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Wednesday, Jan 19, 2022

Chinese real estate developer Evergrande defaults on debt

Highly leveraged property development company China Evergrande Group (EGRNY) has defaulted on its debt servicing, Fitch Ratings ruled. As of early afternoon on Dec. 10, 2021, S&P Global Ratings and Moody's had not issued rulings of their own on Evergrande.

The decision by Fitch Ratings to declare that Evergrande is in default stems from its assumption that two interest payments that were due on Dec. 6, 2021, when a grace period expired, were not made. More specifically, Fitch downgraded its rating of Evergrande to "restricted default," which means that the Hong Kong-based property development company has neither ceased operations nor commenced formal legal procedures such as filing for bankruptcy.

'A Technical Default for a Long Time Already'
Evergrande has total liabilities worth about $300 billion. Included in this figure are about $19 billion in bonds that are denominated in U.S. dollars and issued offshore, a larger amount than is outstanding from any other Chinese property development company.

"We should have been calling this a technical default for a long time already, but nobody dared," according to Alicia Garcia-Herrero, the chief economist for the Asia-Pacific region at France-based investment banking firm Natixis. She added: "China is not making it clear because there's no pressure to make it clear. Ratings [agencies] should be pushing. Some investors did push. Nobody wants to label this because they don't want to bear the consequences. Everybody's trying to increase what they can get out of it."

Garcia-Herrero also indicated that there is an advantage to Evergrande and its investors if the company can avoid being labeled officially as in default. Specifically, not being tagged in this fashion should reduce the cost at which Evergrande can restructure its debt.

'Default Looks Inevitable'
While S&P Global Ratings has not yet officially declared Evergrande to be in default, it has issued a warning. On Dec. 7, 2021, S&P issued a report asserting that "default looks inevitable for Evergrande."1

On Dec. 3, 2021, Evergrande had issued its own warning that it was struggling to meet its financial obligations and that it was planning to "actively engage with offshore creditors" about debt restructuring. Creditors had demanded payments of about $260 million.

Evergrande Chairman Sells Shares
Evergrande Group chairman Hui Ka Yan has sold 277.8 million shares in his company, reducing his ownership stake by slightly over 2% from 61.88% to 59.78%. He also sold 1.2 billion shares in November, his first sale since the company went public in 2009.

"Steps have been taken to enforce a security interest in the shares, or rights to such shares held as security against" Hui, according to the regulatory filing that disclosed the transaction.

'Drawn Out' Impact, Not a Shock
Garcia-Herrero of Natixis anticipates that, with help from the Chinese government, the problems encountered by Evergrande and other Chinese property developers will have have a negative impact on that country's economic growth that is drawn out over time, rather than a sharp and immediate shock. She also expects that the impact on the financial markets will be limited because the holders of Evergrande's debt are mainly "high net worth individuals, [who] are holding Evergrande to the maturity, to the restructuring point."

However, Japan-based global financial services firm Nomura Group warns in its 2022 global economic outlook report that measures being taken by the Chinese government to curb speculation in the property market, in tandem with its carbon neutrality drive, may "result in a vicious cycle of rising defaults and slower growth in North China."

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