Rising challenges in fundraising for property development projects amidst potential for significant growth in APAC real estate investment market

Today, Deloitte, HKbitEX, Colliers, and Sidley Austin jointly published the first edition of the Real estate STO whitepaper series, followed by an expert panel discussion with speakers from HKMA, HKbitEX, Colliers, Sidley Austin, Henderson and Edvance International.  

Drawing insights from the research and industry experience of a broad range of market players, including real estate developers, valuers, legal advisors, tax and audit advisors, and technology consultants, this paper focuses on the potential uses of security token offerings ("STOs") within the real estate sector and analyses the advantages offered by STOs as compared to capital raising using traditional structures.

While the impact of the pandemic on the global economy has been severe and the world continues its slow recovery process, as compared to other sectors, real estate markets have remained buoyant. The APAC region has witnessed a rapid growth of capital in both the private and public real estate sectors. As of the end of 2020, the total value of institutionally invested real estate in APAC reached USD3.3 trillion. Looking into the annual investment property transaction volumes, an aggregate of USD184 billion was recorded in 2020, representing a 9% decline from 2019 due to COVID-19.

Having said that, property investment in APAC has been very active so far in 2021, with total transaction volume reaching USD104 billion, or 57% of last year's total. Given the strong economic recovery in the APAC region from the COVID-19 recession, real estate transactions are expected to bounce back by about 15% in 2021 and to grow at a 6% compound annual growth rate (CAGR) thereafter, reaching the USD268 billion mark by 2025.

Nevertheless, real estate developers and investors are currently facing increasing challenges when trying to source funding or access investment opportunities. Developers have to take on intensive capital outlays, high commercial risks, high transaction costs, and more transactional and operational complexity throughout the lifecycle of a development project, which requires significant funding and expertise. While access to real estate development opportunities is generally limited to developers or select investment community which typically comprises institutions and the ultra-high net worth sector only. Investors in real estate development may be locked up in a project for 7 to 10 years or longer, making development assets extremely illiquid when compared to other types of investments.

Dennis Chow, Chairman of Deloitte China commented, "As the need for capital to facilitate real estate projects continues to grow steadily, there is a clear need for an alternative fundraising channel that addresses the structural challenges exist under the traditional financing framework. Tokenization may offer additional impetus to total transaction growth by boosting liquidity in the real estate market."

In recent years, the Security Token market has grown steadily as technology has matured, supporting capital market infrastructure has been introduced and regulatory clarity has increased in leading jurisdictions including the US, UK, Japan, Singapore, and Hong Kong.

"STOs present a highly flexible capital raising avenue, which are poised as a new regulated fundraising channel with the potential to unlock a new base of investors to fuel continued growth," said Gao Han, Founder and CEO of HKbitEX. "We anticipate accelerated growth in STO transactions over the next three years, with real estate financing participants being amongst the first to embrace STOs."

Although listed REITs offer enhanced liquidity (the combined market capitalization of REITs listed in Hong Kong, Singapore, and Japan was USD256 billion in 2020) when compared to security tokens, due to the nascent security token market, real estate STOs offer advantages over REITs in multiple aspects, including lower structuring cost and complexity for issuers, enhanced operation efficiency with a programmed distribution of dividends through smart contract, and greater flexibility for investors in terms of investment scope and portfolio components.

When compared to traditional private funds, real estate STOs also provide larger flexibility, higher operational efficiencies, and enhanced liquidity for investors and issuers. Investment ticket size can be significantly lower due to fractionalization. Investors can also opt to exit early through the secondary market as tokens can be traded easily and efficiently over the counter ("OTC") or on an exchange.

"The real estate sector is set for continued growth. The strong demand and policy alignment are lifting the sector to new heights, with investors heavily investing amidst the recovering economy. With the combination of these forces, we envision an unprecedented urgency in the capital market to meet the fast-growing needs of the market," said Robert Lui, Hong Kong Digital Asset Leader, Deloitte China.

"The establishment in Hong Kong of a regulatory framework catered specifically for virtual asset trading platforms that trade security tokens is implicit recognition that STOs will be a feature of capital markets in the future," Joy Lam, Partner, Sidley Austin LLP commented.  "With the introduction in Hong Kong of a clear regulatory framework for the key service lines that are required to support the STO ecosystem, coupled with increasing education and awareness amongst market participants of the advantages, the STO market is at an inflection point."

"We believe the unique capabilities of STOs can bring liquidity to real estate investments and can enhance the efficiency, transparency, and reliability of transactions. These developments will further the digital transformation of the financial services industry and the real estate investment market for the benefit of all stakeholders," said Eric Chan, Chief Public Mission Officer, Cyberport.

During the panel discussion, the issues under traditional financial framework were echoed by Raymond Wong, Senior General Manager in Sales of Henderson, "The real estate industry is suffering from a number of shortcomings and restraints, such as high development costs, high construction costs, high sum for investments in real estate properties or buying homes, lengthy and complicated procedure to go through in various kinds of real estate transactions and transfer, etc."

"While we expect investment property transaction volumes across the Asia Pacific should rebound strongly in 2021, we expect usage of security tokens to rise rapidly and boost liquidity in the investment property market," Lau Chun-kong JP, Managing Director, Valuation & Advisory Services, Asia of Colliers commented, "STOs offer issuers greater efficiency, lower costs and access to a broader investor base. They also promise a new world of opportunities for investors by offering fractionalized interests in property assets, far greater liquidity over secondary exchanges, and enhanced information transparency."

Sharing his STO experience, Raymond Liu, Chairman and Group CEO of Edvance International continued, "While evaluating traditional fundraising means, it was not considered optimal for our new business venture due to the lack of flexibility and cost associated with borrowing or capital raising for growth-stage companies. Security tokens presented us a genuine alternative to access capital and provide potential investors with an innovative proposition to invest in the company's future growth."

All panellists agreed the confluence of market-driven and government-driven developments recently in Hong Kong is creating more project opportunities while at the same time building an ecosystem that can effectively foster the development of STOs as a new wave of financial innovation.

Look into today's fund market, Anson Law, Market Outreach Division, Hong Kong Monetary Authority suggested, "Limited partnership funds (LPFs) allow for an unparalleled degree of contractual flexibility which is key to tokenization. For instance, tokenization of a real estate development project may involve splitting of ownership, occupancy, and economic rights, where the LPF vehicle is capable of holding, and according/distributing to token-holder in accordance with the construing documents. LPFs also offer robust protection to investors where their liability is generally limited to the sum they have committed to invest through the vehicle."

As the panel moderator, Ken Lo, Co-founder & Chief Strategy Officer, HKbitEX concluded, "Given the flexibility of security tokens and the diverse solutions they offer, we see great potential for these to act as an innovative solution to address particular real estate challenges and bring a new asset class to the investment community. And, we believe STOs can facilitate a broader, fairer and more transparent market for real estate investment opportunities."