June 29, 2018 / 6:36 AM / 4 months ago

Chinese firm eyes 'strata-sales', high debt for flipping Hong Kong towers

HONG KONG (Reuters) - A Chinese company plans to emulate a risky property strategy in Hong Kong that was used last year to buy a skyscraper from the tycoon Li Ka-shing, taking on a high degree of debt and selling off individual floors before the transaction closes.

Henglilong Investments Ltd is hoping to borrow 80 percent of the $2 billion cost of a deal to buy two office towers, and sell certain floors of the buildings separately, according to three sources with knowledge of the matter.

The deal would be similar to one employed by a consortium that bought The Center skyscraper from Li last year for $5.2 billion.

The floor sales - known as “strata-selling” - would allow Henglilong to pocket profits quickly and repay the high-interest debt, the sources said.

The speculative strategy is likely to further push up Hong Kong’s already sky-high property prices, market experts said, and could hurt the long-term asset value and management quality of Grade-A office buildings.

The strategy remains rare in Hong Kong premium property deals, but one of the sources said more investors were ready to jump in if The Center deals closed as planned.

“Many people in the market want to copy The Center deal because it’s lucrative,” the source said. “They are waiting to see whether parts of The Center can be successfully divested as planned.”

Henglilong last month agreed to buy Cityplaza Three and Cityplaza Four, about a 15-minute drive from the central business district, from Swire Properties (1972.HK).

The company is in talks with investment banks, including Morgan Stanley and Goldman Sachs, to borrow 80 percent of the deal value via a private bond sale, two of the sources in the financial industry said.

The financing and selling plans were not final, the sources said, adding that it was unclear whether Henglilong was studying other options before the deal is completed in April 2019. Henglilong could not be contacted for comment.

Buyers of The Center were asking for as much as HK$55,000 ($7,008.51) per square foot, much higher than the HK$33,000 average cost implied by the total price tag.

No floor sales have been officially completed yet as potential buyers - mainly Chinese financial institutions - have put purchase plans on hold, wary of scrutiny by Beijing, which has been cracking down on overseas property purchases. “We’re ready to buy for our office use, but we’re waiting for a state-owned company to make the move to buy first,” said an executive of a Chinese financial company. “We don’t want to be in the headlines again saying Chinese companies are fuelling Hong Kong property prices.”

The financing strategy has also come under scrutiny from Hong Kong regulators, who restrict commercial banks from lending over 40 percent of the property value to first-time commercial property buyers.

However, the Hong Kong Monetary Authority only has the power to govern the financing activities of licensed banks, not investment banks.

After Reuters reported last year that the buyers of The Center planned to borrow as much as 90 percent to fund the deal, HKMA instructed commercial banks not to lend to them, according to two sources with direct knowledge. As a result, the consortium had to resort to a private bond sale with much higher interest rates - 7.5 percent for the senior tranche and 15.25 percent for the mezzanine tranche in the first year - than a bank plus mezzanine loan structure it had first pursued.

Rates for Henglilong are expected to be lower, however, as many investors are looking to get involved in mezzanine financing after The Center deal, one source said.

Additional reporting by Anne Marie Roantree and Venus Wu; Editing by Philip McClellan

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