Where Chinese property developers go for cash

IFR Asia Greater China report, July 2010

For years Chinese property developers have had it easy. When China sought to spend its way through the financial crisis, developers benefited from the abundance of bank liquidity. More recently, they have benefited too from the vibrancy of the high yield bond markets and their thirst for China exposure. But are these markets drying up?

A host of Chinese developers have found success in the high yield bond markets this year. For example, in April 2010 two developers launched in considerable size in the same week: Yanlord Land, rated Ba2/BB, raised US$300 million in a deal through HSBC, RBS and Standard Chartered, and Agile Property, rated Ba3/BB, raised US$650 million through Stanchart, Bank of America Merrill Lynch, Deutsche and Morgan Stanley. Other PRC property developers to have raised funds have included Kaisa, Renhe Commercial Holdings and (on the equity side) Shimao Property.

Many considered these bond deals to be a sign of borrowers looking for alternative sources of funds following a tightening of bank liquidity in China, as the state has sought to rein in bank lending as part of broader austerity measures to curb potential overheating. In fact, that may not be the case.

“To be frank we haven’t seen much evidence that there’s a tightening of liquidity for developer companies,” says Jason Kern, managing director and head of real estate advisory for Asia Pacific at HSBC. “They still appear to have good access to relationship-type lending both from a domestic base and from international banks.

“I suppose the fear out there would be that at some point liquidity dries up, but we haven’t seen any sign of it thus far.”

HSBC is working on a number of high yield bond deals for Chinese developer clients, and an absence of bank liquidity is not being cited as a rationale by any of them. Instead, developers are using bond markets to diversify sources of funds and build new investor bases. “A lot of the issues we are working on are debut bond issues,” Kern says. “If you are a publicly traded PRC developer listed in Hong Kong, in the long term you want to make sure there is appetite for your bonds as well as access to banks in order to diversify your funding sources.”

There is, though, a sense that the easy money from the bond markets may be gone, for the moment at least. Surely before the Yanlord Land deal, Glorious Property postponed its own planned global bond. Issuance appears to have stopped post-Yandlord as the markets have become more volatile: a combination of the effect of the European sovereign debt problems, uncertainty about how China will handle austerity measures, and the amount of funds already taken from the market by the likes of Yanlord and Agile. Pricing on existing bonds has backed up, and bookrunners mandated to handle further high yield deals are simply preparing them to hit the market, not actively launching them, instead waiting for better conditions.

“You had a window of two weeks that saw US$2.4 billion coming out in one sector,” says William Pang, head of Credit Trading, Asia, at Deutsche Bank. “You have also had a very specific change in government policy that has negative implications on the business model of these real estate companies,” he adds, referring to measures such as limited access to second or third buyers of the same household, and potential city-wide limitations. “Together with that is the overhang of the European situation. All of this clearly has an impact and has created some headwinds.”

“But real money continues to have interest in this space, and given that this is a critical part of Asian high yield, I don’t see a dramatic adjustment to that medium term trend.”

Despite worries about overheating in Chinese property generally, investors do not appear especially worried about the credit quality of individual names. “For PRC developers as a whole, balance sheets are in fantastic shape,” says Kern. “There are probably only a couple of names where you could make an argument they have an overleveraged balance sheet. For the most part they have less than 100% net debt to equity, and many are self-financing with cashflow from actual projects.” They are, though, vulnerable to a drop off in sales volumes if they are protracted, though so far the yields on offer –  an 8.875% coupon on Agile, 9.5% on Yanlord, 11.5% on Renhe – have more than compensated investors for that risk.

In the loan markets, extremely large deals are being completed in the Hong Kong markets, including for developers with considerable China presence. Examples include Chengdu IFC Development, owned by Wharf Holdings (HK$8 billion five-year bullet); Sun Hung Kai (HK$10 billion, five-year); Sino Land (HK$8.8 billion); China Overseas Land and Investment (HK$5 billion); and Yanlord Land (US$400 million, three year).

However, while liquidity for big, listed names appears strong, it’s a different story for those Chinese developers who are pre-IPO. “Two years ago the trend was that everyone was looking for net asset value based on the land bank, so pre-IPO companies would borrow money to increase their land bank to get a better valuation in their IPO,” says Ruoyu Jiang, Managing Director, Credit Structuring at Deutsche Bank. “Now, although land bank is important, people are more focused on the ability of a company to generate cashflow and repay their funding. It’s fair to say the Chinese banks have basically closed. There still may be people looking at the property sector pre-IPO, but they are very selective.”

Finally, Shimao Property’s HK$1.96 billion follow-on offering in April – raised, through JP Morgan and Morgan Stanley, despite a profit warning – suggests a third option for developers: more equity.