Country Garden Holdings's Downward Spiral
Welcome to the 62nd Pari Passu newsletter.
Today, we are learning more about Country Garden Holdings Co., once China’s largest homebuilder, as a way to better understand the recent developments in China. Despite the controversial nature of the country, everyone should be interested in learning about a nation that accounts for 18% of global GDP and 31% of global manufacturing. Let’s dive in.
Country Garden’s Distress: A Symptom of China’s Property Crisis
Country Garden Holdings Co., once China’s largest homebuilder, is facing its first-ever default on a dollar bond, highlighting the company’s financial distress amid a worsening real estate crisis in the world’s second-largest economy. The default could have far-reaching implications for China’s property sector, its financial system, and its economic growth. In this article, we will examine the background and causes of Country Garden’s distress, the current state of China’s real estate crisis, the potential consequences of a collapse, and the possible policy responses from the Chinese government.
Country Garden Background
Country Garden was founded in 1992 by Yeung Kwok Keung, a former farmer who became one of China’s richest men. The company grew rapidly by focusing on developing large-scale residential projects in lower-tier cities and rural areas, catering to the demand from China’s urbanization and middle-class expansion. Country Garden also expanded overseas, investing in projects in Malaysia, Australia, Indonesia, and other countries.
The company was listed on the Hong Kong Stock Exchange in 2007, raising $1.7bn in its initial public offering. Its market capitalization peaked at $60bn in 2018, making it the largest property developer in China by value. Its chairman and CEO is Yeung Huiyan, the daughter of the founder and one of China’s richest women.
However, Country Garden’s success came at a high cost. The company relied heavily on debt financing to fund its aggressive expansion, accumulating $190bn in total liabilities as of October 2023 [1]. Its debt-to-equity ratio was 4.6x as of FY’22, well above the industry average of approximately 0.9x. Its interest expenses exceeded its operating income, making it vulnerable to any shocks in cash flow or market conditions.
China’s Real Estate Crisis
Country Garden’s distress is not an isolated case, but a symptom of a broader crisis that has engulfed China’s property sector. China’s real estate industry grew at lightning speed from the late 90s, and was a major component of the country’s turbocharged economic expansion. But with growth slowing and debts swelling, authorities cut off access to easy loans in 2020, pummeling the sector and causing a record-breaking slump.
These tightening measures were aimed at curbing speculation, reducing leverage, and preventing systemic risks. However, they also triggered a liquidity crunch for many developers, who faced difficulties in refinancing their maturing debts or completing their projects. Some of them resorted to slashing prices, accepting alternative payments such as farm produce, or even defaulting on their obligations.
The most prominent case of default was Evergrande Group, which missed several interest payments on its $300bn debt pile and was ordered to liquidate last week after the company failed to present a stable restructuring plan more than two years after its default. The company was once China’s largest developer by sales, but its collapse sparked fears of contagion and social unrest among its millions of homebuyers, suppliers, and creditors. Other developers that have defaulted or faced liquidity problems include Kaisa Group Holdings Ltd., Fantasia Holdings Group Co., Sinic Holdings Group Co., Sino-Ocean Group Holding Ltd., and Logan Group Co.
Aside from the turmoil for investors, Chinese citizens are also losing millions in property investments as well as disposable income. Country Garden had to lay off 70,000 employees and has yet to pay thousands of others because of the crisis. Many others are still waiting on properties that will never be completed despite the thousands of dollars they have invested. This has drastically driven down consumer sentiment and home prices have declined rapidly as a result. Across China, home prices dropped anywhere from 8% to 26% depending on the region. This trend shows no sign of stopping and will likely continue as Country Garden operates on the brink of complete bankruptcy [2], [3].
How does Country Garden factor in the bigger picture?
As of Friday, October 27, 2023, Country Garden has been declared in default after not being able to make $15.4mm in interest payments on their dollar notes by the deadline of October 18th. Since the company has now been declared in default, its debts will be restructured, and creditors will now be pressuring the company to make decisions regarding a repayment schedule. However, Country Garden is also being strained by a liquidity crunch that is being caused by a large sales slump that initially began in 2020.
Aside from the value of dollar notes falling below 10 cents on the dollar after trading around 80 cents this past June, the bigger concern for creditors is the likelihood of this payment failure triggering a cross-default on other debt. This is already being recognized with Country Garden’s 3.3% bonds due in 2031 now trading at record lows of nearly five cents on the dollar. Offshore debt holders, primarily in the United States, have already started forming ad-hoc groups ahead of the restructuring and have leaned upon PJT Partners Inc. and Moelis & Co. to advise them through the process [4].