When it comes to collecting debt from distressed companies, a wait-and-see attitude will only end up with investors losing everything. That’s especially true with China’s real estate developers.
China Evergrande Group’s woes have been festering for more than a year. It was labeled a defaulter by international ratings agencies in December. Yet the developer still has not published a restructuring proposal. It has promised to release a preliminary plan by the end of July, but details will most likely be sparse.
The drawn-out restructuring process speaks to the complexity of the world’s most indebted developer, which has more than $300 billion in liabilities and $20 billion in dollar bonds alone. But it also underlines the false hope that foreign investors still hold.
Last month, one small offshore creditor filed a winding-up petition in Hong Kong against Evergrande. The developer managed to convince many bondholders to sign letters stating their opposition to the proposal.
Those investors made a mistake. Patience will only buy Evergrande time to arrange side deals, resulting in an even lower recovery rate for their investments. They need to seize the builder’s overseas assets as soon as possible.
It should be established by now that dollar bondholders can only recoup their losses from the developer’s offshore assets, which have dwindled to stakes in Hong Kong-listed Evergrande Property Services Group Ltd. and Evergrande New Energy Vehicle Group Ltd., a fledgling electric-vehicle manufacturer. Last September, Evergrande sold its 19.9% stake in Shengjing Bank Co. for about 10 billion yuan ($1.5 billion). In November, it divested its entire ownership in HengTen Networks Group Ltd., which operates an online streaming business, for HK$ 2.1 billion ($270 million).
But neither divestiture was a good deal for bondholders. With Shengjing Bank, a regional lender, there was no cash exchange. All net proceeds from the sale were used to settle the debts owed by Evergrande. Meanwhile, we don’t know what Evergrande did with the cash from the HengTen sale; its latest financial statements were dated June 2021.
So consider the scary possibility that Evergrande is more friendly to some creditors than others — a characteristic it demonstrated with the Shengjing deal. Suppose the developer owes a friend — let’s call him Simon — an unsecured loan with $1 billion face value, which is now priced at only $100 million in the marketplace. Evergrande could then sell Simon shares in its EV business worth $1 billion — even at a premium if it wants to, to make the deal look good on paper. But just like the Shengjing deal, Simon “demands that all net proceeds from the Disposal be applied to settle the relevant financial liabilities of the Group due to” him. In this scenario, Simon would have swapped $100 million worth of distressed debt for $1 billion worth of EV assets — all made possible because Evergrande is not yet liquidated.
I get it. With Evergrande’s bonds trading at less than 10 cents on a dollar, the losses are so extreme some investors are unwilling to confront the pain; some asset managers may not have enough provisions set aside for bloodshed of this scale. But what are they waiting for? To see the Chinese government somehow pay them off?
The recent mortgage boycotts in mainland China — with many aimed at unfinished homes Evergrande had sold — should dash that hope. In the event of a restructuring, households are most likely to be the first in line to get their money back, followed by suppliers, secured lenders, employees and tax authorities — all before covenant-lite bond holders — according to King & Capital Law Firm. Offshore dollar-bond investors are even further down the pecking order.
Evergrande is a prime example but not an exception. In the past year, 28 of China’s top 100 developers have defaulted or asked for repayment extensions. Across the board, there’s been no progress in restructuring. The lack of clarity on recovery perhaps helps explain why the offshore bond market has hit fresh lows, denting further foreign investors’ portfolio performance.
Foreign investors have been too soft on Evergrande. It’s time they exercise their rights, seize its overseas assets and liquidate the zombie developer.
Bloomberg News provided this article. For more articles like this please visit
bloomberg.com.
Read more articles by Shuli Ren