Strategy of LandLease - Assignment Example

1 LandLease (Asia) Case Analysis Question Summarize the case facts. Ans LandLease (Asia) (LL hereafter) is a real e investor which is basedin Australia. It started operations about forty years ago by acquiring commercial and residential real estate and either operated these properties or hired professionals. As a real estate investor, LL necessarily had the expertise as well the considerable capital to maintain its operations. Louisa Martin, who is the chairwoman of LL traveled with Marco Li, its senior adviser, to Asia in March 2003 for two purposes: one, to scout for various direct and indirect investments available in Asia, and; to put together a strategy paper on LL’s plan to diversify. The first of their stops was Hong Kong (HK hereafter). The group identified two options available to them for investment in HK: one, by direct investment where they directly acquire real properties or by direct development, and; second, by indirect investment, where they purchase shares in listed companies. The option of Real Estate Investment Trusts (REITs) were not yet clear to them at the time of the trip although it was being introduced in Hong Kong via a seminar entitled “The Introduction of Real Estate Investment Trusts” where Martin and Li were invited to grace. However, it turned out that the government is seriously thinking of introducing REITs to the Hong Kong financial markets which would make it an added option in the indirect investment scheme open to LL. Where direct investment is concerned, Li identified the following sectors as potential investment areas: “residential (domestic); offices; retail; industrial and warehousing, and; hotels. On the other hand, with respect to indirect investments, Marco considered the following options: investment in shares of listed companies, and; investment in REITs. Question 1 What are the major decisions to be made? Ans.: The major decisions to be made by LL is precisely what form of investment will it take in HK. There are two major choices: direct investment, or; indirect investment. A third option for LL is to consider a mixture of these options for investment in HK. Direct investment means LL will purchase the title of the properties in its name and either operate and manage the properties themselves or hire a professional management team and staff that will run the day-to-day affairs of the investment properties. Either way, the group, which is based in Australia, will have to make the major decisions. As a potential direct investor LL plans to concentrate on “Grade A in all land uses and only luxury residential properties. Direct investment can likewise take the form of direct development for the creation of new assets for the group which means having lands to develop in the first place. If LL opts for indirect investment, there are likewise two choices within this particular category. First, the group can consider buying into shares of companies in HK listed in the Hong Kong Stock Exchange. In the HK market there are three leading developer companies listed in the local stock exchange: the Sun Hung Kai Properties, Cheung Hong (Holdings) and Henderson Land Development. Another option for LL in the indirect investment category is the REITs which is at that time still in the introductory stage in HK. Question 3 What are the merits and demerits of direct and indirect real estate investments? Ans.: Direct Investments. Generally, property investment in HK, according to Marco, is very attractive considering that portfolio returns in these areas are high. Exhibits 1A and 1B for example, show that from 1992 to January 3, 2003 the private property market yields for HK property investments are on the upswing except for a slump back in 1997 during the Asian crisis. The market however recovered and rates were even higher than before the said event. In 1992, the return for Domestic Grade A was 5.6% and in 2003 it was 6.6%. For Office Grade A, the return in 1992 was 6.1% and in 2003 it was 7.5%. In the retail, the rate in 1992 was 6.5% and in 2003 it was 8%. These are the three areas which Marco had identified as possible direct investment areas in HK since LL preferred to invest in the Grade A sectors. In addition the inflation rate is very low at 1.5% and had a downward trend since 1992 at 8.40%. Likewise the interest rates in 2003 are very low and on the downtrend since 1992. Also, comparatively speaking, HK a lower political and currency risks than most countries in Asia. As previously stated there are two kinds of direct investment options for LL in HK. The first of these is “investing in the real estate sector by acquiring ownership rights in property assets.” The obvious advantage of this type of investment is that the group has complete control of the investment and is answerable to no one but to itself. It can implement its own investment strategy without interference. And because of its unilateral control and ownership, all net profits go straight to its own pocket. There are however also disadvantages and risks in investing directly in HK properties. The first is that LL, being a foreign company lacks the necessary familiarity and experience in dealing with the local markets which implies that if it is to acquire properties in HK, it will have to resort to hiring a local management group. This will mean added work for LL considering that it will now have to deal with the supervision of the management group. Direct investments also mean a considerable amount of capital that will need to be invested. Another consideration that LL will have to consider is the fact that HK real estate transactions are on the downtrend since the Asian financial crisis in 1997. Exhibits 3A and 3B show that the vacancy for private domestic is on the rise from about 35, 980 units in 1997 to 60, 140 units in 2003, a difference of 24, 160 units. Anent private office, there were about 905 vacant units in 1997 and 1, 012 units in 2003 which is just a difference of 107 units. Because of these statistics the senior advisor Marco Li was of the opinion that venturing into direct investment in real estate in HK is quite risky. Indirect Investments. In indirect investment, there are two areas of potential investments as previously stated: investment in shares of listed companies, and; investment in REITs. The obvious advantage of investing in listed companies is that the data on these companies are public and as such, it is easy to know which companies are good investments and which are not. The inherent transparency of these listed companies makes it possible for a potential investor to make a thorough study of the company by tracing its history, the investment choices it made in the past, the risks it took, the possible direction it would take in the future and the people behind it. In the Hong Kong Stock Market, for example, the three development leaders in real estate investments are Sun Hung Kai Properties, Cheung Kong Holdings, and Henderson Land Development. The statistics available showed that the three development giants increased their shares of new residential units from 30% to 50% in ten years when others around them were consolidating as profitability slowed down. On the other hand, the leading investment companies in HK are the following: Hysan Development Company Ltd., Hong Kong Land Holding Ltd., Wharf (Holding), Ltd., Great Eagle (Holdings) Ltd., Swire Pacific Ltd., and Hang Lung Properties Ltd. These companies are largely involved in the lease of properties in the central commercial districts and their incomes therefore are typically recurrent. These companies also acquire properties for inclusion in their portfolios although this activity is rather limited. The recurrent income and limited development mean that these companies proportionally carry more debt. In conclusion, investments under this type are risky because it means that LL will be a minority shareholder and therefore company control will not be within its grasp. Moreover, many of the HK investment and developing companies have diversified into areas that have nothing to do with properties which implies that as a shareholder, the capital invested and the shares of LL will be exposed to non-property risks. Another option for the group in the indirect investment area is investing in the REITs. The advantages of investing in this type of business are: “a clear investment strategy that focused on owning and managing properties; a legal obligation to distribute most of its taxable income to shareholders in the form of dividends in order to enjoy some form of tax exemption; not subject to corporate tax as long as it complied with minimum payout requirement; not subject to regulatory oversight and required to ensure transparency of operations by distributing reports to investors; required to comply with certain investment restrictions, such as borrowing limits and prohibitions from property development activities or the use of certain financial instruments, and; could be privately held or listed.” In addition, investment in REITs is easy and provides liquidity in real estate as most of its net profits are given to its shareholders as dividends; it does not require the kind of financial commitment as in direct investment; the shares are easily tradable whether publicly or privately and hence transfer of ownership is not difficult; and because of this tradability and facility of ownership transfer REITs are flexible; the pooling of resources of a number of investors, gives the pooled resources the capacity of a big, commercial real estate investment. The downside to investing in REITs are: as it is more often traded publicly, share values are susceptible and open to market fluctuations, therefore external factors can subject REITs investment to volatility like real estate market values, levels of interest rates. Question 4 What are the potential benefits for LL of allocating part of its assets to indirect real estate vehicles such as REITs? Ans.: Since HK has low interest rates and a downtrend is shown in statistics data, investment in REITs would mean an increasing share value. This is particularly true if LL will decide to invest in REITs. As a matter of fact, LL will solve many of its problems in re investing in HK. Aside from a certain stable or increasing REITs share value because of interest rates in HK, there is no need for a deeper financial commitment of LL, which is based in Australia and new and relatively inexperienced in the HK market, because it will be just a mere shareholder; there is no need to invest in very substantial capital as it would in direct investment; it will be easier for the group to dispose of its share in the event it needs to get out of the HK market; no need to worry about the cyclical nature real estate investment; and most of all REITs seems to be the most stable and safe of all investment options open to LL in HK. Answer the following questions based on the case attached. There is no need for references. Provide a rationale for some questions that need calculations. 1. Summarize the case facts. 2. What are the major decisions to be made? 3.What are the merits and demerits of direct and indirect real estate investments? 4.What are the potential benefits for LL of allocating part of its assets to indirect real estate vehicles such as REIT? Read More