Auction System Lacks Price Guidance and Marketing

July 20, 2009 SCMP

The government’s Application List System designed to trigger auctions for sites offered for development is working well and needs no changes, according to the financial secretary.

Since the system balanced demand and supply of government land it was not necessary to make adjustments – despite voices in the market calling for change, Financial Secretary John Tsang Chun-wah told the Legislative Council earlier this month.

In the financial year 2008-09, the only successful auction under the system yielded HK$16.5 million while no “hotel only” sites were sold.

This means that in the last 16 months, the government has only generated HK$77.5 million from its land auctions – a tiny sum considering the scale of the Hong Kong property market.

The adverse impact of the economic downturn on government land auctions cannot of course be ignored.

From a budgetary point of view, the system was effective between 2004 and 2008.

Total land revenues to the government – which include auction proceeds from the application system, income from lease modifications, private treaty grants and short-term waivers – consistently exceeded budgets in those years except for a slight decline in 2005-06 when 92 per cent of budgeted revenues were achieved.

During this time, revenues from the application system varied between HK$10 billion and HK$26 billion, or some 34 to 56 per cent of total land revenues earned in the period.

These results, showing a significant contribution to the government land revenue budget from the application system, provide prima facie support to its claim that the system has been effective.

The 27 sites sold at government auctions triggered by the system between 2004-05 and 2008-09 were for residential or commercial and residential use.

Sites designated for commercial and hotel use did not appear to be attractive to the market and only two commercial sites on the list have been sold since the system was adopted in 1999, generating revenue of HK$1.7 billion.

Clearly non-residential sites have not attracted enough interest. Today there are 61 sites on the application list, including nine hotel sites, 12 commercial/business sites and 40 residential sites.

So what has been turning away prospective bidders?

One hindrance is that they do not know what rivals may have bid and therefore lack guidance on the expected price range for a successful application.

For instance, the Fat Kwong Street site (available since 2006-07) attracted 15 unsuccessful applications between July and December 2007, and the site at 103 Mount Nicholson Road (available since 2005-06) drew 10 unsuccessful applications between November 2007 and March 2008.

This rate of rejection alone might not deter potential bidders. The problem is that when the government rejects applications, it announces only the number of unsuccessful bidders but not the bid prices. Prospective bidders therefore have no indication of how to price their bid.

This process deters buyers and creates a vicious cycle of even fewer applications and transactions.

The vital missing link is thus the real estate agency function for the negotiation and conditioning of price and also price information for both seller and buyers – at least for the minimum price to trigger the auction.

What the government could also do is provide incentives for bidders. Under the current system, first-to-move bidders who succeed in initiating an auction and therefore indirectly make a transaction possible are not treated preferentially. They have the same opportunity to bid as other potential buyers in the auction room.

There are also risks for potential buyers who make the first move.

In a severe market downturn, for instance, it is possible that no bid at or above the upset price in the auction will be put forward.

The initiating bidder can then lose their application deposit, which is 5 per cent of the offer, subject to a cap of HK$25 million.

To improve the system, the government might consider paying a fee to the bidder who triggers the auction, say when it gets hold of the site in the auction.

It may also consider appointing a real estate agent to communicate the offers and price expectations of government land sales.

No applications have been put forward in the last three months despite the property market’s strong rebound since March.

It is time for the government to seriously consider improving the communication of price indications and also the marketing of sites on the list.

Lau Chun-kong is an international director and head of valuation advisory services, Jones Lang LaSalle