CITIC Securities, China's first listed broker, was in talks to buy a controlling stake in rival Huaxia as the government steps up an overhaul of a loss-making sector, according to sources close to both houses.

The move, combining two of the nation's top five brokers, is the latest twist in a debate over the fate of Huaxia Securities Co. Ltd., known also as China Securities, that domestic media reported had run into heavy debt amid a protracted stock market slump.

Sources said last year that Cinda Asset Management, one of four debt-clearing agencies, was likely to spend as much as 5 billion yuan (US$604 million) bailing Huaxia out.

"Talks between both parties on the purchase are going on. A meeting was convened Friday in Beijing to discuss the possibility," one of the sources said Monday.

The government launched a long-awaited shake-up of the overcrowded brokerage industry by seizing control of Southern Securities in early 2004, and has picked up the pace of overhaul since via closures and government-led mergers involving more than half a dozen players.

Analysts said the proposed deal, if it goes through, would enhance CITIC's customer base and drive a crucial consolidation of the country's beleaguered securities sector.

"Huaxia may be in trouble, but there's still value in the franchise and its customer base," said Fox-Pitt, Kelton analyst Samuel Chen.

Founded in 1992 during the turbulent birth of China's capital markets, Huaxia was the nation's fourth-largest brokerage by turn-over in 2003 with revenue of 816.8 million yuan (US$102.1 million). CITIC is of similar size.

Huaxia's troubles underscore the plight of a sector that relies heavily on basic trading fees and has suffered in a weak stock market.

Domestic media have said more than half of China's 130-odd brokerages went into the red last year as the stock market plunged 15 percent--becoming Asia's worst performer.

Regulators have shifted their focus to the sector as foreign players from BNP Paribas to Goldman Sachs intensify efforts to grab a slice of a potentially lucrative domestic investment banking business.

The regulators have moved to revamp the industry as China develops capital markets and weans its State enterprises off a diet of easy bank loans.

Reform of brokerages is crucial as the government tries to instill better lending practices among its banks.

Central bank governor Zhou Xiaochuan said earlier in January that China aimed to encourage investment in equities, bonds and venture capital to support financial markets.

Apart from moving in on troubled players, they have picked three--CITIC, Everbright Securities and China International Capital Corp., in which Morgan Stanley has invested--to pioneer new businesses.

"Consolidation is essential for the industry because there are too many brokerages that focus on the retail market. Those serving the institutional market are very small in number," Chen said.

This would be the second publicized attempt by CITIC to gain control of a rival, after overtures in October last year to acquire similar-sized GF Securities were rebuffed by two large stakeholders and strident staff opposition.

Success then would have marked a major milestone for a state-dominated industry in which mergers have so far been largely government-orchestrated.

(Shenzhen Daily January 12, 2005)