As the company appears to fail on its debt payments, observers have speculated whether the Chinese Communist Party (CCP) will bail out the company. However, with the CCP’s policy of “housing for living in, not for speculation,” Evergrande’s leverage-driven policy that its founder followed for over two decades may also be its downfall.
Xu Jiayin, 62, founded Evergrande in 1996. By 2018, it was the most valuable real-estate company in the world, according to the Chinese mouthpiece Xinhua. Xu built the company’s success on leveraging, dipping the company into deep debt that it couldn’t repay at the moment, then counting on rapid sales to pay back lenders in time.
Before he discovered the world of real-estate sales, Xu’s business experience began by shipping rice, straw, and coal from village to village in his home province of Henan. He got to keep the profits from sales, according to an interview he gave to Chinese media Sohu in 2014.
Xu later attended college in Wuhan city and graduated in 1982. Following China’s communist command economy, he was assigned to work at a local iron and steel mill back in Henan. Chinese financial website 163 reported that Xu had to leave the factory in 1992 after he was investigated for selling the factory’s scrap metal and distributing the proceeds to his colleagues.
Although China was open to the West at that time, the hinterland of China was still following the communist system. Xu had slim chances of becoming wealthy in Henan. So he moved to Shenzhen city, China’s first Special Economic Zone (SEZ). SEZ’s are areas where market-driven economic policies are implemented.
Due to Shenzhen’s close proximity to Hong Kong, the CCP chose to develop it from a fishing village into an experimental economic zone. Former Chinese leader Deng Xiaoping used Shenzhen as a testing ground for an open market capitalist economy.
Real Estate Boom
The same year that Xu was forced out of his factory job, he started his career by working for a real estate company in Shenzhen in 1992. He earned his boss over $10 million within three years, according to Sohu.In 1994, he set up a branch company for his boss, which also proved highly profitable. One project alone for a branch in neighboring Guangzhou city made over $30 million. Despite his outstanding contributions, according to Sohu, his boss paid him only $464 every month.
“If my boss had paid me $15,000 as my annual income, maybe I wouldn’t have quit,” Xu told Sohu. In 1996, Xu left his boss and set up his own property company—Guangzhou Hengda Industrial Company Limited, the predecessor to Evergrande.
Xu created a positive feedback loop by buying large amounts of land and quickly selling the new houses.
His first project served as a model for his later property development projects, his company was propped up on loans he was unable to repay and he bet it all on future success, according to 163.
He managed to obtain a piece of land in Guangzhou for $15.5 million. He then signed an agreement on conditional use of the land with the landowner, then proceeded to obtain a loan of $930,000 for a building project.
After paying the landowner $775,000 as a down payment, Xu divided the remaining amount among the designing company, construction companies, and his own staff. But he still owed money to each division.
He needed to collect cash quickly. His first property project in Guangzhou used small-sized apartments at affordable prices to target young adults. His presale was so successful that the whole project was sold out in less than half a day.
“We began to sell our property at $433 per square meter, which was below our cost, but all the apartments were sold out in two hours,” Xu was reported to say later on the 20-year anniversary of Evergrande, according to Chinese media Guandian. “Our turnover amounted to $12.3 million in such a short time, which was the precious first bucket of gold for the company.”
Xu’s first project garnered him both support and attention, according to a 163 report from August. Three years later, in 1999, Evergrande was among the top 10 real estate companies in Guangzhou.
With strong leveraging tactics as his go-to business model, Xu repeated the model from his first project by first obtaining land, then borrowing money from domestic financial institutions, and later financing through international investors. Evergrande is best known for its strategy of “high debt, high leveraging, high turnover, and low cost.”
Many Chinese developers have been following Xu’s model. They use borrowed money to acquire land, collect cash through presales to new tenants, and then borrow more money to invest in new projects. The banks, local governments, and developers get their share of interest in this practice.
But Xu’s rapid expansion caught up with him.
The regime fears the social unrest that would come after the potential crash of the housing bubble. The CCP has thus begun a crackdown on the Chinese property market by issuing new policies and rules, saying that housing is “for living in, not for speculation.” It has also tightened its grip on financial institutions.
Despite housing being a massive part of China’s domestic economy, the CCP will likely not provide a bailout for Xu and Evergrande. The regime has stated that it does not want housing to be a speculatory market, something that Xu has thrived on.
Further, the CCP’s only concern toward its citizens is that they are not preparing to revolt. Housing and stable finance have become a generational goal for the average Chinese citizen, and allowing real-estate speculators to drive the market is not a form of control the CCP will readily hand over.
Keeping the average Chinese family burdened with debt is favorable to the CCP. However, the two extremes of housing becoming too expensive for families, or the housing bubble bursting, would both lead to social instability. The former for families no longer being able to develop forward, and the latter for families losing generations of investments.
In the end, Xu will likely have to face his lenders, and the CCP will find a way to act as the unblemished savior of the people, swooping in on the aftermath and dividing up the remaining assets of Evergrande after it defaults.
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