It sounds innocent enough – “mixed ownership reform.”
That is the phrase the Chinese government is using to describe a program in which healthy private companies are encouraged to invest in debt-laden quasi state-owned enterprises (SOEs).
Take, for example, China Unicom, a flailing state-owned telecommunications company. Last week it announced that it would raise around $10 billion in cash from private investors Alibaba, Baidu Inc., JD.com, China Life Insurance Co. and Tencent, among others. Together they’ll have a 35% stake in the company.
To put that in perspective, Alibaba, with a 2.04% stake, will be investing $770 million in China Unicom. The question for investors on this side of the world is, will companies like Alibaba do that over and over again? And if they do, will it even work?
A problem disguised as a solution
Since 2015 China has been trying to figure out ways to gradually deflate the massive debt bubble built in its corporate and financial system. That debt is making massive SOEs sluggish and unproductive. That year, SOEs recorded a 2.8% return on assets, while private companies returned 10.6%, according to the Peterson Institute for International Economics.
Mixed ownership, which has been part of the conversation around Chinese reform since the 1990s, really began in earnest this year. The government announced that it completed 48 mixed ownership investment deals in June.
You’ll find them concentrated in sectors like telecommunications and energy – old China. The companies bailing them out are mostly tech giants, like Alibaba and Tencent – new China.
The problem is, critics say that moves like this don’t actually solve the problem of unproductive state giants.
“The introduction of private capital into SOEs will not, in itself, alter a key determinant of behavior in the Chinese economy: the relationship between firms and the state,” wrote researchers at The Paulson Institute in a paper published last year. “That’s because China’s institutional environment blurs the boundary between SOEs and privately owned firms, which permits the state to exercise significant influence over firms irrespective of its equity ownership stakes and where firms of all ownership types compete for state-generated rents.”
In other words, until the state gets out of the way and creates a transparent, neutral environment where businesses can succeed or fail on their own merit, these reforms won’t mean anything. In fact, the paper argues, as long as the state is bossing private companies around too there is really little difference between private and public enterprises. With these reforms, the government isn’t loosening its grip on the economy and opening up, it’s going backward and making the state an even more powerful actor in China’s economy.
What’s more, thanks to these deals, as well as forced M&A, SOEs aren’t getting smaller – they’re getting bigger.
A solution that creates more problems
Back to China Unicom, which made headlines last week when it announced its deal (the stock shot up 11%). It made more headlines when it took the deal off the table and said it would be back with another one in three days.
Apparently, according to the WSJ, China Unicom’s initial plan for mixed ownership violated the rules of China’s stock market. So they had to go back to the drawing board. It didn’t help that one of the companies they said would be investing, CRRC Corp, denied that it had any involvement either.
“It’s a bit embarrassing that you had to withdraw a plan shortly after it’s filed and after you had spent so much time putting it together,” a policy adviser involved in state-company reform told the Journal. “At least it shows there is a lack of communication of sort.”
So yeah, the process hasn’t been perfected quite yet. But it doesn’t sound promising either way.