What would a restructuring of Evergrande look like?
It looks like Evergrande, the great-grandfather of the Chinese real estate bubble, is finally going to collapse. What will it look like?
The short answer is that investors, lenders and apartment owners lose out. Insiders win. The Chinese financial system remains standing. Governments at all levels are stepping up repression.
Evergrande now swirls the drain, and the world is waiting for him to come down. The parent company’s share price, HK 3333, is down 76% from the start of the year. In August, Xu Jiayin, founder of Evergrande and one of China’s richest men, stepped down as chairman of the real estate group. Trading in the company’s bonds has been suspended in Shanghai. Police descended on the Evergrande office building in Shenzhen on Monday when individual investors in the company’s myriad of “wealth management” products rallied to demand repayment.
There are two things that make the distress of this business extremely dangerous for the Chinese government: its scale and its effect on Chinese individuals who thought they had bought a ticket for the middle class.
First of all, the scale. The publicly acknowledged debt is $ 300 billion. This is 2.4 times the $ 123.8 billion cost of bailout of the savings and credit sector to the U.S. government in 1998-99 and double the direct cost of $ 169 billion of the Chinese bank bailout. in 2000-2001, both of which had enormous consequences for their economies.
Second, the number of people affected. Evergrande is essentially a Ponzi scheme, collecting presale money from an ever-growing number of apartments, as well as hundreds of thousands of individual investors, and using the money to fund new sales by speeding up construction by course and by financing the installments. Like any Ponzi scheme, it works as long as it speeds up. When the market slows down, these inflows of cash begin to lag behind the growing arc of demands for cash. Evergrande now has around 800 unfinished projects and around 1.2 million people are waiting to move in, according to news reports.
But worse than that, few buyers buy an apartment in Evergrande as their primary residence. Apartments in China are like mutual funds in the United States – the investment vehicle of choice for aspiring middle-class people who – and rightly so – don’t trust banks. And Evergrande has explicitly supported these people, choosing locations just outside areas that limit the number of units a person can buy and advertising developments as second homes. All over China, salespeople and factory workers sit in empty apartments in Evergrande dreaming of selling them for a big margin to finance their children’s studies abroad or their own retirement.
Personally, despite being there for 25 years, the biggest public outrage I have seen in China is not about random arrests and abuses, bribes or scams: it’s the value of properties. Hell does not have a fury like that of Chinese investors who lost money in Evergrande loan derivatives or apartments that fell in value. Indeed, WeChat and TikTok are full of videos – posted faster than they can be deleted – of protests in Evergrande’s offices. Evergrande reportedly told employees in Shenyang, Liaoning, to work from home to avoid protests.
To cauterize the bleeding, the Chinese government is likely to force a restructuring. What will it look like?
Let’s look at some historical cases. First, the bailout of wealth management products or WMPs, the Chinese version of mortgage backed securities, the financial sausage envelopes that banks and brokers fill with mortgages, equity derivatives and bonds, private equity investments and all kinds of other financial products. . These are the vehicles by which the Chinese public has invested in Evergrande. And it is clear that they do not even pay on the principal, let alone on the yield.
WMP’s last publicly disclosed bailout dates back to 2014, when a consortium of banks had to refinance the roughly $ 500 million hole left by the default of Credit Equals Gold WMP, which had been used to fund a dead coal. The initial confidence behind the product has been repaid. The losses were absorbed by the banks. After that, Chinese banking regulators threw a sharp blow and tried to force banks to reduce their off-balance sheet exposure, which some said had reached around 90% of GDP. The new regulations have forced a number of bank mergers and have seen many small regional banks fail. But in many cases, banks have reacted like banks, by reclassifying their liabilities off-balance sheet. This may be part of what lies behind the government’s determination to gut Ant Financial.
Some cases of restructuring:
1. Kaisa Group: This developer defaulted on about $ 2.5 billion in bonds in 2015 and was accused of fabricating financial reports that claimed a large cash balance. In the restructuring agreement, neither the 49% of the founder’s family nor the 30% of the shares held by Sino Life were diluted. Bondholders had the choice of either a deep haircut or refinancing with high yield bonds. Local governments, although their ownership arms, have quietly taken over many projects.
2. Dalian Wanda: This developer restructured in 2017 by selling assets in the United States, Europe and Australia, notably the AMC movie chain and the Spanish football club Atletico Madrid. In 2021, Wanda was still struggling to repay $ 56 billion in debt. Forbes in 2013 ranked founder Wang Jianlin as China’s richest man. It is still worth almost $ 15 billion.
3. HNA Group: The Chinese government forced the consolidation of the hundreds of subsidiaries of this company, which resulted in widespread failures of HNA subsidiaries such as Bohai Leasing, Irish company Avolon Holdings and Hainan Airline Holdings. A Chinese bankruptcy court said 67,400 creditors had filed 1.2 trillion yen in claims. The losers included the shareholders of Hilton Grand Vacations (HGV
1. Non-essential assets and in particular abroad will be transferred and sold to what the market supports.
2. Public market investors will lose out.
3. Chinese individual investors in Evergrande’s wealth management products and empty apartments will lose their shirts. When they oppose it, they will be silenced.
4. Unfinished developments will become the responsibility of local governments.
5. The founder of Evergrande, Xu Jiayin, will remain very wealthy until the national protests reach a crescendo demanding that heads fall. Then he will go to prison or remain a fugitive abroad.
The end of the dream that ever-rising property values will bring prosperity to the average family in China is a politically combustible phenomenon, yet Evergrande is on a scale that indicates it cannot be fully bailed out and debts are on the rise. hidden. As apartment owners and debts take to the streets rubbing their eyes, everyone should be bracing for a brutal crackdown.