China Property:Key takeaways from meetings with property industry experts

Most China developers saw improving gross margins and earnings growth in 1H17.

    Boosted by strong contract sales in 2016 and 1H17, developers have good earningsgrowth visibility for 2H17 and 2018.

    A new revenue recognition principle called HKFRS 15 will become effective in 2018,allowing companies to book revenue over a period of time if customers have made fullpayment, rather than booking revenue after product delivery. For China developers,there is usually a time gap of 2-3 years between receiving pre-payment fromcustomers and the delivery of properties. Developers normally have to categorizecustomer pre-payments as current liabilities for several years before completion ofpre-sold properties. The new accounting rule allows developers to recognize revenuefor fully-paid property sales in proportion with the progress of construction over time.

    Developers with strong contract sales and relatively long development cycles willbenefit most from this new accounting rule.

    Most regional China developers have two strategic focuses for 2018-20: 1) toincrease annual contract sales revenue to Rmb100bn; 2) to acquire many new landbanks in first and second-tier cities. The experts we spoke with believe two kinds ofdevelopers should outperform in the long run: leading companies that can continue toexpand market share over the next five years, and state-owned developers that canacquire cheap new land banks with local government support.

    Property sales may have reached a cyclical peak in China’s third and fourth-tier citiesin 1H17. With tightening money supply and real estate loans, the property market islikely to enter a new down-cycle before end-2017. Primary property monthly salesdata from China NBS will be the leading indicator of this new cycle.

    In terms of the ongoing Guangdong-Hong Kong-Macau Bay Area plan, experts thinkthis area will be positioned as a leading innovative international city cluster. There willbe increased capital inflow to the proposed cluster for new investment opportunities,which will boost local land prices over the next five years. Local developers withpremium land banks in the area should benefit from ongoing land price appreciation.

    China’s property management market is highly segmented. Leading propertymanagement firms may continue to expand market share over the next ten years.

    Local governments are encouraging developers to increase supply of rental housingin overheated first and second-tier cities. However, given current investment return of1-2% in the rental housing segment, most experts do not see much incentive fordevelopers to become involved in this new business. They do not expect the segmentto become a profit driver for developers in the next five years, and believegovernments will need to lower relevant land prices to guarantee a normal investmentreturn rate of 6-8% in the rental housing market.