By Wang Wei & Li Hanqing

Research Report Vol.21 No.5, 2019

Over recent years China has made headway in railway development (especially the building and operation of the high-speed rail passenger transport network) that plays an increasingly important role in advancing, safeguarding and guiding the national economy and social development. However, large-scale debt risks in railways are emerging, and improper handling of debts may induce financial risks and aggravate local debt burden as the railway industry is vital to China’s national security, economy and people’s livelihood. So, it is urgent to re-examine the “grey rhinoceros” of railway debts and the causes under the general principle of seeking progress while maintaining stability. Through comprehensively deepening the railway reform, potential risks can be effectively prevented and resolved to support the sustained and sound development of the national economy.

I. The “Grey Rhinoceros” of Railway Debts Can Not Be Ignored

Now the expanding railway debts are likely to become “grey rhinoceros”. In increasing the investment in railway infrastructure, the potential risks and problems must be analyzed from the perspective of the following factors: the growth rate of the surviving debt scale, the financing structure and the ability to resolve debts.

1. The debt scale increases rapidly and the asset-liability ratio remains high

In terms of debt scale, as of the third quarter of 2018, the liabilities of China State Railway Group Co., Ltd. (hereinafter referred to as “CHINA RAILWAY”) totaled RMB5281.7 billion, an increase of RMB456.7 billion over the same period in 2017. The average liability growth rate from 2015 to 2018 was 10.5%, and the debt scale still grows rapidly. Judging from the financial indicators, CHINA RAILWAY’s asset-liability ratio has increased too fast and its ability to repay debts remains unstable. The asset-liability ratio was 40% in 2003, 46.8% in 2008 and 61.81% in 2012, and has remained at the high rate of about 65% over the past five years. Regarding the current ratio^① (see table 1) which reflects an enterprise’s ability to service its debt, CHINA RAILWAY experienced a continuous decline in 2014-2017. Even with an improvement in 2018, it remains to be seen whether the improvement can be sustained. Obviously, the debt repayment ability of the enterprise has been continuously going down.

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2. The debt burden mainly concerns bank loans and the pressure on debt service is enormous

The construction funding for CHINA RAILWAY mainly consists of construction funds, bank loans and railway construction bonds, more than half of which come from bank loans. Bank loans accounted for 77.7% of all funding sources in 2016, and the ratio gradually decreased to 53.8% in the third quarter of 2018. With the railway bonds included, more than 80% of the construction funding for CHINA RAILWAY came from loans (see Table 2). In terms of the use of funds, the capital requirements for debt service grew more demanding due to the ever-expanding debt scale over the years. The average annual debt service from 2014 to 2017 involved RMB530 billion, almost equivalent to the total passenger and freight transport revenue of CHINA RAILWAY (see table 3).

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3.The capacity of debt relief is extremely weak after years of losses in railway transportation

As for the financial situation, CHINA RAILWAY’s main revenue came from passenger and freight transport services, accounting for more than 60% of the total (see Table 4). Specifically, passenger transport revenue grew rapidly, increasing from 21.4% in 2014 to 35.4% in 2018; freight revenue grew slowly, rising from 31.6% to 33.3% of the total. In actual operation, however, the railway transportation revenue failed to cover the cost[]②, and the transportation loss has existed for a long time and even expanded from RMB60.43 billion in 2014 to RMB115.62 billion in 2016. CHINA RAILWAY has strived to turn losses into profits by expanding diversified businesses and creating new sources of income through value-added services, e.g., advertising, retailing, loading and unloading and distribution. However, its value-added service revenue saw a continuous decline in recent years, with its proportion in the total income decreasing from 40.5% in 2014 to 26.5% in 2018 (see Figure 1). In 2018, CHINA RAILWAY once again saw surplus give way to deficit. Its ability to resolve debts was worrying.

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4. Systemic debt risk has a great impact on the financial sector and local areas

In finance, CHINA RAILWAY’s bank loans mainly come from China’s five largest banks, i.e., Bank of China, Agriculture Bank of China, China Construction Bank, ICBC and Bank of Communications. The huge scale of loans from these banks to CHINA RAILWAY once approached or exceeded the regulatory value of 15% that a single group client’s credit concentration shall not exceed—. As of the third quarter of 2018, the Corporation’s domestic long-term loans totaled RMB4274.61 billion, accounting for 80.9% of the total liabilities, an increase of RMB378.4 billion over the same period in 2017; the short-term loans totaled RMB75.1 billion, a decrease of RMB45.6 billion over the same period in 2017; the payables of RMB655.39 billion exceeded the total amount due for 2017. Owing to the dual pressures of short-term debt service and increased payables, the increase in debt has shifted from short-term to long-term loans. Once any problem occurs in long-term loan repayment, it will lead to a significant increase in the financial sector’s non-performing assets rate.

It is noted that the local debt burden is also huge. Nowadays railway projects are jointly built by CHINA RAILWAY and the neighboring provinces and cities along the railways. CHINA RAILWAY contributes more than 50% of the funding while local governments less than 49%. The capital of local governments mainly covers the cost of relocation and land requisition, local financial funds, land transfer funds, government bonds, and funds invested by enterprises on behalf of the government. Specifically, the cost of relocation and land requisition and the investment of enterprises on behalf of the government are covered by the debts of local governments, and most of them come from bank loans obtained through local financing platforms. As the downward pressure on economy increases, fiscal revenue growth slows and land transfer income declines. However, the rigid expenditure still grows; the disposal of local government’s stock debt faces severe challenges, especially in some areas with relatively weak financial resources, where the debt service pressure is even greater. If mishandled, it will not only increase the risk and pressure on the financial system, but have a greater impact on social stability.

II. Complex Institutional and Mechanism Reasons for the Formation of the “Grey Rhinoceros” of Railway Debts

1. There is lacking in a restraint mechanism to curb blind railway investment and construction

First of all, the respective functions of government and enterprises are not separate yet in railway construction. As an investor in railway construction CHINA RAILWAY performs many government functions: planning for and construction of railway networks, investment, financing and operation.

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