By Rob Garver
Chinese officials are bracing for a potential financial crisis as giant real estate conglomerate China Evergrande Group appears to be unable to make good on bond payments due on Thursday.
According to the Wall Street Journal, the central government has instructed local officials across the country to begin “getting ready for the possible storm,” if the firm is unable to come to an agreement with creditors. Evergrande is currently carrying a staggering load of more than $300 billion in debts and other liabilities.
The central government in China is concerned about civil unrest because of both the size and the nature of Evergrande. The company has more than 800 construction projects spread across every province in the country, employing thousands of Chinese workers and engaging with an untold number of suppliers.
Many of the projects are housing units for which individual buyers paid large sums of money in advance. In some cases, construction has already been halted because the company has been unable to pay suppliers.
In addition to angry homeowners, the company is facing complaints from individual investors who have placed money in the company’s publicly traded shares. Since July of 2020, the company’s share price has plummeted by 91%, to about 34 cents a share today.
Actual default may be postponed
Evergrande had two major bond payments due Thursday. One, denominated in U.S. dollars, was for $83.5 million. The agreement with creditors gives the company a 30-day grace period before it is officially considered to be in default. However, failure to make payment on the due date will be seen as a very bad sign by the financial markets.
The second bond payment was denominated in Chinese renminbi, and the company announced Wednesday that the debt had been “resolved through off-exchange negotiations” — though what exactly that means and how much the company actually paid is not clear.
In addition to its real estate holdings, Evergrande has a wide array of subsidiaries, including an electric vehicle manufacturer, a soccer team, two theme parks, and a life insurance company, among other things. The company has been trying to sell off some of those assets to help pay its debts, but so far it does not appear to have been successful in raising enough cash to satisfy its creditors.
The company’s chairman, Hui Ka Yan, has been striving to instill confidence in the company. In a memo to employees this week, he praised the company’s workforce as “an invincible army that is loyal and bears hardship without complaint.”
Hui added, “I firmly believe that Evergrande people’s spirit of never admitting defeat, and becoming stronger when the going gets tough, is our source of strength in overcoming all difficulties!” He promised that the company would emerge from its “darkest hour.”
Government intervention possible
Signals from the Chinese government about its intentions toward Evergrande have been mixed. In recent weeks, the government has not suggested that it intends to help the company. On Wednesday, the government issued a vaguely worded statement urging the company to “avoid near-term default” on its dollar-denominated bonds.
Many experts believe the Chinese government will step in if it appears that Evergrande is facing collapse — deeming it too big to fail. However, that does not mean that all stakeholders in the company will be made whole. Most likely to be hurt are those holding the company’s U.S. dollar-denominated debt, who will face a “haircut” — meaning that they will be forced to accept payments of less than they are owed by the massive company.
“It’s unlikely that the Chinese government will allow chaos to ensue,” said Doug Barry, a spokesman for the U.S.-China Business Council. “They have plenty of money to cover the losses, though foreign bond holders may receive a sizable haircut.”
Major restructuring possible
Experts expect that the Chinese government eventually will organize a major restructuring of the company. That would involve selling off large parts of Evergrande to other Chinese companies — probably state-owned firms. Those transactions would likely be facilitated by funding from state-owned banks.
The goal, experts say, would be to avoid the collapse of housing projects that the company has already sold to Chinese buyers, and the related loss of construction jobs and related economic activity that would entail.
“The government may help in restructuring Evergrande with shareholders and bondholders taking a big hit,” said Robert Dekle, a professor of economics at the University of Southern California. “This is overall good for China, reducing over-borrowing and moral hazard in the future.”
A positive change
Although a restructuring of Evergrande would be painful — especially for its investors — it could have important positive implications for the future of the Chinese economy. The country is currently dotted with thousands of “zombie” companies that have been kept solvent only by continued infusions of cash from state-owned banks. By refusing to bail out Evergrande’s bondholders and investors, the Chinese government may be signaling that in the future, companies will be expected to stand — or fall — on their own.
“Longer term, China needs to get its financial house in order, especially throwing light on the shadow economy where even more debt bombs and zombie companies may lurk,” said Barry, of the U.S.-China Business Council. “Odds are good that the government will get on top of things without serious damage to the domestic or global economy. It’s a sobering reminder of the role China plays and the need for more transparency and fewer shadows and casino activities.”
Global contagion seen as unlikely
Evergrande’s troubles have caused investors in other high-yield Chinese debt to become cautious, demanding much higher interest rates to compensate for the perception of increased risk.
However, experts believe that the fallout from the company’s troubles will have limited impact outside of China.
“Apparently there are other Chinese property developers in trouble,” said Dekle, the USC economist. “But the fact that Chinese authorities have allowed the firm to reach near bankruptcy suggests that the fallout will be self contained.”
Voice of America Mandarin Service reporter Mo Yu contributed to this story.