The question has been hanging over China Evergrande Group for months: is the world’s most indebted developer too big to go bankrupt?
Investors finally have their answer. With a flurry of announcements that sent Evergrande bonds plunging to record levels this week, the company and Beijing have made it clear that billionaire property giant Hui Ka Yan is heading for one of the biggest debt restructurings important from China.
Barring a last-minute shock, holders of $ 19.2 billion Evergrande dollar banknotes face heavy haircuts as the company revises its gigantic balance sheet without a government bailout – a process that promises to be long, controversial and potentially risky for Asia’s largest economy.
While the rating companies have yet to declare an official default, holders of two bonds issued by an Evergrande unit had not received past due coupons at the end of a 30-day grace period on Monday. . S&P Global Ratings said on Tuesday that a developer default was “inevitable.” Evergrande did not immediately respond to a request for comment.
The developments mark the beginning of the end of the sprawling real estate empire started 25 years ago by Hui, sparking a long battle over who gets paid with what is left. Evergrande said in a brief exchange brief Friday that he planned to “actively engage” with offshore creditors on a restructuring plan. The company plans to include all of its offshore government bonds and private debt obligations in the restructuring, people familiar with the matter said on Monday.
Evergrande, which disclosed more than $ 300 billion in total liabilities in June, is becoming the biggest victim of President Xi Jinping’s efforts to crack down on the free-wheeling real estate industry and curb real estate speculation. Beijing’s reluctance to bail out the developer sends a clear signal that the Communist Party will not tolerate a massive build-up of debt that threatens financial stability.
The question now is whether the government can limit the fallout. Already, stocks and bonds of lower-rated smaller real estate companies have plunged. At least 10 have defaulted on onshore or offshore bonds since concerns about Evergrande’s financial health escalated in June. Kaisa Group Holdings Ltd., a major issuer of dollar bonds, has also been pushed to the brink in recent days.
Yields on unwanted dollar bonds have soared above 20%, making it prohibitive for cash-strapped companies to borrow abroad. Home sales and prices collapsed, adding another headwind for an economy struggling with sluggish growth.
“They are playing with fire,” said Cathie Wood, director of Ark Investment Management, which reduced its holdings in China earlier this year.
For now, Chinese authorities are signaling that they plan to shut down Evergrande and limit contagion rather than orchestrating a bailout like they have done in previous crises.
The People’s Bank of China reiterated on Friday that the risks to the economy from the Evergrande debt crisis can be contained, citing the developer’s “mismanagement” and “reckless expansion” for the problems it faces. . China’s Banking and Insurance Regulatory Commission said in a separate statement that development loans and real estate acquisitions should be issued on a “reasonable” basis.
The latest financial system support measures came on Monday, with China’s central bank releasing about 1,200 billion yuan ($ 188 billion) in liquidity through a reduction in the reserve requirement ratio for most banks. The government has pledged to support the housing market to better meet “reasonable” needs, adding to signs that it will ease real estate restrictions.
Civil servants also play a more practical role in Evergrande. Chairman Hui was summoned by the Guangdong government last week after the company announced plans to work with creditors on a restructuring plan. Authorities in the home province of Evergrande will send a task force to urge the automaker to manage the risks, as well as strengthen internal controls and ensure normal operations, according to a Dec. 3 statement.
So far, containment efforts have not appeased investors. While the pain has so far been largely contained in China’s smallest offshore credit market, this is little solace for developers who have relied heavily on international investors to raise funds. Borrowing costs have skyrocketed for companies with the weakest balance sheets, including Kaisa and Fantasia Holdings Group Co.
In total, Chinese borrowers have defaulted on a record $ 10.2 billion in offshore bonds this year, with real estate companies accounting for 36% of that total, according to data compiled by Bloomberg.
âThere is extreme stress in the market,â with about half of the country’s developers in deep financial distress and pricing at high default risk, said Jenny Zeng, co-head of fixed income for the Asia-Pacific at Alliance Bernstein.
Still, the biggest and best-rated Chinese developers, such as Longfor Group Holdings Ltd. and Country Garden Holdings Co., hold up much better than their lower rated rivals. Country Garden, the largest developer by sales, saw its 2031 bond rebound to 88 cents on the dollar, after falling to 73 cents last month. A 2024 banknote sold by China Vanke Co., the second-largest firm, rallied to trade above par.
âWe expect the industry divergence to continue,â said Iris Chen, credit bureau analyst at Nomura Securities Co. âThe game’s high-quality survivors will win despite already relatively high cash prices, because they will have a better chance of returning to normal refinancing, which will further strengthen their liquidity.
China is also trying to limit the fallout in the wider housing market, in a country where real estate accounts for about a quarter of economic output and up to 75% of household wealth. China’s real estate recession has intensified in recent months after falling sales and falling home prices for the first time in six years.
According to preliminary data from China Real Estate Information Corp.
Any slowdown in real estate could have a ripple effect not only on the Chinese economy but also on global growth. China’s growth slowed in the third quarter, with signs that there will be more pain to come. The Federal Reserve warned last month that the fragility of China’s commercial real estate sector could spill over into the United States if it deteriorates significantly. China’s real estate sector accounts for nearly half of the world’s troubled dollar-denominated debt.
âThink about the cyclical risk if we lose China,â Wood said of Ark Investment at a recent Milken world conference. âAt the margin, China has been responsible for huge cyclical growth.â
The Chinese government cannot stand up. President Xi oversaw a Communist Party Politburo meeting on Monday that ended with a signal to ease restrictions on real estate. The management panel, meeting ahead of a larger annual economic session that sets targets for the coming year, has pledged to stabilize the economy in 2022.
For holders of global bonds, a default by Evergrande is likely to spark a protracted battle for repayment. Chinese officials have made it clear that the company should put homebuyers, suppliers and retail investors – who bought the company’s wealth management products – ahead of creditors. Some 1.6 million buyers have made down payments with Evergrande for properties that have yet to be completed.
âRegardless of the outcome, offshore bondholders are the last to pay and will certainly have to take some, maybe big, haircuts,â said Andrew Collier, managing director of Orient Capital Research Inc. in Hong Kong.
With Evergrande dollar notes trading at around 20 cents on the dollar, the market is already looking at a discount of around 80%. The key for bondholders is whether the company can speed up home sales and offload assets to raise funds so it can start paying off debts, said Gary Ng, senior economist at Natixis SA.
Evergrande’s offshore noteholders included Ashmore Group Plc and UBS AG, according to data compiled by Bloomberg. Even as Evergrande stock and bond prices plunged, Ashmore bought an additional $ 100 million in bonds issued by the developer or its affiliates in the third quarter. The deals brought his holdings to more than $ 500 million at the end of September, the data showed.
Another market reaction to Evergrande’s missed payments may be driven by the way the restructuring process is going, said Jim Veneau, head of Asian fixed income at AXA SA.
âAn orderly restructuring, where the company can conduct its operations as normally as possible and refrain from selling distressed assets will help significantly to limit further damage to the industry,â said Veneau.
Perhaps the biggest loser in dollar terms is Evergrande founder Hui, who once owned more than 70% of the company before the recent share sales. The fall in the Evergrande share price this year has slashed the president’s fortune by 73%, or about $ 17 billion, according to the Bloomberg Billionaires Index. Once the second richest man in China, Hui now ranks 75th.
For years, the son of an impoverished lumberjack who built one of China’s largest real estate companies and then branched out into electric vehicles, tourism and football clubs, has been able to count on the support of Beijing or other tycoons to bail him out. . This time he appears alone.