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China's second bond default

April 7, 2015

A Chinese IT company has become the country's second firm to default on bond payments to investors. Beijing will not rescue debtholders, marking a shift in its beliefs that some companies should be allowed to go under.

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China braced for its second onshore corporate default on Tuesday as the Internet technology company Cloud Live Tech Group said it would be unable to repay some 240 million yuan ($38.7 million, 35.6 million euros) due to investors.

The default was welcomed by some analysts who said it could help make investors more aware of risk and selective about where they put their money. Traditionally, the government in Beijing has been reluctant to let investors incur losses when companies go bankrupt.

The Cloud Live default was the first embodiment of a shift in the thinking of China's ruling elite, namely that some companies should be allowed to go under. Eager to counter a slowdown in China's economic might, Chinese Premier Li Keqiang last month said some debt defaults were "hardly avoidable" amid broader economic restructuring.

However, Li said the government would step in when necessary to prevent any systemic fallout.

Setting a precedent

The official Xinhua news agency called the Cloud Live default a "precedent-setting" case.

China's economy has been growing at its slowest pace since the 1990s and that has left many there feeling uneasy about more potential defaults, especially after Chaori Solar became the first Chinese company ever to default on onshore bonds.

The Chaori default ended with a bailout for investors, raising the question of whether the Chinese government dared to let debtholders suffer huge losses when a company defaulted. Its reluctance to do so seemed to stem from concern of stoking public discontent.

In a statement to the Shenzhen stock exchange on Tuesday, Cloud Live said it still faced a cash shortfall of 240.6 million yuan even after its last-ditch efforts to raise the necessary funds.

Rising yields

The company had issued the bonds in question back in 2012 with a 6.78 percent yield, according to Bloomberg. By Dec. 31 last year, that yield had risen to 8.9 percent before spiking to more than 18 percent as of April 1. On April 2, trading of the securities was suspended.

Investors were presented with the option of selling the bonds back to the company on April 5, with April 7 set as the payment deadline.

On April 6, Cloud Live said it still lacked the necessary funds to pay back its arrears and make note and interest payments. On April 7, it formally became the second listed company in China to default on a corporate bond payment.

cjc/hg (AFP, Reuters)