A Practical Guide to Managing BRIC Real Estate Investment Risk

Published by: Euromoney Trading Ltd

Published: Aug. 1, 2012 - 702 Pages


Table of Contents

Contents
Introduction
The economic rise of the ‘emerging world’
Current status and projections
BRICs and FDI
BRICs and the real estate sector
Brazil
Russia
India
China
BRIC future real estate demand
Brazil
Russia
India
China
BRIC real estate sector FDI
BRIC real estate investment and risk
BRIC real estate investment risk management challenges
Risk analysis challenges
Risk management challenges
BRIC real estate investment risk management: a risk arbitrage model
Part 1 – A risk management view of the real estate investment process
1 Real estate market actors
Introduction
Idea parties
Research parties
Development parties
Financing parties
Regulatory parties
Construction parties
Insurance parties
Marketing parties
Management parties
Advisory parties
End-users
The community as a real estate party
The ground view
Summary
2 Real estate market sectors
Introduction
Residential sector
Overview
Business model
Sector risks
Office sector
Overview
Business model
Sector risks
Retail sector
Overview
Business model
Sector risks
Industrial sector
Overview
Business model
Sector risks
Hotel sector
Overview
Business model
Sector risks
The ground view
Summary
3 The real estate development process
Introduction
Pre-construction phase
Idea viability
Funding
Developer’s strategic objectives
Developer’s creditworthiness
Capital availability
Fund raising
Funding closing
Fund disbursement
Land acquisition
Land due diligence
Land valuation
Land transfer
Project design
Construction phase
Marketing phase
Marketing of project
Project operation
Project exit
The ground view
Summary
4 Real estate investment
Introduction
Public capital markets real estate exposure
Real estate investment trusts
Real estate exchange-traded funds
Real estate mutual funds
Publicly traded stock investments
Fixed-income instruments
Private capital markets real estate exposure
Private equity funds
Real estate hedge funds
Direct investment approaches
Real estate derivatives
The ground view
Summary
Part 2 – Emerging market real estate investment risks
5 Emerging market country-level real estate investment risks
Introduction
Emerging market risk versus developed market risk
Regional level risks
Economic interdependence risks
Regional financial contagion risks
Regional political risk
Regional social risk
Shared problems and common spaces
Country-level risks
Political risk
Macroeconomic risk
Financial system risk
Financial institution strength
Financial intermediation efficiency
Financial system depth
Monetary policy
Exchange rate policy
Financial system solvency
Financial system credibility
Social risk
Core demographics
Societal economic conditions
Income disparities
Freedom
Quality of life
Regulatory risk
Permissibility of foreign investment in real estate sector
Real estate laws and regulations
Laws and regulations applicable to real estate finance
Tax regulations
Accounting rules and regulations
Legal risk
The ground view
Summary
6 Emerging market real estate investment structure risk
Introduction
Basic investment structuring principles
Economic terms of investment
Tax efficiency
Legal and regulatory compliance
Risk and reward allocation
Relationship party risk reduction
Third-party risk reduction
Administrative efficiency
Cost reduction
Investment structure risks
Investment vehicle location
Investment vehicle type
Form of capital
The ground view
Summary
7 Emerging market real estate investment relationship risk
Introduction
Relationship risk in the emerging market context
Who is a relationship party?
Relationship party risk
‘Positive’ relationship party risk
Actions required by contract
Actions in furtherance of an investor’s business objective
Actions that would shield the investor from legal liability or risk
‘Negative’ relationship party risk
Pre-existing relationship party issues
Illegal activities
Ties to suspect jurisdictions
Payments and funding sources
Legal claims
Activities that can cause reputational damage
Activities that violate corporate values
Execution risk
Comprehension of investor business objectives
Expertise
Experience
Team
Internal procedures
Resources
Contacts
Time
Execution plan
Economic incentives
Economic and other disincentives
Project commitment
Rights and obligations of the parties
Transaction ‘internal regulatory framework’
Chemistry between the parties
‘Bad acts’ risk
Investor risks
The ground view
Summary
8 Emerging market real estate project investment risk
Introduction
Fundamental viability
Market theory basis
Return projection
Local political risks
National and local level political risk correlation
Local social risks
Local legal and regulatory factors
Development process
Local market factors
Demand
Supply
Competition
Development risks
Design risks
Financing risks
Construction risks
Business/strategic risks
Operational risks
Exit risks
Non-contentious exits
Asset sale
Sale of investor’s interest
Public offering
Early exits
The ground view
Summary
Part 3 – Managing emerging market real estate investment risk
9 Overview of risk management
Introduction
Fundamental risk analytics
The concept of risk
Investment outcome goal
Investment objective outcome measure
Investment objective statement
Risk identification
Risk paths
Risk timeline
Risk measurement
Frequency
Impact
Problems in risk forecasting in emerging markets
Risk management
Risk avoidance
Risk occurrence reduction
Risk impact reduction
Risk transfer
Risk transfer to a relationship party
Risk transfer to a government entity
Paying for risk to be undertaken
Risk acceptance
Fit for purpose
Value-added risk management
Risk arbitrage
Resource allocation
Direct return driver
Company asset
Basic risk management policies and procedures
Establishment of risk management function
Parameters of risk management function
Definition of relevant risks
Risk identification
Risk measurement
Risk management reporting and response
Risk management oversight of corporate departments
Risk management oversight of corporate operations
Risk management oversight of project operations
Risk management oversight of third-party relationships
Implementation of risk management strategy
Risk management auditing
Risk management education
The ground view
Summary
10 Managing emerging market real estate investment country risk
Introduction
Management of political risk
Understand the political lie of the land
Understand the political drivers
Synchronicity between investment objectives and prevailing political flow
Application
Management of macroeconomic risk
Direct measures of macroeconomic risk
Data mining
Policy and policy tools
Indirect measures of macroeconomic risk
Credit agency ratings
Bond spreads
Currency volatility
Corporate bonds
Equities
Derivatives
Political risk insurance
Limitations of inferring macroeconomic risk from market-based indicators
Application
Forecasting macroeconomic impact on project
Risk management
Management of financial system risk
Direct measures of financial system risk
Indirect measures of financial system risk
Application
Risk management
Management of social risk
Risk management
Management of regulatory risk
Management of legal risk
Application
The ground view
Summary
11 Managing emerging market real estate investment structure risk
Introduction
Fundamental structuring objectives
Economic terms of investment
Timing
Financial modelling assumptions
Business decisions
Tax efficiency
Tax benefit forecasting
Tax benefit probability
Speed of tax benefits
Legal and regulatory compliance
Risk and reward allocation
Administrative efficiency and cost reduction
Public capital markets vehicles
REITs
Real estate mutual funds
Exchange-traded funds
Equities
Bonds/debt instruments
Market risk/reinvestment risk
Interest rate risk
Inflation risk
Call risk
Private capital market investment structures
Private equity funds
Restrictions on competing activities
Investment committee oversight
Advisory committee oversight
Real estate hedge funds
Direct investment strategies
Equity
Mispricing equity cost return
Defensive actions to protect equity flows
Acts that negatively affect an investor’s interest
Conversion of equity position
Debt
Who is the borrower?
Borrower’s ability to borrow
Default risk analysis
Reduction of interest rate risk
Reduction of currency exchange rate risk
Prepayment risk
Reduction of borrower default risk
Control over borrower activities
Security enforcement
The ground view
Summary
12 Managing emerging market real estate investment relationship risk
Introduction
Know your customer analysis
KYC policies and procedures
KYC committee
KYC committee operation
Identifying the relationship party for KYC analysis purposes
Conducting initial KYC analysis
Who conducts KYC analysis?
Continuing KYC
Forward-looking KYC
Special issue of government parties
Legal liability
Due diligence
Due diligence policies and procedures
Due diligence team
Retaining outside advisers
Due diligence plan
Business due diligence
Financial due diligence
Legal due diligence
‘Bad acts’ risk
Organisational
Shareholders
Board of Directors
Power of attorney
Operational
Contractual legal means
The ground view
Summary
13 Managing emerging market real estate investment project risk
Introduction
Fundamental viability
Auditing the market theory basis
Market risks
Local political factors
Identification
Measurement
Management
Local social risks
Identification
Measurement
Management
Local legal and regulatory factors
Identification
Measurement
Management
Local market factors
Demand forecasting
Regression analysis
Supply
Competition
Development risks
Operational risks
Business/strategic risks
Exit risks
The ground view
Summary
Part 4 – Managing real estate investment risk in Brazil
14 Brazil real estate market overview
Introduction
Economic overview
Implementation of the Real Plan
The Lula administration
The Rousseff administration
Real estate overview
Residential sector
Limitations and reforms
Current status
Growth potential
Challenges
Office sector
Growth
Current status
Potential growth
Challenges
Retail sector
Growth
Current status
Opportunities
Challenges
Hotel sector
Growth
Current status
Opportunities
Challenges
The ground view
Summary
15 Managing Brazil real estate investment country risk
Introduction
General risks
Macroeconomic risks
Economic integration
Growth volatility
Inflation
Risk management
Currency issues
Risk management
Political risks
Corruption
Bureaucracy
Risk management
Social risks
Poverty
Housing shortages
Risk management
Infrastructure deficits
Risk management
Labour disputes
Risk management
Crime
Risk management
Financial system risk
Risk management
Regulatory risks
Taxation
Risk management
Legal risks
Brazilian legal system
Legal right enforcement
Cost
Risk management
The ground view
Summary
16 Managing Brazil real estate investment structure risk
Introduction
General structuring matters
Public capital market investment structures
FII
Risks
Risk management
Exchange-traded funds
Risks
Risk management
Equity
Risks
Risk management
FIDC
Overview
Risks
Risk management
CRI
Risks
Risk management
Private capital market investment structures
Private equity fund
Risks
Risk management
Direct forms of investment
Equity
Introduction
Risks
Risk management
Direct acquisition
Risk management
The ground view
Summary
17 Managing Brazil real estate investment relationship risk
Introduction
Anti-money laundering in Brazil
Conducting KYC in Brazil
General risk assessment
Counterparty
Other important parties
Business model risk
Regional risk
Privacy concerns
Conducting due diligence in Brazil
Key considerations
Completion risk
Bad acts risk
Corporate governance in Brazil
Organisational protections
Board of Directors in Brazil
Fiscal council
Corporation
Limited liability companies
Operational protections
Legal protections
Bribery
Background
Applicable laws
Bribery issues related to the construction industry
Anti-bribery plan
The ground view 5
Summary
18 Managing Brazil real estate investment project risk
Introduction
Project analysis risk
Legacy issues
Risk management
Forecasting issues
Risk management
Local political risk
Risk management
Local social risk
Risk management
Market risk
Demand
Risk management
Supply
Risk management
Competition
Development risk
Land valuation
Land acquisition
Infrastructure
Takings
Development and construction approvals
Licences and permits
Construction risk
General costs
Labour issues
Construction quality issues
Leasing of real estate in Brazil
Renewal of lease agreements
Rent revision lawsuit
Eviction lawsuit
Investment exit
The ground view
Summary
Part 5 – Managing real estate investment risk in Russia
19 Russia real estate market overview
Introduction
Economic overview
1998 financial crisis
Economic development under Putin
Economic development under Medvedev
Real estate overview
Adoption of Land Code of 2001
2002–2007
Russian financial crisis of 2008 and 2009
Post-Russian financial crisis
Event-driven demand
2014 Winter Olympic Games
2018 World Cup
Moscow city expansion
Moscow industrial zone sale
Residential sector
Introduction
Current status
Opportunities
Challenges
Office sector
Introduction
Current status
Opportunities
Challenges
Retail sector
Introduction
Current status
Opportunities
Challenges
Hotel sector
Introduction
Current status
Opportunities
Challenges
The ground view
Summary
20 Managing Russia real estate investment country risk
Introduction
General risks
Macroeconomic risk
Energy export dependency
Regional dependency
Volatility
Currency fluctuations
Currency outflows
Political risk
Political instability
Political intervention/wrongful exercise of political influence
Bureaucracy
Corruption
Approvals and bidding
Initial permits
Utilities
Procurement
Ongoing inspections
Anti-corruption efforts
Social risks
Regional differences
Infrastructure
Financial system risk
Size
Concentration risk
Deposit amounts
Banking deposit volatility
Loan-loss provision weaknesses
Non-performing loans
Regulatory risk
Accounting system
Tax system
Uncertainty
Loss of deductions
Flexibility of penalties
Single real estate tax
Change in real estate framework
Legal system risk
Novelty of legal system
Civil law system
Fairness of court system
Real estate finance
The ground view
Summary
21 Managing Russia real estate investment structure risk
Introduction
Managing risks through structuring
Offshore vehicles
Cyprus
Other offshore jurisdictions
Public capital market investment options
Securities listed on foreign stock exchanges
Risks
Risk management
Mutual funds
Open-ended mutual fund
Closed-ended real estate fund
Real estate ETF
Equity
Private capital market fund structures
Private equity funds
Direct investment structures
Equity structure issues
Debt structure issues
Corporate structure
Nature of security package
Accounts
Guarantees
Pledge of employer’s rights
Perfection of security
Enforcement
The ground view
Summary
22 Managing Russia real estate investment relationship risk
Introduction
Anti-money laundering in Russia
KYC in Russia
Due diligence
Due diligence team
Due diligence process
Corporate structure
Real estate
Approvals
Risk management procedures and corporate governance arrangements
Bad acts
Alignment of interests
Investment cover
Organisational controls
Operational controls
Legal controls
Dispute resolution
The ground view
Summary
23 Managing Russia real estate investment project risk
Introduction
General analysis risk
Local political risk
Pre-investment risk management
Post-investment political risk management
Local social risks
Infrastructure
Local regulatory risk
Local market risk
Supply
Competition
Development risk
Local development policy
Land valuation
Land acquisition
Land categories and zoning issues
Construction permit
Construction risk
Construction terms
Construction model
Transaction documentation
Managing relationships with subcontractors
Pre-delivery construction facility damage
Completion protection
Construction materials
Construction costs
Insurance
Labour law issues
Safety issues
Weather
Operating permit
Registration of title to completed building
Operational risk
Pricing
Currency risk
Intellectual property
Exit risk
Non-contentious investment exit
Equity
Debt
Contentious investment exit
Equity
Debt
Refusal to enforce and deferral of enforcement
Bankruptcy defence
The ground view
Summary
Part 6 – Managing real estate investment risk in India
24 India real estate market overview
Introduction
Economic overview
Growth in foreign investment
Real estate overview
Government initiatives
Key trends
Residential sector
Overview
Current status
Opportunities
Challenges
Funding shortages and political obstacles
Infrastructure deficits
Legal uncertainties
Office sector
Overview
Current status
Opportunities
Challenges
Retail sector
Overview
Current status
Opportunities
Challenges
Hotel sector
Overview
Current status
Opportunities
Challenges
Townships
Overview
Current status
Opportunities
Challenges
The ground view
Summary
25 Managing India real estate investment country risk
Introduction
Macroeconomic risk
Economic volatility
Inflation
Interest rates
Fiscal deficit
Currency fluctuation
Energy availability and costs
Weather
Political risks
Political instability
International conflicts
Northern states
Maoist insurgency
Fragility of national coalition
Legislative Assembly elections
Bureaucracy
Corruption
Adarsh Housing Society scam
Pune land scam
Himachal Pradesh Housing and Urban Development Authority scam
Noida land scam
Andhra Pradesh land scam
Kerala land scam
Real estate finance
Government ties with criminal groups
Stamp duty tax evasion
Social risks
Urbanisation
Infrastructure
Housing
Power
Roads
Ports
Airports
Social inequality
Illegal land takings
Terrorism
Financial system risk
Non-performing loans
Regulatory risk
Accounting matters
Taxation matters
Burden of tax system
Change of tax laws
Vodafone decision
Stamp duty
Budget 2012 GAAR
Legal risk
New company law
Land Acquisition (Resettlement and Rehabilitation) Bill
Judicial system backlog
Judicial corruption
Real estate legal risk
Land title
Property registration
Development obligation
Landlord tenant laws
The ground view
Summary
26 Managing India real estate investment structure risk
Introduction
Investment in India
Foreign direct investment
Foreign portfolio investment
Foreign venture capital investment
Qualified foreign investor
Real estate investment in India
Single brand retail
Multi-brand retail
General structuring issues
Tax residency
Public capital market structures
Mutual funds
Indian real estate mutual fund
Equity
Bonds
Private capital market structures
Real estate private equity funds
Overview
Risks
Direct investment structures
Equity structures
Offshore structure
Unified structure
Debt structures
Compulsorily convertible debentures
The ground view
Summary
27 Managing India real estate investment relationship risk
Introduction
KYC issues
Relationships
Government relationships
Client relationships
Activities
Black market
Hawala transfers
Benami transactions
Participatory notes
Connection with criminal organisations
Gaming sector
Risk management
Conducting due diligence
Absence of general risk management framework
Alignment
Company assets
Land issues
Building issues
Taxation issues
Hidden liabilities
Differences in laws
Management of risk
Negative counterparty risk
Legal oversight
Board of Directors
Shareholder rights
Debt arrangements
Operational oversight
Robust policies and procedures
Committees
Third-party support
Control over accounts
Anti-bribery
Risk management
Setting the right tone at the top
Creation of senior compliance role
Policies and procedures
Ongoing oversight
Management of regulatory relationships
Management of relationship with the media
The ground view
Summary
28 Managing India real estate investment project risk
Introduction
Investment analysis
Market theory accuracy
Financial model inputs
Local political risk
Local social risk
Local market risk
Local regulatory risk
Development risk
Development policy
Land acquisition process
Political issues
Land conversion process
Construction risk
FSI manipulation
Construction costs
Construction safety
Building safety
Child labour
Infrastructure connections (water, electricity)
Operational risk
Labour issues and employee relations
Marketing and sale process
Rental issues
Health, safety and environmental risk
Exit risk
Real estate disputes
The ground view
Summary
Appendix 1 – Draft Real Estate (Regulation and Development) Bill
Appendix 2 – Model Residential Tenancy Act, 2011
Part 7 – Managing real estate investment risk in China
29 China real estate market overview
Introduction
Economic overview
Real estate overview
Transformation of China’s cities
Shanghai
Beijing
Chengdu
Shenzhen
Real estate investment
Real estate risks
Residential sector
Overview
Opportunities
Challenges
Office sector
Overview
Opportunities
Retail sector
Overview
Current status
Opportunities
Challenges
Industrial sector
Opportunities
Challenges
Hotel sector
Overview
Challenges
The ground view
Summary
30 Managing China real estate investment country risk
Introduction
General risk
Macroeconomic risk
International economic environment
Economic volatility
Inflation
China currency issues
Currency restrictions
Currency volatility
Excessive debt-financed spending
Political risk
Stability
Intergovernmental issues
Bureaucracy
Corruption
Social risk
Urbanisation
Income disparity
Labour issues
Real estate issues
Real estate price decreases
General regulatory risk
Foreign investment
Accounting risk
Tax risk
Financial system risk
Social policy-driven lending
Municipal finance
Informal finance
Real estate lending
Real estate finance issues
Developer funding constraints
Mortgage market
Legal risk
Legal system
Proliferation of laws
Severity of criminal laws
Judiciary
Real estate regulatory risk
Foreign investment catalogue
Circulars
Other regulatory measures
Real estate accounting issues
Real estate taxation issues
Property tax
Anti-avoidance issues
The ground view
Summary
31 Managing China real estate investment structure risk
Introduction
General structuring matters
Permanent establishment issues
Offshore vehicles
Hong Kong
Barbados
Public capital market vehicles
Hong Kong route
Hong Kong REITs
Equities
Bonds
Foreign currency denominated bonds
Synthetic yuan bonds
Hong Kong company bonds
China route
China REITs
China mutual fund
Qualified financial institutional investor
Private capital market vehicles
Offshore private equity funds
Onshore funds
Foreign invested venture capital investment enterprise
China trust companies
Direct vehicles
Equity joint venture
Cooperative joint ventures
Wholly foreign-owned enterprises
Partnerships
Real estate mergers and acquisitions
Debt and equity issues
Equity
Debt
The ground view
Summary
32 Managing China real estate investment relationship risk
Introduction
AML in China
China
Hong Kong
KYC risks
Information deficiencies
Difficulties in tracking sources of funds
Unregulated banking markets
Relationships with government officials
Guanxi
Zhongjian ren
Regional differences
Managing KYC risk
Counterparty due diligence
Accounting and tax issues
Bad acts risk
Risk management history issues
Values agreement
Counterparty risk management framework
Fundamental investor rights
Board of Directors and shareholder veto powers
Committees
Internal operational matters
Labour law issues
Accounting practices
Key business decisions
Relationships with external parties
The ground view
Summary
33 Managing China real estate project risk
Introduction
Investment analysis
Investment analysis risk management
Due diligence
Local political risk
Government level policy differences
Local level political volatility
Local market risk
Local legal risk
Legal risk management
Local social risk
Risk management
Development risk
Obtaining land
State-owned enterprises
Valuation issues
Zoning issues
Construction risk
Construction model
Construction timing
Construction quality
Construction quality and bribery
Risk management
Marketing risk
Operational risk
Operational policies
Data protection
Exit risk
Non-contentious situations
Offshore interest sale
Repatriation of cash through dividends
Repatriation of cash through loan amortisation
Contentious situations
Equity arrangements
Debt arrangements
Bankruptcy proceedings
The ground view
Summary
34 Conclusions

Abstract

The explosive growth of the BRIC countries has created massive real estate markets. These markets contain tremendous investment opportunities – and risks. This new book is the first and most comprehensive, practical guide to managing key real estate investment risks in Brazil, Russia, India and China. Through a step-by-step analysis of key risks in each of the BRIC markets and how those risks can be managed, the book will help those new to emerging markets as well as experts spot potential pitfalls in advance, create and implement a robust risk management strategy and improve risk-adjusted returns.

Readers will gain the ability to apply a powerful risk management approach in the real estate context. The book provides comprehensive overviews of:

(i) real estate actors, markets and investments from a risk management perspective;
(ii) real estate investment risks at the country, investment structure, relationship and project levels; and
(iii) real estate investment management perspectives and techniques.

Readers will also gain deep insights into many important current trends that affect BRIC real estate investments. The book provides an overview of key current issues affecting the residential, office, retail and hotel sectors in each of the BRIC countries. These issues include economic, political and social issues, regulatory reforms and legal developments.

From reading this book you will gain a clear understanding of many BRIC real estate investment risks. The book sets forth hundreds of risks or risk-related issues in each of the BRIC countries at the country, investment structure, relationship and project levels. At the end of reading this book, the reader will gain the ability to manage risks at the country, investment structure, relationship and project levels.

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