China Prepares Mergers for Big State-Owned Enterprises

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China’s leadership is preparing to radically consolidate the country’s bloated state-owned sector, telling thousands of enterprises they need to rely less on state life support and get ready to list on public markets.

The economic slowdown has heightened the imperative to eke better returns out of the state firms that tower over China’s economy, from the giants that dominate oil, banking and other strategic sectors, to smaller ones that run hotels and make toothpaste.

On Wednesday, China showed fresh signs of weakness, reporting that industrial production for the year’s first two months grew at its slowest pace since the global financial crisis, weighed down by overcapacity, while housing prices continued their swoon.

But instead of scaling back state firms’ role, as economists urge, the consolidation plan could tighten the state’s grip over economic activity and make already inflated behemoths even bigger.

Communist Party leaders plan to release broad guidelines in the next months for restructuring the country’s more than 100,000 state-owned enterprises, according to government officials and advisers with knowledge of the deliberations.

The leadership is determined to “crack a hard nut,” said Li Jin, deputy head of the China Enterprise Reform and Development Society, a trade group under the top state-firm regulator.

Strategically important industries such as energy, resources and telecommunications are marked for consolidation, the officials and advisers say. The merged entities would then be reorganized as asset-investment firms, with a mandate to make sure they run more like commercial operations than arms of the government.

Upper management will be under orders to maximize returns and prepare many of the companies for eventual listing on stock markets, these people say.

State companies are already under pressure to hand the government 30% of their profits by 2020—from 15% or less now. Some of this is to be earmarked for costs related to a rapidly aging population. The new plan adds a goal of making the biggest state companies profitable enough to go public by 2025, according to the officials.

By many measures, the state sector has grown more dominant in China’s economic life, despite Beijing’s recurring calls for a more vibrant private sector.

The plan could be controversial as it falls short of the steps advocated by some market-reform advocates: For one thing it takes large-scale privatization off the table.

“The idea of having asset managers oversee state assets is a good one, but it shouldn’t be done through combining existing state-owned enterprises that are already so big,” says Zhang Wenkui, a deputy director at the Development Research Center of the State Council, China’s cabinet. “That would only lead to less competition.”

Beijing has sought to improve state companies’ efficiency through consolidation in years past, with little success. For example, the government of Hebei province, which rings Beijing, merged two major steel makers to create Hebei Iron and Steel Group, which went on to scoop up more companies but which is now mired in losses and debt.

The State-owned Assets Supervision and Administration Commission, or Sasac, which oversees the largest state enterprises, declined requests for comment on the reform plan. In a speech to the legislature last week, Premier Li Keqiang vowed to “deepen the reform of state-owned enterprises” and to “speed up efforts” to set up state-asset investment companies. He didn’t elaborate.