Reports of Chinese interest in purchasing a shipyard at Subic Bay in the Philippines have triggered alarm in Manila and other regional capitals. It now appears as though Philippine banks will bail out the sinking shipbuilder, calming fears that China will gain a foothold, if not control, of a strategically critical location in Southeast Asia. The incident is another example of the implications of China’s expanding reach and the strategic value of its investments.

Hanjin Heavy Industries and Construction (HHIC), a South Korean shipbuilder, established the 300-hectare facility in Subic Bay in 2006, and it has become one of the world’s top 10 shipbuilders, producing 123 ships through last year. It employed 30,000 workers at its peak, but employment has steadily fallen to just 3,800 today after more than 7,000 people were laid off in December. Thousands of other jobs have also been lost as local support businesses suffered as well. The company has been hit hard by stiffening competition, overcapacity worldwide and high fixed costs at the facility.

Hanjin Heavy Industries and Construction Philippines (HHIC-Phil), the subsidiary of HHIC that runs the shipyard, defaulted in January on debts of $1.3 billion and filed for bankruptcy. The parent company had guaranteed more than $400 million of that debt, but it was having problems of its own: The losses at Subic made up over one-third of a total debt of 3.4 trillion won, which exceeded total assets by 742.2 billion won. Trading in HHIC shares was suspended earlier this month. The parent sought to sell the Subic operations to lighten its debt load.

Two Chinese companies were reportedly among those interested in purchasing the Subic facility. That interest reflected flowering ties between China and the Philippines under President Rodrigo Duterte. During his visit to Manila last year, the first by a Chinese president to the country in 13 years, Xi Jinping and Duterte signed 29 agreements, among them memorandums of understanding on Manila’s participation in China’s “Belt and Road” initiative (BRI) and on cooperation in oil and gas development. The broader economic relationship is already flourishing. China-Philippine trade exceeded $50 billion in 2017 and China has become the Philippine’s largest trading partner, its largest export market, its largest source of imports and its second-largest source of tourists.

There is mounting concern in the Philippines and elsewhere, however, that China’s interest is also a product of strategic calculations. Beijing would be delighted to drive a wedge between the United States and one of its five treaty allies in Asia, especially one whose location — straddling sea lanes and bordering the South China Sea — is critical. There seems to be progress in that effort: Duterte has no great affection for the U.S. and he sees closer ties with Xi as deliberate repudiation of his country’s long-standing relationship with Washington.

A Chinese presence at Subic Bay is another reason for concern. It is one of Southeast Asia’s best deepwater ports and once was home to the largest U.S. overseas naval base. U.S. military vessels regularly stop there still, as do those of the Philippines’ other security partners. Defense planners fear that a Chinese-run shipyard would afford Beijing an intelligence bonanza or, worse, that the initial investment would open the door to a bigger presence. Since the launch of the BRI a little over five years ago, Chinese companies have been involved in the construction and operation of more than 40 ports in 34 countries. While those decisions make commercial sense, they also afford strategic benefits because of their locations. Security planners watched China assume control of Hambantota port in Sri Lanka after the local partner defaulted on loans to a Chinese company. They fear that was no accident, but an inevitable consequence of the way the loan was structured.

The prospect of a Chinese purchase sparked a backlash among the many Filipinos who fear that Duterte’s policies are not in their country’s best interest. Subsequently, a consortium of Philippine banks has come to the rescue of HHIC-Phil with a $410 million debt for equity swap. HHIC will ask Korean creditors to do the same for their $900 million debt.

Japan has nurtured relations with the Philippines. When Prime Minister Shinzo Abe visited Manila in 2017, he promised that Japan would provide ¥1 trillion in assistance over the next five years, including ODA and private sector investment. Japan has provided security equipment such as planes, ships and spare parts, and Maritime Self-Defense Force vessels have been making port calls. This is a start. More must be done.

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