The endless towers are the first thing you notice upon arriving in China, and not just because, in most cities, they tend to line the roads leading to the airport. Over the past three decades, China’s cities have welcomed the largest human migration in history. The forest of apartment buildings is the visible manifestation of that movement, and the companies that construct the buildings are no less immense.
Few of those developers loom larger than Evergrande, whose ongoing collapse has riveted China and roiled global markets on Monday, with the S&P 500 falling 1.7 percent.
For many years, Evergrande was China’s second-largest builder and one of the world’s largest companies. Goldman Sachs says its assets are equivalent to 2 percent of China’s GDP; the Financial Times reported the company owned enough land to contain Portugal. CEO Xu Jiayin founded the company in 1996 and used profits from Evergrande’s boom years—China built two United Kingdoms’ worth of housing in the first decade of the century—to invest in all kinds of things, including the Guangzhou soccer team and an electric vehicle company (more on that in a moment).
But the company’s core business of selling apartments relied on borrowing ever, well, grander sums of money under the expectation that revenues would keep up. That hasn’t happened. Evergrande now owes more than $300 billion, and everyone who did business with the company, from steel mills and decorators to would-be homeowners to bond buyers and banks, is being hung out to dry.
The big question is: How far does the fallout extend? Is this China’s Lehman Brothers moment, or are fears of contagion overblown?
To grasp the stakes, it helps to understand Evergrande’s business. China has one of the highest homeownership rates in the world, and real estate is both a store and a generator of household wealth on a massive scale. This culture enabled Evergrande’s sales model, in which homebuyers forked over their life savings long before their apartments were completed.
The world’s most indebted developer may be on the hook for as many as 1.6 million unfinished homes, and angry buyers have been demonstrating outside the company’s Chinese offices for months.
Evergrande also owes money to its workers, who were pressured to invest their savings with the company’s wealth management arm to keep the company afloat.
Evergrande also owes money to suppliers, such as decorators and electricians, who have had to lay off their own workers and received, instead of cash, low-value assets like parking spots. (Really.)
And Evergrande owes money to banks and bondholders, including more than $100 million in interest payments due later this week.
The fear, visible in Monday’s stock market carnage, is that Evergrande’s failure to pay will set off a chain reaction. Suppliers go broke, commodity prices collapse, an Evergrande fire sale tanks Chinese home prices, banks call in their loans, other Chinese developers collapse under similar pressure. The company’s electric vehicle venture, which the Wall Street Journal last year called a “potential white knight” for the embattled builder, has seen its valuation fall more than 90 percent from $87 billion in April. Today it’s worth less than $4 billion.
One possibility is that Beijing intervenes to bail Evergrande out. China made new rules last year to try to force property companies to get their debts under control, a crackdown that helped precipitate the company’s collapse. It can come to the rescue, too.
The dilemma for Xi Jinping is a familiar one: Is Evergrande too big to fail? Or would bailing it out teach other Chinese executives the wrong lesson about running a risky, debt-heavy business? Beijing set out to discipline the country’s builders, and Evergrande’s collapse is what that looks like.