Laying the Foundation: In Fast-Paced BRIC Countries, Patience and Nimbleness Translate to Success
By Paul Rosta
For some years now, Brazil, Russia, India and China have offered happy hunting grounds to U.S.-based real estate companies. Despite their ups and downs, the four countries that have come to be collectively known as the “BRIC nations” have shown steadily improving transparency and sophistication in their investment, development and service markets. Experienced U.S. players continue to have an edge in these countries, but hurdles, as well as vast possibilities, await veterans and new entrants alike.
Familiar challenges like navigating bureaucracies, teaming up with the right local partner and building a home-grown team are constantly taking new twists. “You can’t go into any of the BRIC markets without your eyes wide open and being educated about how to get your money out,” contended Steve Collins, managing director with Jones Lang LaSalle Inc.’s international capital group. In this report, CPE explores the trends, challenges and strategies for success that mark four of the world’s most exciting markets.
China: Taking the Long View
The slowing of the economy in the world’s largest nation is a frequent topic of discussion these days. The International Monetary Fund estimates that China’s real gross domestic product will grow about 9 percent this year, down from 10.3 percent just two years ago. The slowdown stems in part from measures imposed by Beijing to tighten credit in the face of a 5 percent inflation rate and an overheated residential market. In major cities like Tianjin, Shenyang and Chongqing, the addition of new offi ce and retail product in 2013 and 2014 will cause a medium-term spike in vacancy, explained Chris Brooke, CBRE Group Inc.’s president & CEO for China.
Some observers feel, however, that reports of China’s problems are greatly exaggerated. In a recent study on the world’s major urban centers, Jones Lang LaSalle cites estimates that the 10 fastest-growing cities are all in China.
According to the most recent PricewaterhouseCoopers-Urban Land Institute Emerging Trends report, restrictions on residential investment are encouraging developers to turn toward commercial projects. Chinese insurance companies are eyeing stepped-up investment in domestic assets, and an increasing number of Chinese companies want to build or buy trophy properties that match the quality of those developed for foreign corporations.
Added together, these trends translate into an increased opportunity “for U.S. developers to undertake high-quality mixed-use projects that can incorporate the latest global trends associated with building design, occupier requirements and sustainability,” Brooke said. A prime example emerged in January, when Nike Inc. commissioned Tishman Speyer to build a 600,000-square-foot campus in Shanghai. The project is part of The Springs, a $2.5 billion mixed-use project the developer is constructing in Shanghai’s Yangpu District. At full buildout, the 9.7 million-square-foot project will include residential, retail, office and hotel components.
Ample demand for consulting, leasing and property management awaits service providers, as well. The most successful growth strategy for those specialties will extend beyond China’s big four—Beijing, Shanghai, Guangzhou and Shenzen—and instead target provincial markets, Brooke predicted. Finding and keeping talent will be an issue for some time. “Given the relative immaturity of the market, it is very difficult to identify individuals who have the necessary levels of experience to operate and manage high-quality mixed-use developments,” Brooke said.
The greatest challenge for China, though, may well be the “distractibility” factor. “Given the volatility of the market in China, and the fact that a market of such significant scale and diversity is undergoing a complete transformation, it is easy to be diverted from a long-term plan by short-term market fluctuations and trends,” Brooke contended. The solution: Stick with the program for the long haul. “A well-formulated and carefully executed strategy can overcome many of the risks associated with doing business in China, particularly in relation to the recruitment, retention and development of human capital.”
India: Pausing to Re-assess
As economic growth levels off in the world’s second-most-populous nation, some of the luster has inevitably come off India’s real estate market. “There is no question there’s been a slowdown,” said Shekar Narasimhan, managing partner of McLean, Va.-based Beekman Advisors and CEO of Beekman Helix India Partners, a merchant bank specializing in development capital. The International Monetary Fund estimates that India’s gross domestic product will grow 7.53 percent this year, down from 10.1 percent in 2010. By 2015, GDP growth will rebound only to 8.1 percent, the IMF predicts.
India is the only one of the four BRIC nations showing a decline in demand for office space and investment properties, according to a study published in February by the Royal Institution of Chartered Surveyors. Strict regulations limit the exposure of India’s banks to real estate. As a result, real estate accounts for about 5 percent of capital exposure among Indian banks, compared to about 40 percent in the United States. It has become a commonplace understanding that it is easier to put money into India than it is to take it out. Many investors from the United States and other countries are lowering expectations or exiting altogether, at least for the time being. “You see a lot of funds put money into joint ventures there and slowly extract it,” Collins reported. Much of these ups and downs can be traced to growing pains. Rules permitting direct real estate investment from foreign players date only to 2005. Only a few years later, the global fi nancial crisis disrupted that fledgling market. For most investors, results have been only so-so. “It has not been an easy experience for many,” Narasimhan explained.
That said, India’s rapid growth and sheer size offer ample promise. Much attention has focused on the seven or so biggest cities— Mumbai, Delhi, Bengaluru, Kolkata, Chennai, Hyderabad and Ahmedabad—which range in population from about 4 million to 14 million. Yet Narasimhan pointed out that smaller, fast-growing cities like Pune, Jaipur and Indore offer a huge supply-demand imbalance that make them attractive. No matter the location, success in India requires local or returning expatriate talent, and a minimum 10-year commitment, he contends.
Some experienced, well-capitalized U.S. players are following those principles and making bold investments. Hines, for instance, recently launched its first development in India: One Horizon Center, a 25-story office tower in the Delhi suburb of Gurgaon. The centerpiece of a planned 2.4 million-square-foot office, retail and residential development, One Horizon will offer 800,000 square feet of office space plus 65,000 square feet of retail when it is complete in 2013. In a telling move, Hines’ local partner for the project is DLF Ltd., India’s largest investment and development firm.
Brazil: Appetite for Growth
For most U.S. players, opportunities in Brazil continue to focus mostly on the sprawling Sao Paolo and Rio de Janeiro metropolitan areas. Both ranked among the world’s top 30 cities for direct commercial real estate investment in 2010 and 2011, according to Jones Lang LaSalle Inc. Rio de Janeiro attracted $5 billion to take 24th place, on par with San Diego; at $4 billion, Sao Paolo ranked 29th, roughly equivalent to Miami. And with industrial rents averaging $13.98 per square foot, the city ranked behind only Tokyo, London and Singapore, according to CBRE.
Brazil’s appetite for new product and potential rewards continue to draw U.S. institutional investors. Four years after the capital markets crisis stalled Clarion Partners’ planned debut in Brazil, it unveiled plans in January for a $100 million distribution facility northwest of Sao Paolo in joint venture with DHL Supply Chain. The developers of the 140,000-square-meter facility will attempt to capitalize on the supply/ demand imbalance that characterizes Brazil’s industrial and office markets alike. Only about a quarter of Sao Paulo’s current industrial stock is considered investment grade. The project will be completed in three phases starting this summer, with the third phase scheduled to come on line in 2014.
In recent years, research provided by major U.S.-based service firms has done much to advance transparency in Brazil, making it easier to assess market conditions accurately. Yet conducting business also requires contending with the local business culture, and with myriad regulations related to taxes and construction. Belford compares the entitlement process to its counterpart in the United States—“just at a high level (of intensity) … and that does not seem to be changing.” Stemming from government caution, the entitlement process creates an abundance of hurdles for developers. As a result, even sophisticated institutional players find it necessary to team up with an old hand. “You’ve got to really be careful,” warned Jeb Belford, the Clarion managing partner overseeing the project. “We want to make sure that our partners on the ground are very capable.” With a decade of experience in the country, DHL fits the bill, and Clarion’s familiarity with DHL’s North American affiliate, Exel, adds confidence on both sides.
Those willing to pursue opportunities for development, investment and service in Brazil should be prepared to participate in a talent war. Clarion is focusing on identifying, courting and then retaining top-notch professionals. Skilled professionals who are well versed in the nuances of tax law and accounting are at a premium. Belford emphasized the necessity of developing home-grown talent that is familiar with the Brazilian language and culture.
Russia: Moscow’s Rising Star
In practice, commercial real estate opportunities in Russia still translate primarily to Moscow, followed by St. Petersburg. Though limited in geographic size, those domains offer no small potential. Last year, Moscow tallied about $6.3 billion in direct commercial real estate investment, a total comparable in scale to investment volume in Stockholm and Boston. The total represents a 15 percent decline from 2010 and a 48 percent decrease from 2008, Real Capital Analytics Inc. reported.
And Moscow’s standing is rising quickly among investors. The city moved up in respondents’ rankings in the PWC-Urban Land Institute’s most recent Emerging Trends forecast. The annual multinational survey of real estate investors awarded the city second place among European markets for both development and new investment potential, and ninth place for attractiveness of its existing investments. Most analysts expect strong economic growth this year as the national economy expands by a projected 5 percent, according to PwC and ULI.
Institutional U.S. players are making big bets on the market’s future. Retail is a particular hot spot. An affiliate of Morgan Stanley recently acquired St. Petersburg’s biggest shopping center, the 1 million-square-foot Galeria, the Bloomberg news service reported. The property opened in November 2010 at a cost of $380 million and includes 250 stores. Morgan Stanley bought the Galeria from a consortium of Kazakh investors in the fi rst major allocation from a $4 billion fund.
On the development side, one trend to watch is a government initiative to rationalize growth, manage Moscow’s perpetual traffic jams and increase density. Authorities are proposing the Moscow Ring Program, which would establish about 60 self-contained, master-planned communities around the city’s inner ring. That would restrict development beyond the ring.