Mar. 06 2019 — Chinese developers have issued a staggering US$20.7 billion in new offshore debt so far this year. This is 36% higher than the same period last year, and exceeds the US$17.4 billion in pre-existing offshore notes maturing in 2019. S&P Global Ratings believes that improved market conditions are largely positive for the developers, given the sector's significant liquidity and refinancing needs. However, the new debt could create more risks for later.
The issuance surge comes amid stronger risk appetite for U.S.-dollar-denominated bonds issued by Chinese developers. While domestic funding conditions have also eased this year, restrictions on the use of funds is higher than for offshore issuance. Many Chinese developers are also trying to shift away from short-term, alternative financing, in line with financial reforms.
In our view, improved funding conditions offer China's developers a reprieve in a year of record maturities (see "China Property Watch: Which Developers Will Be Dragged Down In A Sliding Sector?" published Nov. 6, 2018). We estimate that leverage will trend down over the next year, despite slowing sales. This is due largely to more disciplined land acquisitions. However, incremental debt growth means that credit profiles could rapidly deteriorate if sales fall further than we expect, or spending exceeds our expectations.
What's Behind Higher Risk?
The funding situation for Chinese developers has improved amid further loosening in China, including cuts to banks' reserve requirement ratio and liquidity injections by the People's Bank of China (PBOC). A more dovish U.S. Federal Reserve is also supportive. Chinese developers across the ratings spectrum are finding better offshore market access in terms of size, cost, and duration. Refinancing risks have declined and capital structures have moderately improved for most of the companies tapping the offshore markets this year. This is because the recent offshore tenors are for two or more years, whereas nonbank domestic financing tends to be very short-term in nature.
However, the surge in offshore issuance also indicates that domestic funding conditions are still somewhat restrained for developers. Domestic issuance for rated developers year-to-date is only about a third of offshore issuance, at US$7 billion. This is because domestic bond issuance is mainly available for refinancing, with restrictions; for example, on raising funds for land acquisitions. We believe that some developers may be willing to pay higher offshore rates to have the flexibility to commit the funds to land purchases, should opportunities arise.
The surge in offshore debt may also partly be used to repay alternative financing, which still bears higher costs. Regulatory restrictions on the residential property market, e.g. price caps or pre-sale restrictions in some cities, can stall property project turnover speed, resulting in difficulty for developers to wind down nonbank financing exposure.
The trend is not without risks
We believe that the surge in offshore funding could create some risks down the road. This includes incremental debt growth. Some companies' offshore issuance this year went beyond their offshore refinancing needs (see chart 3). In addition, developers need to manage foreign exchange risk, cross-border fund repatriation for interest and debt repayment, and the risks of lumpy maturities in one to two years' time.
Although developers have recently avoided issuing notes due in less than one year, average debt tenors remain relatively short. Tenors on new issuance shrunk to an average 2.7 years in the three months from November 2018 to January 2019, from about four years from November 2016 to January 2017. And while overall funding costs have eased in the past six months, developers are still paying more than they were two years ago, despite the contracting tenors (see chart 4).
Leverage Has Stabilized--For Now
We expect debt leverage to remain stable for the sector as a whole, on the back of decent sales and price growth over the past couple of years. Most companies reduced their land acquisitions in 2018, another support for steady leverage.
However, the improving leverage trend could be derailed if spending on land takes off again, sales momentum falls more than we expect, or developers continue to pile on debt. With the government easing up slightly on property-market restrictions, for example, some developers will likely make opportunistic land purchases in anticipation of price increases in the future. And offshore issuance terms gives them flexibility to do this.
In our opinion, the China property sector could face weaker growth prospects for 2019, underpinned by weakening demand in lower-tier cities. At the same time, the pressure on non-bank funding is continuing and developers that have not been able to start presales of property projects could be under higher pressure to repay non-bank financing.
Given that recently raised offshore debt is more expensive than onshore debt (see charts 4- 5), future repayment adds further pressure to lower-rated, smaller developers that face ignificant debt maturities over 2019, offshore as well as domestically. Despite improved funding environment, some smaller players continue to face difficulties in refinancing. Guorui Properties Ltd. (CCC/Watch Dev/--), for example, is facing potential maturities on its US$300 million in "puttable" offshore notes; the put options are exercisable on March 21, 2019. Some developers have to rely on asset disposals to ease liquidity pressure, e.g. Oceanwide Holdings Co. Ltd.(CCC+/Negative/--) recently sold its Beijing and Shanghai projects to a bigger peer, Sunac China Holdings Ltd. (B+/Positive/--), for an equity consideration of Chinese renminbi (RMB) 12.5 billion.
Ultimately, Chinese developers have kicked the can down the road. Some may take the opportunity to improve their capital structure, and consolidate their business positions. However, with new issuance exceeding refinancing needs for 2019, incremental debt growth could increase developers' financial leverage and ultimately put pressure on ratings.
Table 1 | Download Table
|New Offshore Bonds By Rated Developers', Year-To-Date 2019|
|Entity||Amount issued (mil. US$)||Coupon (%)||Issue date||Maturity date|
|China Resources Land Ltd.||300||3.8||2/26/2019||8/26/2024|
|Guangzhou R&F Properties Co. Ltd.||375||8.6||2/27/2019||2/27/2024|
|CIFI Holdings (Group) Co. Ltd. (announced)||300||7.6||2/28/2019||2/28/2023|
|Ronshine China Holdings Ltd. (announced)||300||10.5||3/1/2019||3/1/2022|
|China Evergrande Group (announced)||600||9.0||3/6/2019||3/6/2021|
|China Vanke Co. Ltd. (announced)||600||4.2||3/7/2019||6/7/2024|
|Zhenro Properties Group Ltd. (announced)||200||9.2||3/8/2019||3/8/2022|