The real estate bubble troubling China

Evergrande, one of the largest real estate companies in China, is facing trouble. The company has halted most of its project and also warned, in a public statement, about the possibility of its defaulting. Fantasia Group, another real estate company of China with the backing of some of China’s most powerful elites, too, is facing difficulty.

According to the Chinese media The Times Weekly, as of September 5, a total of 274 companies in mainland china have issued bankruptcy documents including some well-known real estate companies of the country.

If this is not controlled, it may result in far-reaching consequences, not just disturbing the economic stability within the borders, but also outside China’s borders.

Let us have a look at the sequence of events.

Formerly called the Hengda Group, Evergrande was founded by Xu Jiayin in the southern Chinese city of Guangzhou in 1996 targeting the middle-class population in China. In the year 2009, the company decided to go public and raise capital by Initial Public offering on the Hong Kong Stock Exchange. The IPO was successful and helped the company raise almost $722 million. The growth and expansion of the company continued making Xu Jiayin one of the richest people in Asia in 2014. However, this was not long-lived.

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In 2018, China’s central bank added the company to its list of highly indebted conglomerates and raised issues over its potential collapse. The Central Bank of China also warned against the systemic risks it could pose to the entire country’s financial stability.

Soon after, in order to address the debt building in the real estate sector of china and improve the financial health, the government of China had issued the three red lines in August 2020. If the developers fail to meet any or all of the ‘three red lines’, regulators would then place limits on the extent to which they can grow the debt.

The Three red lines :

• The asset-liability ratio of Chinese real estate companies after excluding prepayments should not exceed 70%

• The net debt ratio should not be greater than 100%

• The Ratio of cash to short term debt should not be less than 1

These rules made it difficult for the company to raise fresh capital by way of debt to finish its existing projects, make payments to suppliers, fund new projects, or even offset old loans with new ones. This resulted in the once 2nd largest real estate company by sales of China becoming one of the most debt-saddled companies in the world.

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Its share price fell as much as 80% so far this year. The trading of its bonds was repeatedly halted by Chinese stock exchanges in the past weeks. Its overall liabilities rose to a near-record 1.97 trillion yuan ($305 billion) by the month of June 2021. The company’s debt has been repeatedly downgraded by rating agencies targeting the developer over its struggles to restructure huge debts.

Banks, suppliers, home buyers, and investors are all the ones who are at risk if the company goes bankrupt or defaults. The risk associated with the default of Evergrande is so huge, that it will not only impact China’s economy but will have negative implications outside the borders too. However, in a statement on recently, it said it was facing “unprecedented difficulties” but would do everything possible to resume work and protect the legitimate rights and interests of its customers.

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