In-depth local knowledge and local contacts are prerequisites if investors are to benefit from China's burgeoning real estate investment opportunity. Ian Hawksworth reports
China's extraordinary economic growth is well documented. An exciting magnet for global investors, the country is at the same time a challenging, often opaque, market where the unwary may encounter difficulties.
Recent regulatory changes have created some uncertainties. Yet there are many positives and the investment environment is steadily maturing. Opportunities will continue to abound, with careful business planning, the right partners and a long-term view.
China offers investors a degree of scale, diversity and dynamism rarely matched globally.
The sheer size of the population drives compelling demographic trends which, when combined with the country's rapid industrialisation, create a range of mouth-watering investment opportunities. The rate of urbanisation is phenomenal and can only continue - the GDP of certain Chinese provinces is already larger than various European countries: Guangdong is larger than both Denmark and Malaysia, Shandong is larger than Norway.
The geographic reach of the country and the range of industries provide a backdrop of diversity. Whether in the relatively wealthy coastal cities or the rapidly growing second and third tier cities, investors are exploring new routes to build and construct. Sector diversification is also evident - the residential and office sectors are universally popular but there is increased interest in the logistics and research and development sectors. China's dynamism is best evidenced by a rate of economic growth which will soon see it overtake Germany as the world's third-largest economy. GDP growth was 11.1% in 2006 and 2007 is set to be yet another record growth year.
Unsurprisingly, rapid economic growth has filtered through into increased fixed asset formation within which the proportion invested in fixed assets in urban areas was 26.6% between January and July this year.
According to estimates by property adviser CB Richard Ellis, some $4.5bn (€3.3bn) flowed into the Chinese property sector in 2006, roughly double the amount recorded in 2005.
China's accession to the WTO and resultant banking sector deregulation - for example, certain foreign banks may now do renminbi currency business - has meant that financial institutions are driving demand for offices in the Beijing CBD. Shanghai remains a key growth centre for both local and foreign multinational corporations pointing to considerable upside for office rents over the next 12-18 months. Secondary cities in China - still very large by international standards - are growing apace. The economic boom has fuelled growth of household incomes and aspirations to own a private apartment. House prices are accelerating rapidly, prompting central government fears that international speculative activity may create a property bubble. Government is also worried about the degree to which rising house prices have impacted affordability. As a consequence, in the second quarter this year, the ministry of commerce announced measures relating to direct investment of foreign funds in the real estate sector.
Foreign investors must establish a real estate company before they can invest in real estate projects and need approvals to expand their business scope to invest in new real estate projects. They may not bypass the regulations by investing in domestic real estate companies via acquisition or by changing the real controller of domestic companies. Establishment of foreign-funded real estate companies must be reported to the central government by local departments.
As with the introduction of previous regulatory amendments and other recent pronouncements, the investment community has to absorb the likely implications for day-to-day operations and try to assess the impact of any ambiguities on a long-term basis. Naturally this causes a degree of uncertainty but in broad terms thus far seems not to have had a dramatic impact - though delays in investment approvals seem likely, and less serious or speculative participants will be dissuaded from entering the market. Some investors are adopting alternative deal structures, such as entity level investment rather than direct property investment.
Such changes underline the importance of partnerships - this is a key plank in any investor's strategy for China which cannot be emphasised strongly enough. Key domestic players in China are expanding rapidly, local institutions are developing and maturing so are in an excellent position to assist foreign groups place capital. Strong links to domestic groups will likely pay dividends in other ways - it will be particularly interesting to watch Chinese groups become more externally oriented in years to come as they themselves bid to become more significant international investment players.
China's growth must be seen in an Asian context and as such is taking place against a backdrop of rapid regional economic growth. The turmoil of the 1997 financial crisis is a distant memory for many and its 10-year anniversary has largely passed unremarked. Strong central bank reserves and stronger currencies are just two factors which make Asia today better able to withstand external shocks. In an environment of relatively easy global credit, competition to place funds in Asian real estate is fierce and despite a relative lack of investment grade property in the region, key investors are continuing to find opportunities to establish pan-Asian property funds. Intra-regional capital flows are strong - witness strong activity from Japanese, Korean and Singaporean investors.
Stock market volatility will undoubtedly continue - the correction of global markets in mid-August is a sharp reminder of global risks - but for many investors this will create buying opportunities. It could be argued that any resultant widening of the spread between emerging market bond yields and developed market bond yields is no bad thing.