Evergrande goes ahead with $780 million IPO

Eighteen months after it was first in the market, one of China's largest property developers makes a second attempt to list in Hong Kong.

Evergrande Real Estate Group will today launch the roadshow for an initial public offering that could raise as much as HK$6.04 billion ($780 million). This is the second time that the residential property developer has tried to go public -- 18 months ago, the company pulled its roadshow due to insufficient demand. The company will be going up against a number of other property IPOs, including Shenzhen's Excellence Real Estate Group.

Evergrande is offering 1.5 billion shares, comprising 900 million primary shares and 611 million secondary shares. Around two-thirds of the secondary shares are coming from the company's chairman and controlling shareholder, Hui Ka Yan, and the rest are to be sold by the lenders of a structured secured loan, a group that includes Credit Suisse, which has approximately 80 million shares.

A 15% overallotment option, if exercised, could increase the final deal size to as much as $897 million.

The primary issuance of the base deal represents 6% of the total shares outstanding. This shows that although the IPO is much smaller than some people anticipated -- there were some reports that it could be as large as $1.5 billion -- the developer is a company of scale; its market capitalisation will be between $5.8 billion and $7.75 billion.

Two cornerstone investors have signed up to $100 million of the offering, each taking a $50 million slice. They are Joseph Lau's Chinese Estates Holdings and Chow Tai Fook.

The shares will be offered at an indicative price range of between HK$3 and HK$4 a piece, which translates into a price-to-earnings ratio of between 4.7 and 6.3 times projected earnings for 2010, on a pre-money basis. It also comes at between a 55.9% and 41.2% discount to predicted 2010 net asset value (NAV), also on a pre-money basis.

This is somewhat cheaper than what another property company was able to raise recently. Last month, Glorious Property Holdings priced its $1.28 billion IPO at 10.4 times 2010 projected earnings. That said, Glorious had the advantage of being the first property developer to list in Hong Kong this year. The terms of the game changed however when Glorious started trading -- it finished 15% down on its debut. On the same day, Powerlong Real Estate Holdings decided to reduce the size of its IPO and price the deal below the bottom of the indicative range. Evergrande's valuation is not dissimilar to Powerlong's, which put the company at 6.3 times 2010 projected earnings and at a 53% discount to NAV.

More generally, Evergrande comes at a greater discount to other national developers, which are on average trading at a 28% discount to forward NAV. Some main comparative companies are China Resources Land, which is trading at a 14% discount to NAV, Country Garden Holdings which is trading at a 24% discount, and Sino Ocean Land Holdings which is at a 23% discount.

Evergrande was founded in Guangdong in 1996. Since then, it has become one of the largest property developers in China, with a presence in 24 cities. Its landbank is 51.2 million square metres in terms of gross floor area, of which it has land-use certificates for 41.9 million square metres.

Nearly a quarter of its landbank is in Qidong county in Jiangsu province, but it retains a strong presence in its native Guangdong, where 10% of its landbank is located. Its other projects are in cities such as Chongqing, Wuhan and Taiyuan. Nearly all of its landbank is outside of China's four most developed cities - Beijing, Shanghai, Guangzhou and Shenzhen - which leaves it well placed to take advantage of the growth in second- and third-tier cities.

Analysts point to the company's highly standardised business model which allows the company to turn empty land into revenue-generating developments at an extremely quick speed; it aims to buy land and start pre-selling within six months. Another advantage of the standard model is that it helps lower costs. For example, it only uses switchboards from Panasonic, power switches produced by Siemens and Elevators by Otis. This gives it strong pricing power that it can use against its suppliers.

On the other hand, Evergrande's debt situation has raised some concerns with investors. During the last property boom Evergrande it was trying to acquire a lot of land, and like many other property developers, it leveraged itself to do so. Overall, the company's total debt at the end of June amounted to $1.5 billion.

"These IPO loans have a creeping affect," said a source close to the deal. "If you don't pay it back, the repayments keep on getting bigger and bigger, eating into your cash flow." In the first six month of the year, the interest expenses on bank borrowings was $77.5 million.

The most notable loan is a $500 million structured secured loan agreement with Credit Suisse that it took out in August 2007. Last year, Evergrande failed to maintain certain financial ratios and certain conditions for default were fulfilled. The company was, however, able to negotiate a forbearance agreement with the lenders so that they did not accelerate the loan.

As such, it should come as no surprise that much of the IPO proceeds will not only be used to acquire additional land reserves to be used in property development, but also to pay off some of its debt.

Four banks are leading the Evergrande IPO: Bank of America Merrill Lynch, BOC International, Credit Suisse and Goldman Sachs. Institutional bookbuilding starts today and the Hong Kong public offer will run between October 22 and 28. Pricing is expected to occur on October 29, with trading starting on November 5.

¬ Haymarket Media Limited. All rights reserved.
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