Letter From Shanghai No 940 - When Will Confidence Return?

Evergrande was in the news yesterday for all the wrong reasons. Outside of China, it is difficult to conceive the pivotal role of Evergrande in the Chinese property market. Against a self-imposed deadline on Friday, Evergrande failed to deliver a preliminary debt restructuring plan on its USD 300bn of liabilities. Instead, in an exchange filing, Evergrande said it would announce "a specific offshore restructuring plan within 2022." Saying that it has made "positive progress" in its offshore restructuring process, Evergrande added that it's still working with creditors and advisers on conducting due diligence on the company.

However, on Sunday, Evergrande issued another exchange filing, which I quote below. China Evergrande Group (the Company) stated "Evergrande Group (Nanchang) Co., Ltd. (a subsidiary of the Company) (the "Subsidiary") received an arbitration ruling dated 25 July 2022. The Subsidiary was the respondent to the arbitration. In July 2021, the applicant to the arbitration provided a guarantee for the borrowings of certain entities controlled by the Group. The Subsidiary provided counter-guarantees to the applicant in the form of a pledge (the "Pledge") of a total of 1,281,855,435 shares that it held in Shengjing Bank Co., Ltd. (the "Shares"). As the borrowers failed to repay the loans, the applicant carried out its obligations under the guarantee and claimed against the Subsidiary under the Pledge. The arbitration ruling is that the applicant has the priority to receive compensation from the sale of the Shares, and the scope of the priority covers the amount paid by the applicant (RMB7,306,575,979.50) for discharging its obligations under the guarantee, the capital occupation fee on such amount and other expenses incurred by the applicant in connection with the exercise of its right of recovery."

So to unpick that statement, in July 2021, an unnamed guarantor provided a guarantee for the borrowings of certain entities controlled by Evergrande. Nanchang, a subsidiary of Evergrande, provided a counter-guarantee to the guarantor in the form of a pledge of a total of 1.28 billion shares that it held in Shengjing Bank. This pledge has now been called to cover the RMB 7.3bn shortfall at the guarantor. I cannot offer you any more information but to say there is a whole bank industry army of analysts that follow Evergrande, and you should look there. But what was the economic rationale of this transaction, what is the current impact on Evergrande, and are there any more similar transactions to emerge, must be at the forefront of their minds.

Meanwhile, at street level, those that have bought unfinished or planned properties from Evergrande will understandably be uneasy in pre-paying Evergrande before completion, therefore depriving Evergrande of working capital. Indeed the combined contract sales of China's top 100 developers fell 39.7% year on year in July, according to preliminary data compiled by China Real Estate Information Corp.

Evergrande's footprint across China is extensive, with 1300 developments in more than 280 cities and the Chinese housing market provides some 30% of Chinese GDP.

Considering the background, when will confidence return to the Chinese housing market so that it returns to being an engine of growth? Your guess is as good as mine.

Have a good day,

John