Non Performing Loan Non Performing Loan Transactions and Land Use Transactions and Land Use
Rights in ChinaRights in China
Presented by:Presented by:
Robert J. Allan Robert J. Allan USA China Law Group USA China Law Group
US-China Business Law Conference at UCLAUS-China Business Law Conference at UCLA Los Angeles, Ca - October 24, 2008Los Angeles, Ca - October 24, 2008
Current Economic and Legal Current Economic and Legal Climate for Investments in Climate for Investments in
ChinaChina
Foreign Investment in China Foreign Investment in China OverviewOverview
Top destination for foreign direct investment Top destination for foreign direct investment (“FDI”) for sixteen years *(“FDI”) for sixteen years *
US $52.39 B in FDI to China in the first half US $52.39 B in FDI to China in the first half of 2008 – a 45.6% increase over the same of 2008 – a 45.6% increase over the same period in 2007 **period in 2007 **
Foreign invested enterprises (“FIEs”) play a Foreign invested enterprises (“FIEs”) play a major role in China’s economy – 58% of major role in China’s economy – 58% of imports and exports *imports and exports *
Top foreign investors: HK first; US sixth *Top foreign investors: HK first; US sixth * Top FDI destination: eastern region – 81.9% *Top FDI destination: eastern region – 81.9% * Hot sectors: manufacturing (57.7%) and real Hot sectors: manufacturing (57.7%) and real
estate (11.9%) *estate (11.9%) *
Sources: * The US- China Business Council Sources: * The US- China Business Council ** Asia Monitor, September 2008** Asia Monitor, September 2008
Issues to WatchIssues to Watch
Economic protectionism Economic protectionism Push for “indigenous innovation”Push for “indigenous innovation”
New rules on foreign investment New rules on foreign investment Enterprise Income Tax LawEnterprise Income Tax Law Labor Contract Law Labor Contract Law Antimonopoly Law Antimonopoly Law Catalogue Guiding Foreign Investment in Catalogue Guiding Foreign Investment in
Industry Industry Revised regulations on the management of Revised regulations on the management of
foreign exchange foreign exchange
What Chinese Government What Chinese Government WantsWants
Encouraged SectorsEncouraged Sectors:: Non-performing Loans Non-performing Loans ServicesServices Emerging and high-technologyEmerging and high-technology Energy and the environment Energy and the environment HealthcareHealthcare
What Chinese Government Doesn’t What Chinese Government Doesn’t
WantWant
Restricted or Banned Sectors:Restricted or Banned Sectors: Real estateReal estate Media and publishing Media and publishing Manufacturing solely for export Manufacturing solely for export Manufacturing requiring a high Manufacturing requiring a high
usage of resources or energyusage of resources or energy
An Overview of An Overview of
Non Performing Loans in Non Performing Loans in ChinaChina
Background of China’s Non Background of China’s Non
Performing Loan (“NPL”) MarketPerforming Loan (“NPL”) Market High ratio of NPLsHigh ratio of NPLs Source of NPLs – Politically based lending Source of NPLs – Politically based lending
practices of State Owned Enterprises (“SOE”)practices of State Owned Enterprises (“SOE”) Disposition of NPLs remains a top priority of the Disposition of NPLs remains a top priority of the
PRCPRC Reform of the banking systemReform of the banking system WTO accessionWTO accession Privatization of SOEsPrivatization of SOEs New banking policies to address the economy’s New banking policies to address the economy’s
growthgrowth Creation of the Asset Management Corporation Creation of the Asset Management Corporation
(“AMC”)(“AMC”) Facilitate acquisition of NPLs from State Facilitate acquisition of NPLs from State
Owned BanksOwned Banks Facilitate acquisition of NPLs from commercial Facilitate acquisition of NPLs from commercial
banksbanks
Opportunities and Emerging Opportunities and Emerging TrendsTrends
Big Market Big Market Current transactions in the marketCurrent transactions in the market Upcoming transactionsUpcoming transactions
Big PlayersBig Players Big DealsBig Deals Reasons sales will increase in 2008-Reasons sales will increase in 2008-
2009 2009 Impact of global recession-depressionImpact of global recession-depression
Why NPL in China?Why NPL in China?
Easiest and most effective way to Easiest and most effective way to acquire interests in land use rights acquire interests in land use rights and businesses in Chinaand businesses in China
Significant discountsSignificant discounts High intrinsic valuesHigh intrinsic values Simplified acquisition and approval Simplified acquisition and approval
processesprocesses Foreign exchange benefitsForeign exchange benefits RMB undervalued by 30-40% *RMB undervalued by 30-40% *
Source: * Asia Monitor, September 2008
Challenges Facing Foreign NPL Investors Challenges Facing Foreign NPL Investors
in Chinain China
Local knowledge essential to successful Local knowledge essential to successful transactionstransactions
Motivation and political agenda of the Motivation and political agenda of the sellerssellers
Limited time span to undertake due Limited time span to undertake due diligencediligence
Numerous political and regulatory hurdlesNumerous political and regulatory hurdles Complicated governmental approval Complicated governmental approval
processesprocesses Limited exit strategiesLimited exit strategies No leverageNo leverage
Investment Strategy Investment Strategy
and Processand Process
Key Investment CriteriaKey Investment Criteria
Well developed primary citiesWell developed primary cities Significant unambiguous collateral and Significant unambiguous collateral and
assetsassets Clear understanding of investment targetClear understanding of investment target Ability to resolve critical issues:Ability to resolve critical issues:
-Legal-Legal-Regulatory-Regulatory-Financial-Financial-Operational-Operational
Comfortable buffer on pricing and Comfortable buffer on pricing and vigorous risk management mechanismsvigorous risk management mechanisms
Key Investment CriteriaKey Investment Criteria
Extensive and comprehensive pre-Extensive and comprehensive pre-tender due diligencetender due diligence
Realization or enhancement of the Realization or enhancement of the intrinsic values of the assetsintrinsic values of the assets
Target annual IRR of 25%Target annual IRR of 25% Liquidity within 2 yearsLiquidity within 2 years
Collection Medium
• Analysis
• Litigious or non-litigious
• Assignment of staffing for collection
Selection of most efficient collection medium
Asset ranking
• Rank debt accounts for collection
• Collection on high value accounts
• Assignment of staffing for collection
Prompt action on high value accounts
Asset categorization
• Categorize accounts
• Assign specialist according to the categorization
Specialization to ensure collection
Difficulty assessment
• Assessment
• Allocation of specialist
Ensure collection even adverse cases
Investment StrategyInvestment StrategyPrioritization of NPL Portfolio AssetsPrioritization of NPL Portfolio Assets
Investment ProcessInvestment Process
Deal sourcing and screeningDeal sourcing and screening Due diligenceDue diligence AnalysisAnalysis Pricing and deal structurePricing and deal structure Recovery processRecovery process Post-acquisition value creationPost-acquisition value creation
Recovery ProcessRecovery Process
Creating
Preliminary
Recovery
Solutions
Solution
Implementation
Exit StrategyExit Strategy
NPL Investment and Acquisition NPL Investment and Acquisition of Land Use Rightsof Land Use Rights
Factors Affecting Direct Factors Affecting Direct Investment in Chinese Real Investment in Chinese Real
Property MarketProperty Market Chinese concept of “land ownership”Chinese concept of “land ownership”
Land use rightsLand use rights
New restrictions concerning foreign New restrictions concerning foreign investment in real estate market investment in real estate market
New Property Law New Property Law Opinions Concerning Regulating the Access to and Opinions Concerning Regulating the Access to and
Administration of Foreign Investment in Real Estate Administration of Foreign Investment in Real Estate MarketsMarkets
Notice Concerning Regulating the Purchase of Residential Notice Concerning Regulating the Purchase of Residential Property by Foreign Institutions and Foreign Individuals Property by Foreign Institutions and Foreign Individuals
Circular 30 – Circular of General Affairs Department of Circular 30 – Circular of General Affairs Department of SAFE on the Distribution of the List of the First Group of SAFE on the Distribution of the List of the First Group of Foreign Invested Real Estate Projects which has Filed Foreign Invested Real Estate Projects which has Filed with the Ministry of Commercewith the Ministry of Commerce
Acquiring Land Use Rights Acquiring Land Use Rights Through NPLsThrough NPLs
Collateral for loans primarily consist Collateral for loans primarily consist of land use rightsof land use rights
These creditors rights can be sold to These creditors rights can be sold to the ultimate end userthe ultimate end user
Most efficient and effective approach Most efficient and effective approach to pair ultimate end user with local to pair ultimate end user with local developerdeveloper
Case StudyCase Study
Case StudyCase Study
Introduction Introduction • Sold by AMC, originally acquired from Sold by AMC, originally acquired from
Chinese commercial bank in 2007 Chinese commercial bank in 2007 through a public sealed bid offering through a public sealed bid offering
• 33 borrowers a majority of which are 33 borrowers a majority of which are located in Beijinglocated in Beijing
• OPB RMB 1,098 million; total legal OPB RMB 1,098 million; total legal claim RMB 1,410 million as of 30 claim RMB 1,410 million as of 30 September 2007September 2007
Due Diligence – February 2008 Due Diligence – February 2008 • A desktop financial and legal review of 25 borrowers A desktop financial and legal review of 25 borrowers
represents 76% of the total accounts in number represents 76% of the total accounts in number represents 97% of the total OPB represents 97% of the total OPB
• Done by big four accounting firm and Alpha & Leader Law Done by big four accounting firm and Alpha & Leader Law Firm Firm
• Scope of due diligence Scope of due diligence Loan information and current status of borrowerLoan information and current status of borrower Current status of collateral Current status of collateral Litigation & legal flaws Litigation & legal flaws Risk & risk management Risk & risk management Recovery strategy and implementation Recovery strategy and implementation
• Recovery ability analysis Recovery ability analysis • Valuation methods Valuation methods • Estimated recovery amount Estimated recovery amount • Estimated recovery time Estimated recovery time
-Possible disposal methods-Possible disposal methods-Recovery resources-Recovery resources
Case StudyCase Study
Post-acquisition Value Creation Post-acquisition Value Creation • Examination of creditors rights and asset Examination of creditors rights and asset
investigation investigation • Recovery projection, recovery analysis, cost Recovery projection, recovery analysis, cost
estimation, independent agent’s opinions estimation, independent agent’s opinions • Creating preliminary recovery solutions Creating preliminary recovery solutions • Feasibility analyses and legal opinions Feasibility analyses and legal opinions • Solution implementation Solution implementation
Estimated total recovery amount: Estimated total recovery amount: -RMB 633,536,244.13-RMB 633,536,244.13
Case StudyCase Study
Case Study Acquisition Time LineCase Study Acquisition Time LineProcedure
COAMC purchased the portfolio from BankDec. 2007
Mid. Jan. 2008
Time Line
Early Jan. 2008
Late Dec. 2007 COAMC issued the transaction timetable
Approach major foreign investors
Reach initial MOU among co-investors
Roll-up
Portfolio DD
Investors going through internal approval process
Go through tender process
Obtain approvals from National Development and Reform Commission
Obtain approvals from State Administration of Foreign ExchangeTransaction Closed
Mid. Jan. 2008-Late Jan. 2008
Feb. 2008
Late Feb. 2008
3rd Mar. 2008
Apr. 2008
May 2008
Case StudyCase StudyFigures in Thousands
Original Principal Balance (OPB) ¥ 1,097,570 Bid Price Accepted ¥ 439,994 % OPB 40%Expected Cash Recovery ¥ 633,536 % OPB 58%
Capital Structure of Investment Equity (100%) ¥ 439,994 Debt n/aTotal Capital ¥ 439,994 Income Statement Gross Profit (Recovery minus Purchase Price) ¥ 193,542 Margin 44%
Legal Fees for Document Inspection (2) ¥ 250 Collateral Appraisal Fees ¥ 150 Travel Expenses ¥ 50
Total Pre-Purchase Expenses ¥ 450
Interest Payments n/a Basic Service Fee ¥ 4,840 Office rental ¥ 0 Loan Monitoring Expenses ¥ 0
Total Expenses during Resolution ¥ 4,840
Total Fees and Expenses ¥ 5,290
Profits Net of Fees and Expenses ¥ 188,252
Distribution of 12% Incentive Fees to (Asset Manager) ¥ 22,590
Profits After Fees and Expenses ¥ 165,662
Taxes (@ 33%) ¥ 54,668
Net Profits After Tax ¥ 110,994
Implied Return (Cash on Cash) 25.23%
Portfolio's Estimated Annual Cash Flow2008 2009 2010
Capital Investment (¥ 439,994)Transaction Exp. & Taxes (¥ 450) (¥ 2,420) (¥ 79,679)Cash Recovery ¥ 339,300 ¥ 188,300 ¥ 105,936 Cash Flow (¥ 101,144) ¥ 185,880 ¥ 26,257
Note:
1. Transaction signed in Mar. 2008 took 4 months to gain approvals to close. The loans may have been resolved in 2 years.
2. Legal fees for inspection of documents were fixed at ¥ 10,000 per account. Investor inspected 25 accounts out of 33 in the portfolio purchased from COAMC.
Thank You!Thank You!