surveyed believe there is light at the end of thetunnel. 28% of those surveyed believe that a sustainable recovery of the global economy is already underway, while 8% and 31% believethat is will happen within six months and one year respectively.

• However, while many of those surveyed are fundamentally optimistic,there are still words of caution.

• One of those surveyed – a person who feels that sustainable recovery is already underway – qualified his statement by saying that recovery is “only underway in Asia” and that “in US and Europe they're justprinting money”.

• Meanwhile, one respondent who expects sustainable recovery to takeplace in a year’s time also says that the world economy is currently “at a stage of balancing” and that we will “probably see a moresustainable recovery around [the] second semester of 2010”.

Already underway

6 months

1 year

2 years

3 years

Longer

8%

31%

29%

20%

6%

6% W-shaped

L-shaped

V-shaped

U-shaped

38%

40%

7%

15%

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An overwhelming majority of respondentsbelieve the Asian economies will outperformthose of the US and Europe in 2010

Will Asian (excluding Japan) economies outperform the economies of the US and Europe in 2010?

• An overwhelming majority (95%) of respondents expressed their confidencein the Asian economies and believe they will outperform the economies ofthe US and Europe.

• One of the respondents explained that this recovery would be “centredaround China” explaining that the “Chinese government has the ability topresent [its] views on how the global system works” and is “quick anddecisive to react”.

• Meanwhile, another cautioned that “much of Asia's growth in recent yearscan be attributed to exports, but since the decline in the US dollar andconsumer market, Asian countries will have to look for other ways to boost GDP”.

An overwhelming majority of respondents(91%) believe that structured loan productsavailable to investors in the 2006-2008period have not provided adequate protectionto creditorsHave the structured loan products, such a private placed loans(inclusive of pre-IPO debt and share-backed loans) that wereavailable to investors in the 2006-2008 period providedadequate protection to creditors?

• Of those surveyed, 91% said they felt that structured loan productsavailable to investors in the 2006-2008 period have not providedadequate protection to creditors; only 9% felt this was the case.

• Of those who felt that these products did not offer adequate protectionto creditors, some had very harsh words to say. One said that “some …are out-right frauds” while another commented that “the jurisdiction inChina inevitably leads to inadequate protection”.

Yes

No

95%

5%

No

Yes

91%

9%

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SURVEY FINDINGS

The majority of respondents do not believe that having security pledges over shares andother collateral in India, Indonesia and China is effectiveHave security pledges over shares and other collateral in India,Indonesia and China proved as effective as had been expected when loan deals were entered into?

• Of those surveyed, 94% feel that security pledges over shares and other collateral have been effective when making investments in India,Indonesia and China.

• Those that believe they are ineffective have been outspoken with theircriticism. One investor says that “the pledges are worth nothing" whileanother said that “lending criteria need to be re-thought as movementand values of equities [are] too rapid, [it] does not give them anyprotection and so in practice it does not work”.

The majority of respondents attribute thedifficulty of enforcement rights over security in these structures to regulatory restrictionsagainst lendingTo what do you attribute the difficulty of enforcement rights over security in these structures?

• 57% of respondents claim that regulatory restrictions against lending pose the greatest difficulty of enforcement rights over security.

• On the flip side, only a very small number of respondents (1%) believe that nefarious debtor tactics create the difficulties.

• In the comments, many respondents mentioned China and the fact that in this country many different problems make the process additionallydifficult. One interviewee said that the insolvency laws are quite new and one of the most problematic issues is a dysfunctional judiciarywhere implementation and interpretation of these laws [differs] betweendifferent provincial areas”. Another said that “there are a lot of politicalissues” and as an example added that “bankruptcy laws in China make it difficult for offshore parties, while the structures of lending are verycomplicated for deals”.

No

Yes

94%

6%

100 20 6030 40 50

Regulatory restrictions

against lending

Dysfunctional judiciary

and/or corrupt government

Inadequate structuring

Poor documentation

Poor due diligence

Inefficient, disorganised

creditor group

Nefarious debtor tactics

57%

52%

44%

31%

17%

7%

1%

Percentage of respondents

(Respondents may have chosen more than one answer)

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The majority of those surveyed have 20% or less of the loans and/or bonds in theirportfolio in payment default or in breach of one or more covenantsWhat percentage of loans and/or bonds (including CB andexchangeable bonds) in your portfolio(s) could be classified as:

• 65% of those surveyed say that 20% or less of their loans and/or bonds in their portfolio are in payment default while 50% say that 20% or less of their loans and/or bonds in their portfolio are in breach of one or more covenants.

• At the top end of the scale, a mere 3% responded said that 81 to 100% of the loans and/or bonds in their portfolio are in payment default or inbreach of one or more covenants.

There was a surprising response to the question regarding the success oftroubled loans which have been restructured or resettled What percentage of troubled loan and/or bonds in your portfolio(s) have been successfully restructured or settled?

• Given that around 75% of those surveyed are in some way creditinvestors, it is surprising to see that 57% of respondents stated thatthis question does not apply to them. The implication is that theseinvestors have no loans or bonds in their portfolios that are in some way in default.

Less than 10%

Up to 25%

Up to 50%

More than 70%

Not applicable

7%

11%

13%

57%

12%

In breach of one

or more covenants50 23 20

In payment default 65 18 10 4 3

4 3

0 10 20 30 40 50 60 70 80 90 100

Percentage of respondents

0-20%

21-40%

41-60%

61-80%

81-100%

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SURVEY FINDINGS

Another surprising response…

At present, what percentage of resources does your funddevote to negotiating debt restructurings and/or settlements?

• For those who admit to having defaulted loans and bonds in theirportfolios, it seems that working out settlements and or restructuringsdoes require considerable time and resources: 20% stated thatnegotiating restructurings/settlements took up 25% of their resources;and another 12% said this took up to 50%.

An overwhelming majority of respondents claim they have adequate resources to deal with problem debtors

Does your fund or bank have adequate resources to deal with problem debtors?

• Almost all of those surveyed (99%) say that their fund or bank has adequate resources to deal with problem debtors.

Less than 10%

Up to 25%

Up to 50%

More than 70%

Not applicable20%

13%

54%

12%

1%

Yes

No

99%

1%

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Majority of respondents have 40% or less of their funds currently dedicated to making new investments

What percentage of your fund’s resources are presently dedicated to making new investments?

• The majority of respondents have 40% or less of their funds currentlydedicated to making new investments – 29% say that up to 20% of theirfunds are allocated in such a way and another 26% say that is it between21% and 40% of their funds.

• The rest of the respondents say it is over 40% but a noteworthy 11% saythat no specific amount that has been set aside to make such investments.

• One of the respondents who said that up to 40% of his funds investmentsare currently dedicated to making new investments explained that in the firstsemester of 2009 “a minimal amount [was put] towards investments [but inthe] second semester huge improvements in percentage [were made]”.

“Until arrangers and investors start insisting on minorityequity type protections onshore, particularly in China,Indonesia and India, they will continually be disappointedand frustrated with the lack of traction an offshore securitypackage gives them in a distressed situation. Frankly, ifyou're not lending against the assets onshore, you are ineffect subordinated equity.”

Scott Bache, Partner, Clifford Chance

Roughly the same amount of respondentsexpect there to be more or the same amount of leverage in their portfolio in 2010

Do you anticipate using more, less or the same amount of leverage in your portfolio in 2010?

• Roughly the same amount of respondents expect to have more or the same amount of leverage in their portfolio in 2010 – 38% of those surveyed say it will be more, while 40% say it will be the same amount.

• One of those who said it will be more put the sum into contextexplaining that it will not be “up to the 2007 level”. Another said that “companies are looking for some good opportunities to work with and since lending banks will start to loosen up a little, leveragemay increase”.

0-20%

21-40%

41-60%

61-80%

81-100%

No specific amount

29%

11%

9%

19%

6%

26%

More

Same amount

Less

38%

22%

40%

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SURVEY FINDINGS

Majority of respondents say that less than 25% of distressed debt situations in Asia they have explored in 2009 haverepresented an actionable and attractiveinvestment opportunityExcluding advisory work, what percentage of distressed debt situations in Asia that you have explored in 2009 have represented an actionable and attractive investment opportunity to your bank/investment fund?

• Excluding advisory work, 59% of respondents say that less than 25% of the distressed debt situations they have explored in Asia in 2009have represented an actionable and attractive investment opportunity.

• One of the respondents even put the figure as low as 5% saying that the market has not been “attractive” and added that the “globaleconomy has been terrible”.

“Given the distinct advantage that shareholders have over foreign creditors in many distressed situations, this is hardly a surprising result. Generally, if it's not a financial sponsor owned borrower or a distressedsituation in Australia there are few, if any, attractiveopportunities to get involved in distressed situations at the moment in Asia. To be successful, you needleverage over the shareholders and management overand above your rights as a creditor.”

Scott Bache, Partner, Clifford Chance

Compared with the US and Europe, a majorityof respondents say that in Asia IRRs are higher

How does the Asian market (excluding Japan and Australia)compare to the US and European markets?

• A clear majority of those surveyed feel that, in Asia, internal rates of returnare either higher or on par with those made in the US or the Europeanmarkets, 55% say they are higher, while 25% say they are the same.

• One respondent, among the 20% of respondents who believe IRRs are infact lower, says that emerging markets are over-hyped. He adds, “What you see is not always what you get.”

Less than 25%

26-50%

51-75%

76-100%

59%

2%9%

30%

IRRs higher

IRRs are similar

IRRs are lower

55%

20%

25%

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A clear majority of respondents said that themajority of opportunities in distressed debtinvesting in 2010 will come from trading insecondary debt

Opportunities in distressed debt investing in 2010 will come mostly from:

• A strong majority of those surveyed (65%) expected the majority ofopportunities in distressed debt investing in 2010 will come from trading in secondary debt.

• Only a small group (3%) expected funding in sponsor-led debt buy backs to offer the majority of opportunities.

• In addition, one of the respondents said that he felt many opportunities“would be event-driven” and related to “rescheduling”. Another raised the“possibility the Limited Partner market will surface more in the coming yearalthough this market is not that mature”.

The majority believe that less than 25% of restructurings/settlements in 2010 will be dealt with via a debt rescheduling with haircuts

What percentage of debt restructurings/settlements in 2010 do you expect to come from:

• An 84% majority believes that less than 25% restructurings/settlementsin 2010 will be dealt with via a debt rescheduling with haircuts.

• Meanwhile 11% of respondents believe that over three quarters ofrestructurings/settlements in 2010 will be addressed via basic debtrescheduling, while 21% believe over three quarters will be via exchange offers.

• One of these respondents said, “we'll see debt buybacks withdiscounts... and refinancing with lower coupons (say 10% to 6%)”.

Trading in secondary debt

Private equity

Buying debt at discounts with a view to participatingin the debtor’s restructuring

Funding sponsor-led debt buy backs

3%9%

23%

65%

5811 14 32 9

21 15 36

22 33 42

25 59

13 80

22 60

15 73

6 84

0 10 20 30 40 50 60 70 80 90 100

Percentage of respondents

Debt rescheduling

Exchange offers

Debt buybacks

Debt-to-equity

conversion

Asset sales

Covenant resets

Convertible/

exchangeable bonds

Debt rescheduling

with haircuts

76-100%

51-75%

26-50%

0-25%

(Respondents may have chosen more than one answer)

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SURVEY FINDINGS

The majority expect money for distressedinvestments to come from existing hedge fundinvestors/prop desks that have been able toobtain new commitments or mandates Where will the money for distressed investments come from?

• While the majority (60%) of respondents believe that money fordistressed investments will come from existing hedge fundinvestors/prop desks that have been able to obtain new commitments or mandates, 49% also believe that it will in fact come from newly set up funds.

• A small group of people (18%) also believe that additional cash willcome from US and European funds that have decided to enter the Asian market.

In China, creditors are widely expected to face the greatest difficulties in exercising and enforcing their rights over security

Which country do you think is most difficult for creditors to exercise (or enforce) their rights over security?

• 75% of respondent say that creditors will find it most difficult to exerciseand enforce their rights over security in China.

• Investments in Indonesia are expected by 27% of the respondents to posesimilar problems to creditors.

• One respondent compared the two countries saying that “we've only seenone of two cases in Indonesia with problems, but things are much worse in China. The legal framework is simply not transparent enough.”

• One survey participant commented, “In Asia there are basically three classesof countries - well developed (HK, Singapore, and Australia); then there arethe alright ones: Japan, Malaysia and maybe Korea. Then there are onesthat would ruin investors: China, India, and Indonesia”.

“We are slightly more positive on Indonesia than thesurvey participants. We are seeing some interestingopportunities in Indonesia, especially where investors are teaming up with an Indonesian partner who canmanage the onshore execution risk. That probably stems from less domestic debt funded capital beingavailable in Indonesia than China.”

Scott Bache, Partner, Clifford Chance

100 20 6030 40 50

Existing hedge fund investors/

prop desks that have been able

to obtain new commitments

or mandates

Newly set up funds

US and European funds

that have decided to enter

Asian markets

60%

49%

18%

Percentage of respondents

(Respondents may have chosen more than one answer)

0 20 40 50 8010 30 60 70

China

Indonesia

India

Vietnam

Philippines

Thailand

Malaysia

Japan

75%

27%

6%

4%

3%

2%

2%

2%

Percentage of respondents

(Respondents may have chosen more than one answer)

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Accordingly, China will also bring the mostsignificant challenges for creditors looking to enforce their rights in the courts

Which country poses the most significant challenges for creditors looking to enforce their rights in the courts?

• Once again, China leads the way in terms of challenges for distressed debtinvestors. A clear majority of 74% of the respondents feel that creditorslooking to enforce their rights in the courts in this country will face the most significant challenges.

• One respondent says in relation to China that the “situation has not improvedfor the past year, nor do I expect to see it do so in the coming year”.

• Continuing on from the previous chart, Indonesia too will be a difficultenvironment. 28% of our respondents expect this country to pose the mostsignificant challenges for creditors looking to enforce their rights in the courts.

Legal advisors are the first to be called when an investments has defaulted

Rank in order of priority the parties you would contact when one of your investments has defaulted:

• Should one of their investments default, the majority of respondents(63%) would first call their legal advisors. Second priority in such asituation is the financial advisor, according to 41% of thoseinterviewed. Investors and other creditors would be the last to becalled, say 49% of those surveyed.

• One of those that would call the lawyers first, explained this decisionby saying that “in particular emerging countries legal advisors can give very useful advice”.

• One respondent also pointed out that “logically...I'll contact thedefaulting company first”.

“Given the legal obstacles to getting the debtor to the table, this is not a surprising response. Given the higher risk for directors in Australia compared to the rest of Asia, it would be interesting to see theAustralian numbers split out as it would be more likely that financial advisor would be just as likely to get the first call because the directors are morelikely to act responsibly. Until the rest of Asia catchesup with Australia in terms of putting the heat ondirectors in distressed situations, lawyers will likely be the first port of call.”

Scott Bache, Partner, Clifford Chance

0 20 40 50 8010 30 60 70

China

Indonesia

India

Vietnam

Philippines

Thailand

Malaysia

Japan

74%

28%

6%

4%

2%

3%

3%

2%

Percentage of respondents

(Respondents may have chosen more than one answer)

Investors/

Other creditors15

Financial advisor 22

Legal advisor 63

36

41

28

49

37

9

0 10 20 30 40 50 60 70 80 90 100

Percentage of respondents

1st priority

2nd priority

3rd priority

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GUNS N' ROSES AND THE CHINESE BANKRUPTCY LAWScott Bache, Partner, Clifford Chance

Searching for a musical analogy this year, it struck me that creditors inChina may be waiting far longer for a fully-developed bankruptcy regimethan the 15 years that Guns N' Roses fans waited for the band's widelyanticipated, but generally underwhelming, latest album.

Like the album, the Chinese bankruptcy law came out in mid-2007amidst great hype.

Reforming the law was a great start but, after two years in force, it canstill only be considered a roughly cut demo knocked out by a band withexcellent intentions but lacking the experience and technical skills towarrant a major label release.

So let's examine a few tracks that I have listened to so far, and see howthey stack up.

First off the rack is an upbeat rocker called FerroChina. It started offencouragingly enough but stopped and started. It eventually left thelistener encouraged, but ultimately looking for a more satisfying ending.

For those new to China, the first thing that needs to be appreciated is that political considerations come before rigid enforcement of the law.Sometimes this can be a good thing, and FerroChina is a prime example.

When FerroChina's Taiwanese management left China, the local authoritiesand banks were quick to act and appointed an administrator. This was a very good thing for all concerned.

In China, local creditors and employees often implement self-helpremedies – in the most literal sense of the words – as soon as the firstsigns of distress become apparent. Ask any Hong Kong-based insolvencyspecialist of their experience of these sorts of situations and they willprovide countless examples of turning up at a Chinese factory to find thebusiness has been torn apart.

In FerroChina, the quick appointment of the administrator allowed thepremises to be physically secured before any damage could be done. Also, by stepping in and funding employee wages for a period of time, thelocal government completely avoided the sort of social unrest that coulddevastate any city that relies on a few big businesses as its life blood. This undoubtedly preserved value for local and foreign creditors alike.

Another point in the process's favour was that, whilst there were somepractical difficulties in the foreign and local creditors working together,there was never a suggestion that foreign creditors with onshore rightswould be treated differently to local creditors. Moreover, the foreigncreditors with the benefit of security got the preferential treatment thatthey contractually deserved in the final plan.

So what is this track lacking, you ask? It has to be the thumping bass linethat anchors so many great songs. As many of you know, the key to anysuccessful restructuring is a rigorous process that enables stakeholders toascertain where the value breaks in the capital structure.

Overall, the administrator did a good job in balancing stakeholders' interests.That said, offshore creditors were not given a real opportunity to test themarket to see if the value broke in the offshore part of the capital structure. It may well have been that it didn't, as at the time many of the logical foreignparties who might have been interested in acquiring the assets had their owndifficulties that would have prevented them from making a bid and puttingsome competitive tension into the process.

The reality is that the last 12 months has been a terrible time to sell anything,but by not opening up the sale process more vigorously to foreign investors,we will never know for sure that the value did not break offshore.

In my view, whilst the end result may well have been the same, by not testingthe market more rigorously, China lost an opportunity to demonstrate that itwas truly concerned about driving value for all stakeholders in a distressedsituation, regardless of whether that value lay in China or offshore.

Let's turn to the second track, the controversial Asia Aluminium. AA is a punkrocker that has left music lovers largely divided. Some hate it, saying that theprocess, similar to FerroChina, lacked any transparent process to determinevalue and was ultimately a disaster for foreign creditors.

Whilst I agree that the process lacked the sort of sophistication that one wouldlike in a distressed deal, the ultimate result may well have been very good forforeign creditors. Undoubtedly, it was a tough song to listen to, but those whostuck with it did get some reward – and that is often not the case in China.

At the time, AA's provisional liquidators were criticised for not creating morecompetitive tension in the process and practically delivering AA tomanagement on a silver platter.

On closer scrutiny that criticism seems unwarranted – because while theprovisional liquidators may have produced the track, they did not write thesong or have much control over the musicians.

As in many cases, the provisional liquidators were given only a modicum ofco-operation by management in China, so it was very difficult for potentialforeign bidders to conduct the sort of due diligence that they would expectwhen considering such a substantial acquisition.

Moreover, the local authorities and banks made it clear from the outset thata management buyout was their preferred option, and major concerns existedabout social unrest – AA had about 10,0000 employees.

As a result, a tight time limit was given to the provisional liquidators to find a buyer – with the prospect of an onshore bankruptcy if a buyer with a largelyunconditional offer was not accepted by 30 June 2009.

What could the provisional liquidators do in such circumstances? Managementwas offering approximately US$100 million to offshore stakeholders and therewas a real risk that the offer would fail if AA's onshore subsidiaries wereplaced into administration.

In 2008, I suggested that Korea looked like Detroit in the 70s but without the good music.

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The only thing they could do was to make the management bid non-exclusive,thereby allowing a better bid to come in at the last moment. Of course,another bid was not forthcoming – given the circumstances, making anunconditional bid would have been suicidal.

However, the provisional liquidators should not be criticised, as they at leastgave the market the opportunity to test management's resolve by making ahigher bid.

So what to make of this track? If you look purely at the numbers, I am notaware of another distressed situation in China in recent times where so muchvalue has been paid to the offshore part of the capital structure.

However, I have to agree that it was a very tough listen and that the process wasfar from satisfying – but ultimately not off the mark for a China restructuring.

So to the last track I have heard recently. For copyright reasons, I can't namethis song but let's just say it is practically unlistenable to foreign music lovers.My daughter's school band knocks out music more worthy of internationalrelease than this little ditty.

In this particular case, the administrator has refused to take advice onforeign law even though the company has entered into a number of contractswith foreign parties governed by foreign laws. He has also sought to applyChinese law to these contracts – and appears to have got the Chinese lawwrong as well.

It appears that the administrator sees his job as being to actively reduce thequantum of claims when there is no credible basis for doing so. This iscompletely at odds with the approach taken by liquidators in just about everycountry on the planet.

By refusing to acknowledge the governing law of contracts and refusing to takeappropriate local law advice, he is undermining the basis of what could be, intime, a bankruptcy law in which foreign investors could have some degree ofconfidence. This track is a disaster and without a substantial rewrite will neverbe worthy of release.

One of the respondents to this year's survey commented that one of the biggestproblems in China is that the implementation and interpretation of the Chinesebankruptcy laws differ between provinces. This one comment alone sums upthe real difficulties encountered in China more than all others.

In my view, it may take far longer than the 15 years that Axl Rose spentperfecting his last album to develop the level of sophistication and certaintyrequired to make China's bankruptcy law truly worthy of an international release.

The law will get there, eventually, but it will be a long and hard process. So,until we get there, foreign investors should make themselves "Welcome to TheJungle" that is distressed debt in China.

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A COMPLETE SERVICE ACROSS ASIA

Clifford Chance provides the full range of restructuring and insolvency services throughout Asia.Our award-winning team has acted on many of the most important restructuring and insolvencymatters in the region this year.

With over 30 restructuring and insolvency lawyers based in Asia, supported by another 100lawyers in 18 offices worldwide, we provide a multi-lingual English, US and civil law service, as well as local law advice wherever regulations permit.

Experienced in restructuring from every angle We have extensive experience of voluntary and involuntary restructurings – having acted for both creditors and debtors, weunderstand the tension points that often arise during a restructuring and are well placed to guide our clients to ensure that their interestsare best served.

As Asia has become more open to non-bank, non-relationship based participants, our involvement in these complex cross-borderrestructurings has meant that we know and act for some of Asia's most active distressed debt investors.

ABOUT CLIFFORD CHANCE

International law firm Clifford Chance combines the highest global standards with localexpertise. Leading lawyers from different backgrounds and nationalities come together as onefirm, offering unrivalled depth of legal resources across the key markets of the Americas, Asia,Europe and the Middle East.

The firm operates across Asia, with offices in Bangkok, Beijing, Hong Kong, Shanghai, Singaporeand Tokyo. With over 350 lawyers in Asia alone, it is one of the largest international firms in theregion, enjoying a market leading reputation across a number of practices.

Clifford Chance has advised on all aspects of restructuring and insolvency transactions; including:

• reschedulings• loan-to-own transactions

implemented through debt-for-equity swaps

• distressed M&A• schemes of arrangement• administration

For more information, please contact any of the individuals listed on page 24.

• voluntary reorganization• court-driven rehabilitation• receiverships• voluntary and compulsory

liquidations• bankruptcy

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LOOKING AHEAD TO 2010

To many Asian corporates, the headlines in the last few months have been reassuring. It’s theend of the global recession they are told and Asia is recovering especially well. The markets are also giving very positive signals: most Asian indices have bounced back spectacularly andinvestors having been piling into rights issues and CB offerings. The debt markets seem to bewelcoming back borrowers too, judging by the spate of high yield bond issues, and loans beingprovided by commercial banks in the last few months. Indeed, even some LBO deals havecompleted in the last several months.

It is in this environment that Rothschild is advising clients that theyshould continue taking a cautious view.

From Rothschild’s point of view, the outlook for 2010 is more complexthan the previous two years. In 2008, it was not that hard to foresee adownturn. We had falling leading indicators, inverted yield curves, andextensive data pointing to a recession. In November last year, while themarkets were in the midst of a “Black Swan” event, the outlook wasvirtually a “one-way trade” towards massive distress.

Coming into 2010, as this survey shows, the mood among many investorsis either careful or pessimistic. There is considerable doubt that the USFederal Reserve will be able to sustain the massive growth of its balancesheet, and hence its support for the economy in the years ahead. Japan’srise as the most indebted sovereign among the G8 countries also raisesquestions as to how far the country’s government can support its financialsystem and increasingly troubled corporates. The recent spike in both USand Japanese bond yields underscores that US and Japanese governmentswill increasingly find that the printing presses cannot run as fast and ashard as they did over the last year.

Over the next few years, a massive amount of debt will be due forrefinancing in Asia and the rest of the world. We have already seenattempts to refinance or restructure those facilities, and while some havebeen very successful, many of the fixes that have been achieved arelargely band-aid solutions.

Take for example, the kind of exchange offer that proposes that principaloutstanding on the notes be reduced, but that the borrower accept, as a quid pro quo, a substantial hike in coupon rates. Here, the borrower has improved the look of its balance sheet but has also taken on the riskthat it will not be able to service its coupon payment obligations when orif its market or the economy fails to recover as much as anticipated.

Covenant resets made for many LBO financings have also done little toaddress the issue of unsustainably high leverage. How will these facilitiesbe refinanced when they mature?

Companies that need to restructure and recapitalize might be encouragedthat commercial banks are lending, but these institutions have gone backto conservative lending practices and are largely lending only to top credits.

Given banks’ lending practices, it is worth noting that, in some sectors,debtors’ financeable, or shall we say, real balance sheets, have contracted by even 30% the value of their underlying assets.

This is especially relevant given that there remains considerable globalovercapacity in many manufacturing sectors, and that consumer demand,amid rising unemployment in G8 countries, could be anaemic for years to come.

In this environment, asset based lending could continue to be constrained.And if the V-shaped economic recovery that some assume is underway instead turns into an L-shaped or indeed W-shaped cycle, then bank creditorcommittees will tighten even further their grip on bank lending polices.

As has been seen from some of the failed or recalibrated offerings in Asianhigh yield bond markets latterly, investors are still very cautious: companiesthat have chequered credit histories are either having to pull their deals orthink about different ways to fund.

Asian equity markets might continue to provide for refinancing/recapitalizationneeds for a while longer, but as more cash calls are made and if investors aredisappointed by earnings, that window could start to shut.

Finally, given the rout of the last year, hedge funds will be less able to play the role of last lender of resort. Certainly, new funds are emerging and someold funds have been able to raise new capital but given the scrutiny they areunder, their investment practices will have to be much more disciplined anddiscretionary than they had been.

All of this is not meant to paint a wholly negative outlook for 2010, but rather, as we stated earlier, to note the need for corporates to anticipate theproblems that could emerge ahead. Certainly, the world’s central banks andgovernments have prevented the world from sinking into what could havebeen a global depression. A base for the world’s economies has been set andbusinesses are better able to see into the future. Also, policies that have beenput in place just might be successful in keeping economies well supported in2010. But the longer term outlook remains quite uncertain, especially if thesource of this year’s recovery - the seemingly endless flow of funds fromcentral banks, starts to dry up.

Robert Schmitz, Managing Director, Head of Restructuring and Debt Advisory, Asia, Rothschild

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ABOUT ROTHSCHILD

Rothschild is a leading independent advisor on corporate strategy, mergers and acquisitions,debt and equity financing, restructuring and privatizations. Rothschild’s objectivity, itsglobal network, and its commitment to a relationship-driven approach, combine to createvalue for its clients; building value through stability, integrity and creativity. Rothschild is,through its 1,000 advisory bankers, the trusted advisor to corporates, individuals andgovernments worldwide, often on a repeat basis.

Globally, Rothschild has one of the largest independent restructuring and capital marketspractices. The Asian restructuring and debt advisory arm was established in 2006 withdedicated bankers based in Mumbai, Singapore and Sydney.

Rothschild acted as exclusive financial advisor to the principal Indian lenders in the Dabholpower company restructuring, one of the world's most complex restructurings. Rothschildalso advised Lehman Brothers (Asia) on its sale to Nomura. At present, it is the exclusiveindependent financial advisor to Garuda Indonesia, PT Arpeni, Suzlon, Semen Gresik andAir India.

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Rothschild

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Robert SchmitzManaging Director, Head of Restructuring and Debt Advisory, AsiaT: +65 6531 1437F: +65 6535 9109E: [email protected]

Robert has over twenty nine years' experience with corporate finance, and credit, derivative and capital markets transactions in North America and Asia. Since 1990 Robert has specialized incapital restructuring. He frequently represents shareholders andmanagements of companies with complex insolvency and fund raising issues.

Rakesh SinghDirectorT: +91 22 4081 7026F: +91 22 4081 7001E: [email protected]

Rakesh is the head of debt advisory and restructuring based inMumbai. He recently joined Rothschild from Morgan Stanley wherehas was responsible for principal investments in India. He haspreviously worked with Merrill Lynch and Standard Chartered Bankand has over 16 years of experience in fixed income capital markets,structured finance and leveraged finance.

Alister McConnellManaging DirectorT: +61 2 9323 2303F: +61 2 9323 2040E: [email protected]

Alister joined Rothschild in January 2009, heading upRestructuring and Debt Advisory in Australia. Prior to this he established Grand Samuel's independent debt restructuringand advisory business from 2003 and worked for the AustraliaNational Bank.

Michael Yao Managing DirectorT: +852 2116 6350F: +852 2810 6997 E: [email protected]

Michael has over 19 years experience in capital markets,strategic advisory and mergers and acquisitions having worked in the United States and Hong Kong where he has been basedsince 1993.

www.rothschild.com

CONTACTS

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CONTACTS

Scott BachePartner, Hong Kong and Head of Asian Restructuring & Insolvency GroupT: +852 2826 2413F: +852 2825 8800E: [email protected]

Scott specialises in finance and securities matters with a particular emphasis on corporate restructuring, distressed mergers and acquisitions, and special situation investments. He regularly advises on insolvency issues, security enforcement,distressed debt trading and general banking litigation.

Matthew TrumanPartner, Finance, Restructuring and Insolvency, Hong KongT: +852 2826 3497F: +852 2825 8800E: [email protected]

Matthew specialises in complex financing, with particular experience and expertise in banking, restructuring and insolvency. He has worked on some of the most complex restructurings in Asiathis year, in addition to advising clients on early-stage refinancing in response to market conditions.

Clifford Chance

Donna WackerPartner, Litigation,Hong Kong T: +852 2826 3478F: +852 2825 8800E: [email protected]

Donna specialises in insolvency, banking and commercial litigation,security enforcement and regulatory matters (both contentiousand advisory).

Nish ShettyPartner, Singapore, and Head of South East Asian Arbitration and Dispute ResolutionT: +65 6410 2285F: +65 6410 2288E: [email protected]

Nish is regarded as a leading expert in the field of dispute resolution,in particular in arbitration, restructuring and insolvency. He hasadvised on many of the most complex cross-jurisdictional disputes in south and south east Asia in recent years, including insolvency,restructurings, receiverships, judicial managements and liquidations.

www.cliffordchance.com

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© DebtwireSuite 2401-3Grand Millennium Plaza181 Queens Road, CentralHong Kong

T: +852 2158 9730E: [email protected]

Luc MongeonEditor, Debtwire AsiaT: +65 6224 3527E: [email protected]

RemarkChristine SongPublisher, RemarkT: +852 2158 9762E: [email protected]

Naveet McMahonPublisher, RemarkT: +852 2158 9750E: [email protected]

This publication contains general information and is not intended to be comprehensive nor to provide financial, investment, legal, tax or other professional advice or services.

This publication is not a substitute for such professional advice or services, and it should not beacted on or relied upon or used as a basis for any investment or other decision or action that mayaffect you or your business. Before taking any such decision you should consult a suitably qualifiedprofessional advisor.

Whilst reasonable effort has been made to ensure the accuracy of the information contained in thispublication, this cannot be guaranteed and neither Debtwire, Clifford Chance nor Rothschild nor anyaffiliate thereof or other related entity shall have any liability to any person or entity which relies onthe information contained in this publication. Any such reliance is solely at the user’s risk.

The Mergermarket Group does not necessarily endorse the views given in the content of this reportwhich were provided by Clifford Chance or Rothschild.

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