China’s real estate industry, which accounts for about a fifth of the country’s economic activity, according to IMF, has faced numerous headwinds over the past three years. These have ranged from a mismatch in supply and demand, over-levered balances sheets, a slump in demand for commercial real estate, rising interest rates in the US and Europe, and lower than expected economic growth.
The confluence of these challenges resulted in several large property developers defaulting on debts from 2021, triggering a wave of distress across the sector. By Autum 2023, more than two-thirds of China’s 50 largest property developers by dollar bond issuance had defaulted on their offshore debt payments, according to Bloomberg. And research company CreditSights estimated that US$124.5 billion of the US$175 billion (more than 70 percent) China property dollar bond sector was in default.
Stimulus to support sector revival
After this challenging period, there are hopes that green shoots are finally emerging for the real estate sector, with the Chinese government stepping in to bolster the industry with a substantial stimulus package.
The various measures include removing minimum mortgage rates; reducing the down payment threshold for first-time homebuyers from 20 percent to 15 percent; and lowering the minimum deposit for second homes from 30 percent to 25 percent.
In addition, the People’s Bank of China, the country’s central bank, is setting up an RMB300 billion (approximately US$42 billion) facility to support affordable housing. Furthermore, local authorities have been encouraged to purchase unsold properties to help clear inventory backlogs.
The real estate sector is also set to benefit from a wider economic stimulus package launched in September, including a US$114 billion lending pool to support capital markets. Following the package’s launch, Chinese stock markets delivered their best week since 2008. The CSI 300, an index tracking companies listed on the Shanghai and Shenzhen exchanges, climbed by 15.7 percent in response to the stimulus.
A long road ahead
Overall, China’s real estate industry seems to be in a more stable position than it was 12 months ago. However, while the outlook is brightening, stakeholders are not getting carried away and recognize that much more must be done to ensure a full recovery.
Restructurings are set to remain a feature of Chinese real estate in the coming years. Restructuring teams in some law firms in Hong Kong anticipate that the vast majority of their workloads for the foreseeable future will continue to involve Chinese property related matters. Defaults from the past three years will continue to work their way through the system—remedying these and revising capital structures is complex, time consuming and often involves coordinating with numerous creditors and the courts. In addition, it involves a balance of both onshore and offshore interests and avenues of recovery.
Besides the large caseload, the absence of a formal restructuring regime in Hong Kong—the main hub for Chinese real estate restructurings—also complicates matters. In distressed situations in Hong Kong, absent meaningful progress on a consensual basis, unsecured creditors will typically be left with no choice but to file a winding-up petition with the courts, which may result in the winding up of the company, or if there is a deal to be done, bringing the company to the table for negotiations in exchange for withdrawing (or at least adjourning) the petition, ultimately implementing the restructuring through a combination of a court sanctioned Scheme of Arrangement and inter-conditional bilateral agreements.
Common law progression
Due to the number of these types of cases being heard by the Hong Kong court, several common law developments have emerged, which will arguably help to move cases along faster in the coming years.
Topics that the Hong Kong courts have examined include whether individual bondholders can file winding-up proceedings; the interplay between company structures where Hong Kong is the center of main interest but the issuer is incorporated in the Cayman Islands; and the implications this has on where a company is wound up. It is also now increasingly likely that the Hong Kong court will examine in greater detail the terms of, and information disclosed to creditors in relation to, these restructurings.
Moreover, the international creditor community—which, until the wave of defaults, had little insight into the detailed mechanics of Chinese real estate restructurings—has in the past few years gained valuable knowledge of the restructuring process. Now these creditors are able to move through restructurings with a wealth of experience behind them, which also serves to streamline the process.
After three years of distress and defaults, restructurings are becoming more efficient, and the Chinese economy is showing signs of stabilizing. There is plenty of heavy lifting still to be done, but there is reason to hope that these latest stimulus measures will accelerate China’s real estate sector’s road to recovery.