The HK Government has begun micro-managing the terms of development, while shifting from open auctions to a less transparent sealed-bid tender process. The next Chief Executive should reverse this. We also renew our call to change the financial structure of new land leases away from high-premium-low-rent to lower-premium higher-rents.

Intervention and opacity in land sales
14 November 2011

The HK Government's policy on land leases has become more interventionist in the last couple of years. It has begun specifying the minimum number of apartments and the maximum size of apartment that should be built on some residential sites, thereby restricting the choice of developers to optimise a project's value by supplying units that meet market demand, and hence reducing the proceeds of land sales. An example is Yuen Long Town Lot 518, and another is Tung Chung Town Lot No. 36.

This is part of a policy decreeing that the market should provide more small apartments (we are talking about 35-40 sq m (377-431 sq ft) of saleable area, including the area occupied by walls). That is in turn because the Government wants more people to own a home without reducing property prices per square foot, rather than admitting that we are in a bubble, and rather than dramatically increasing land supply and/or plot ratios to allow everyone more space for their dollars.

The Government's transparency on land sales is also decreasing, as it has adopted a sealed-bid tender approach (example here) rather than an open auction. The latter, dynamic process is less at risk of collusion between bidders. In an auction, the number of bids, and the prices of each bid, are disclosed. In a tender, only the number and names of bidders, and the winning bid, are disclosed (example here). The bidder names are usually newly-created companies, and the developers who own them are not named, so the disclosure is meaningless. Veteran Hong Kong property surveyor Nick Brooke, who chairs the Government's Harbourfront Commission and its Science and Technology Parks Corporation, told Webb-site:

"On some occasions Government requests additional inputs such as concept designs and only on those occasions is a tender justified as there is the need to review those designs before making a final decision.

All potential purchasers detest tender as there is no benchmark such as another bid against which to measure and you can end up as a result offering far less than the successful tender or worse still offering far more than the next highest tender."

The Government has not explained why it has switched to a tender approach or on what basis it decides which sites should be tendered and which should be auctioned. Perhaps the motivation for this move towards tenders is a "fear of failure" at auctions when reserve prices are not reached and lots are withdrawn - but we see no harm in that. Auction reserve prices, typically set at a 20% discount to what the Government thinks the land is worth, are there to prevent the risk of wholesale collusion amongst the couple of handfuls of developers who account for the bulk of the market, and the risk that they would get together and rig the auction for the site, as they once did in the pre-handover Patten era.

A rarer cause of auction failure is that occasionally, the Government's own surveyors misjudge the reserve price because they have not accounted for neighbouring cemeteries or other impacts on valuation, but that is not as big a risk. Only one lot has been withdrawn since 1994, which was a site near a Chai Wan cemetery in 2010.

So let us hope that the next Chief Executive of HK will return to a less interventionist and more transparent approach to land sales. It should be sufficient, for each site, to determine the maximum allowable floor area, coverage ratio, plot ratio and/or height limit, and then let the market decide the best way to use the site to be sold without the Government micro-managing it. At most, the Government should specify industrial or non-industrial use (due to concerns over air and noise pollution), and let the market figure out the rest (whether hotel, residential, office or retail). All sales should be by public auction.

The next Chief Executive should also review the financial structure of land leases and, as we have argued, shift away from the high-premium low-ground-rent approach (ground rent is set at 3% of rateable value) and instead start selling land with higher ground rents (perhaps 30% of rateable value) and consequently lower premiums. This would open up the market and reduce the capital cost of ownership. The Government would secure a future revenue stream to service its growing welfare obligations, and would be sharing the economic risks as its revenue from ground rents would fluctuate with the rental value of properties, which in turn are linked to economic acitivity. Meanwhile, property owners would put up less capital but still have security of tenure under the Government lease. For more on this, see our article on Land Lease Reform.

©, 2011

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