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Hong Kong Court Orders Breakup Of Evergrande – What Does This Mean?

The embattled Chinese property construction giant Evergrande has been ordered to liquidate by a court in Hong Kong.


The Judge in charge of the ruling, Linda Chan, made the decision after an 18-month-long hearing, saying “It is time for the court to say enough is enough” in a judgement on the morning of January 29, 2024.


The case was brought against Evergrande in June 2022 by the Hong-Kong based investment holding firm Top Shine Global Ltd. Their lawsuit was filed in response to the accusation that Evergrande had failed to honour an agreement that it had to buy back shares in a case over a tiny percentage of the property company’s overall debt. This all comes after the Chinese property crisis triggered by Evergrande’s default in 2021 when the business was unable to issue payments to suppliers and contractors, which eventually led to the suspension of its projects.


The act of liquidation involves converting the assets and property held by a company into cash or ‘cash-based equivalents’ often in the event of insolvency. Administrators, often appointed to oversee the bankruptcy of a company, likely achieve this by auctioning them on the open market to distribute to claimants.


The company in question, Evergrande, has been labelled ‘China’s most indebted real estate company’, and currently holds almost $300bn (£236bn) in liabilities against around $245bn (£194.79bn) of assets according to Business Insider, while experiencing a 99% reduction in the share values compared to three years ago. However, most of Evergrande’s assets are situated in mainland China, which makes it that much harder, legally, for non-native administrators to recover the debt for offshore investors.


Owing to the company’s size and sheer amount of liabilities, the liquidation process could take years. Many Chinese investors have sunk life savings or taken on heavy mortgages to become landlords in the booming property market and are now at risk of big losses. Uncertainty over these citizens’ eventual re-payment is uncertain as many creditors are to be paid before them. Investors and shareholders including secured creditors (those that issued credit to Evergrande that was secured against company collateral like buildings), liquidators, government debts, and unsecured creditors are likely to be paid first. 


In response to the ruling, trading of China Evergrande, Evergrande Property Services, and China Evergrande New Energy Vehicle Group were down 20% before the verdict. Subsequently, they were suspended after its announcement. The court in Hong Kong has appointed Alvarez & Marsal’s Eddie Middleton and Tiffany Wong to oversee the liquidation of the firm outlined in a filing to the Hong Kong Stock Exchange.


Per analysis by the Financial Times, the move by the Hong Kong court could, in theory, lead to the seizure of assets held by the company on the mainland, owing to the mutual recognition agreement on insolvency and restructuring in some areas of China. However, there are concerns over the extent to which courts in China will accept the order made by the Hong Kong-based judge as the government seeks to maintain stability.


Hong Kong has emerged as a preferred location for legal inquiries, as foreign investors find more freedom to pursue claims within the jurisdiction's courts. This is particularly advantageous for cases involving companies like Evergrande that are listed in Hong Kong, compared to the legal landscape in mainland China. Offshore creditors, who are owed about $25.4bn, also faced uncertainty over repayment as the Chinese government is likely to prioritise onshore investors. Thereby maintaining political and social stability in the mainland; where most of the debt is held.


The company has previously been granted delays on ‘winding up’ most recently in December, 2024 to allow time to outline a plan for restructuring international debts subject to default, adjoining the case until January 29, 2024. However, the presiding Judge Linda Chan in the case said in January that “there is no restructuring proposal” in her ruling, and “the interests of the creditors will be better protected if the company is wound up by the court.”


Evergrande’s rapid expansion led to it becoming China’s second-largest property developer by sales and one of the largest companies in the mainland. The company borrowed excessively to buy land, and then sold properties on plans to investors as speculative investments, then financed the next project. Upon the realisation of the debt crisis, the Chinese government stepped in to reign in unrestricted spending by property developers with the ‘Three Red Line’ policy. The move aimed to stabilise industry accounting practices by deleveraging, reducing debt, in the real estate sector in exchange for access to new loans. The ‘red lines’ included a liability-to-asset ratio of less than 70%, a net gearing ratio of less than 100%, and a cash-to-short-term debt ratio of more than 1x. The regulation tightening has meant developers responsible for nearly 40% of Chinese home sales have defaulted, according to the Guardian newspaper. This, combined with a slowdown in the property market, led to riskier, higher-interest loans being taken on by Evergrande meant the company struggled to meet its debt repayments.


The slowdown in the property market is one of the Chinese government’s biggest headaches in recent years as the instability could “spur protracted weakness in consumer sentiment that could lead to persistently high precautionary savings and dampen consumption growth”, according to a World Bank Post-Pandemic Growth report in December 2023. The model of high debt burdens to sustain new land acquisitions for development was ill-suited to withstand the slowdown in housing demand of Chinese consumers as they continue to lose confidence in this once-perceived secure investment. The sector contributes roughly a quarter of the growth in the Chinese economy, leading many to believe the industry was too big to be allowed to fail.


In 2023, the Chinese government was planning to ease the restrictions placed on borrowing under the ‘Three Red Line’ policy. The new proposal was aimed at allowing developers to raise new funding to complete projects as new bank loans in real estate collapsed when compared to those issues to industry and services, the World Bank reported.


In the same 2023 report, the World Bank outlined the significant risks China’s economic outlook faces related to the property sector downturn potentially beyond expectation that impacts ‘consumer sentiment and spending.’ This comes amid the World Bank’s cut of growth forecasts for China in October to 4.4%, down from 4.8% in April with the property crisis dragging down national growth. These figures are far below the 6% to 7% annual growth seen before the pandemic. The report also advocated for short-term regulatory easing and liquidity support in the development of a framework to resolve the ‘corporate debt overhanging’.


The liquidation proceedings are expected to continue, and while Evergrande retains the option to appeal the judgement, the repercussions of this pivotal decision will continue to unfold. 


 


Photo Credit: The Star


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Tags: #China #HongKong #Debt #Property #Default #LindaChan #Evergrande



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