The December sale of a Kai Tak residential site for a record-breaking HKD 13,600 per square foot A.V. underscores how the expanding footprint of mainland Chinese developers is reinventing the rules of engagement for their local counterparts. The tender, awarded to a company associated with mainland Chinese conglomerate HNA Group (“HNA”), set a new record high price for residential development sites in Kowloon East in terms of A.V.

An influx of cash-rich mainland developers and the entrance of new small-to-medium sized local players pose a challenge to Hong Kong’s top five developers – namely Cheung Kong Property, Sun Hung Kai Properties, New World Development, Sino Land and Henderson Land – who have dominated the sector for three decades. Their share of the government residential land sales market has shrunk dramatically over the past five years, reduced from about 90 percent in 2011 to 10% in 2016, in terms of total land premium consideration.

In 2016, mainland developers purchased 27 percent of all residential sites in Hong Kong – on par with 2015 – amid a push to diversify their investments away from mainland cities. This competition in the government’s public land sales market saw 11 out of 14 residential sites sold at prices above market expectations in the second half of the year, as more prime sites were made available. Bidding in the commercial sector also reached new heights when Lifestyle International Holdings paid HKD7.4 billion for a plot in Kai Tak, the largest sum to date for a commercial site in the city.

“It has become harder for Hong Kong’s heavyweight developers to win land sites and we believe the situation will continue into 2017,” says Dorothy Chow, a Regional Director with JLL’s Valuation Advisory Services team. “Mainland developers will remain active in government land sales to expand their business in Hong Kong, whilst local developers will likely focus more on opportunities in the New Territories, and MTR projects.”

Hongkong Island Construction Properties Limited (“HIC”), a company associated with HNA, paid 88% above market expectations for a residential site in Kai Tak in November, parting with HKD13,500 per-square-foot, A.V. One month later another company related to HNA, Sky Hero Developments, topped that figure in winning the tender for an adjacent site, at a price of 13,600 per-square-foot, A.V. JLL Hong Kong’s Managing Director Joseph Tsang anticipates that developers will take these unprecedented prices as a reference and adjust the prices of completed units upwards as a result.

According to Chow, HNA’s headline-grabbing entrance was intended to create a buzz in the market. The HIC plot will reportedly be transformed into 900 residential units, while Sky Hero Developments’ site will yield another 600 flats. The two sites boast Lion Rock and harbour views, but Chow notes that it will be “tough” for the developers to sell the finished units at the HKD25,000 per square foot needed to turn a profit. Other nearby developments are expected to be mainly “mass” residential, and could include 10,900 flats proposed under the government’s plans to increase the total number of flats in Kai Tak by 28 percent to 49,900.

Despite such aggressive bidding, local developers outbid their mainland rivals to clinch 19 out of 22 new government sites (both commercial and residential) in the seven months to November, up from 13 out of 20 sites for the entire previous financial year. Still, local developers are anticipated to bid more conservatively in upcoming land tenders than their mainland counterparts.

Big local developers are already adapting their land bank strategies to align with these new market dynamics. Henderson Land Development is looking to acquire small urban redevelopment sites, while Cheung Kong Property Holdings is considering non-property projects overseas after its first-half flat sales plummeted by 77 percent year-on-year. Sun Hung Kai Properties, which has stockpiled enough land for development for the next five years, will remain focused on Hong Kong and the mainland, according to the South China Morning Post.

Looking ahead, Tsang foresees more joint ventures, fusing local developers’ knowledge with mainland Chinese capital, bidding for government land sale tenders, but he says it’s hard to predict if mainland developers will actively participate in Hong Kong’s land sales market over the longer term.

“They will continue bidding aggressively for land as long as the yuan is devalued,” concludes Tsang. “They want to get their money out of China as soon as possible, although the recently announced new round of capital controls may slow them down.”

This blog was first published on www.theinvestor.jll