China moves towards market remedy for bad loans Goldman Sachs, Deutsche Bank and Morgan Stanley have held talks with one of China's biggest bad banks about investing in its $1.5bn stake sale ahead of a planned Hong Kong listing next year, according to people close to the process. The move is one sign that the Chinese government will not entirely bail out the next round of problem loans emerging from China's credit boom, but will instead rely more on market driven remedies. The capital raising by state-owned Huarong is expected ahead of an initial public offering of its larger bad bank cousin, Cinda, later this year. Goldman Sachs is leading the race to take the lion's share of the stake in Huarong, according to two people close to the deal. However, another banker with knowledge of the process said only a couple of meetings had been held so far and a deal is not expected until December. The three banks declined to comment or could not be reached, while Huarong declined to comment. Huarong and Cinda are two of four asset management companies set up by the Chinese government in 1998 to take on Rmb1.4tn ($229bn) of non-performing loans from the country's four biggest banks. Huarong bought bad loans from Industrial and Commercial Bank of China, while Cinda bought debts from China Construction Bank. The four bad loan managers were lossmaking for many years, but since the huge stimulus programme launched by China in 2008, they have converted many old debts into equity stakes and made attractive returns, according to bankers familiar with the businesses. Cinda, for example, saw pre-tax profits of Rmb7.2bn in 2011 and Rmb4.6bn in the first half of 2012, according to ChinaScope Financial, a specialist research service that compiles data on public and private Chinese companies. Goldman, Deutsche Bank and Morgan Stanley have all formed joint ventures with Huarong to buy its bad loans in the past, while Deutsche Bank still has an active joint venture with the asset manager. Goldman was also a big investor in ICBC ahead of its part-privatisation, only selling the final part of its holding this year. Cinda, which last year sold a $1.6bn stake to four strategic investors including UBS and Standard Chartered, is in the process of finalising its prospectus and hopes to launch an IPO this year in Hong Kong, according to bankers close to the process. Cinda aims to raise $2bn-$3bn, which would value it at about $15bn, according to a banker involved in the process. Huarong is planning for a Hong Kong IPO as early as next year, once it has strategic investors in place. The money raised by Cinda will be used to replenish its stock of bad loans, and it can borrow against its new equity to increase its purchasing firepower. "Cinda can leverage up its money by 6-8 times, so the IPO proceeds at the low end would allow it to buy $12bn-$16bn of NPLs (non-performing loans)," said the banker close to the process. We think there will be a lot of NPLs coming out of the banks in the next three to four years.