BEIJING (Reuters) - A rare government takeover of a little-known Chinese bank has revived concerns about the true health of hundreds of small lenders in the country as a slowing economy and souring loans test their capital buffers and drain their reserves.

A man walks past a building with an advertisement of Baoshang Bank in Beijing, China September 8, 2018. Picture taken September 8, 2019. REUTERS/Stringer

Regulators seized Baoshang Bank last week, citing serious credit risks. The sudden takeover of the Inner Mongolia-based lender has fanned worries about other banks with substantial borrowings.

There are almost no public details about Baoshang’s current credit profile. Its “AA+” rating has not been adjusted since 2015 and the bank has not disclosed any financial data since 2017. According to Refinitiv data, Baoshang has 206 outstanding bonds worth a total of 73.83 billion yuan ($10.69 billion).

The circumstances around the Baoshang case, however, have turned the spotlight on other banks that have similarly delayed disclosures. Over a dozen small lenders, including Bank of Jinzhou and Bank of Jilin, have not published their annual or quarterly reports this year, stirring concerns about worsening asset quality and capital adequacy.

The Bank of Jinzhou and Bank of Jilin did not respond to Reuters requests for comment.

“The life of some smaller banks is hard,” said Felix Zhang, founder and chief executive of Bairong Inc, a third-party risk management firm backed by sovereign fund China Reform Holdings Corp.

He said three rural banks with bad-loan ratios between 20% and 30% had approached him and wanted Bairong to buy them out.

So far in 2019, the credit ratings of two rural banks - Jilin Shuangyang Rural Commercial Bank and Anhui Tongcheng Rural Commercial Bank - have been downgraded, for reasons ranging from bad loans and inadequate bad-loan provisions to poor corporate governance.

Last year, the ratings of 11 city and rural commercial banks were cut, according to a Reuters analysis of reports issued by domestic ratings agencies. That compares with just two downgrades in 2017.

TOUGH TIMES

China’s city and rural commercial banks face higher risks as they inherently lack the ability to diversify in terms of geography, industry or clients, analysts say.

Their cozy ties to local governments also add pressure for them to support opaque local financing entities.

Jilin Shuangyang Rural Commercial Bank, in the northeastern rustbelt, was downgraded to “A” in April from “A+”, with ratings agency China Chengxin International Credit Rating Co (CCXI) citing weaker local economic conditions and the lender’s risky off-balance sheet business.

Stricter classification rules since last year on bad-loan reporting are also expected to further increase the number of bad loans at small banks that had previously put them under the “special mention” category.

The bad-loan ratio of Anhui Tongcheng Rural Commercial Bank jumped to 12.25% at end-2018 from 3.03% a year earlier. The lender was downgraded to “A” from “A+” by CCXI in January. The ratings agency cited surging bad loans and a low loan-loss provision ratio.

The provision ratio of Anhui Tongcheng slumped to 25.2% in 2018 from 145.26% in 2017, according to CCXI. The lender’s capital adequacy ratio also dropped sharply to 2.28% at end-2018 from 14.06% a year earlier.

The market is closely watching any reassessment of the credit conditions of smaller banks that haven’t been downgraded but could be on the verge of a credit crisis.

China’s credit ratings industry is dominated by six domestic agencies whose reports do not necessarily disclose as many details about their ratings decisions as those of their major counterparts abroad.

One problem is a general reluctance among Chinese agencies to give their “five-star” clients unfavorable ratings, for fear of losing business, or being accused by the authorities of causing market disturbances with “negative” news.

Even when a bank is given a rating downgrade, the ratings agency might not publicly offer a reason for the cut, citing confidentiality clauses.

Almost 700 city and rural commercial banks are rated at least an “A”, according to a Reuters analysis.

“The Baoshang takeover is a clear signal that regulators are motivated to speed up the cleansing of poorly operated rural and city commercial banks,” said Dexter Hsu, a Taipei-based analyst at Macquarie Research.

“There could be more consolidation of small banks. Looking back on this, you’ll find it’s actually good for economic health.”

($1 = 6.9087 Chinese yuan)