By Li Liming
Published: 2007-05-09

Yingdataihe Financial Insurance and Yingdataihe Life Insurance, sponsored by the State Grid Corporation of China, are the latest cases of state-owned enterprises (SOE's) aiming to march into the financial industry. Last December, State Grid's ally, Citibank, won the bid for the Guangdong Development Bank, making State Grid a formidable stakeholder after Guangdong Development Bank was restructured. Many industry insiders feel that large-scale SOE's are strong stakeholders in the financial industry, and that their stake in financial institutions, to the extent of establishing holding companies, is a good thing. But we still have reservations towards this kind of behavior.

Many SOE's enter the financial industry for two reasons: first, entering the financial industry or setting up a financial holding company is useful for satisfying their own development needs, and assures that they receive the financial support they need to grow; second, some SOE's see value in having a financial license or room for financial equity growth, and thus hope to profit from investing in finance. We believe that these two points are not sufficient enough to merit SOE's entrance into the financial domain.

Common sense says that a business' development is inseparable from its financial support. As a result, it's not until the financial institution is firmly within the grasp of a business that it can relax, as it can thus obtain necessary financial support whenever it pleases. This is an important argument cited by SOE's for entering the financial industry. Five years ago, because of the huge amount of non-performing loans and specialization by securities firms, large-scale SOE's found it difficult to find financial support. This was painful for the industry and, as a result, the moment they had an opportunity to be in control of their own financial fates, they jumped at it.

But the distance created then between firms aching for loans and the capital markets is old news. In the climate of recent years' excess liquidity and intensification of competition in the securities and insurance industry, large state-owned enterprises all became favored by financial institutions. Now, good businesses can get enough financial support independently without a problem. And competition among financial institutions reduces the costs of such support.

Providing financial support for good businesses is perfectly justified. Should a business still receive financial support even if it's being irrational? When some businesses undertake high risk or speculative activity, the financial indnustry, from a risk-management perspective, gets turned off. If, because of this, state-owned businesses are not being financially satiated and then go seek to control financing, this is a very dangerous development. The collapse of Delongxi in 2004 is a the realization of this.

As risk in the banking industry has melted, the insurance market has boomed and securities markets have become bull. Stock prices for financial institutions are going up. This has many state-owned firms, awash with capital, eager for the opportunity to invest in them. 

Many agonized over CNOOC's refusal to bid for the Construction Bank in 2004. State-owned businesses were confident about investing in financial institutions, and thought it would just take a few years before they could sell and profit nicely. To them, CNOOC's move was a costly mistake.

Even if these firms were able to make a few billion yuan off of these kinds of investments, they would have been better off investing instead in their own core products and services. It's precisely because the financial sector is profitable that their attention is being drawn away from their own industries.

The world's most successful companies don't have the most diversified operations, nor do they speculate about the latest gold mine. They rely on specialization and consistent competitive superiority. The more that firms take a stake in financial institutions, the less focus they'll have. State-owned firms thinking of stepping into the financial domain should do so with caution.