Private Banking, Chinese-Style

BusinessWeek: November 29,2007

http://www.businessweek.com/magazine/
content/07_50/b4062071793961.htm

Beijing Organic Farm Development is booming. The fruit and vegetable producer expects its sales to double this year, to $7 million, and is planning a $1.3 million expansion. So will Organic Farm head to the bank for a loan? No way. With Beijing cracking down on credit and banks reluctant to lend to small fry, Chief Executive Chen Conghong will instead do what she has since founding the company seven years ago: reinvest profits and turn to family and friends for a loan if she needs more. "We pour all of our revenues back into the company," Chen says.

And so it goes in Beijing's efforts to rein in capital spending to cool down its economy and avoid a painful crash. Although the government in recent weeks has urged banks to curb lending, there's so much money sloshing around China that companies in need of funding can almost always find it, no matter what the banks are instructed to do. In fact, China is brimming with informal networks that companies can tap for funds. Hundreds of operations—some legal, some illegal, and some in the gray area between—are more than happy to make loans, and trade associations often become temporary lenders for their members. These loans today total some $267 billion, equal to 28% of the amount banks lend, estimates Li Jianjun, a professor at Beijing's Central University of Finance & Economics. "The government has controlled the legitimate system, but that has just made the illegitimate part of the loan market more active," Li says.

That's not to say that the government isn't trying to slow lending. The central bank this year has raised the benchmark interest rate five times, to 7.29%, and hiked reserve requirements for banks nine times. Other measures have been aimed at limiting investment in overheated sectors, such as real estate, and in polluting, inefficient industries like cement and steel. Despite all that, the economy is expected to grow by 11.5% in 2007, the fifth straight year of double-digit expansion.

China simply has too much capital for such measures to work. Domestic savings now stand at more than $5 trillion, and the country's global trade surplus hit $213 billion for the first 10 months. So despite the efforts to curb loan growth, official bank lending jumped by 16%, to $467 billion, through October, JPMorgan (JPM) reports.

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China's high-flying companies, meanwhile, have plenty of cash. Through August, pretax profits were up by an average of 37% at mainland enterprises, the National Bureau of Statistics says. And Chinese outfits have raised more than $50 billion in public offerings this year both at home and abroad. "There's a lot of internally generated cash that allows people to forgo borrowing," says Paul Schulte, an equity strategist at Lehman Brothers (LEH)in Hong Kong.

Those who need a loan can forgo a visit to the bank. Yunnan Tianyin Real Estate Development has plowed $1.3 million into apartment buildings in Yunnan province and is now seeking $4 million for additional developments. The company turned to China Private Capital Website, a Hangzhou-based outfit that matches potential investors with companies that can't get bank loans. "The crackdown on bank lending makes more real estate businesses look for loans outside the banks," says Meng Yang, marketing chief at the three-year-old Internet operation.

These underground sources aren't cheap. Interest can be as much as eight times the rate charged by banks. But the money is available fast. Getting approval for a bank loan takes anywhere from six months to a year. The informal networks, by contrast, can often deliver the cash within 24 hours. For most small companies in China, "interest is not an issue," says Ye Weijia, director of New Venture China, a nonprofit that helps small companies secure funding. "If they need a loan, it is for something urgent."