China Real Estate Services
Generational entries in the ashes of China's GFC moment...
Chinese stocks have had quite a run this year, the Hang Seng Index is +19% YTD vs a solid -5% YTD for the S&P. That’s a +25% swing in favour of Chinese stocks. If you boldly predicted this scenario as recently as 3 months ago, you would have been laughed out of the room + ridiculed as a delulu daddy Xi fanboy.
Despite this glaring differential however, nobody really gives a flying **** about China’s Real Estate Sector, still. Most of the Chinese market outperformance to date has been driven by a broad based re-rating of China Tech equities as catalysed by DeepSeek (check the charts for Alibaba, Tencent, Xiaomi, even the dog that is Baidu…). It’s not that surprising really, just funny that it took the market so long to realise it is the Chinese who have both the superior products/LLMs and superior costs - development costs are what, 1/10th of their US counterparts? (topic for another day).
Zig when others Zag: Some of the best set-ups in the market occur when sector inflection is in sight yet widespread market fear persists.
- Taro Sakamoto
Amidst newfound hope for Chinese equities, I noticed that sell-side monkeys continue to remove coverage of China Real Estate & related service names nonetheless, where remaining coverage is low-touch at best (remember, sell-side covers equities that are currently receiving the most client interest and their goal is to get as many wall street monkeys excited as possible = more trading commission & profits). Relatedly, Global X ETF liquidated their China Real Estate Thematic ETF at the start of 2024. Guess what other thematic ETFs were liquidated due to “poor performance” and “low interest”? That’s right, the entire China listed universe at the smack bottom, 9 months before the China market inflected to a new bull regime. You can’t make this shit up:
These are all strong signals pointing you to the segments of the market where hate/total neglect is present, and hunting for gold in the “untouchable” wasteland often gets me the most excited.
The most braindead winning trades are those that occur on the back of generational busts for essential/cornerstone industries (Think going long Uranium post-Fukushima, long coal at the peak of ESG-delusion in 2020, or long oil amidst Covid when prices went NEGATIVE).
The effective bet in these scenarios is simply the industry existence/resumption of demand growth sometime in the future.
- Taro Sakamoto
Chinese Real Estate is clearly undergoing a generational bust since 2020, one that is driven by policy - Xi’s infamous “3 Red Lines”. What intrigues me the most are the services/property managers as opposed to the developers. Globally, there is a scarcity of shares for Real Estate Service companies - these highly cash generative businesses are often private and/or embedded within RE conglomerates where they contribute negligible sales/earnings at the group level. Moreover, property managers are fundamentally much better businesses that property developers.
There is a certain circularity and path dependence that explains the opportunity’s existence - the 3 Red Lines prompted both SOEs and private developers (POEs) to spin off their highly cash generative property management arms in a flurry of IPOs from 2019-2021 at rich valuations (~15-20x EV/FCF), in an environment where developers were struggling to raise cash given their debt burdens amidst the downturn, with balance sheets getting increasingly precarious at the developer level.
To highlight the opportunity: CBRE & JLL as the global comps to Chinese real estate services (granted they are more commercial RE management vs China where majority is residential) trade at premium valuations relative to self, recent growth, and expected growth. Meanwhile, we can see that the top 5 China RE Services I have shortlisted are trading at close to ex-growth multiples despite vastly outperforming on last 3-yr EBIT & FCF growth amidst severe industry headwinds. Moreover, consensus is already expecting a steep deceleration in growth over the next 5-years (ie. 0 prospects of a Chinese RE recovery).
Property Managers > Property Developers
Property management is a superior business model to property development. To visualise this, we can draw parallels to the energy sector. In the simplest terms, property managers are quasi-royalties on their parent developers’ landbank with the added optionality of 3rd-party market share gain for the best-in-class service companies. This is not that different to oil producers and their listed royalty arms (Think Diamondback Energy and Viper Energy). Ceteris paribus, you would rather buy a Viper Energy for clean leverage to oil prices + exposure to Diamondback’s production growth, and similarly, a property manager for clean leverage to pro-cyclical management fees + highly visible gross floor area (GFA) growth tied to property development pipeline (once property is developed, property management is contracted).
In sum:
Property managers run an asset light business model, with highly recurring revenue stream (typically 3-year contracts with practically non-existent industry churn with > 97% contract renewal rate)
Latent pricing power for Chinese property managers given real economy downcycle and residential management’s sensitivity to fee hikes during this period – flat or LSD y/y since 2020. If Japan’s history is instructive (with similar long-term demographic issues), property management fees should outpace CPI and grow at LSD-MSD p.a. over the long run.
For context, price controls have been lifted since the 2014 reform for property management firms in China and the lack of price increases in contract renegotiations over the past 4 years is due to a challenged consumer (great majority of listed Chinese property managers are exposed to residential property except for CR MIXC with sizeable commercial exposure)
“Management fee on average accounted for 0.63% of apartment price in 2023 vs. estimated 0.3% in China. Comparing with household income, PM fee also accounts for a smaller share of total at 1-1.3% in China vs. Great Tokyo at 4.4%”
- Goldman Sachs Research
This suggests much headroom for future fee growth for Chinese Real Estate Service companies as the industry matures (less than 20% of residential properties have owners’ associations today). As more owners’ associations become established, fee increases should trend up further.
Think of this as a secular shift towards privatisation, instead of the parent developer holding most of the bargaining power over management fee contracts, the customers of property managers will be property owners rather than developers as the shift accelerates, where fee structures become even more market-based
More over, property management in China remains highly fragmented with long runway for share gain for the highest quality property managers (expanding 3rd party GFA on top of parent developers’ project pipeline)
Top 100 firms account for only ~33% market share
~50% of total floor area in real estate is currently managed, and the property management market could double just from existing floor space excluding ‘newbuilds’
Narrowing the Universe through Screening
A key part of my idea generation process is top-down, where I use (global) screens to identify the best basket/individual companies within an industry and/or thematic I find attractive. This is to ensure that companies I own are the best expressions of the industry/sector bet, and also ties in with the whole concept of what I call “scarcity of shares”. (Topics for another day)
The growth drivers and risks are intertwined and largely the same across the space - tied to the prospects of the parent developer.
Those that are able to gain share amidst the downturn are also the ones with the best performing parent developers (ie. stable/cycle-resilient growth of parent developer enables growth+ of their property management arms who are subsequently able to maintain/improve servicing standards and be the go-to service provider for 3rd party GFA)
Conversely, distressed private developers who use their property management arms as cash machines/ATMs during downturn -> property managers have to lower service standards given lengthening cash conversion cycles etc. -> eventual share loss
Hence, the overarching goal of my screen was to narrow down the basket of likely winners with the lowest parent developer risk from the listed universe. To do so, I utilised 2 main criterion, (1) 3 Red Lines, (2) Dividend Yield + Receivable Turnover
3 Red Lines
Given the regulatory risks of the sector, it pays to be invested with the government/SOE property managers all else equal, whereby (1) Government backing means bankruptcy risk is negligible given ability to raise cheap funding from state, (2) Alignment and capital return probability at depressed valuations are much higher with policy pivot + dividends as additional source of revenue for government, (3) SOE developers are the consolidators given debt burden and execution of POEs, which means growth+ for SOE property managers going forward as quasi-royalties on parent developers’ pipeline
Testament to (3), SOEs constitute > 80% of top 10 property developers today, where market share of SOE developers rose to 70% in 2024 vs 32% in 2019
Utilising the financial metrics under ‘3 Red Lines’ regulation as a first filter to sort the parent developer risk, apart from Binjiang Services (parent developer – Binjiang Real Estate), the parent developers of other POE property managers are in breach of the “3 Red Lines”, where most of them are undergoing/need to undergo debt restructuring.
Dividend Yield + Receivable Turnover
As a secondary filter, I used capital return/dividends (none conducted buybacks) as a proxy for shareholder friendliness (strong indicator given high net cash to market cap ratio, with high cash generation and low capex needs through-cycle), + trend in receivables turnover as a proxy for independence from parent developer and/or quality of earnings
Property managers with steep declines in turnover vs 2019 and last FY turnover < 4 [industry avg. 4.5-8] highly likely treated as cash machines by troubled parent developer)
With the screen, I classify the opportunity set as such:
High Quality Share Gainers: Binjiang Services (3316 HK), China Resources MIXC (1209 HK)
Stable SOEs: China Overseas Property Holdings (2669 HK Equity)
2nd Tier SOEs (parent developers in minor breach of 3 red lines and/or other factors): Onewo (2202 HK), Greentown Service (3900 HK), Yuexiu Services (123 HK), C&D Property Management (1908 HK)
Deep Value/Distressed POEs (> 5% Div. Yield): Sunac Services Holdings (1918 HK), Ever Sunshine Services (884 HK), Times Neighbourhood Holdings (1233 HK), S-Enjoy Service Group (1755 HK)
Binjiang Services is my top pick for the name to own for the long term, and will be be the subject of my subsequent company deep-dive. Whilst not as cheap, CR MIXC also stands out as the best-run SOE with unique exposure to a highly lucrative commercial property management.
Binjiang Services (3316 HK) is an effective duopoly with Greentown Services (SOE) in Hangzhou, where Binjiang has ~65% market share in GFA under management within the city. Whilst classified as a Tier 2 city today, Hangzhou is shaping up to be China’s Silicon Valley - home to the most innovative startups in China otherwise known as the “Six Little Dragons”. They are DeepSeek, Unitree Robotics, DEEP Robotics, BrainCo, Game Science (developer of Wu Kong) and Manycore Tech.
Parent developer Binjiang Real Estate is the best run POE developer, nationally ranked top 15, and profitable through downcycle
Binjiang Services guns for high-end projects that matches with its premium branding - these include luxury/prime residential properties in Hangzhou and adjacent cities along the Yangtze River Delta. Whilst most of these projects flow from the parent developer’s pipeline, it also has shown healthy diversification/independence with >50% of managed GFA coming from 3rd parties (the highest proportion out of all listed property managers).
Known for luxury brand and design, launched various value-added services (VAS) including home decoration for penthouses
VAS gross margins higher (>40%) compared to typical residential property management (~20%)
Current sales mix is 42% residential property management, 13% commercial property management, 45% value added services to property and non-property owners
Currently trades at 8x NTM P/E (ex-cash), consistent 80% payout, 5.5% dividend yield
China Resources MIXC (1209 HK) is the only property manager in the listed universe that has significant exposure to commercial property management (parent developer China Resources Land is the top 2 mall developer in China)
Commercial property management has much higher margins (~60% gross margins vs ~20% for residential)
Current sales mix is 65% residential, 35% commercial (60/40 split between malls and office buildings within commercial segment)
Currently trades at 16x NTM P/E (ex-cash), consistent 70% payout framework, 5-6% dividend yield including specials
For deep value degens, a basket of the distressed POEs (most of which trade at < 0.5x P/B) is the best way to go for torque. It’s likely impossible to know which private property developer will eventually go bust given the complexity of related transactions etc., so picking single names within the distressed basket is a minefield regardless of the level of DD you do.
Ultimately, as quasi royalties on their parent developers, not only will the quality property managers have the highest visibility baseline GFA growth (thanks to a cyclically-robust parent developer pipeline), but they will also most definitely continue to gain share within 3rd party GFA through this downturn. Whilst much less cheaper compared to the POEs with distressed parent developers, I suspect the 2/3 highest quality names continue to offer much better risk/reward today, even at this stage of the cycle.
Appendix (Sales & Margin Trends of Screened Universe)
