China Property Plunge Worsens as Shimao Deal Raises ‘Red Flag’

(Bloomberg) -- Chinese property stocks sank to a nearly five-year low after a deal between two units of Shimao Group Holdings Ltd. heightened corporate governance concerns in an industry already grappling with a liquidity crisis.

Shares of Shimao Group and its property-services unit both tumbled by the most ever on Tuesday, while a Bloomberg index of property stocks dropped 4.3% to the lowest level since February 2017. A connected-party acquisition announced by the developer late Monday “not only implies tight liquidity conditions for Shimao, but is also a corporate governance red flag,” JPMorgan Chase & Co. analysts wrote as they downgraded both stocks.  

After a burst of optimism last week that the worst might be over for China’s embattled property sector, investors are once again heading for the exits as signs of funding stress re-emerge. Record losses in Shimao Group’s shares and bonds have been particularly unnerving, given that the company was until recently considered among the sector’s strongest players -- able to withstand the financing curbs that led to defaults by China Evergrande Group and Kaisa Group Holdings Ltd. 

Shimao Group has blamed the selloff on unspecified “rumors,” but the company’s sparse public comments on its financial health have only added to speculation that it faces a cash crunch. The Monday announcement that Shimao’s services unit had agreed to buy another unit of Shimao Group for 1.65 billion yuan ($259 million) was taken as a sign by some analysts that the developer is shifting money from stronger to weaker parts of the business. 

The deal’s valuation was higher than usual, suggesting Shimao Group “is essentially transferring the cash from property manager to developer level,” JPMorgan analysts wrote. They noted equity investors are increasingly worried about publicly listed property managers being used as a “financial tool” by developers that share the same owners. Property services companies including Sunac Services Holdings Ltd. and Country Garden Services Holdings Ltd. plunged at least 10% on Tuesday.

Shimao Group, founded by billionaire Hui Wing Mau, said in an emailed reply to questions from Bloomberg that the company hired Cushman & Wakefield to advise on the deal. The valuation took into consideration factors including liquidity and a control premium, Shimao Group said.

Separately, a Shimao Group unit told Bloomberg on Tuesday that it has prepared funds to repay a 30 million yuan bond maturing Friday.

The assurance did little to assuage investors. Shimao Group’s shares fell 20% at the close in Hong Kong, while Shimao Services Holdings Ltd. plunged 32%. Shimao Group’s 4.75% bond due 2022 dropped 15 cents on the dollar to 64 cents, leading declines among Chinese high-yield debt. The company’s yuan notes also tumbled.

Ranked 13th among Chinese developers by contracted sales, Shimao Group poses a much smaller systemic risk to Asia’s largest economy than does Evergrande. But the former company’s woes have undermined hopes that higher-rated developers would be able to weather the Chinese government’s crackdown on the real estate industry. 

Shimao Group had passed all of the so-called three red lines -- metrics introduced to curb borrowing among developers -- according to Bloomberg-compiled data including first-half results. That would typically suggest a more robust financial position and easier access to debt markets. 

Yet liquidity concerns at Shimao Group have persisted even after a recent share placement, the company’s pledge of its Shanghai headquarters for financing and a flurry of regulatory measures to designed to contain the fallout from the property crackdown.

The developer and its subsidiaries need to refinance or repay $2.5 billion in bond maturities through 2022. That includes the 30 million yuan repayment on a 4.5% local bond due Dec. 17 and a 2 billion yuan note due January, according to data compiled by Bloomberg. Shimao Group has about $10.1 billion in outstanding local and offshore bonds.

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