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					Investment in the
China Real Estate
Market
               HKIS CPD/GPD/200814
                        Wyatt Choy
                       14 April 2008




                                       1
CONTENT



   China Market Overview

    Opportunities

   Fund Strategy and Operation

    Challenges

   Conclusion




                                 2
CHINA MARKET OVERVIEW

       Some statistics

      Over the past 8 years China and the USA have accounted for
       around 50% of all growth in the global economy with rates of 10%
       growth in GDP p.a. an extortionate level of activities for an
       emerging economy.

      Best 20 year performance in China (1982-2002) recorded GDP
       growth 10% p.a.

      By way of comparison, best 20 year period for UK (1953-1973)
       was just 3% p.a. and the USA (1949-69) was 4%.

      Long term estimates suggest the next 20 years, the Chinese
       economy will growth by a further 500%!




                                                                          3
CHINA MARKET OVERVIEW

       Some statistics

      Such staggering rate of prospective economic growth will be
       accompanied by and relied upon massive programme of
       urbanization over the next 20 years.

      400 million people will move from the countryside to cities in the
       next 10 years. The UN estimates China will have more than 60
       cities with populations exceeding 1 million by 2020

      Immediate effect of such population movement will be a
       significant increase in demand for housing and ancillary retail.

      13 million units p.a. needed to match the demand.




                                                                            4
CHINA MARKET OVERVIEW

       Recent Trends
      Property prices had surged most in 1st- tier cities like Beijing, Shenzhen,
       Guangzhou and Shanghai. Attention to the 2nd-tier cities such as
       Hangzhou, Suzhou, Ninbo and Dalian which has also increased.

      Grade - A office building and shopping plazas continues to attract to
       attract tremendous interest due to long-term leases and higher returns
       given the bullish business and retail sentiment.

      New interest in suburban shopping centres in the outskirt of cities in the
       light further urbanization.

      Satellite towns popping up as infrastructure improves. Newer class white-
       collar workers live on the outskirts, commutes on an underground railway
       into the city to work. The infrastructure improvement has affected land
       valuation. Affordable housing and ultra-luxury accommodation across the
       country on the rise.




                                                                                     5
CHINA MARKET OVERVIEW

       Recent Trends
      Shanghai shall have up to 20 nos. of lines, Beijing (13 nos.) and
       Guangzhou (10 nos.) by 2020 with sophisticated networks serving these
       truly thriving cosmopolitan cities.

      The strong 90/30 rule measure to dilute the housing market tries to
       mandate many small units have to be built, but in reality has driven up the
       price for luxury large-size flats as there are simply less of around to
       satisfy growing demand. Demand dictates pricing.

      Industrial properties like logistics, high-tech and distribution centres had
       performed well as more MNC users like Amazon, Pepsi, ABB, GE, Toyota
       and Philips started to fine-tune and expand their China market position.
       Attractive to investors with class A logistic facilities in cities like
       Guangzhou, Shenzhen, Tianjing, Wuhan and Dalian.




                                                                                      6
CHINA MARKET OVERVIEW
       Recent Trends
      Shanghai shall have up to 20 nos. of lines, Beijing (15 nos.) and
       Guangzhou (12 nos.) by 2020 with sophisticated networks serving these
       truly thriving cosmopolitan cities.

      The strong 90/30 rule measure to dilute the housing market tries to
       mandate many small units have to be built, but in reality has driven up the
       price for luxury large-size flats as there are simply less of around to
       demand dictates pricing.

      Industrial properties like logistics, high-tech and distribution centres had
       performed well as more MNC users like Amazon, Pepsi, ABB, GE, Toyota
       and Philips started to fine-tune and expand their China market position.
       Attractive to investors with class A logistic facilities in cities like
       Guangzhou, Shenzhen, Tianjing, Wuhan and Dalian.

      As competition in the BIG 4 major 1st tier cities intensifies, developers
       seek further a field for sites in Chengdu, Chongqing, Wuhan and Qingdao
       which are some of popular 2nd tier cities targeted by both domestic and
       foreign developers pushing land prices to new hikes.


                                                                                      7
CHINA MARKET OVERVIEW
       Recent Trends
      Estimates suggest the new elite middle class will reach 200 million by
       2025 making the largest single income group in China.

      More than 40% of property bought as investment from both inside and
       outside of China. It is an investment not only in property, but an
       appreciation of currency.

      The appreciation and perception of the sustained increase of Yuan need
       no elaboration.

      With all these factors backing the property market in China, one would be
       unwise to think the price would come down. Even if there are minor
       corrections along the way – the overall trend is up.




                                                                                   8
OPPORTUNITIES

    Property as NEW ASSET CLASS - Growth Drivers
                        Demand for higher
                       quality building & int‟l
                         standard property
                           management
                                                   Trend to retail
     Property market
                                                  clusters in core
      relatively new
                                                        area


 Scope for more           China                        Industrial sector
  institutional
   investment
                         Property                      property, ripe for
                                                          recycling


                                                   Ability to grow
      New supply of
                                                  income through
       high quality
                       Shortage of yield          management and
          assets
                       accretive deals in            expertise
                         other markets




                                                                            9
FUND STRATEGY AND OPERATION
FUND STRATEGY AND OPERATION
Fund highlights
Capital gains from a new China focussed real estate opportunity fund …


                   A total of US$700 million of commitments raised
The Fund
                   US$200m commitment by HSBC and Nan Fung (US$100m each)


Investment         Acquiring, developing, managing, improving and selling real
Strategy            estate on an opportunistic basis


                   Joint Venture between HSBC and Nan Fung, a leading Hong
                    Kong based developer, providing:

Key benefits          Exclusive access to Nan Fung‟s deal flow
                      Access to HSBC‟s network in China
                      Dedicated team with both real estate and financial skills




                                                                                   10
FUND STRATEGY AND OPERATION
FUND STRATEGY AND OPERATION

Investment opportunity

             Participation in the growth of the Chinese economy via real
China
              estate



             Unique alignment of institutional and professional skills,
Expertise
              assembled to implement high value added investment strategy



Active       Hands-on with “end-to-end” technical capability




                                                                            11
FUND STRATEGY AND OPERATION
FUND STRATEGY AND OPERATION
Summary of investment objective and strategy
Target capital gains through equity or debt instruments in a portfolio of real
estate developments and investments in Greater China …


Geographic Focus       High growth areas in mainland China



                       Typically through project companies wholly owned by the Fund
Investment
                        or in partnership with Nan Fung and/or other local partners with
Structure
                        strong development, political or financial background.


                       Seek strong legal framework and an excess of demand over
Investment Criteria
                        supply


Investment             Seek to maximize returns by acquiring, developing, managing,
Strategy                improving and selling real estate on an opportunistic basis




                                                                                           12
FUND STRATEGY AND OPERATION
FUND STRATEGY AND OPERATION
    Geographic focus




                              13
FUND STRATEGY AND OPERATION
FUND Strategy AND OPERATION


              Projects that present clear exit opportunities, e.g.
               residential and office developments in key cities and
               locations

              Distressed or semi-distressed assets acquired from or in
               partnership with capital-constrained local developers

              Properties where there are opportunities to add value via
   Target      specification, refurbishment, repositioning and marketing,
  Projects     allied to financial structuring (e.g. high-end residential and
               repositioning of retail)

              Developments in specialist, restricted or emerging sectors
               such as industrial, logistics, hospitality and leisure

              Pre-IPO investments in real estate holding companies with
               a solid track record and a high-quality management team




                                                                                14
FUND STRATEGY AND OPERATION

                   Types of Transactions and Consideration
                    Development         Turnkey Acquisition       Mezzanine Loan          Pre-IPO Equity        Refurbishment       Investment

Deals Summary    Acquisition of land   Acquisition of building   Loan benefits from     Acquisition of a       Acquisition of a   Acquisition of
                 and subsequent        to an agreed              security typically     minority interest in   completed asset    income
                 development into      specification typically   over borrowers         a holding              and                producing
                 completed property    by way of pre-sale        shares, Often has      company planning       repositioning      property.
                 for sale or lease.    contact.                  some equity            to list.               through physical
                 Deal normally done                              upside.                                       improvements.
                 with a local PRC
                 partner.

Typical IRR      20% - 25% IRR         20% - 25% IRR             12% - 20% IRR          40% + IRR w/listing    20% - 25%          7% to 10%
                                                                                        12% -20% without
Nature of Risk   Construction and      Title may not be          Inability to enforce   Minority position      Construction &     Market risk only.
                 leasing. Typically    transferred until hand-   documentation &        in company with        Leasing.
                 have title and        over. Deal structure      security.              no control. Stakes
                 control of bank       offer complicated                                typically acquired
                 accounts and                                                           at 8-10 PE ratios.
                 payments.

Resources Reqd   High. Active          High. Active              Low                    Low                    Medium             Low-medium
                 participation at      participation. Not
                 Board level and       dissimilar to straight
                 within finance        development
                 function.


Duration         3 to 7 years          3 to 5 years              Up to 3 years          Up to 3 years          3 to 5 years       3 to 5 years

Added Value      High                  Medium - High             Low                    Low                    Medium             Low - Medium



                                                                                                                                                   15
CHALLENGES

  Executive summary of off-shore enterprise investing in China



   Regulatory landscape    Measures introduced since May 2006


                            Key points on different options
   Investment options



    Options analyzed       Pros and cons



    Pre-sale option        Case Study




                                                                 16
   Despite the hosts of regulatory measures set up since May
    2006, foreign enterprises are still able to invest in via pre-sale,
    share transfer and transfer in construction in progress
    projects

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       Rule            Circular                              Circular   Circular             Circular              Circular                 Circular                          Circular
        37               171                                   187         87                   50                    69                      130                               359




       May                  Jul                                Jan         Mar                        May                        Jun                  Jul                         Sep

2006                                                    2007                                                                                                                                            2008




                                                                                                                                                                                                                             17
Regulatory Landscape (Contd)



     “Opinions on Regulating the Entry into and the Administration of
     Foreign Investment in the Real Estate Market” [2006] Circular 171

                          Local Entity required for non-self use, Foreign gearing limited



     SAFE & MOConst “Regulating the Administration of Foreign Exchange
     in Real Estate Market”                              Circular 47

                           Sets out admin measures, procedures to implement 171



      Land Appreciation Tax Reconciliation for Property Developers” State
      Tax Circular” [2006]                                  Circular 187

                                LAT levied on gain at a progressive rate 30%-60%




                                                                                            18
Regulatory Landscape (Contd)


     MOFCOM and SAFE issued Circular Further Regulating Examination,
     Approval and Supervision of Foreign Direct Investment. Circular 50

                            Filing with Central MOFCOM a MUST before conversion,
                            Land-use right obtained a pre-condition for approval



     SAFE distributing the first group Foreign-Invested Real Estate Projects
     filed with MOFOM [2007]                               Circular
     130
                            No registration & conversion of FX loans for projects
                            approved after June 1, 2007


      PBOC & CBRC on Strengthening the Administration of Commercial
      Real Estate Loans                                  Circular 359
                            Cross district development loan restricted,
                            Payment of Land-use right cannot be funded by bank




                                                                                    19
Entry Options




     Participate in     Acquire shares     Set up WFOE,
    the open public      of local asset       acquire
     land auction,           owning       property to hold,
    obtain land-use       enterprise       operate, lease
      right, set up                          and sale
    foreign entity to
    develop, pre-sale
       and pre-let




                                                              20
Entry Options




     Acquire local        Set up or     Acquire shares
       enterprise      acquire shares     of offshore
    owning project       of ordinary        holding
    in construction     WFOE, then      enterprise with
       progress,          apply for          WFOE
      continue to        change of
     develop, pre-        business
     sale or pre-let        scope




                                                          21
Options Analyzed

                                                             1. Virtually impossible if without a
                                                              project, more direct participate
                                                              offshore;
                                                             2.Difficult to pay land premium
                                      Participate in the      due to FX restriction, may pay
                                                              deposit through on shore loan,
                                      open public land        apply for delay payment of
                                       auction, obtain        premium;
                                       land-use right        3.Transfer of land-use right to
                                                              subsequent set up WFOE


  Except for main-
  stream residential,
  the local JV entity    Apply to
                                                                       MOFCOM grants 1 year
  can file, and obtain   register a                        Set up
                                                                       《Approval Certificate》
  approval of register   target                            WFOE         《Business Licence》
  ration of a project    project                                        Issue proper Certificate
                         发改委立项                                          & Business Licence of
                                                                        10-20 years upon
                                                                        obtain Land-Use Right
                                                                        Certificate




                                                                                                    22
Options Analyzed (Contd)
Pre-Sale Option: Case Study (Contd)


  Circular 171:Sino-Foreign JV not              Full Due Diligence prior
  allowed to guarantee each other‟s             to Acquisition
  fixed return



  Circular 171:
  Foreign investor
  with unproven or                                       Circular 171 :
  dubious track not
  allowed to do so
                                      Acquire            Apply to MOFCOM
                                      Shares             for approval


  Circular 171:Proper
  settlement of employees ,
                                                 Circular 171:Submit all tax
  liabilities and debts transfer
                                                 receipts, details particulars of
  consideration paid by
                                                 change, Guaranty &
  equity in single payment
                                                 indemnity and Land-Use
                                                 Right Certificate



                                                                                    23
Options Analyzed (Contd)



                             CONSTRUCTION IN PROGRESS


    WFOE acquires local enterprise owning project under construction




                                      Complex
      Legally stipulates            procedures to       Resettlement
     consideration must             assess works          a major
     be „total investment‟          done/works to         setback
                                      complete




                                                                       24
Options Analyzed (Contd)
Pre-Sale Option: Case Study (Contd)

    Set up or acquire ordinary WFOE, change business scope to include
                  development & investment of real estate

  设立普通外商投资企业
  Set up ordinary WFOE    Apply to change business   Develop and operate




                          1. Circular 50: Apply to
     In accordance                                      Commence to
                          add and extend
     with standard                                      develop, pre-let
                          business scopes.
     procedure for                                      or pre-sale
                          2. Comply with《List of
      setting up of
                          approve scopes of
         WFOE
                          business》



                                                                           25
Options Analyzed (Contd)
            Acquire shares of offshore holding enterprise

 Offshore deal
 not subject to
 any restrictions
                              Acquire
                              shares




                                               Indirectly
                Holds                          held
                controlling
                shares

                                                        BUT Has Tax
                                                        Disadvantages




                                                                        26
Pre-Sale Option: Case Study (Contd)


                      Acquisition via Pre-sale
                          Arrangement
                                          Appoints Guaranty Co
                      Holds property      to provide guarantee


                         1. Vendor/Purchaser signed MOU
                         2. WFOE signs Standard 《Pre-
          Vendor         Sale and Purchase Agreement 》     Purchaser
        (Developer)      3. WFOE pays first payment via   (Foreign Co)
                         converted FX capital & arrange
                         onshore loan for balance


                            Foreign Co set up WFOE




                                                                         27
Pre-Sale Option: Case Study (Contd)




                           MOU signed with mutually agreed
                                 terms & conditions



                          Approval limit dependent on total
   Retail Project         investment – lax for 2-3rd tier cities


                           No specific restriction of renewal
                          for Business license of WFOE with
                               signed standard Pre-sale
                                      Agreement




                                                                   28
Pre-Sale Option: Case Study (Contd)




                           Conversion of Capital Scrutinizes
                                    by local SAFE



    Conversion             WFOE convert equity to Rmb for
    of remitted               payment per Circular 47
       Capital

                            No restriction of cross district
                          purchase of non-self use project of
                                         WFOE




                                                                29
Pre-Sale Option: Case Study (Contd)




              Circular 130
        blocked offshore loan


   Onshore Loan as Project Finance    Onshore
                                       Loan
           Additional WFOE as
       additional purchaser for
             contingency




                                                30
Pre-Sale Option: Case Study (Contd)




        Wavier of legal priority right
         + bank guarantee



       Entrustment Loan                  Onshore
                                         Guarantee
        Guaranty Co provide bundle
    performance and Guarantee to
                bank




                                                     31
Lighter Experience Sharing


        Property Tycoons CV… interviewed by Vendor – authority, decision speed
         and availability of equity in local Yuan.

        Relatively „young market‟ crawling towards sophistication

        Despite fast track growth in the hardware city fabric, management red tape
         & inefficiency not necessarily by default

        More to suit still rigid planned economy of political, social, cultural and
         vast region disparities & idiosyncrasies, SoE, aging population.

        Enforceability of contract cumbersome and not practicable. Face, ganxi &
         etiquette remain vital keys for problem solving.

        Mindset to deal with change & adversities – can turn into blessings in
         disguise




                                                                                       32
CONCLUSION


     2 tier cities fast catching up
     New centralized Land Registry system ease fear of disputes and
      uncertainty for land –use right renewal
     Despite the raise of capital threshold for investing in real estate market ,
      will not dampen enthusiasm in medium term
     Clear determination of Government to improve transparency of real estate
      capital market and more efficient allocation of capital
     Sub-sector office and serviced apartments
     Huge middle class in the making
     Continual long trading up factor as a result of mass urbanization
     Overall tone of Government „s approach to managing the pace of change
      in a way has reduced the perception of risk
     Tertiary market budding and institutional investor taking position
      strengthen the depth and sophistication of the industry
     For those investors who have accumulated considerable knowledge and
      ex-perience in the market, the design of appropriate tax and legal structure
      as well as investment strategies are of utmost importance.



                                                                                     33
Thank You
Investment in the
China Real Estate
Market
                    HKIS CPD/GPD/200814
                             Wyatt Choy




                                          34

				
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