The company sent markets into a panic for a few days but those fears subsided quickly.
September 23, 2021
China’s Evergrande (OTCMKTS: EGRNF) may not be a name too many Americans knew before mid-September. This huge real estate developer has thousands of projects all across China with over 200,00 people working directly for it with millions more indirectly impacted by the company.
The long-struggling giant made news on Sept. 20 as it became known that the company might miss some of its upcoming debt payments. That led to questions as to what might happen if it defaulted on some of its debt and whether the Chinese government would intervene. Given the very large scope of the company and its debt load which — some of which is held in the United States — the impact of a default, or even a collapse was a hotly debated topic.
This isn’t a problem that popped up out of nowhere. Evergrande has been struggling for a long time, but it’s important to remember that while the company has massive debt, it also has considerable assets. It’s trying to sell some of those assets — including its headquarters — in order to be able to service some of its debt. That makes this situation more complicated than defaults where companies lacked assets that might allow them to buy breathing room to right the ship (or at least keep it from sinking for a while longer).
Some people predicted global ramifications while others assumed that China would not allow that to happen while others downplayed the risks. Steve Symington joined Dan Kline on the Sept 22, edition of “7investing Now” to take a look at the company while trying to figure out what might happen and exactly how worried investors should be.
A full transcript follows the video.
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Steve, let’s talk a little bit about what’s next for Evergrande, as I mentioned on Monday show a company I first heard of Monday morning. So it’s not like this is one that was on at the tip of my tongue. But uh, our headline here is what’s next for Evergrande. But the first piece here is what is Evergrande? Steve, if you want to explain what is this company?
Steve Symington 11:36 Okay, so Evergrande, for those of you not familiar is one of China’s largest real estate developers. They’re part of the global 500 they’re absolutely massive. So it’s kind of interesting how there’s so many businesses out there, global businesses that you know, we as Americans think that we kind of hold, have a stranglehold on the world’s largest businesses, but Evergrande is massive, huge real estate developers listed in Hong Kong, based in southern Chinese city of Shenzhen, employs about 200,000 people and indirectly helped sustain more than 3.8 million jobs each year. And it’s made its name and residential property. It has more than 1300 projects and to the Navy cities across China. But it also has investments in electric vehicles, sports theme parks, food and beverage business, everything from bottled water, groceries, dairy products, other goods. But yeah, so Evergrande is – its reach is vast, and it’s come under fire for some of its debts, you might want to take it from there.
Dan Kline 12:37 Yeah, that’s the challenge here that this is a company that has very little cash on hand and has a lot of debt coming due. And the issue is that that debt that’s coming due, they may pay their Chinese debt pay their native country debt, but not pay the debts they hold in the U.S., Steve, sort of why don’t you go a little more into and there’s some notes in the doc here if this is not at the top of your off the top of your head? What’s going wrong here? Why is this all of a sudden a global news story?
Steve Symington 13:06 So part of the problem is that Evergrande is you kind of alluded to has more than $300 billion in debt. And the last few weeks, it’s warned investors that it’s facing kind of a cash flow crunch, and suggesting that it could default on some set of like a lot of its debts, if it’s unable to raise money quickly. So it’s due to pay out of interest. I think the first kind of test that they’re talking about, is that an interest payment that’s worth about 83 million. I think that it’s an initial issue of about $2 billion in debt that they owe about 83 million in interest on due tomorrow. And creditors have basically not so subtly hinted that it’s probably going to default on that. And so it should be interesting. The concern among investors so far has been will this spread, because the $300 billion in debt is a lot. And they’re hoping that this doesn’t turn into kind of a contagion that spreads beyond China’s borders. And that’s the worry. And that’s what kind of drove down global markets yesterday.
Dan Kline 14:17 Yeah, and the big concern here is just how big this company is. You know, so they have about $2 billion in payments coming Do they have 200,000 employees and indirectly affect something like 3.8 million people. But I think it’s important to point out because there’s been a lot of talk about this, like leading to a crash. But here’s the reality. Lehman Brothers has been sort of the number one comparison here. And there is a pretty big difference. Lehman Brothers dealt with financial assets, and sort of when that chain breaks down, there’s nothing backing it. There’s nothing really there. And in this case, Steve, this is a real estate company. So why don’t we talk about some of the things they’re looking at doing that I think alleviate this crisis, and sort of make It’s not as serious as it’s being portrayed. Albeit, the media has pulled back a little bit after early in the week, this being the end of the world, there were definitely some saner voices prevailing.
Steve Symington 15:11 Yeah. So, you know, part of the big thing is about Evergrande, something that you’ll see increasingly pointed out as the situation becomes more clear is, yes. Well, Lehman has, you know, they had stakes in complicated financial instruments, and that chain breaks down, it’s very difficult to know, when there’s nothing backing these instruments when they crash, that that led to, you know, a breakdown of the financial system, but Evergrande actually holds a lot of land, a lot of hard assets, that it could monetize that way. And you have global economists stepping out and saying now that China, the Chinese government, has the tools and the policies in place to handle this, should it become an issue.
And a lot of kind of Industry watchers in China are saying, you know, what, they’re not going to let this spread beyond their borders, there is some worry that they will kind of pay themselves before they pay international investors in that sense, I’m not so sure that’s the case. But I think this will be somewhat limited. But it probably will result in in kind of a step down in China’s growth, though, because, you know, it’s it’s a lot of assets that are in the country. And that’s going to be kind of challenge China’s economy.
Dan Kline 16:33 So Evergrande, right now is trying to sell its office building. And I think the numbers 1.8 billion, so right there, if they sell that that covers its near-term debt, I assume they would be leasing that back, which is actually a pretty typical arrangement for a lot of companies. But that’s the difference. So Steve, if you owe me money, and that money is unsecured? Well, I’m kind of out of luck. If you owe me money, but it’s a lien on your house? Well, at some point, I forced you to sell the house. So I think the difference here, between some of the collapses we’ve seen, is even if this company falls apart, there’s still a lot of pieces to sell. And sure, creditors might get 85-90 cents on the dollar. But they’re not going to get zero because there’s real physical assets. So is this one of those things where the market just overreacted Monday, Tuesday? Because the numbers are really big. And China’s really scary in terms of any story coming out of China as a negative is move the market in bad directions?
Steve Symington 17:29 I think that’s part of it is that people sort of there’s a knee jerk reaction to Oh, my God, this is a massive company with hundreds of billions of dollars in debt. Will this spread? Will this impact the global financial system similar to something that we saw back in 2008-2009. And I think it’s becoming increasingly clear that they’re not an apples to apples comparison. But, you know, we also have sort of other concerns that it may be put people on edge and skittish investors were kind of more willing to embrace that knee jerk reaction and sell everything until they knew kind of more of what was happening. So, you know, we’ve got other stuff like the Fed meeting coming up and concerns over, you know, their, their, their own asset purchases, and easy money policies, when that’s going away in the pandemic dragging on, there’s a lot of stuff that’s kind of weighing on investor sentiment right now. But it is really interesting to see people kind of aggressively buying and responses, they realize it’s not so bad as it seems.
Dan Kline 18:33 Is this one of those cases where after the past 18 months like we’re having a hard time being long term optimistic, because every time it seems like things are going well, you know, we hear about some new sort of monster, or terrible thing that’s going to, you know, un-brighten our day is it just sort of, we’ve always been sort of a news-driven society, but now we’re we just much more likely to see the negative like as a national psyche, and I know you’re not a psychologist, so feel free to share your thoughts.
Steve Symington 19:01 Maybe there’s some fatigue there. Just headline fatigue, and people being you know, just getting tired of, of worrying about that. But but it’s also so interesting, because people are trying to decide whether, you know, with the major market indexes for the stock market, still kind of trading, you know, hovering right around their all time highs, and they’re wondering when the next pullback is going to be and yes, it’s a matter of when not if the stock market will crash or even just correct in the near term. But, you know, we might get a rally into the end of the year before, you know, the Fed starts kind of getting more serious about scaling back their bond purchases and kind of that stimulus that’s helped the markets rise in the first place.
Dan Kline 19:50 Yeah. And to tie it back to the beginning of the show. It’s worth noting that while crashes happen, and we won’t pretend the next crash won’t happen, that historically if you’ve owned good companies, And hold them, you’re going to be fine. Now, obviously, the reasons for a crash might make what seems like a good company not as good a company that has certainly, you know, maybe you had bank assets or real estate assets in 2008. But even those for the most part, if you held them through the crisis, eventually you were going to recover. So that’s what we’ll say. And I wrote something about this for members today. But exhale, step away from your portfolio a little bit. Take a walk, recognize that the companies we recommend the companies we hope you’re buying are good companies that will get through this and sure if I feel like my portfolios not worth as much, might I not take that vacation? Or, or buy a Peloton or have a fancy dinner? Sure, there’s a mental part of it. But that’s not really long term sentiment that is just sort of short term in the moment.
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