Bankruptcy perils in China: The GITIC tale

Multinational Business Review, Spring 2003 by Bottini, Thomas H

ABSTRACT: The 1999 bankruptcy of Guangdong International Trust & Investment Corporation (GITIC) remains as China's largest bankruptcy of a state owned enterprise. Passive foreign investors constituted the majority of the general creditors. This article recounts some particulars of contentious issues which were decided adversely to the general creditors. Some shortcomings of the proceedings are explained, especially relating to the identification of the Chinese governmental entities which owed large amounts of money to GITIC. Questions are raised regarding possible application of the GITIC decision-making process to bankruptcies involving non-state owned enterprises.

Police, teachers and firefighters pension funds, insurance companies, investment bankers, stock brokers, American banks, Hong Kong banks, Chinese banks, Swiss banks, Japanese banks, Eurodollar investors: what do they have in common? Collectively, they lost over US$3 billion in the largest bankruptcy China has ever seen. It is the first bankruptcy of a Chinese financial institution and includes the first default of a Chinese issuer of international obligations. With a return now estimated by the "professional advisers" of the Liquidation Committee (LC) of Guangdong International Trust and Investment Corporation (GITIC) to be close to 12.5 percent after over four years of proceedings1, GITIC has set the bar for bankruptcies of State Owned Enterprises (SOE) in China. The GITIC bankruptcy cries out an anguished warning to everyone considering a passive investment in the opening investment fund windows in the People's Republic of China.2

In China, bankruptcy is a process reserved only for SOEs. At the outset of this proceeding, the unassailable watchwords of "transparency, compliance with Chinese law and attention to international insolvency standards" were to be the GITIC bankruptcy guiding principles as announced by the Guangdong Higher Peoples Court (the "Court") at the First Meeting of Creditors in May of 1999. Yet, after years of experience on the Chairman Committee3 as the representative of the single largest creditor in the GITIC bankruptcy, the guiding principles remain foggy beacons somewhere just beyond the horizon.

There is no question that the professional advisers faced unique problems and rendered good advice. Nor is there any question that the LC and the Court strove to achieve those principles. The experience, however, has confirmed the sage advice of China investment counselors: don't let the money out of your sight or you will turn out to be the fool that the recipients of the money believe you to be.

OBJECTIVES AND STRATEGIES FOR GENERAL CREDITORS

Bankruptcy of an SOE means liquidation; there is no alternative. If restructuring of an enterprise were an alternative, it would be considered and selected prior to any bankruptcy filing.4 Once filing has taken place, the gravestone is set in place. Thus the GITIC bankruptcy filing on January 16, 1999 came on the heels of a thorough review by Goldman Sachs of GITIC business operations, which was commissioned by the Peoples Bank of China, China's Central Bank. Financially and managerially, GITIC was too crippled for there to be any other alternative. The LC's task was to sort through the claims, sort through the assets and to distribute money remaining after liquidation of the assets to the general creditors.

Counsel to claimants falling in the general creditor category usually adopt a strategy to minimize the claims against the bankrupt estate and to maximize the assets and the liquidation of the assets. Minimizing the claims translated into finding reasons why purported claims should be denied. Maximizing the assets translated into denying any special status for specific assets.

In pursuing these aims, observers learned a lot about the way Chinese authorities handled these sorts of matters. First and foremost, even the largest creditor did not discover a list of the claimants in the bankruptcy. This lack of transparency seriously eroded efforts to disqualify claimants. Equally astounding was the LC's refusal to identify and list specific assets and the largest category of assets, the parties that owed money to GITIC. Since both lists were spiked with goodly numbers of other SOEs, apparently it was deemed politically expedient to conceal these identities in the interest of protecting those SOEs. Ostensibly the LC claimed that these disclosures, even on a limited basis to the confirmed general creditors, was a matter of privacy for the claimants as well as the debtors. Later it was asserted that the disclosure protected the privacy since the categories covered alleged claims and debts. Yet when disclosure was finally made of the claimants, it came in the context of a list of "confirmed claimants." These were parties whose claims were already accepted and thus there was no ability to attack these claims. As attempts were made to obtain these lists, curious discourse abounded at the Chairman Committee sessions. Argument for disclosure: "One of the reasons to disclose the debtors is to put other prospective lenders on alert as to the lack of credit-worthiness of such an SOE." Argument against disclosure: "If everyone learns that a particular SOE is a major debtor to GITIC, the SOE will no longer be able to borrow."