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The order by a Hong Kong court on Monday to wind up China Evergrande, once the world’s most valuable property company, represents a cautionary tale for investors, other indebted businesses and China’s own leadership.
Most immediately, the liquidation process is set to highlight the sparse legal protection afforded to offshore investors in Chinese assets. A raft of competing international and domestic claims on Evergrande assets bedevils the restructuring of a company with more than $300bn in liabilities. If — as expected — domestic claims take precedence, investor confidence in Chinese assets trading in Hong Kong may be further undermined.
More broadly, it stands as a test of Hong Kong’s authority with mainland China. It is not clear to what extent — if at all — local government entities, courts and creditors across the mainland will acquiesce to orders from Hong Kong to transfer assets they currently possess to a liquidator.
On a national scale, the implications are yet more fundamental. The bursting of China’s property bubble, along with deteriorating demographics and a huge debt overhang, raises the spectre of “Japanification”, under which the world’s second-largest economy may slip into the type of low-growth malaise suffered by Japan in the 1990s.
Evergrande’s demise already ranks as a long-running saga. The company, which aside from real estate has a string of interests in sports, entertainment, finance, health, cars and agriculture, started its descent into insolvency after it missed coupon payments on offshore bonds in late 2021.
Since then, its shares have lost almost all of their value and its outstanding dollar bonds are trading at deeply distressed levels, with one bond maturing in 2025 priced at less than two cents on the dollar. Hui Ka Yan, its chair, has been placed under “mandatory measures” on suspicion of “illegal crimes”, authorities have said.
An important risk now is that Evergrande’s crisis — which has already acted as a drag on China’s overall economic growth — will continue to have spillover effects. One of these is that Chinese developers listed both in the mainland and offshore may lack the money to deliver at least some of their unfinished housing units, which Gavekal Dragonomics, a consultancy, has valued at Rmb7.5tn ($1tn). Another risk is that financially-strapped developers may be unable to pay their suppliers. Here again, the numbers are huge: listed developers collectively owed Rmb3.4tn in payables to their suppliers as of mid-2023, according to Gavekal.
The magnitude of such figures hints at an uncomfortable truth for Beijing. By several yardsticks, China’s weaknesses appear more pronounced than those of Japan some 30 years ago. The vacancy rate for urban residential property is around 20 per cent in China, more than double the 9 per cent in Japan in 1990, according to Goldman Sachs research. Housing prices are at around 20 times household income, compared with 11 times in Japan in 1990, Goldman Sachs added.
The big unanswered question in the face of these dire scenarios is: how much does Xi Jinping, China’s strongman leader, really care? Beijing should use its healthy central government balance sheet to stimulate the broader economy. It should accelerate the restructuring of troubled property developers and local government financing vehicles. More than anything, Chinese officials need to learn from Japan’s mistakes and act quickly to sell off impaired assets, taking the necessary haircuts along the way. But it is far from clear that Xi is as focused on promoting economic growth as he is on ensuring China’s security and technological progress.
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