Selling Off its Property Services Won’t Save Evergrande

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Chinese real estate giant Evergrande may be on the verge of selling a profitable entity. This may not be of much help to investors.

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Such a sale would likely bring in some cash as the formal default inches closer. Evergrande lost a $83.5 million coupon for the dollar-denominated bond on September 23. The developer has a 30-day grace period to make the payment.

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Evergrande’s 61% stake in the asset services unit is valued at $4.3 billion using Friday’s closing price. Although the company may be required to sell at a discount, a cash infusion can help delay the default. Eventually Evergrande will still have to face the music.

If you believe market pricing, the Evergrande default is almost a foregone conclusion: Its offshore bonds are trading below 30% of par value. Having been priced in a default, investors are now more focused on what assets may be available in a restructuring.

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Most of Evergrande’s assets are held by its onshore property subsidiary Hengda Real Estate, which runs the company’s main real estate operations in China, rather than directly listed parent China Evergrande Group..

This is not the case with a subsidiary of Asset Services, however—it is held directly by the parent. In theory this means that the proceeds from the sale of the property unit should also accrue to the listed parent, and offshore debt investors may have direct recourse to them. In practice, it can be more complicated. Evergrande also announced last week a deal to sell a majority of its stake in a commercial bank to a state-run company for $1.5 billion. However, the bank has demanded that Evergrande use the net proceeds to pay off its debt. The deal needs the approval of the bank’s board.

According to an estimate by Goldman Sachs last month, Evergrande has a basic debt of about $21.5 billion, about a quarter of the group’s total. The asset management unit is one of its best assets: It’s profitable and has net cash. Even in the worst-case scenario, the unit should still generate a relatively steady income from servicing the existing apartment. Evergrande’s electric vehicle unit, which is also held at the core level, is heavily indebted and unprofitable. China Evergrande Group has already sold up to about 60% of its stake in the mainland subsidiary Hengda to reduce its debt over the past few years.

So it is very difficult to say exactly how much would be left for offshore investors in the event of a restructuring or a formal default. Hengda carries the majority of the group’s $305 billion of liabilities, which includes $89 billion of interest-bearing borrowings. Any help from the government is likely to be limited to taking care of politically sensitive liabilities at the mainland China level: ensuring suppliers pay bills, home buyers get their apartments and workers get their salaries . Bond investors, especially offshore ones, may not be so lucky.

Evergrande may be getting some much-needed cash soon, but its woes and those of its investors aren’t over.

Jackie Wong at [email protected]

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