CORPORATE DEBT
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China Property

As Sun Hongbin’s wealth triples, short sellers see a fat target

PUBLISHED : Wednesday, 02 August, 2017, 12:13pm
UPDATED : Wednesday, 02 August, 2017, 12:13pm

Short sellers are calling time on the remarkable rise of Sun Hongbin.

The Chinese billionaire, whose roller-coaster career has included a stint in prison and the forced sale of a developer he once predicted would become the nation’s largest, finds himself in the cross hairs of hedge funds and other bearish speculators after the biggest hot streak of his nearly three decades in business. Sun’s fortune has more than tripled this year to US$5.1 billion after shares of his real estate firm, Sunac China Holdings Ltd., recorded one of the largest rallies worldwide.

Read: Why is short selling fashionable in Hong Kong?

In Sunac, short sellers see a prime example of what ails the broader Chinese economy: an overdose of debt-fueled investment. Even as some of the company’s high-flying peers have scaled back their ambitions amid rising borrowing costs and growing regulatory scrutiny, the Tianjin-based developer has piled on leverage to buy everything from distressed land assets to Dalian Wanda Group Co.’s theme park business and a US$2.2 billion stake in LeEco, a cash-strapped Chinese media and technology conglomerate.

While investors from China have cheered Sunac’s dealmaking -- fueling a 212 per cent jump in the stock this year -- bears have zeroed in on the company’s ballooning liabilities.

At an estimated 349 per cent, Sunac’s debt-to-equity ratio is nearly five times higher than its industry peers. What’s more, exchange filings indicate that Sun may have pledged 84 per cent of his controlling stake in the company, a potential overhang if the stock price were to fall enough to trigger a margin call.

Read: Wanda’s US$9.3b sale becomes a threesome under the spotlight as it ropes in R&F with Sunac

“People are worried about Sunac’s financial stability and leverage after the LeEco investment and the Wanda deal, while Chinese banks are generally tightening their loans to private companies,” said Dan David, the chief investment officer at FG Alpha Management who’s known for his short-selling reports. While he isn’t currently betting against Sunac, David said he’s following the company closely.

The stock fell 2.2 per cent at 9:55 a.m. in Hong Kong. On Wednesday, Sunac announced plans to issue dollar bonds to refinance existing debt.

Short interest in the developer has swelled to a record 15.1 per cent of shares available for trading, according to data compiled by IHS Markit. Sell-side analysts are bearish too, with share-price targets compiled by Bloomberg implying a 37 per cent drop over the next 12 months, the most negative outlook among Hong Kong-listed companies with at least two analyst forecasts.

But betting against Sunac is by no means a sure thing. The risk for short sellers is a repeat of their failed attempt to call the top in China Evergrande Group, one of Sunac’s heavily indebted rivals. Evergrande shares have surged nearly 170 per cent since early May, burning bears who had doubled their short positions in the preceding two months.

Despite its heavy debt load, Sunac’s top-line growth has been impressive. The company’s property sales almost doubled in 2016 as its push into China’s booming second-tier cities proved prescient. That tailwind may to continue this year, with forecasters including Nomura Holdings Inc. predicting strong first-half results from Chinese developers.

Explainer: Here’s what’s in Wanda and Sunac after China’s largest single property deal

Chinese investors, meanwhile, have embraced Sunac’s spending spree. Their combined stake in the developer, purchased through the country’s cross-border exchange links with Hong Kong, has swelled to at least 25 per cent from about 14 per cent a year ago, according to data compiled by Webb-site.com.

Many retail punters admire Sun for his bold expansion plans and his ability to weather adversity. (He spent less than two years in prison in the early 1990s after being convicted for embezzlement, a ruling that was later overturned.)

The Sunac founder’s rags-to-riches story is one reason why Ping Jingwu, a 25-year-old individual investor from Shandong, is bullish on the company. He sees Sun as one of the most savvy developers in China and says Sunac’s massive land holdings make the stock cheap.

“They’re fast, rational, and forward-looking,” said Ping, who began investing in Sunac in mid-2016 and went “all-in” on the shares this year.

Sunac declined a request to comment for this story, while Sun didn’t return a message sent to his WeChat account seeking comment on short sellers, share pledges and Sunac’s leverage. Last week, the billionaire vowed to slow Sunac’s expansion and reduce debt levels, according to a posting on his microblog.

China’s lending scrutiny spreads, catching asset buyer Sunac in its wake

Still, Sunac appears to be employing some of the same tactics that got Sun into trouble at his previous developer, Sunco Group. In 2003, Sunco rapidly increased its land acquisitions and construction projects, taking on debt to finance the expansion. The following year, government austerity measures sparked a market downturn and the company struggled to service its liabilities. Sunco was eventually broken up and sold.

Jitters over Sunac’s debt burden came to the fore on July 18 after a local media outlet reported that domestic banks were reviewing the developer’s credit risk. Sunac shares plunged as much as 13 per cent on the news.

While the stock has since rallied to fresh highs, the recovery has failed to deter bears. Sunac’s short interest, as indicated by shares out on loan, climbed to an all-time high on July 28, surpassing that of Evergrande to make Sunac the most-shorted developer in Hong Kong.

Sunac’s financial metrics help explain why bears are so persistent. The shares trade at 15 times projected 12-month earnings, a 32 per cent premium versus peers, while the company’s profit margin is half the industry average. Even after raising US$516 million in a share sale last week, Sunac’s debt-to-equity ratio is about 50 per cent higher than it was at the end of 2016, according to Bloomberg Intelligence.

Sun’s suspected share pledge, indicated in a November exchange filing, could be another concern for Hong Kong traders wary of such financing arrangements. When China Huishan Dairy Holdings Co. tumbled 85 per cent in Hong Kong trading four months ago, the rout was exacerbated by an unwinding of shares held by the company’s controlling stockholder, who had pledged nearly all his stake for loans.

Sun is likely to have pledged his Sunac shares at levels far below where the stock is currently trading, giving him a sizable cushion against losses. For investors, the risk posed by the pledge depends largely on their view of where the shares are headed from here.

“On the very same moves by Sunac, different investors take the exact opposite sides,” said Mars Li, Hangzhou-based portfolio manager at Zhejiang Mofeng Investment & Management Co. “Supporters feel they are always cheerfully surprised. For bears, Sunac brings nothing but unpleasant shocks.”

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