China is one step closer to launching its first publicly listed infrastructure real estate investment trusts. The proposed framework for the REITs is open to public consultation until 30 May.
The REITs will invest in revenue-generating infrastructure projects, ranging from warehouses, toll roads, airports and waste management to hydroelectricity and information networks. Residential and commercial real estate are excluded from the investment list.
Under the proposed framework, issued in late April by the National Development and Reform Commission and the China Securities Regulatory Commission, the REIT will have a fund and asset-backed securities structure as opposed to the unit trust structure adopted in Hong Kong and Singapore. According to Paul Guan, partner at Paul Hastings, China’s experimental approach is the easiest way to embed REITs into the country’s existing tax and legislative framework.
“Public offering of [the] fund (eg mutual fund) means it could be offered to an unlimited number of individual investors, as opposed to ‘private placement’ to no more than 200 qualified investors,” Guan wrote in an emailed response. “On the other hand, the People’s Republic of China Securities Investment Fund Law prohibits mutual funds from making direct equity investments into private companies which are not publicly listed. Hence, the ABS structure is employed … so that a REIT (in the form of a mutual fund) could, through the ABS, indirectly own the project company (which in turn owns the underlying assets).”
Other guidelines include a minimum offering size of 200 million yuan ($28 million; €25.7 million) and the underlying assets being at least 80 percent invested in infrastructure projects that generate recurrent and stable income. The projects must also be in the following preferred locations as identified by the government: the Beijing-Tianjin-Hebei region; the Yangtze River Delta and the economic belt along the river; the Xiong’an new area (economic zone); the Hong Kong-Zhuhai-Macao area; and Hainan province.
According to Jeremy Ong, a lawyer at Baker McKenzie: “We would expect the guidance to be finalised around Q3, with the first China REIT to hopefully be announced before the end of this year subject to market conditions.”
However, there are some scheme elements that may discourage investment compared with REITs in Hong Kong and Singapore, such as the owner or sponsor of the REIT having to retain ownership of at least 20 percent of the trust for at least five years after its listing.
The 20 percent lock-up requirement is intended to protect the interests of investors by ensuring that the original owner’s interests continue to be aligned with the China REIT post listing, Ong said. However, he added: “The quantum locked-up and duration of lock-up are more onerous than other REIT jurisdictions, and even the general requirements applicable to PRC-listed companies, which may potentially discourage certain candidates from listing their assets through China REITs.”
The Chinese scheme has a stricter limit on leverage than its Singapore and Hong Kong equivalents, capping it at 20 percent of gross asset value and requiring any loan facilities to go towards maintenance and renovation of infrastructure projects only.
In addition, it remains unclear whether China-REITs will be exempt from capital gains tax, as is the case in the other two jurisdictions.
Although tax exemptions would certainly facilitate the adoption and success of China REITs, Ong argues there are other reasons for candidates to set them up. These include the ability to recycle capital while retaining control of the underlying asset, and to create an asset management platform that includes a fee income-generating stream.
“The most important factors for good and stable distributions are high-quality assets and high-quality owners and managers,” said Ong. “It is therefore important that the guidelines have provisions to facilitate this, while still protecting investor interests. It is a fine balance.”