While China's new state-owned enterprise (SOE) reform guideline provides little detail and did not impress the market much, there are some positive messages that have been overlooked, according to a report released by UBS.
China issued a guideline to deepen SOE reforms in mid-September. With the aim of making SOEs more creative and internationally competitive, the government pledged measures to modernize SOEs, improve management of state assets, promote mixed ownership and prevent the erosion of state assets.
The lack of specifics and a clear timetable, as well as wording on making SOEs bigger and stronger and preventing loss of state assets, dampened hope for major SOE divestment and restructuring, according to the report.
However, the report pointed out that the gap between public expectations and the government's blueprint for SOE reforms probably stemmed from disagreement over what the biggest problems in the SOE sector are, and positive messages from the initial plans have been overlooked.
Most notably, the new guideline insists on market-oriented reform and reiterates the need to separate the state from corporations, and ownership from management, and points out ways to achieve this. It also emphasizes the need to improve SOE efficiency and returns on assets.
SOEs in competitive industries may have the state as a minority shareholder, and the plans call for the state to exit some sectors, including through bankruptcies and closure of excess capacity.
Meanwhile, the government will set up state investment companies to help it move away from SOE management to state capital management.
In addition, SOEs will be allowed more flexible employment and compensation systems. SOEs will also be required to provide timely disclosure of their operations, governance, management structure, financial status, arms-length transactions and management compensation to help improve transparency and governance.
As the government moves forward with establishing mixed ownership and improving incentive systems in SOEs, UBS predicted there might be interesting opportunities for equity investors.
For example, the government announced that pilot reforms will start in the power, oil and gas, railways, telecommunications, aviation and defense industries.
However,the impact of the proposed SOE reforms will have limited impact on growth in the coming year as reforms will likely proceed very gradually and shutting down excess capacity and restructuring SOEs, along with write-offs of bad debt, should help rejuvenate the corporate sector in the long term, but cause short-term pains, according to UBS.
