When short sellers targeted Evergrande recently, they were making a more nuanced bet on the Chinese property developer than it might have looked at first glance.
Evergrande is the second-largest listed mainland developer in Hong Kong, with a current market value of $14bn, and one of the best known. In the past eight years, it has been the subject of a high-profile short attack, brought in Alibaba’s Jack Ma as a partner for its football club and undertaken $3bn in acquisitions in unrelated industries including agriculture.
To support its various strategies, Evergrande has generated a stream of share placements, buybacks and bonds, making it China’s most highly geared listed developer with net debt last year worth about 600 per cent of its equity versus a sector average of 90 per cent.
In the past year alone, Evergrande has waded into a takeover battle for its larger rival, Vanke, promised to retrench to its core business and announced plans for a backdoor listing in Shenzhen. The company then pledged to cut its borrowing on the same day as it began a $800m buyback spree equivalent to its entire reported interest bill for last year.
China’s property developers have had a good year so far. The sector, including their Hong Kong counterparts, is up 18.4 per cent. Evergrande, meanwhile, is up 57 per cent and at one point its shares were up as much as 96 per cent.
Now the short sellers are betting that a series of technical constraints will bring the shares back to earth, while supporters of Evergrande founder Hui Ka Yan are backing his ability to push through what he wants.
In this case, what Mr Hui wants is to relist the group’s property holdings — the core of the business — in Shenzhen for a far higher valuation by reverse merging into a listed shell. In January, the company announced a first Rmb30bn round of investment to fund the deal. It valued the assets at four times the price they trade at in Hong Kong. Cue the need for a stock rally: a higher value in Hong Kong would help reassure investors believed to be wary of such an extreme price gap. Evergrande also needs to convince the mainland regulator, the China Securities Regulatory Commission, to allow the backdoor listing — a practice it is known to be suspicious of. Since March, Evergrande has been buying back shares and cancelling them, raising the value of those still available for sale.
“We believe the consistent share buyback is to support the share price so that the valuation premium between [Shenzhen and Hong Kong] shares will be lower, making CSRC more comfortable in approving the A-share listing,” Cusson Leung, a JPMorgan analyst, wrote to clients.
Enter the shorts. Bets that Evergrande’s share price will fall were at a four-year low in early March, amounting to around 8 per cent of total shares. But they jumped sharply when the buybacks began in late March, peaking at about 15 per cent of the stock.
However, the shorts were not simply based on the assumption that the developer’s shares were overvalued. Rather, they were wagering that Evergrande’s ability to buy its own shares was about to be halted.
The Hong Kong exchange forces listed companies to make a minimum proportion of shares available for purchase by outsiders, known as free float. In Evergrande’s case, the requirement is 22.04 per cent. But chairman Hui already holds 74.33 per cent of the shares, so shorts were counting on this to limit Evergrande’s buyback power.
Indeed, the buybacks have reduced Evergrande’ free float to 22.13 per cent, and the buybacks stopped last month. Since then, Evergrande’s shares have fallen 12 per cent. But the company still has fight in it. Last Friday, it promised to redeem $8bn of renminbi-denominated perpetual securities — and lifted its shares as much as 4 per cent.
Evergrande has a history of such fights. A 2012 report published by Citron Research questioned the group’s accounting — the company vigorously denied wrongdoing — but shares fell 11 per cent. Last year, Hong Kong’s regulator issued Citron’s head, Andrew Left, a “cold shoulder” ban from trading in Hong Kong and fined him $700,000.
This time around, shorts are keeping their heads down in public but the recent spat shows they have not lost their appetite. Until Evergrande succeeds in its relisting plan, so far as they are concerned, the battle is not over.
Evergrande is the second-largest listed mainland developer in Hong Kong, with a current market value of $14bn, and one of the best known. In the past eight years, it has been the subject of a high-profile short attack, brought in Alibaba’s Jack Ma as a partner for its football club and undertaken $3bn in acquisitions in unrelated industries including agriculture.
To support its various strategies, Evergrande has generated a stream of share placements, buybacks and bonds, making it China’s most highly geared listed developer with net debt last year worth about 600 per cent of its equity versus a sector average of 90 per cent.
In the past year alone, Evergrande has waded into a takeover battle for its larger rival, Vanke, promised to retrench to its core business and announced plans for a backdoor listing in Shenzhen. The company then pledged to cut its borrowing on the same day as it began a $800m buyback spree equivalent to its entire reported interest bill for last year.
China’s property developers have had a good year so far. The sector, including their Hong Kong counterparts, is up 18.4 per cent. Evergrande, meanwhile, is up 57 per cent and at one point its shares were up as much as 96 per cent.
Now the short sellers are betting that a series of technical constraints will bring the shares back to earth, while supporters of Evergrande founder Hui Ka Yan are backing his ability to push through what he wants.
In this case, what Mr Hui wants is to relist the group’s property holdings — the core of the business — in Shenzhen for a far higher valuation by reverse merging into a listed shell. In January, the company announced a first Rmb30bn round of investment to fund the deal. It valued the assets at four times the price they trade at in Hong Kong. Cue the need for a stock rally: a higher value in Hong Kong would help reassure investors believed to be wary of such an extreme price gap. Evergrande also needs to convince the mainland regulator, the China Securities Regulatory Commission, to allow the backdoor listing — a practice it is known to be suspicious of. Since March, Evergrande has been buying back shares and cancelling them, raising the value of those still available for sale.
“We believe the consistent share buyback is to support the share price so that the valuation premium between [Shenzhen and Hong Kong] shares will be lower, making CSRC more comfortable in approving the A-share listing,” Cusson Leung, a JPMorgan analyst, wrote to clients.
Enter the shorts. Bets that Evergrande’s share price will fall were at a four-year low in early March, amounting to around 8 per cent of total shares. But they jumped sharply when the buybacks began in late March, peaking at about 15 per cent of the stock.
However, the shorts were not simply based on the assumption that the developer’s shares were overvalued. Rather, they were wagering that Evergrande’s ability to buy its own shares was about to be halted.
The Hong Kong exchange forces listed companies to make a minimum proportion of shares available for purchase by outsiders, known as free float. In Evergrande’s case, the requirement is 22.04 per cent. But chairman Hui already holds 74.33 per cent of the shares, so shorts were counting on this to limit Evergrande’s buyback power.
Indeed, the buybacks have reduced Evergrande’ free float to 22.13 per cent, and the buybacks stopped last month. Since then, Evergrande’s shares have fallen 12 per cent. But the company still has fight in it. Last Friday, it promised to redeem $8bn of renminbi-denominated perpetual securities — and lifted its shares as much as 4 per cent.
Evergrande has a history of such fights. A 2012 report published by Citron Research questioned the group’s accounting — the company vigorously denied wrongdoing — but shares fell 11 per cent. Last year, Hong Kong’s regulator issued Citron’s head, Andrew Left, a “cold shoulder” ban from trading in Hong Kong and fined him $700,000.
This time around, shorts are keeping their heads down in public but the recent spat shows they have not lost their appetite. Until Evergrande succeeds in its relisting plan, so far as they are concerned, the battle is not over.
