Real Estate

Christopher Langner is a markets columnist for Bloomberg Gadfly. He previously covered corporate finance for Bloomberg News, and has written for Reuters/IFR, Forbes, the Wall Street Journal and Mergermarket.

It's becoming a tradition. China Evergrande Group has started the year three times since 2014 by asking bondholders to loosen restrictions on raising more debt and spending on acquisitions. It then goes on a borrowing and buying spree. The result has been a series of credit downgrades that has China's most indebted developer on the verge of the C category, associated with imminent default.

The Guangzhou-based company is offering notes payable in 2020 and 2022, Bloomberg News reported on Friday, citing people familiar with the matter. The move comes only three days after Evergrande got holders of its outstanding offshore bonds to relax constraints on how much debt the company can assume.

Among other things, Evergrande was allowed to increase the amount of permitted investments to 25 percent of assets from 20 percent. Other rules were eased that freed some subsidiaries to take on more debt individually. Evergrande had 999.9 billion yuan ($144.9 billion) of assets as of June 30, so the company in effect just obtained a blank check to increase its permitted investments by $7.2 billion.

When the Hong Kong-listed developer asked bondholders to agree to the changes, it justified them by saying it was trying to do a share offering in China that would increase equity, which should be a welcome prospect for creditors.

The company made similar requests at the beginning of both 2014 and 2016. Subsequently, Evergrande went on to increase its leverage to astronomical levels. Its total debt to common equity ratio went from 224 percent at the end of 2013 before the first "consent solicitation," as such requests are known, to 809 percent at the end of June. 

Borrowing Time
Evergrande's total debt to common equity ratio has risen to more than 800 percent
Source: Bloomberg

Even that measure doesn't fully reflect Evergrande's leverage, as I have noted before. The company has issued preferred shares and perpetuals, which are treated as equity but have more debt-like characteristics. If those are factored in, the developer owes $91 for every $9 of stock on the balance sheet -- a leverage ratio of more than 10 times.

No Cushion
For every $9 of stock, Evergrande owes $91 to creditors or holders of preferred shares and perpetual bonds
Source: Bloomberg

As Evergrande's leverage has climbed, S&P Global Ratings has moved the company from a BB score to B- with a negative outlook. Given the increase in debt ratios, the likelihood of a downgrade to the C category now looks high.

Sure, some of this debt has fueled growth that has helped make Evergrande the largest private developer in the world by assets. 

Leveraged Growth
Evergrande has become the biggest private developer by assets in the world
Source: Bloomberg

Not all of it has gone into new buildings, though. Evergrande's billionaire founder Hui Ka Yan has entered into businesses as diverse as a soccer club and a spring-water company. More than 90 percent of that expansion was funded with debt.

At some point the equation will become unsustainable. In the meantime, Evergrande will continue to borrow time with the consent of creditors.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Christopher Langner in Singapore at clangner@bloomberg.net

To contact the editor responsible for this story:
Matthew Brooker at mbrooker1@bloomberg.net