Understanding ASPAC REITS
1 August, 2014
A new white paper report commissioned by the Asia Pacific Real Estate Association examines the differences and investor appeal of the region’s REIT markets.
The appeal of Real Estate Investment Trusts (REITs) as an investment vehicle in the Asia Pacific region has grown significantly since the launch of the first J-REIT in 2001. Today, market capitalisation of Asia Pacific (ASPAC) REITs, including Australia, stands at around US$170 billion.
For prospective investors, however, the marked differences between various countries in terms of regulation, management and taxation can make the investment decision an unduly complicated process.
A new research report commissioned by the Asia Pacific Real Estate Association (APREA) and sponsored by Perpetual Corporate Trust is addressing these issues head on.
The June 2014 study, entitled ‘Asia Pacific REITs: a comparative regulatory & tax study’ looked at markets across the region from Australia to Thailand, drawing on the experience and expertise of 195 senior institutional investors and fund managers who invest in real estate and REITs.
The report covers the gamut of REIT hot topics from structure and capital management to investor reporting and regulatory and taxation issues, and is underpinned by an extensive survey of investors’ evaluation of how well these issues are addressed in various jurisdictions.
“This is a very important study, clearly explaining the differences in the ways in which the different REIT markets in Asia Pacific are regulated and taxed, and why some find more favour with investors than others,” said Peter Mitchell, Chief Executive Officer of APREA.
The report found that Australia rates the highest for regulatory certainty in the Asia Pacific region, but noted that while other markets may not offer the same favourable risk profile, the region remains an attractive prospect.
PUBLIC VS. PRIVATE LISTING
For a number of ASPAC REIT models developed since 2000, being a publicly listed vehicle is a requirement of REIT status.
In markets where the same ownership structure and tax treatment is available in both the public and private markets, the report noted that the overall benefit of REITs may be drastically underestimated by focusing purely on listed REITs.
Where this is a specific market requirement, APREA also flagged investor protection – a major consideration when it comes to the issue of the liquidity provided by listed vehicles into a traditionally illiquid asset. But, on the flip side, the volatility of public markets, it says, has also been detrimental to investors in terms of implied value at times when underlying property fundamentals were relatively stable.
The potential limitation on asset classes attractive to listed REITs where, in general, investors require a much higher hurdle in terms of the institutional quality of their underlying portfolio and a greater near term need for income yield, is another issue. According to the report, this could misdirect capital away from less stabilised and urban periphery properties, which are vital for the urban development of less mature economies.
INTERNAL VS. EXTERNAL MANAGEMENT
The external management model marks ASPAC REITS out from other global markets where this has been phased out over the last few decades in favour of internally managed vehicles for greater transparency.
Australia, which has the most established REIT model in the region, has followed the move to internal management in the past 20 years, although the APREA report highlights the fact that the private arena in the country remains dominated by external fund managers.
Elsewhere in the region, in Hong Kong, Japan and Singapore, the historic preference for external management remains, despite ongoing debate as to the merit of both options.
According to the report commentary, large fund management platforms can create economies of scale that enable continued enhancement of back office functions, which are often lacking in some internally managed REITs, and internally managed vehicles in hub economies like Hong Kong and Singapore may find it difficult to resource sufficient local expertise in a geographically diverse portfolio.
In addition, the development-driven nature of the Asian REIT market means that sponsor – especially developer – support is extremely important.
Across the region, there is some variation in the restrictions on asset classes that REITs can invest in, with the limitation of REITs undertaking property development the overarching issue.
The premise of passive as opposed to active investment income impacts the overall risk profile for REITs, and while a lower risk profile is generally considered a positive, in less mature ASPAC markets where capital is required to fund a substantial urbanisation shift, the report queries whether a more relaxed approach to REIT operations could yield positive outcomes.
Offshore property ownership is permissible across the entire ASPAC region and is particularly relevant to hub locations such as Hong Kong and Singapore but the report questions the suitability of offshore investment in the current market environment, citing examples of ‘substantial value destruction’ following a period of substantial offshore real estate investment 10 to 15 years ago.
While a domestic REIT regime is a clear primary objective, those markets that offer greater investment flexibility can capitalise on the opportunities that differing global real estate cycles provide, and survey respondents indicated an appetite for more development activity.
ASPAC economies rely on attracting foreign capital to support urban development but the issue of how much foreign investment is a regulatory talking point.
The REIT model, with its requirement for substantial and sustained profit distribution, can require considerable capital outflow and the report argues that transparent withholding tax requirements on repatriation of earnings offshore would be a more efficient way to deal with these issues rather than arbitrary limits on the level of vehicle foreign ownership.
REIT FOOT FORWARD
The report concludes that in terms of management and investment choices, REITs are providing what investors want, but survey respondents also highlighted a preference for internal management and opportunities through increased permissible development activity (bar Australia).
Respondents also gave the overall need for regulatory certainty when deciding whether or not to invest in REITs in a particular jurisdiction a very high rating. Singapore, which has long been seen as a success story in terms of ASPAC REIT vehicles, leads the way when it comes to regulatory alignment with investor requirements, whilst Japan, which has a number of restrictions in place – in particular related to the flow of foreign capital – offers less flexibility.
A desire for improved standardisation of the underlying earnings metrics was also deemed important across the various REIT jurisdictions. There is also a level of dissatisfaction with current management fee structures, with suggestions for achieving greater alignment with minority unit holders to remedy this.
Exponential growth in the available pool of global capital allocated to dedicated REIT investment means that places like India and the Philippines, which don’t have REIT markets, are ‘missing out’, and those active markets with a quality-led and effective regulatory and taxation environment for REIT vehicles stand to benefit.
“It is no surprise to us that Australia and Singapore come out on top in this survey due to their strong regulatory framework, reporting, valuation guidelines and governance in relation to related party transactions,” said Andrew Cannane, General Manager, Corporate Client Services, Perpetual Corporate Trust.
Peter Mitchell, Chief Executive Officer of APREA, added: “[This study] emphasises the essential requirement of proper tax treatment – REITs are in essence a vehicle to enable property to be traded publicly as well as directly. For this to work there has to be the same tax treatment for both and that’s one reason why institutional investors are particularly attracted to the REIT markets of Australia and Singapore.”