Caixin
Sep 23, 2011 10:58 AM

Policy Shift Squeezes Developer in Kunming

Two years ago, stock watchers predicted profits would skyrocket past 10 billion yuan for Yunnan Urban Investment Real Estate Co. The predictions pushed the government-backed developer's stock price to a high of 34.20 yuan at the end of 2009.

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But on September 6, the company's shares hit a 52-week low, closing the day at 8.57 yuan on the Shanghai Stock Exchange. Yunnan Urban's stock value has declined 35 percent so far this year.

Yunnan Urban's demise points to the risks in China for companies that rely on a single, government policy-oriented business model. The company has worked with the Kunming city government, which sources say has become an unreliable partner in a major property development.

Yunnan Urban's business is all about land requisition, tearing down old buildings and installing the necessary infrastructure to prepare a site for new development. It's relied on city government control of the land market, including development and land-use rights.

But Kunming authorities have tightened their grip on land control to protect revenue sources in the past year. And in the process, Yunnan Urban got squeezed.

Land sales are considered the most effective revenue source for local governments such as the city of Kunming, Yunnan Province's capital, where in February Deputy Mayor Huang Yunbo said land deals have become critical for paying off municipal debt.

Game Change

Hopes were high when Yunnan Urban launched a backdoor stock listing in 2007 with support from its largest shareholder, Yunnan Urban Construction Investment Co., the provincial government's leading investment platform.

The next year, Yunnan Urban won the major land development contract for 2,787 hectares in Kunming that's now at issue. Guosen Securities predicted the deal for residential development could yield the company a 11.2 billion yuan profit over five years.

The company quickly got busy preparing the site on Lake Road East, next to Dianchi Lake, for development. Two light rail systems were scheduled for construction to serve the area.

Yunnan Urban's original plan was to first develop parcels that would require a minimal amount of demolition and relocation.

The project, which now has a commercial focus, has so far been a flop. Sales of 25 plots totaling 108 hectares began in July, and were supposed to raise more than 6.6 billion yuan, according to city documents. But only four plots totaling 10.7 hectares sold, raising 670 million yuan.

Now, with most of the land left unsold, Yunnan Urban's profit expectations have been hit hard. Work at the site has ground to a halt, a company official told Caixin.

A local developer told Caixin that the Kunming government's policy decisions prevented a successful auction. Indeed, recent city government policy changes have worried the company.

Kunming began strictly controlling land development in July and handed development jobs to companies owned by the city government. Yunnan Urban, backed by the provincial government, suddenly found itself cut out of the city's land development cake.

Using city investment companies to develop land can make it easier to raise funds and consolidate land, the Kunming developer said.

The Dianchi Lake "area was originally planned as low-density, residential property, with tourist and resort facilities," the source said. "Now, the Kunming government has designated the land for commercial property development.

"But the area does not have much foot traffic, and it's far from downtown. So the risks to commercial real estate development are higher."

The source added that some developers who were originally interested in plots pulled out after the city's plans changed.

Moreover, the government-set price for land developed by Yunnan Urban – 60 million yuan per hectare – was significantly higher than expectations, based on a 2009 government auction for land nearby that sold for 22.5 million yuan per hectare.

A source told Caixin that the Kunming government originally planned to use Yunnan Urban to clear land "without putting up a cent."

Holding Back

Real estate sources told Caixin that the project has now in fact become an example of a local government "holding back on sales in anticipation of higher prices" and to prevent Yunnan Urban from profiting. In the end, the sources said, the city government hopes to win control of the land rights through a delay tactic.

A Minsheng Securities research report said that the city government may have begrudged its earlier decision to evenly divide proceeds with Yunnan Urban.

Will another auction be called? A Kunming Land Bureau employee told Caixin there is no timetable, and a Yunnan Urban spokesperson said the company won't comment except to confirm "we are consulting with Kunming authorities."

The city-developer contract is valid through May 30, 2013, and Yunnan Urban is supposed to finance the development while splitting profits with the Kunming government.

"Yunnan Urban's capital chain is tight," a source said. "The government has the initiative and room for negotiation. To say the least, they can hold things back until May 2013, when the land contract expires."

Meanwhile, Yunnan Urban's share price is falling and the company is struggling to recover its investment. Several bank loans are due soon, and its profit outlook is bleak.

Yunnan Urban's 2011 interim report cited total assets of 13.5 billion yuan, including 6.2 billion yuan tied to the largely unsold development in Kunming. At the end of June, liabilities totaled 9.6 billion yuan.

If Yunnan Urban fails, the project might be handed over to Kunming Rail Transportation Ltd. A representative of the railway's real estate department recently told Caixin it has gotten involved in the Dianchi Lake development.

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