Confidence crisis?

In the news headlines again

According to a Chinese idiom, ‘good fortune doesn’t come twice but bad luck rarely hits once’. Shareholders of China Evergrande have found that out again this week.

The week began with news of Chen Feng, deputy general manager of the Chinese developer’s Hong Kong unit, appearing in court on rape charges. The allegations date back to a dinner that Evergrande’s Chen attended in March. (This event got even more local media attention because of who was dining with Chen: Hong Kong director of immigration; the city’s customs and excise commissioner; and the deputy secretary for security – each of these senior government officials was later fined HK$5,000 ($640) for violating social distancing rules by turning up for the meal).

Just when observers wondered what other salacious details might emerge from the court case, the shares of Evergrande and its other Hong Kong-listed units went into a two-day nosedive. The market value of China’s most indebted property firm plunged nearly 30%, while its offshore bonds sank to all-time lows. The sell-off was triggered by news – from another court, this time in Wuxi city in Jiangsu province – that it had ordered a freeze on Rmb132 million ($20 million) in cash deposits held by Evergrande. This was at the request of China Guangfa Bank over debt repayment concerns.

The rout continued on Tuesday as further news broke that a local government in Henan province had halted sales at two of Evergrande’s residential projects in Shaoyang city on concerns that it may not have sufficient cash to complete construction (developers in China are required to provide a deposit of funds before the pre-selling of unfinished apartments can begin).

According to Bloomberg, major lenders in Hong Kong have also stopped offering mortgages to buyers of Evergrande’s uncompleted properties in the territory, in another sign of dwindling confidence in the developer’s financial health.

Evergrande acted swiftly to tackle the crisis. First it said in a stock exchange circular on Monday that it was considering legal action against Guangfa Bank for “abuse of the pre-litigation asset preservation process”. And on Wednesday it announced that the parties had settled their dispute and its shares rebounded as much as 11.5% in the following day’s trading.

Authorities in Shaoyang also lifted the sales bans on Evergrande’s two projects less than a day after imposing them – but only after the developer had transferred more cash into escrow accounts.

Beyond these headlines the worry is over the more than $300 billion of liabilities Evergrande amassed by the end of last year.

Concerns over its finances have worsened since the Chinese government cracked down on indebted property firms raising further debt (via its so-called ‘three red line’ policy; see WiC510). Indeed, anxieties only intensified when regulators reportedly summoned Evergrande boss Xu Jiayin for a meeting at the end of June and instructed him to resolve the debt problems as quickly as possible to avoid wider shocks to the country’s financial system.

Evergrande has been working hard to cut its liabilities by shedding assets and introducing strategic investors to its electric carmaking unit in a bid to raise cash. It took its property management division public in Hong Kong last year and there are also plans to spin off its bottled water business and tourism unit.

The company’s interest-bearing debt had been reduced from more than Rmb710 billion in 2020 to Rmb570 billion by the end of June, the Hong Kong Economic Journal reported this month.

Evergrande has kept up a brave face through the crisis too, even announcing plans for a board meeting later this month to discuss a “special dividend plan”.

Some fund managers and creditors remain unconvinced as evidenced by the meltdown over the last few days. That said, plenty of investors still seem to be betting that Evergrande’s status as one of China’s leading property firms makes it too big to fail. If they’re wrong the shockwaves will cascade through a number of China’s more highly leveraged property companies and induce a tsunami of new pressures on the banking system – an all the more worrying prospect at a time when financial risk is a leading item on the government’s agenda.

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