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China Evergrande Group, the world's most indebted real estate developer, has built an empire that once seemed too big to fail. no longer. On Monday, a Hong Kong court ordered the company, once the country's largest construction company by revenue, to go into liquidation. The impact will extend far beyond Evergrande's creditors.
Evergrande's Hong Kong-listed shares fell by a fifth before trading was halted on Monday morning. Evergrande's market capitalization is currently less than $300 million, but that pales in comparison to its $330 billion in debt. The stock is down 99% from its 2020 high.
Liquidation typically provides an opportunity to sell a developer's assets and repay some of its debts. But for Evergrande, the liquidation process should be prolonged, leaving little for the liquidators to seize.
Most of Evergrande's assets have already been sold. Property prices have been falling for the past two years, meaning there isn't much value left in properties with little left to sell. The value of Evergrande's other two listed units has also languished, dropping more than 90% since 2021.
Creditors' expectations were low, with recovery rates expected to be less than 3% even before the liquidation order was issued.
To make matters worse, China's real estate prices could take a further hit from Evergrande's dissolution. An estimated 1.5 million home buyers have already paid developers the equivalent of about $90 billion in original value for unfinished homes. Until now, the Chinese government has been pressuring state-owned banks to provide cheap loans to a number of struggling developers. The government has also set aside billions of dollars to help developers continue construction.
Due to the sheer number of permanent homes that require help to complete, other developers may simply take a backseat to obtaining government support. Homebuyer sentiment and demand are only worsening as the number of delayed homes continues to soar.
Moreover, Evergrande's breakup set a precedent for its beleaguered peers. Investors have been clinging to hopes of a bailout for years, as the rollercoaster ride in local developer stock prices shows. Stocks soared after speculative reports in local media that a government bailout was imminent, but then crashed a few days later.
Evergrande itself may not pose an immediate systemic threat to China's financial system. However, the impact on China's shadow banking system (non-bank financial institutions that lend to high-risk industries) appears to be severe. The largest company, Nakashi, filed for bankruptcy earlier this month. Investors should expect the looming fallout to continue across China's asset markets as smaller peers follow suit.
