Exclusive interview: Noon Capital pioneered Thai blockchain ecosystem with a $150M real estate project. Dr Luca Dotti, CFA Noon Capital, gives us an insight of a hands-on practitioner in blockchain based fractional real estate ownership.
Question) What is the main difference between the traditional way of selling real estate in Thailand and the blockchain based way that you employ?
Answer) If someone wants to buy real estate in Thailand, there are currently 3 ways:
a) buy a specific condo unit at market price (or at a small discount if the purchase takes place during the construction). The drawbacks of this are management and liquidity. Management is often offered by developers through rental programs that typically feature a fixed coupon and in some case a buyback option. The problem here is that fixed coupon is built into the initial price, no developer will get into a fixed liability without having cashed in extra money upfront. Moreover, to achieve higher returns than promised and make some profit, they run the condominium as a hotel (illegally because min stay in condos is 30 days by law), exposing the owner to the risk of loosing the condominium registration. In Pattaya and HuaHin there are several law suits open between condo buyers and developers that widely managed properties like hotels.
Liquidity on the secondary market is low if the unit was purchased at a premium (because of the embedded fixed coupon) and investors want to make a profit out of it.
b) invest into a REIT. REITs typically focus on commercial real estate or luxurious residential projects, so they don’t offer exposure to the emerging middle-class investment thesis. REITs are also managed under an investment policy, so investors don’t have a say on what will be the allocation of their funds.
c) invest in stocks of listed developers (e.g. Sansiri, Supalai, Land & House). The exposure is indirect and again investors do not know what projects they will be exposed in the future.
We offer participation into a portfolio of condominium units, all developed and managed by us. Our masterplan in Chalong, the upcoming residential district of Phuket, consists of 4 condominium phases (one completed and fully operational, second about to be completed in May 2019, third construction starting in 3 months, and fourth still in planning stage).
The idea is to bring in investors alongside us and share the returns, so we created a diversified allocation with a handful of units of the first building that can generate cash flows for investors from day 1, few units of the second, and the majority of the third and the fourth.
Investors come in almost at our costs, and we flip units during construction and after completion at a profit share 10% for us 90% for investors. We usually sell to foreigners during the construction, and to Thai after because they buy with mortgages.
We rent the unsold units to long term tenants until we sell them, and while we rent, they produce a yield of 9-10% because the purchase price for investors is much lower than the market value.
We expect to liquidate the whole portfolio in 4-5 years generating substantial cash flows from both rent and sales, with IRR of 15-19% and equity multiple of 1.5-1.7x.
The advantage of our solution compared to a REIT is that investors know exactly what project they are investing into, they can come to Thailand and touch it. The same will be for the next portfolios that we will create. We are developing a digital targeted REIT.
We’re also aiming for RE backed security tokens to gain a much higher liquidity will smaller transaction costs than a physical condo unit, or even listed REITs or stocks. Of course this is dependent on how fast the related infrastructure will evolve in 2019.
Q) Is this what you call fractional ownership?
A) Correct, our structure is similar to existing fractional RE ownership schemes in that investors own a piece of a portfolio of condominium units, and the minimum ticket can be as low as USD 1,000. Differences are again the liquidity potential of security tokens, as opposed to schemes where usage or ownership rights have very limited or no secondary markets. The other difference is that our structure was designed by Mithqal.io – our innovation partner – for indirect beneficial ownership, enabling complete compliance and retaining maximum liquidity within the frameworks provided through blockchain technology.
Q) how do you connect the blockchain based proof of ownership, in the way of tokens, and the legal requirements to a property ownership in Thailand?
A) We set up a limited partnership where NOON remains as GP and every investor is an LP. LPs signs (digitally, to make it more efficient) standard documents such as limited partnership agreement, subscription agreement and the private placement memorandum.
The limited partnership leases individual portfolio of units from our Thai SPVs that develop the projects, one apartment at a time and registering every lease with the land office in Thailand (practically mortgaging the properties for the benefits of the LPs). So thus far, this a traditional private equity real estate transaction, with full recourse on the assets for LPs.
Blockchain is only the last mile addition: the tokens (or digital certificates as we call them) keep custody of the documents signed, as well as participation rights of LPs coded into a tested and tried ERC20 format so that can be listed on security token exchanges as soon as they will be live.
The advantage of this solution is that LPs will always remain LPs in the partnership whatever happens to the blockchain infrastructure and to their private keys.
Our digital certificates are coded in a way that secondary market transactions do not settle until the new buyer passes compliance and gets whitelisted with the limited partnership and signs the docs that would make him a new LP. As a result, the LPs list is updated real-time at every secondary market transaction.
Q) Does this open for the way for foreigners to own land in Thailand?
A) The land is owned by the Thai SPV, and when the construction is completed the title deed is strata titled. The Cayman limited partnership is registered as lessee behind the title deeds of the single units. This solution delivers a compliant opportunity for beneficial land ownership, creates a solid way for foreigners to control assets in Thailand, and minimize transfer taxes as it costs only 1.1% of the appraisal value to register a lease.
These leases are then flipped, some freehold to Thai and some freehold to foreigners, respecting the legal quota restrictions of 51%-49%.
Q) who do you target as your end consumers? are you planning to build upmarket housing for farangs or houses accessible to the domestic mass market?
A) We build products for long term residents (Thai and expats) that are affordable both to rent (starting from THB 15,000/month) and to buy (from THB 2,500,000) so that domestic market will always be there also in case of downturn of the global economy.
If we want to maintain the quota 51%-49% we need to make sure that Thai can afford that 51%.
We have integrated our value chain to control costs and execution, and all our teams are supervised by Italian engineers that adhere to European standards of construction yet developing affordable properties. The result is an unmatchable value for money for both buyers and tenants.
Q) how seasonal your off-chain bussiness is?
A) Our average lease is 5.5 months, so our focus are long term contracts that are no seasonal at all. However, we do get spikes in occupancy rates (we are currently overbooked) during the peak season. Average occupancy across the year is about 85%.
Q) do you use of blockchain as your competitive advantage? How do you see blockchain based fractional ownership of real estate in Thailand in 3,5,10 years? Give us your conservative market estimate
A) We like blockchain because we can build many applications that integrate to each other on the same platform. The next step will be to incentivize our tenants to pay with digital wallets on blockchain (e.g. OmiseGO) so that all rent payments are recorded on blockchain and can be distributed real time to the digital certificates’ holders.
It’s difficult to predict the future considering how fast things change, but what I am very confident about is that fractional ownership will be widespread because investors want diversification, efficiency, and transparency. Blockchain offers all this, and if there will be a superior technology in 10 years’ time, we will switch into it.
Q) Do you see need for industry standards? Or government regulations?
A) I think government regulations are already in place because security tokens follow securities laws. What we are missing is the infrastructure than can guarantee a secondary market for these tokens, so industry standards and exchanges. I believe it’s just a matter of time.