The Evergrande crisis in 2021 is reminding people of the 2008’s economic crisis. The colossal Chinese real-estate developer is trembling while also threatening markets worldwide, particularly Asia.
Experts are comparing Evergrande to Lehman Brothers, whose collapse threatened the global financial system (1). Others are also calling it the “black swan” of financial risk and its cousin, “the gray rhino.”
And Evergrande may be one such rhino, a kind whose threat you are aware of but don’t consider serious until its horns bear down on you.
After riding a wave of rapid growth and unbridled borrowing, Evergrande is facing default on over 300 billion USD, and the Chinese government doesn’t seem to be letting it off the hook.
The conglomerate has endured multiple credit downgrades, investor protests, missed interest payments, and last-minute fundraising pushes in a few weeks.
Stocks are tumbling with uncertainties about the potential default, which can slam the Chinese economy. Consequently, also slowing global economic growth.
Evergrande has less than a month to dodge default and make late payments. However, as deadlines loom, the company is struggling to secure cash.
Meanwhile, the world economy is anxiously waiting for the advert of the potential rhino stampede (2).
But, how did Evergrande get it here? How would it impact the Chinese and the world economy? And why do experts fear it to be only the tip of the iceberg?
Evergrande is among China’s most prominent real estate developers. The company is listed in Global 500 (3), meaning it is also one of the world’s biggest organizations by revenue.
A Chinese billionaire Xu Jiaying had founded the company in 1996. He is also known as Hui Ka Yan in Cantonese – once the richest man in the country (6).
Evergrande became a household name in residential property. The company boasts of owning over 1,300 projects in over 280 cities across China (7). However, its interests extend far beyond housing.
Apart from real estate, the group has also invested in sports, electric vehicles, theme parks, and food and beverages. It sells bottled water, dairy products, groceries, and other goods across the country.
Back in 2010, Evergrande also purchased a soccer team, now known as Guangzhou Evergrande. Since then, the team has built what is known as the world’s biggest soccer school, which cost over 185 million USD to the company (8).
It is worth mentioning that Guangzhou Evergrande keeps on setting new records. It is currently building the world’s biggest soccer stadium, expected to finish its construction by next year (9). According to reports, the site costing over 1.7 billion USD is shaped like a giant lotus flower. Eventually, it will have the capacity to host over 100k spectators.
The company’s theme park division, Evergrande Fairland also worth a mention here. It has a massive Ocean Flower Island undertaking in Hainan, China’s tropical province, commonly known as the “Chinese Hawaii.”
The project includes an artificial island with amusement parks, malls, and museums. As per the group’s most recent annual report, it has started taking consumers on a trial basis since early this year and plans for a full opening by the end of 2021.
So, What Went Wrong?
Well, if you haven’t guessed it already, Evergrande borrowed a huge amount of debts to finance its multiple pursuits.
Now, the group has more than 300 billion USD worth of liabilities. It has warned investors of its cash flow issues over the last several weeks, stating that it could default if it can’t raise more money quickly.
That warning was underscored last month when Evergrande highlighted having trouble finding buyers for some of its assets in its stock exchange filing (10).
“The group strayed far away from its core business, which, in part, led the company into this mess,” stated Mattie Bekink, China Director of The Economist Intelligence Unit.
According to Goldman Sachs analysts, its structure has also made it challenging to ascertain a more precise image of its recovery. In a recent note, they also highlighted the group’s complexity and the lack of sufficient data on its assets and liabilities.
However, the Evergrande Group’s struggles also highlight the emblematic underlying risks in the Chinese economy.
According to Bekink, “The story of Evergrande is the story of the structural and deep challenges to China’s debt-related economy.”
Notably, this issue is not all new. Last year, many Chinese state-owned companies defaulted on their debts (11), raising fears about the nation’s reliance on debt-fueled investments to support growth.
In 2018, billionaire Wang Jianlin was forced to downsize his conglomerate, Dalian Wanda, as the Chinese government started clamping down on companies borrowing massively to push overseas (12).
And as of writing this article, there are also reports of Evergrande’s rival, Fantasia Holdings, failing to pay a 108 million USD loan due on 4th October. According to available data, Fantasia has about 2 billion USD of international bond payments to pay between now and the end of 2021. It also has about 1 billion USD of local bond payments (13).
The Chief Asia Economist of Capital Economics, Mark Williams (14), stated in a recent note, “Evergrande’s collapse would be the biggest test faced by China’s financial system in years.”
“The root of Evergrande’s issues and those of other highly-leveraged developers is that residential property demand is getting into an age of sustained drop in China,” wrote Williams. “Evergrande’s ongoing crumble has converged attention on the consequences of a wave property developer defaulting on China’s growth.”
How is Evergrande Trying to Advance?
Last month, the company placated investors after saying that a payment on a domestic bond had been settled via negotiations (15).
According to data from Refinitiv, the amount of interest Evergrande owns on the bond is about 36 million USD.
However, there are still multiple unanswered questions. There have been no elaborations by the company on the terms of the payment and interest worth over 83.5 million USD on a dollar-denominated bond due late last month.
Last week, Evergrande had announced that it would sell parts of its stake in a local bank for about 1.5 billion to raise much-needed cash (16).
Evergrande had another bond interest payment of 50 million USD last week. But, there is no update on that debt’s status so far.
On 14th September, Evergrande announced that it had brought financial advisors on board to assess the situation.
While those advisors are tasked to explore “all feasible solutions” as quickly as possible, according to Evergrande, there is no guarantee.
So far, the conglomerate has failed to find buyers for its property service and electric vehicle businesses.
As of the filing mentioned above, it has made no progress in its search for investors. There are also uncertainties as to whether the group will be able to consummate any such sale.
Last week, the electric car company addressed how those challenges have trickled down, disclosing that it is having trouble paying suppliers (17). The company also called off its plans to sell new shares in Shanghai (18).
In addition, the group is also trying to sell off its tower in Hong Kong, which it bought in 2015 for more than 1.6 billion USD. As per the company, “it has not been completed within the expected timetable.”
Issues of Evergrande were highlighted last month when protests broke out at its HQ in Shenzhen.
However, according to reports, shareholders of the company have been wary for months as its stock shed more than 85% of its value in 2021.
Last month, both Fitch and Moody’s Investors Services downgraded Evergrade’s credit rating, citing its issues with liquidity. “We see a default of some kind as probable,” wrote Fitch at that time.
Last week, Fitch doubled down on that view with a further downgrade stating that the group has “missed an interest payment likely because of its senior unsecured notes.”
The situation seems to have Chinese investors more broadly, at the time when they are already reeling from Beijing’s clampdown on private sector firms, particularly in the tech sector. Stocks in Hong Kong, New York, and other major markets have been swayed amid fears of contagion from Evergrande and an economic slowdown in China.
“In our opinion, the market sentiments will be driven by how Evergrande’s credit stresses will be resolved,” stated Goldman Sachs analysts, referring to the credit market and the overall economy. They further added that China’s bond market could be hit, and the loss of confidence can affect the broader property sector.
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The Chinese government has already started to intervene.
Over the last few days, the People’s Bank of China has infused some cash into the financial system to help settle nerves. According to reports, on 28th September alone, the bank added 100 billion yuan, about 15.5 billion USD, to keep the liquidity going.
In a statement, the Chinese central bank also pledged to “keep the steady development of the real estate industry and safeguard the lawful rights and interests of housing customers.”
It doubled down on the message when it held a meeting with regularities where authorities emphasized the need to avoid using real estate as a short-term tool for economic stimulus (19).
Notably, authority figures also directed the financial sector to focus on stabilizing land and housing prices and ask institutes to work with local governments to keep the steady and healthy development of the real estate market.
As per the state media, Fu Linghui, a Chinese National Bureau of Statistics spokesperson, acknowledged the “difficulties of some big real estate companies.”
Without directly naming Evergrande, Fu stated that “the Chinese real estate market had remained stable this year. However, the impact of recent events on the development of the whole industry needs to be observed.”
Bloomberg also cited anonymous sources saying that regulators have enlisted international law firm King and Wood Mallesons and other advisers to examine Evergrande’s finances (20). There has been no comment from King and Wood Mallesons.
As per the report, officials in Guangdong, the home province of Evergrande, have already rejected a bailout plea from its founder.
Beijing has limited choices. However, it will want to protect thousands of people who have purchased unfinished apartments, construction workers, small investors, and suppliers.
As per Christina Zhu, an economist at Moody’s Analytics, real estate and related industries account for more than 20% of the urban workforce in China.
It is highly likely for the authorities to limit the risk of other real estate companies going under a similar situation. However, at the same time, they also don’t want to dilute their message; they have long been attempting to rein in excessive borrowing by developers.
According to some experts, it is too late to save the company even with cash infusions.
Notably, Chinese media has dubbed Evergrande’s financial issue as “a black hole,” implying that no amount of capital can resolve the issue.
“The impacts from Evergrande’s large default would be remarkable,” stated Bekink.
What’s more worrying is that, as per a recent report from BusinessInsider, it is only the tip of the iceberg (21).
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The World Economy is Worsening Overall
According to the report, the world’s economy is struggling with inflation, shipping delays, and widespread shortages. Their combination can lead to even bigger struggles moving forward.
Apart from the Evergrande saga, there are three major other indicators, flashing red alarm signals. And they could turn into something worse.
Rising Tensions Between US-China
The tough stance of Beijing on Evergrande is emblematic of its even tougher stance on the corporate sector, an issue that has wobbled stock markets worldwide.
Reportedly, the US will soon unveil its trade policy with China, which would build on tariffs worth billions of dollars on Chinese imports (22).
Soaring Energy Prices
When there are tensions, everything becomes more expensive. And coupled with a pandemic and shifts in regulatory behavior, commodity prices are way less predictable and a lot costlier.
This year has witnessed a soaring price for energy worldwide as producers struggled to keep up with a rapid rebound in demand after major countries lifted COVID-19 restrictions (23).
And the surge in energy prices is among the key factors driving inflation to multi-year highs in big economies, forcing central banks to recalculate their stimulus packages.
Energy shortages have also disrupted production in China, weighing on growth in the world’s second most prominent economy. It is threatening the supply chains of even huge companies like Apple (24).
Market experts fear that supply bottlenecks would fuel a dangerous bundle of weak economic growth, stifling price growth, and high unemployment.
It brings up the biggest risk of the world’s economy; stagflation, which was last seen in the 1970s, when stagnant growth and inflation combined to wreak misery on millions of people (25).
If policymakers try to curb inflation, there is a risk of driving the unemployment rate even higher. On the other hand, if they attempt to boost hiring with low rates, it could lead to even stronger inflation. The situation is pretty confusing for experts.
In short, Evergrande is the most visible risk currently faced by the global economy. However, the iceberg standing in the way of a healthy recovery is bigger than it seems.