Presenting China's First Too Big To Fail "Lack Of Liquidity" Casualty

China’s biggest private shipbuilder, China Rongsheng Heavy Industries Group, last week filed for a profit warning as it expects a loss in the first half of 2013. That was the good news. The bad news is that Rongsheng appealed for government aid last Friday and said it was cutting staff as it was delaying payments to suppliers to deal with tightened cash flows. 

It also called on its shareholders for financial help and said it was in talks with banks and other financial institutions to renew existing credit lines. In other words a complete liquidity collapse.

Well, maybe not complete: the company also said no suppliers have towed away machinery, and it has seen no "incident of abscondment of salary" pay (whatever that means). Yet. However, the Chinese government now must decide quickly whether this will be the country's first tight liquidity-induced casualty, or will the PBOC's resolve crash and burn with the first Too Big To Fail company emerging in China's new liquidity-tight regime. 

If it chooses the former, watch out below as many more companies, which also find themselves on the liquidity edge, follow in Rongsheng's footsteps and fold.

The fundamentals are not pretty: Rongsheng had CNY2.1 billion in cash balance versus short-term borrowings of CNY19.3 billion at the end of last year. And, as DB summarizes, being a flagship operator in the industry that employs around 20,000 workers there are also increasing talks of whether the company is too-big-too-fail for the State. 

Of course it is, but the bigger issue is how the PBOC - intent on showing the world that it means business in fighting the world's biggest housing bubble - will react to a government bailout, which in turn will demonstrate that telegraphed market liquidity is absolutely worthless as any company that hits a liquidity crunch will simply get a government lifeline.

Just like in the US (if mostly for banks and labor-union heavy companies).

From Reuters:

An appeal for government financial support from China's biggest private shipbuilder presents authorities with some stark choices between protecting a big employer and its jobs or letting the firm go under to ease pressure on a sector suffering from overcapacity and sharply falling new orders.

Since Beijing appears intent on telling investors it is serious about changing the investment-led growth model of the world's second-biggest economy and controlling a credit splurge, it may seem like the writing is on the wall for China Rongsheng Heavy Industries Group.

Yet analysts say the government is more likely than not to judge that Rongsheng, which employs around 20,000 workers and has received state patronage, is too big and well connected to fail.

Analysts say Rongsheng is possibly the largest casualty of a sector that has grown over the past decade into the world's biggest shipbuilding industry by construction capacity. Amid a global shipping downturn, new orders for Chinese builders fell by half last year. In Rongsheng's case, it won orders worth $55.6 million last year, compared with a target of $1.8 billion.

Annual reports show that Rongsheng has received state subsidies since 2010, when it listed in Hong Kong.

In the prospectus for its initial public offer, Rongsheng said it received 520 million yuan of subsidies from the Rugao city government in the southern province of Jiangsu, where the company is based.

The state funds paid for research and development of new types of vessels, and were based in part on the "essential role we play in the local economy", Rongsheng said.

"We cannot assure you that we will be able to receive similar government subsidies in the future," it said. "If we do not receive such subsidies, our profit and profit margin may be substantially less than if we were to receive such subsidies."

The company said it got state funds of 830 million yuan in 2010, 1.25 billion yuan in 2011, and 1.3 billion yuan in 2012.

In a Chinese world which is suddenly hit by CNY1 trillion in deleveraging, Rongsheng would merely be the canary in the coalmine.

As China's economy grinds towards its slackest growth in at least 14 years, more firms like Rongsheng are foundering.

Suntech Power Holdings (STP.N), a solar panel maker also based in Jiangsu, is waiting to be bailed out by the government after it was crushed by falling demand and a supply glut, a source with knowledge of the matter said in March. The government wants to find a way to rescue Suntech to avoid an embarrassing collapse that damages its reputation, the source said.

That said, with or without a government bailout of Rongsheng, just like the US green industry, Chinese shipping is in shambles either way:

China's shipbuilding woes are partly of its own making. A global downturn in demand has hammered the sector since 2008, but a national obsession for global dominance in some industries led China to declare in the early 2000s that it wanted to be the world's top shipbuilding nation by 2015.

A state-induced spike in the number of Chinese shipbuilders followed as the country led a three-fold rise in new global shipbuilding capacity in the past decade. As the world's largest shipbuilder, it had 1,647 shipyards in 2012, data from China Association of the National Shipbuilding Industry showed. Over 60 percent of its shipbuilders are based in Rongsheng's province of Jiangsu.

In contrast, China's main rivals South Korea and Japan have only 10 and 15 active shipyards, respectively, French shipping broker BRS says.

Barclays, which until last week had Rongsheng on neutral and thus was as blindsided as everyone else, issuddenly concerned:

A third of the shipyards in China, the world’s biggest shipbuilding
nation, may be shut in about five years, the China Association of
National Shipbuilding Industry said last week. The order book of Chinese
shipbuilders fell 23 percent at the end of May from a year earlier,
according to data from the shipbuilders’ group.

“We expect shipyard failures could become a reality in China if current conditions persist,” Barclays Plc analysts Jon Windham and Esme Pau wrote in a report to clients yesterday. “Those yards not facing such harsh financial difficulties could increase their market and pricing power.” The Hong Kong-based analysts lowered their rating on Rongsheng’s shares to “underweight” from “equalweight.”

Just like the GM bailout was predicated by Obama's taxpayer funded purchase of union vote, so Rongsheng's "connections" may be the determining factor in its fate:

Analysts say what separates Rongsheng from many other companies are its connections with the government and state banks. Rongsheng's Chief Executive Chen Qiang, for example, enjoys "special government allowances" granted by China's cabinet, the firm's annual reports say.

Rongsheng also said in its IPO prospectus that it has two five-year financing deals with Export-Import Bank of China that end in 2014 and in 2015, and a 10-year agreement with Bank of China (3988.HK) starting from 2009.

Experts say Rongsheng's strong networks suggest the local governments will not let it fail, even if Beijing does not approve of a bailout.

After all, local government coffers will suffer the biggest blow if Rongsheng goes bust. The firm had 168 million yuan of deferred income taxes in 2012.

In other words, lose-lose: bail it out and lose all "reform" credibility; let it die, and start the proverbial domino waterfall which pulls the rug from under the country's rotten shadow banking and insolvent local government funding system.

Keep a close eye on China's real canary in the liquidity-parched coalmine.

Zero Hedge