This article was written by Rong Fang.
On 30 April, 2020, the China Securities Regulatory Commission (“CSRC”) and the National Development and Reform Commission (“NDRC”) jointly released the Circular on Work Related to Advancing the Pilot Program of Real Estate Investment Trusts (“REITs”) for the Infrastructure Sector (the “Circular”). The authorities launched a pilot scheme for Real Estate Investment Trusts in the infrastructure sector (“Infrastructure REITs”). On the same day, CSRC followed up with the Guidelines for Public Offered Infrastructure Securities Investment Funds (for Trial Implementation) (Draft for Comments) (the “Guidelines”), requesting public comments. The Guidelines clarified the establishment and operation of publicly-offered infrastructure-backed securities investment funds (“Infrastructure Funds”) as the carrier of REITs, the performance duties of fund managers and other participants, and details regarding product registration, offering of fund units, investment operation and information disclosure.
Requirements for pilot projects - Focus on key areas and key industries
The Circular explicitly stipulates that the relevant authorities shall give priority to supporting key geographic areas such as the Beijing-Tianjin-Hebei Economic Zone, Yangtze River Economic Belt, Xiong’an New Area, Guangdong-Hong Kong-Macao Greater Bay Area, Hainan, and the Yangtze River Delta. They will also support national-level new areas, and qualified national-level economic and technological development zones in carrying out the pilot program.
Further, the Circular identifies a number of disadvantaged infrastructure sectors, which will be given priority in carrying out the pilot program. These sectors include: (1) warehouse and logistics facilities; (2) highway and transportation facilities; (3) water, electricity, energy and other utility facilities; and (4) environmental disposal facilities such as municipal sewage and garbage processing and solid and hazardous waste management facilities. The pilot REITs scheme is also encouraged for new types of infrastructure, such as information networks, as well as in emerging national strategic industrial clusters, high-tech industrial zones, and special industrial zones.
Structure of an Infrastructure REIT - “Publicly Offered Fund + ABS”
REITs are not a type of securities stipulated in the Securities Law of the People’s Republic of China and therefore cannot be directly offered to the public. Instead of issuing new regulations to regulate REITs, the pilot program adopts a “publicly offered fund + ABS (asset-backed security)” approach to enable the public listing of the REITs.
Pursuant to Article 2 of the Guidelines, the Infrastructure REIT involves a “publicly offered fund + single infrastructure ABS” scheme. In this context, ABS refers to an infrastructure asset-backed special-purpose plan issued under the CSRC’s Administrative Provisions on Asset Securitization of Securities Companies and Subsidiaries of Fund Management Companies. Private equity funds and trusts can be set up under the ABS structure, and such persons will, through the project companies under their control, indirectly hold full ownership or franchise rights in the underlying infrastructure projects.
Key features of Infrastructure REITs
Investment threshold: 80%
In accordance with Articles 23 and 24 of the Guidelines, after an Infrastructure Fund is established, its manager(s) must invest more than 80% of the fund assets in a single infrastructure asset-backed securities established by the same manager(s) or manager(s) that have actual control over the Infrastructure Fund to acquire the entire share. The remaining assets should be invested in qualifying securities, AAA credit debts, or money market instruments.
In accordance with Article 26 of the Guidelines, Infrastructure Funds shall give priority to the unitholders’ interests and are restricted to leverage of no more than 20% of the fund assets for limited purposes of maintenance and renovation of infrastructure projects.
In accordance with Article 17 of the Guidelines, the original interest holders should participate in the strategic placement of units of the Infrastructure Funds. They should purchase not less than 20% of the total number of units placed, and they should hold such units for not less than 5 years from the date of listing. Institutional investors other than the original interest holders may participate in the strategic placement of units of the Infrastructure Funds, while the placement ratio will be determined by the fund managers after consulting with the financial advisors, and they should hold the units for not less than 1 year from the date of listing.
In accordance with Article 18 of the Guidelines, after deducting the units sold to the strategic investors, the proportion of units of the Infrastructure Funds sold to other investors should not be less than 80% of the total number of units publicly offered. In case the units are offered to different classes of other investors, the placement ratio allocated to each class of offline investors should be the same.
In accordance with Article 19 of the Guidelines, after the price query is completed, the Infrastructure Fund manager shall promptly announce to public investors the subscription price of fund units. Public investors participate in the subscription of Infrastructure Funds units through fund sales agencies at the subscription price determined via a price query process.
The Guidelines set out the basic principles and requirements for protecting investors’ rights in perspectives of information disclosure of issuance of Infrastructure REITs, examination of investor suitability, operation management, and ex-post supervision. Supervision authorities will conduct regular or casual inspections on entities participating in Infrastructure REITs and impose penalties for violations.
Market participants generally believe that the introduction of Infrastructure REITs in China is conducive to enhancing the liquidity of high-quality infrastructure assets, and provides small and medium investors with financial instruments that provide exposure to real estate assets. However, considering factors such as the large investments involved in infrastructure projects, low levels of marketized returns, and a general lack of real estate investment management expertise at public fund managers, it may take some time for the market for, and regulations relating to, Infrastructure REITs to mature.