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As we write this in the morning of 13 August, Evergrande’s USD bond due March 2022 “EVERRE 8.250% 23Mar2022 Corp (USD)” is currently sitting at a level of $60, with annualized yield over 150%, after yet another week of volatility.
Last Thursday, S&P further downgraded Evergrande’s issuer rating to CCC, but that’s not the only news.
Commercial Paper Cases are Centralized at Court
In the afternoon of 4 August, the market began circulating news that all court cases relating to Evergrande’s commercial paper would be centralized at Guangzhou Intermediate People's Court. Although related articles were quickly taken down, the market had already responded to it and offshore USD bond prices fell sharply.
In theory, centralized cases can prevent suppliers across the country from continuously freezing the Group’s assets through litigation, which means Evergrande can earn a little breathing space given that it is sued for overdue commercial papers every few days. However, China Fortune Land, Peking Founder and HNA Group who have previously defaulted had also been centralized before. Therefore, some believe that the purpose of the government's action is to pave the way for Evergrande's debt restructuring.
The market has different interpretations. In fact, the latest Government statement instructs Evergrande to ensure that normal operations of its 798 projects in 234 cities are made its top priority by handling the debts through ‘market approach’. They also mention that the Guangdong Province and Evergrande should speed up the asset disposal plan.
It is difficult to guess the true meaning behind these intriguing statements. Therefore, we can only look at Evergrande’s fundamentals and believe that the group will not be forced into a debt restructuring process involving any kind of ‘haircut’ such as principal reduction or replacement, as long as the group is capable of handling the debts on its own.
What we should pay attention to is that Evergrande differs from the above-mentioned companies: it has yet to default on any interest-bearing liabilities when the litigations were centralized. In addition, Evergrande does not have onshore and offshore bonds due this year, and the Group is still able to repay debts such as bank and trust loans on time. As mentioned in our previous update, those debt instruments are of a different importance to the Group, and commercial papers can generally be repaid in a more flexible way. Therefore, it is reasonable for Evergrande to retain as much cash as possible at the group level.
Repaying Debts using Sales Cash Inflows are Still Feasible
Previously, the group had announced that its total debt at the end of June had been reduced to less than 600 billion yuan. With reference to JP Morgan’s calculations, bank loans accounted for about 45% of these debts, and trust loans accounted for another 25%. This part of the debt due is about 180 billion yuan in the second half of the year.
According to S&P's latest forecast, Evergrande has to repay over 240 billion yuan of commercial papers in the next 12 months, and approximately 100 billion yuan of them will mature in the rest of 2021. In other words, the total amount of debts and commercial papers to be repaid in these final months of the year chalks up to about 300 billion yuan, based on the assumption that the group cannot extend any of its bank loans and trust loans that are about to expire.
Given that the group previously announced its net gearing ratio had improved to below 100%, thus meeting one of the Three Red Line requirements, we believe that Evergrande still had cash reserves of about 200 billion yuan at end-June.
However, referring to the example of Sichuan Languang - although there was 12 billion yuan in cash on their books at the end of June, only 200 million yuan was actually freely available. The rest were in the pre-sale project supervision accounts and joint-project accounts (used to ensure that the project has sufficient funds for development), so we must also apply a certain discount when evaluating Evergrande’s situation.
Currently, since Evergrande’s short-term bond yields are extremely high, even shadow banks will not lend extra money to the group. Therefore, all of the group’s debt financing channels should have been cut off. Despite that, Evergrande’s sales collection in the first half of the year has reached 320 billion yuan, and its collection ratio remained high at 90%. Thus, after the complete cessation of land acquisition, we believe it is still feasible for Evergrande to repay debts using sales cash inflows.
Sales Performance Depends on Preventing Nationwide Construction Suspensions
Under this circumstance, it becomes crucial for the group to maintain its sales performance in the next few months. Looking at the sales figures in July, Evergrande recorded 43.8 billion yuan in contracted sales, a 39% m-o-m decline. Although July is the traditionally regarded as off-season and the average performance of the top 100 developers also fell by 33% m-o-m according to CRIC, Evergrande’s overall performance was still slightly worse than its peers. It sales progress is slightly behind schedule as the group has only achieved 53% of its sales target in the first 7 months.
Construction projects are now also being affected as a consequence of the commercial paper incidents. Recently, some of Evergrande’s construction suppliers have already announced a temporary suspension of construction. These include:
- Yuezhong Group (Yangmei indemnificatory apartment, Evergrande Metropolis Square in Shenzhen)
- Nantong Sanjian Holdings (Evergrande Cultural Tourism City in Taicang)
- Chongqing Construction Engineering Group (Splendor Emei Phase Two and Kunhai Lake in Kunming)
We estimate that the total amount of overdue commercial papers on these projects will add up to more than 600 million yuan.
These projects are now in construction, meaning that the pre-sales period has already ended, and will not have much impact on sales cash inflows. However, if the projects are abandoned, it will definitely affect the confidence of future homebuyers. Therefore, if Evergrande wants to maintain its sales figures, it must speed up its quest for liquidity and prevent nationwide large-scale construction shutdowns.
Assets Sales can Help Ease Liquidity Pressure
At this juncture, selling assets is essentially the most appropriate method. Evergrande has continued to carry out equity financing in recent months (see Table 1), and we believe these subsidiaries will serve as key assets in sustaining the group’s cash flows.
Table 1: Evergrande’s Major Listed Subsidiaries and Recent Equity Financing
|
Month |
Subsidiary |
Amount |
Remarks |
|
March |
Fangchebao |
16.4 billion HKD |
72% ownership |
|
May |
Evergrande New Energy Vehicle |
10.6 billion HKD |
65% ownership, market cap about 126.2 billion HKD |
|
June |
Calxon Group |
3.0 billion yuan |
28% ownership, market cap about 7.1 billion RMB |
|
June & July |
HengTen Networks |
7.7 billion HKD |
27% ownership, market cap about 44.4 billion HKD |
|
Evergrande Property Services: 60% ownership, market cap about 74.1 billion HKD Shengjing Bank: 36% ownership, market cap about 60.7 billion HKD Planning to list Cultural tourism and healthcare division, Evergrande Spring and Fangchebao |
|||
|
Source: Company announcements, HKEX, Shenzhen Exchange, Hithink Data as at 12 August 2021 |
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In addition to selling 11% of Hengten Network's holdings to Tencent and an independent third party last month, Evergrande also announced on 10 August that it was planning to sell its equity holdings in Evergrande New Energy Vehicle and Evergrande Property Services. The group has also sold its 50% stake in real estate project company, Suzhou Shengjian, to Chongqing International Trust on 6 August.
However, we believe that it is unlikely that the group will choose to sell a large amount of land reserves. After all, it is difficult to directly sell the urban renewal projects and the projects acquired from ‘land sale by application’, as they are limited by specific terms and conditions. Therefore, introducing capital investments into the projects should be a better choice. Recently, it has been reported that Evergrande is in negotiation with several state-owned enterprises in Guangdong Province to cooperate in the development of urban renewal projects in Shenzhen, which should be able to offer some liquidity to the group.
In fact, we believe that selling equity ownership is more effective than selling the land projects. After all, as a real estate developer, land projects should be of the top priority. Not only will they affect the group’s ability to access financing channels through collaterals, but they also reflect the group's future prospects and sustainability. Therefore, if Evergrande has the determination to sacrifice most of its non-core businesses in exchange for over 100 billion yuan of monetary assets, it will greatly ease the pressure on its cash flows.
During this period of relentless negative news, we have repeatedly mentioned that Evergrande’s strength comes from its sales cash inflow and asset portfolio, and its deleveraging pace is reasonable. Thus, with an extremely high yield offering at this moment, its short-term bonds still look attractive to us.
Evergrande is expected to announce its interim results before the end of August; we will be back with another credit update then.
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Declaration: For specific disclosure, at the time of publication of this report, IFPL (via its connected and associated entities) has a principal position in EVERRE 7.500% 28Jun2023 Corp (USD) and EVERRE 8.250% 23Mar2022 Corp (USD). The analyst who produced this report holds a NIL position in the abovementioned securities.
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