By staff reporter Chen Huiyin

From Caijing’s online edition

Chang Zhenming, vice chairman and president of Citic Group, confirmed in an interview with Caijing that Citic Group would provide its subsidiary Citic Pacific with a US$ 1.5 billion standby loan to be substituted by a convertible bond issued to Citic Group.

The bond will be automatically converted into an equity interest at HK$ 8 per share. Citic Group will then hold the majority equity interest of 57.6 percent in Citic Pacific. After the above arrangements, the AU$ leveraged foreign exchange contracts within Citic Pacific will be used for its Australian iron ore business. Citic Group will take on the rest of the contracts and their corresponding liabilities.

Citic Pacific said that given the turmoil in global equity and credit markets, it is very difficult to access any additional financing. “This outcome is therefore optimal, since it balances the interests of creditors, trading partners and shareholders,” said Chang.

Under the restructuring plan, Chang will take on a new role as the head of a special committee in charge of forex derivatives contracts worth up to AU$ 5.7 billion. Larry Yung Chi Kin, Chairman of Citic Pacific, will also have his holding diluted from 19 percent to 11.58 percent if the bonds are converted to shares.

In late 2007, Citic Pacific entered into a type of leveraged derivatives contracts on the Australian dollar called AID target redemption forward contracts – also known as accumulator contracts – with a nominal amount topping AU$ 9.4 billion. After July, the AU$’s value against the U.S. dollar dropped nearly one third, generating a HK$ 800-million loss for Citic Pacific. The market-to-market loss could reach as high as HK$ 14.7 billion, according to the company.

“When we heard about the huge losses, we extended a US$ 1.5-billion standby loan to Citic Pacific to restore market confidence,” said Chang.

According to Chang, they initially reviewed a few options to help Citic Pacific. First, they considered providing loans, but realizing the group would not be able to resolve the loopholes in derivatives contracts, nor could they set the interest rate, they abandoned that idea. Second, the group could have simply injected capital. And third, it could inject capital and clear up its balance sheet by cutting down derivatives trading exposure.

“After consideration, we chose the third plan,” Chang said.

Chang said Citic Group went with the third plan because they saw that Citic Pacific still has many good assets, and its core business has been operating normally.

On October 20, after the announcement of the trading damages, Citic Group’s assistant general manager Zhang Jijing led a working group to conduct a comprehensive assessment of all of Citic Pacific’s businesses, including two tunnels in Hong Kong, Cathay Pacific, Dah Chong Hong, nine plants and three special steel factories, an iron-ore mining operation in Australia, and a real estate business on the mainland.

“We said firmly that we would not sell any assets of Citic Pacific at the time. We believe that the company is still a healthy company after going through this crisis,” said Chang.

According to the reorganizing plan, the AU$ 9.1 billion derivatives contracts will be divided up. Citic Pacific will continue to hold AU$ 3 billion to meet its investment needs in Australia. Another AU$ 5.7 billion will be transferred to its parent company at the set price.

“This is like setting a floor price for Citic Pacific,” said assistant managing director Zhang.

With regard to taking the AU$ 5.7-billion contract, Chang Zhenming said that Citic Group started to invest in Australia in 1986; it has an aluminum factory and a 20 percent stake in McArthur Coal Mining, among other projects. The company is interested in Australian mineral resources are will gradually “digest” this AU$ 5.7 billion.

“The Australian dollar is an interest-generating asset, and Citic Group has demand for Australian dollars,” said Chang.

A general shareholder meeting will be convened to vote on the recent resolutions.

Rumors still surround Citic Pacific’s disastrous investment. Many question how Citic could have made such a risky buy, and why there was no oversight from the top to catch the mistake. “We can not understand why there was no margin call written into these contracts,” said a source from a Chinese bank who refused to be named.

The Hong Kong Securities Regulatory Commission has yet to conclude its investigation of the Citic Pacific case.