HONG KONG - China Evergrande announced that it will make interest payments on offshore bonds even as the property developer teeters on the brink of a dollar default, deepening suspicion among domestic investors that they will be last lines for repayment.
Hengda, Evergrande's primary unit on the mainland, said in a statement late Friday that it would pay coupons worth $121.8 million on its October 2025 bond, due Tuesday. That contrasts with the company’s failure to pay three rounds of bond interest in the offshore market totaling $277 million since September late that year. The official deadline to declare a company in default comes this week.
Earlier this year, scared of a situation similar to what we are seeing now, we began selling out our dollar bond exposure to Evergrande, said a portfolio manager of a global fund. Our hypothesis has been vindicated. In the event of liquidation of Evergrande, offshore creditors have the least protection in the event of liquidation of Evergrande and we assume bondholders will recover about 10% of their total dues. The fund manager declined to be named, citing the fund's policy of not commenting on individual companies.
While Evergrande's approach to dealing with the biggest crisis in its two decades of existence may not be shocking to offshore investors, it has spurred them to band together and form a creditors committee to protect their rights. Evergrande has a little over $20 billion in outstanding offshore bonds, representing 6.7% of its total balance sheet liabilities of $300 billion.
The apparent prioritization of offshore bondholders over their local peers has made some upset, said Travis Lundy, an advisor at Quiddity Advisors, which publishes on SmartKarma platform. He argues, however, that payments to positive bondholders should be seen as an onshore sign.
The two other issuers are separate. Bondholders of Hengda have access to 60% residual equity of Evergrande, not to funds which pay bondsholders, he said referring to the developer's stake in the unit. Bondholders should be happy that Hengda is paying its coupons, which means that Hengda's shareholders are still alive. Evergrande, which has already missed payments to banks, retailers and suppliers, resulting in the suspension of more than half of its 800 ongoing projects on the mainland, has so far kept silence on its dollar bond liabilities and refused to meaningfully engage with creditors.
Evergrande is trying to raise funds by selling assets, such as its stake in the Ford Motor unit, a property management subsidiary and its Hong Kong headquarters. However, some of these initiatives have run into hurdles. Hopson Development has announced Wednesday that a plan to sell a stake in Evergrande Property Services to rival REDD Intelligence has been suspended and/or criticized by the publisher. Reuters reported last week that the sale of the developer's Hong Kong offices had also fallen through.
The company's shares, quoting at 20 cents on the dollar since the beginning of October, have lost four-fifths of their value this year and its offshore bonds are valued at about 50 cents on the dollar, indicating investors are certain that a default or restructuring is on the horizon.
Evergrande's creditors, by order of repayment, are households, which have contributed 54% of the developer's funding by prepaying for homes; suppliers, who make up 43% of the company's liabilities; followed by retail creditors that provided funds through wealth-management products; banks and finally bondholders, according to analysts.
All in all, Natixis has many stakeholders and creditors, but not all are equal, said Alicia Garcia Herrero, chief economist at Evergrande for the Asia Pacific region. Offshore bondholders seem to be the last in the queue. Besides the government's focus on safeguarding households and suppliers to prevent a financial panic, offshore holders have legal hurdles to overcome: Under Chinese rules, mainland companies can guarantee their units' offshore debt only after they complete a registration and approval process.
To get around this requirement, some companies raise debt through an offshore vehicle, with the mainland business issuing so-called keepwell deeds - an undertaking to bondholders that the parent will ensure the offshore vehicle's solvency. The structure does not but guarantees repayment.
Evergrande began using this structure about four years ago, according to its bond offering prospectus.
Chinese courts have broad discretion over whether to enforce a keepwell agreements, based on the public interest.
Evergrande faces a further $573 million in bonds coupon payments this year and $7.7 billion in bond redemptions next year.
Some offshore bondholders have engaged law firms and advisers to protect their interests. Law firms Kirkland Ellis and investment bank Moelis, on behalf of investors holding $5 billion of Evergrande debt, say they have reached out to the developer seeking information about the company's financial position and assurances that offshore assets will not be sold while negotiations to reclaim the bond coupons are ongoing.
Contact with Evergrande was initiated before the first missed bond interest payments, but the advisers have had as yet no meaningful contact, they said in a call with bondholders this month.
What we don't want is to have a situation where so-called offshore assets are being laaked in some way, and the value of those assets being monetized to other parties whether that be onshore or elsewhere, according to Neil McDonald, a restructuring partner at Kirkland Ellis, during the conference call.