The Chinese Government has entrusted two asset management companies (AMCs) to dispose of nearly 200 billion yuan (US$24 billion) of bad loans, which were written off by the Bank of China (BOC) and the China Construction Bank (CCB), for "maximum recovery," sources said.
And greater amounts of non-performing loans (NPLs), classified as "doubtful" under the internationally accepted five-category loan classification system, are also likely to be transferred from the two banks to the two AMCs as the banks prepare for initial public offerings (IPOs), they said.
But the way the "doubtful" loans will be removed from the banks' books is yet to be settled, and the possibility remains that they may instead be sold in auctions open also to international investors.
The entrustment decision is part of the government's broader plans to reform the nation's four biggest State-owned banks, or the Big Four.
It is a follow-up measure after a US$45 billion capital injection into the BOC and the CCB at the end of last year to prepare them for pilot joint-stock restructuring and public share offerings.
The two pilot banks had reportedly used their original capital to write off part of their huge NPLs.
Sources said the two AMCs - China Orient Asset Management Corp and China Cinda Asset Management Corp - are required to give a minimum amount of cash that they recover from the entrusted bad assets to the government, and keep the remainder.
They declined to disclose the minimum recoveries, which they said were negotiated by the AMCs with the two banks and approved by the government.
"It (the entrustment) is certainly a good thing," said Wang Haijun, director of China Cinda's investment banking department.
"It not only pushes ahead China's banking reform, but it will help the asset management companies to play their specialized role in the resolution of China's non-performing loans."
The sources said the Ministry of Finance sent a circular to the four AMCs in early March. It notified them of the ministry's entrustment for China Orient and China Cinda to "take over and dispose of" the bad loans that the two banks wrote off in 2003 and "all the loans categorized as loss" that were written off during the restructuring of the banks, which they said largely refers to the recapitalization scheme.
Under the five-category loan classification system that China's banking regulator is promoting among its banks, the three lowest categories - substandard, doubtful and loss - are typically seen as non-performing, or bad, loans.
China Orient is entrusted with the BOC's more than 140 billion yuan (US$16.9 billion) of bad loans, while China Cinda will take over the CCB's 56.9 billion yuan (US$6.9 billion) worth of sour loans - excluding interest payments.
The assets are currently being transferred to the entrustees' books, according to sources.
In the entrustment agreements, the finance ministry requires the AMCs to establish risk-control mechanisms, try to achieve maximum recoveries and separate the entrusted assets from their own.
The BOC and the CCB are the healthiest of China's Big Four, which also include the Industrial and Commercial Bank of China and the Agricultural Bank of China. But their NPL ratios are still high - 14.84 per cent and 8.77 per cent, respectively, at the end of March.
They have not published the outstanding amounts of NPLs, but the combined total for the Big Four stood at 1.89 trillion yuan (US$228 billion) at the end of March, the China Banking Regulatory Commission said last week.
The BOC and the CCB are required by regulators to adopt the stricter five-category loan classification system this year, and keep their NPL ratios below 5 per cent.
The government's decision to give the business of disposing of the pilot banks' written-off assets to the AMCs, instead of letting the banks handle the work themselves, is good news for the AMCs as they eagerly await new business opportunities.
However, the deal itself may not be lucrative, say analysts.
China Cinda's Wang says it will become the trend for NPL business to be left to AMCs, which are more experienced and efficient, and free of the accounting confusion that could arise if the banks were left with the task.