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Tuesday 29 September 2009
China’s New Real Estate Opportunities
China presents new opportunities for foreigners to invest in Chinese real estate and for U.S. and western property owners to sell to Chinese investors.
China presents new opportunities for foreigners to invest in Chinese real estate and for U.S. and western property owners to sell to Chinese investors.
By Malcolm Ridell 28 September 2009
(Caijing.com.cn) China’s real estate market is recovering quickly, due in large part to the Chinese government’s swift and effective actions. Besides a $586 billion stimulus package, it has loosened many restrictions on home purchases and on land sales and development. It also has ordered banks to lend heavily to real estate companies and has given permission to insurance companies to invest in real estate. The market has gained confidence and seems to have found its bottom. Home sales are up, and Chinese developers are once again buying land to replenish their land banks. Underlying all this is a strengthening economy – analysts, both foreign and domestic, have raised their estimates of Chinese 2009 gross domestic product to between 7 and 9 percent.
As the market recovers, foreign investors are finding the landscape very different from the past. In the boom years of the China real estate market, immediately before the economic downturn, foreign investors put billions of dollars into the market buying Chinese properties, developing projects, and investing in Chinese development companies that were preparing to go public. They made these investments with little equity and a lot of credit. Then, several years ago, during the boom, the Chinese government, seeking to rein in the market and stamp out speculation and dubious practices, implemented a series of restrictive regulations and taxes, aimed at both domestic and foreign players. As a result, foreign investment directly in properties and their sale in China became difficult and expensive.
In response, many foreign investors established offshore companies with complex holding and financial structures to own properties. In this way, investors could exit their deals by selling their shares in the offshore company to other investors outside China and avoid Chinese taxes and problems of capital repatriation. In addition, they could increase returns through leverage by adding on more debt offshore than was allowed onshore in China.
Those who exited their investments, held either directly or through offshore companies, before or at the height of the market two years ago generally made money, often with excellent returns. Those who came in at the height of the market or continued to hold their interests are, for the most part, stuck without an exit:
• Although property values have fallen, few want to buy their assets. • Those who invested heavily in Chinese developers, who then failed to go public when the initial pubic offering (IPO) market shut down, have seen the value of their share dwindle. • For those with interests in offshore holdings, there is practically no market for their shares, and the huge debts these offshore companies took on to leverage returns will begin to come due in 2010.
Today, scarce equity and expensive credit, if available at all, combined with the downturn in the China market, have brought most foreign investment to a halt –but, perhaps, not for long. “The period of standstill in foreign investment in China real estate is over. Although no one is rushing to do new deals, people are looking at the market again. If you are a global real estate player, you cannot dismiss the world’s third-largest economy,” says Joel Rothstein, partner at the Paul Hastings law firm in Beijing.
As foreign investors look to return, they are finding that the investment process is becoming easier as the Chinese government loosens restrictions on foreign investment and streamlines the investment process. “Serious long-term foreign investors will find that the transaction approval process has become easier,” points out Jianbo Lou, director of the center for Real Estate Law at Peking University. “Forget the restrictions,” adds Brad Markoff, partner at the DLA Piper law firm in Hong Kong. “With the right partner, right deal, right structure, right city and right relationships –and if all this conforms to Chinese policy objectives –you can now do almost anything.”
They are also finding new opportunities that include:
• Directly investing in properties or projects. As the market stabilizes, appropriately priced properties are becoming attractive for investment. But note that while many foreign competitors have retreated, new domestic competitors have taken some of their places. One major cash-rich Chinese developer has set aside $2 billion to buy properties in Beijing and Shanghai from foreign private equity firms eager to exit.
• Partnering with Chinese developers. Foreign investors are now finding two distinct types of Chinese developers: those who are cash strapped and hungry for equity, and those who are cash rich with full access to bank-lending and not interested in a foreign or a domestic partner. To do a deal with the latter, “the foreign investor has to bring more than money; he must bring soft skills that the Chinese side needs and lacks,” advises David Hand, international director, head of China Property Investment, at Jones Lang LaSalle. “He must leverage his expertise in development, management, strategic planning, design, implementation and so on,” he adds.
• Investing in Chinese developers. Foreign investors can find bargains in the shares of other firms that invested in pro-IPO developers who then failed to go public. Also, as the industry consolidates, high-quality, cash-strapped developers have become acquisition targets of the large, cash-rich developers. Many of these targeted developers would prefer an equity infusion from a foreign investor who allows them to continue to own and run their companies. Many also have access to bank loans for new projects, and, when the IPO market opens again, they may be strong candidates for going public.
• Purchasing the shares of offshore companies. Many investors in offshore companies are looking for buyers for their shares. Prices have fallen because the value of the underlying properties has fallen and because their debt will begin to come due in 2010.
• Refinancing offshore companies. There is an opportunity to refinance offshore companies before that debt comes due. Some foreign firms are already gathering resources to step in as a mezzanine or senior lenders at very attractive terms.
At the same time, in a dramatic reversal of capital flows, the Chinese are poised to make investments in overseas real estate, both residential and commercial. “The Chinese have an affinity for investment in real estate as an asset class. So when they look abroad for investments, they look at real estate,” Hand says.
Yet, “because China’s outbound real estate investment relies not on the market alone but also on the political processes of the Chinese government, it is difficult to say how much or how quickly it will find its way into real estate investments,” notes Xiaoping Zheng, principal at BAZO in Shanghai, a China-focused real estate advisory and investment management company. But, there appear to be few who doubt that Chinese out-bound investment in real estate is coming and that it will create new opportunities for sellers in markets outside China.
Foreign residential real estate is currently the primary target. China has about 400,000 millionaires, according to the Boston Consulting Group, and just below that a developing and increasingly well-to-do middle class. With falling prices and a weak dollar, their interest in buying U.S. residential property is high, as evinced by the following:
• Home-buying trips to the United States have become one of China’s most popular package tours- so popular that they are over-subscribed, and operators have had to put hundreds on waiting lists.
• The “America for Sale” expo of U.S. residential real estate in Beijing attracted over 7,500 potential Chinese buyers.
• Delegations of U.S. residential brokers going to China to showcase their properties consistently attract large audiences.
The Chinese have also begun competing for U.S. commercial real estate. “Now international markets are open to Chinese investors to pick commercial properties in prime locations with a good history of performance, famous addresses, some at ‘once in a lifetime’ prices. They can diversify their portfolios overnight,” says Hand. “What motivates Chinese real estate investors, besides stability of the investment environment where the assets are held, are pricing and the currency play. Chinese see an opportunity in London, for example, because prices have fallen and the currency has weakened,” adds Hand.
Furthermore, in a recent policy reversal, the Chinese government has begun encouraging Chinese companies to establish off-shore enterprises and to invest in or buy overseas companies. These corporations will need buildings for their own use, as well as housing for their Chinese expatriate staff.
China’s sovereign wealth fund, the China Investment Corporation (CIC), with $200 billion under management and another $200 billion likely on its way, has begun to focus on real estate investment outside China and has hired a six-person, in-house real estate team. “Having seen other sovereign wealth funds come to grief in real estate investment, the CIC will likely invest initially with a leading international real estate fund. Then, after the CIC gains experience, it will begin to make direct investments,” says Rothstein.
Along with these new opportunities are new challenges. For foreign investors, this means identifying the new categories of investment and accurately assessing the new mood and needs of Chinese developers. For sellers to the Chinese, this means understanding, according to Hand, that “Chinese investors are looking for a certain type of seller. A seller they can communicate with, but not just in terms of language; someone who understands the art of the transaction or partnering, as the case may be; who shows a willingness to compromise and be flexible about how things are done; who doesn’t just say this is London or New York and this is how we do it here.” For both, this means embracing new market realities, new strategies and new ways of doing deals.
Malcolm Riddell is president of RiddellTseng, a boutique investment bank that advises on China real estate, and academic leader and instructor for China real estate executive education programs as the Harvard Graduate School of Design.
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China’s New Real Estate Opportunities
China presents new opportunities for foreigners to invest in Chinese real estate and for U.S. and western property owners to sell to Chinese investors.
By Malcolm Ridell
28 September 2009
(Caijing.com.cn) China’s real estate market is recovering quickly, due in large part to the Chinese government’s swift and effective actions. Besides a $586 billion stimulus package, it has loosened many restrictions on home purchases and on land sales and development. It also has ordered banks to lend heavily to real estate companies and has given permission to insurance companies to invest in real estate. The market has gained confidence and seems to have found its bottom. Home sales are up, and Chinese developers are once again buying land to replenish their land banks. Underlying all this is a strengthening economy – analysts, both foreign and domestic, have raised their estimates of Chinese 2009 gross domestic product to between 7 and 9 percent.
As the market recovers, foreign investors are finding the landscape very different from the past. In the boom years of the China real estate market, immediately before the economic downturn, foreign investors put billions of dollars into the market buying Chinese properties, developing projects, and investing in Chinese development companies that were preparing to go public. They made these investments with little equity and a lot of credit. Then, several years ago, during the boom, the Chinese government, seeking to rein in the market and stamp out speculation and dubious practices, implemented a series of restrictive regulations and taxes, aimed at both domestic and foreign players. As a result, foreign investment directly in properties and their sale in China became difficult and expensive.
In response, many foreign investors established offshore companies with complex holding and financial structures to own properties. In this way, investors could exit their deals by selling their shares in the offshore company to other investors outside China and avoid Chinese taxes and problems of capital repatriation. In addition, they could increase returns through leverage by adding on more debt offshore than was allowed onshore in China.
Those who exited their investments, held either directly or through offshore companies, before or at the height of the market two years ago generally made money, often with excellent returns. Those who came in at the height of the market or continued to hold their interests are, for the most part, stuck without an exit:
• Although property values have fallen, few want to buy their assets.
• Those who invested heavily in Chinese developers, who then failed to go public when the initial pubic offering (IPO) market shut down, have seen the value of their share dwindle.
• For those with interests in offshore holdings, there is practically no market for their shares, and the huge debts these offshore companies took on to leverage returns will begin to come due in 2010.
Today, scarce equity and expensive credit, if available at all, combined with the downturn in the China market, have brought most foreign investment to a halt –but, perhaps, not for long. “The period of standstill in foreign investment in China real estate is over. Although no one is rushing to do new deals, people are looking at the market again. If you are a global real estate player, you cannot dismiss the world’s third-largest economy,” says Joel Rothstein, partner at the Paul Hastings law firm in Beijing.
As foreign investors look to return, they are finding that the investment process is becoming easier as the Chinese government loosens restrictions on foreign investment and streamlines the investment process. “Serious long-term foreign investors will find that the transaction approval process has become easier,” points out Jianbo Lou, director of the center for Real Estate Law at Peking University. “Forget the restrictions,” adds Brad Markoff, partner at the DLA Piper law firm in Hong Kong. “With the right partner, right deal, right structure, right city and right relationships –and if all this conforms to Chinese policy objectives –you can now do almost anything.”
They are also finding new opportunities that include:
• Directly investing in properties or projects. As the market stabilizes, appropriately priced properties are becoming attractive for investment. But note that while many foreign competitors have retreated, new domestic competitors have taken some of their places. One major cash-rich Chinese developer has set aside $2 billion to buy properties in Beijing and Shanghai from foreign private equity firms eager to exit.
• Partnering with Chinese developers. Foreign investors are now finding two distinct types of Chinese developers: those who are cash strapped and hungry for equity, and those who are cash rich with full access to bank-lending and not interested in a foreign or a domestic partner. To do a deal with the latter, “the foreign investor has to bring more than money; he must bring soft skills that the Chinese side needs and lacks,” advises David Hand, international director, head of China Property Investment, at Jones Lang LaSalle. “He must leverage his expertise in development, management, strategic planning, design, implementation and so on,” he adds.
• Investing in Chinese developers. Foreign investors can find bargains in the shares of other firms that invested in pro-IPO developers who then failed to go public. Also, as the industry consolidates, high-quality, cash-strapped developers have become acquisition targets of the large, cash-rich developers. Many of these targeted developers would prefer an equity infusion from a foreign investor who allows them to continue to own and run their companies. Many also have access to bank loans for new projects, and, when the IPO market opens again, they may be strong candidates for going public.
• Purchasing the shares of offshore companies. Many investors in offshore companies are looking for buyers for their shares. Prices have fallen because the value of the underlying properties has fallen and because their debt will begin to come due in 2010.
• Refinancing offshore companies. There is an opportunity to refinance offshore companies before that debt comes due. Some foreign firms are already gathering resources to step in as a mezzanine or senior lenders at very attractive terms.
At the same time, in a dramatic reversal of capital flows, the Chinese are poised to make investments in overseas real estate, both residential and commercial. “The Chinese have an affinity for investment in real estate as an asset class. So when they look abroad for investments, they look at real estate,” Hand says.
Yet, “because China’s outbound real estate investment relies not on the market alone but also on the political processes of the Chinese government, it is difficult to say how much or how quickly it will find its way into real estate investments,” notes Xiaoping Zheng, principal at BAZO in Shanghai, a China-focused real estate advisory and investment management company. But, there appear to be few who doubt that Chinese out-bound investment in real estate is coming and that it will create new opportunities for sellers in markets outside China.
Foreign residential real estate is currently the primary target. China has about 400,000 millionaires, according to the Boston Consulting Group, and just below that a developing and increasingly well-to-do middle class. With falling prices and a weak dollar, their interest in buying U.S. residential property is high, as evinced by the following:
• Home-buying trips to the United States have become one of China’s most popular package tours- so popular that they are over-subscribed, and operators have had to put hundreds on waiting lists.
• The “America for Sale” expo of U.S. residential real estate in Beijing attracted over 7,500 potential Chinese buyers.
• Delegations of U.S. residential brokers going to China to showcase their properties consistently attract large audiences.
The Chinese have also begun competing for U.S. commercial real estate. “Now international markets are open to Chinese investors to pick commercial properties in prime locations with a good history of performance, famous addresses, some at ‘once in a lifetime’ prices. They can diversify their portfolios overnight,” says Hand. “What motivates Chinese real estate investors, besides stability of the investment environment where the assets are held, are pricing and the currency play. Chinese see an opportunity in London, for example, because prices have fallen and the currency has weakened,” adds Hand.
Furthermore, in a recent policy reversal, the Chinese government has begun encouraging Chinese companies to establish off-shore enterprises and to invest in or buy overseas companies. These corporations will need buildings for their own use, as well as housing for their Chinese expatriate staff.
China’s sovereign wealth fund, the China Investment Corporation (CIC), with $200 billion under management and another $200 billion likely on its way, has begun to focus on real estate investment outside China and has hired a six-person, in-house real estate team. “Having seen other sovereign wealth funds come to grief in real estate investment, the CIC will likely invest initially with a leading international real estate fund. Then, after the CIC gains experience, it will begin to make direct investments,” says Rothstein.
Along with these new opportunities are new challenges. For foreign investors, this means identifying the new categories of investment and accurately assessing the new mood and needs of Chinese developers. For sellers to the Chinese, this means understanding, according to Hand, that “Chinese investors are looking for a certain type of seller. A seller they can communicate with, but not just in terms of language; someone who understands the art of the transaction or partnering, as the case may be; who shows a willingness to compromise and be flexible about how things are done; who doesn’t just say this is London or New York and this is how we do it here.” For both, this means embracing new market realities, new strategies and new ways of doing deals.
Malcolm Riddell is president of RiddellTseng, a boutique investment bank that advises on China real estate, and academic leader and instructor for China real estate executive education programs as the Harvard Graduate School of Design.
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