Evergrande Group, the Chinese real estate giant that, with its unprecedented debt, dragged the entire Chinese market into a deep financial crisis, is now back on the front pages after its board of directors asked three of its top executives to resign on corruption charges.
Chief Executive Officer (CEO) Xia Haijun, Chief Financial Officer (CFO) Pan Darong, and executive Ke Peng were forced to resign after an internal investigation confirmed that they had embezzled approximately US$2 billion obtained from third-party loans.
The three involved accepted the allegations without objection and immediately tendered their resignations following a request from the board of directors.
The conflict came to light when the questioned real estate developer was trying to reach a new agreement to restructure its debt, which exceeds $300 billion in liabilities.
Corruption in Evergrande
The three individuals, as mentioned above, allegedly participated in the organization of a property guarantee scheme to assist third-party companies in obtaining loans fraudulently. Since several beneficiaries could not repay the money, Evergrande was forced to respond with $2 billion.
In March, Evergrande delayed reporting its annual results, saying it needed to investigate why banks had reclaimed funds from Evergrande Property Services.
Evergrande, which did not identify the third party that facilitated the loans, later stated that the funds were used for “general operations,” but without providing further details.
A few days ago, it all came to a head when some banks unexpectedly seized the $2 billion in bank deposits of Evergrande Property Services, its real estate services unit. The banks held the money to use as mortgage collateral in the event of non-payment by the beneficiaries.
Following the scandal that generated the removal of the three executives, the developer reported that, as a result of the preliminary investigation findings, the firm would consider appointing a consultant to conduct a comprehensive review of the firm’s internal control and risk management systems.
The company’s announcement regarding the comprehensive review of internal control systems appears to be loaded with irony or at least to have come too late. It is currently the most indebted real estate company in the world precisely because it speculated financially for decades without adequately managing the risks to which it was exposed.
Evergrande loses balance and is on the verge of bankruptcy
After the company’s top management was implicated in alleged irregular financing practices, the crisis that the company is going through and dragging the rest of the Chinese real estate market is even more complicated.
The conflict that came to light recently couldn’t come at a less opportune moment for the company, which is agonizing over its struggle to get afloat due to its liquidity problem to face its debts.
Although the 2 billion in question does not represent a considerable number in the total debt that exceeds 300 billion, the fact that a confirmed case of internal fraud and the subsequent removal of three of its prominent executives only generates a feeling of distrust toward any of the announcements that the company intends to make to restructure its debt.
To complicate matters further, the Hong Kong Stock Exchange announced on July 11 that several Chinese real estates and property management stocks would be removed from the Hang Seng Index. Among them are China’s Evergrande Group and Evergrande Property Co., Ltd.
Some experts point out that the removal from the Hang Seng Index is not just a matter of form but has a very deep associated meaning in the sense that the companies mentioned above are no longer attractive to domestic and international investors and, therefore, will not be able to receive investments just when they need liquidity to pay off their debts the most. In other words, they state that Evergrande has no other way out but bankruptcy.
Adverse reaction and economy-wide expansion of the real estate crisis
In a desperate attempt to recoup some of their losses and increase their liquidity, distressed real estate developers have tried to increase housing prices, resulting in an increasing number of customers being unable to afford new properties or opting to walk away from their commitments.
A few weeks ago, thousands of families in China began a boycott by refusing to continue paying their mortgage loans because of uncertainty over the future of their unfinished homes in the hands of distressed developers and builders. This, in turn, is causing further damage to the economic situation of the Chinese real estate system as a whole.
The crisis Evergrande is going through is just the tip of the iceberg. The real estate system based on financial speculation is completely collapsing. This situation puts China’s productive system at risk, ultimately causing international investors to be much more cautious about investing in China and divert their funds to other markets.
Fitch Ratings, the international credit rating agency, published a report a few months ago stating that if the trend of falling property sales in China continued, real estate development companies would suffer a deep and unavoidable financial shortfall.
The prediction is now coming true, and both Evergrande and many of its competitors and allies in the market are drowning in their debts.
This lack of liquidity is also affecting the banking system. As demonstrated in recent weeks, certain banks did not allow small savers to access their funds in some regions, which generated social unrest and protests quickly repressed by the regime.
In this complex context, Evergrande is trying to reach a new agreement to restructure its massive debt. Still, to make matters worse, the Chinese regime seems to be letting go of the real estate giant as it has given no sign of being willing to prop up the ailing sector or come out for a bailout as it did in the past.
If it is confirmed that the government will not resume its bailout, no other option than the company’s bankruptcy would seem feasible, which would generate serious consequences for the real estate system and the Chinese economy.