In Ep. 20 of TechBuzz China, co-hosts Ying-Ying Lu and Rui Ma look into the alleged causes behind the recent 22% hike in rent prices in Beijing, a rise which has sparked outrage in citizens. In addition to blaming real estate startups, some headlines have also proclaimed that the influx of venture capital and private equity into the tech sector is at the root of the problem.

In the episode, Rui and Ying-Ying take an analytical approach to breaking down the factors affecting the rental market– or rather, largely the middle range of the rental market– in Beijing. They start by giving an overview of the market, including citing average rental and purchase prices as a percentage of take-home pay… and the numbers aren’t pretty. Unaffordable housing is destabilizing everywhere, but especially in China, where overpopulation is still a nationwide challenge and home ownership is particularly prized. Our co-hosts then focus on the impact of government policies on creating opportunities that were promptly capitalized on by real estate brokerages, which spun out consumer-focused products that fit the millennial and digital native lifestyle.

Listen to the newest episode of TechBuzz China and join our co-hosts in delving into the business model of long-term rental platforms such as Ziroom and Danke, which cover about 120,000 apartments in Beijing, or about 2 percent of the market. What has been their impact on both the tech sector and the residential rental market in Beijing? Decide for yourself: are these startups really the culprits behind the spike in rents?

As always, you can find these stories and more at pandaily.com. Let us know what you think of the show by leaving us an iTunes review, like our Facebook page, and don’t forget to tweet at us at @techbuzzchina to win some swag!

Full Transcript

We are TechBuzz China by Pandaily, powered by the Sinica Podcast Network.

We are a new weekly podcast focused on giving you a peek into what’s buzzing within the tech community in China. We uncover and contextualize unique insights, perspectives and takeaways on headline tech news that don’t always make it into English language coverage. TechBuzz China is a part of Pandaily.com, a new English language site that tells you “everything about China’s innovation.”

(Y: Ying-Ying Lu; R: Rui Ma)

[00:01]R: Chinese people are used to rents going up near the end of the summer. Especially in Tier 1 cities where new grads are rushing into their first jobs.
Y: But that’s generally been on the order of 10% or less. This year, however, rents in Beijing went up 22% in the last year as of July 2018. And residents are angry. Super angry. There’s a lot of viral posts of people sharing how their rents are going up suddenly for no reason they can understand, and that they keep on having to downgrade to smaller and smaller places, with one office worker sharing how she eventually ended up in a 5 square meter, that’s 50 square feet, closet. That was all she could afford.
R: Now, normally one would attribute this to the whims of market economics – supply and demand and all that good stuff. But this year, tech is being implicated. Not in the sense that tech companies are driving up rents, like here in the Bay Area, but that the rise in rents is due to the very operations and business models of real estate startups.

[01:04]Y: Indeed, one of the main parties being blamed for the sharp spike in rents are long-term rental startups like Ziroom and 蛋壳 Danke. Some headlines are even proclaiming that it is the influx of venture capital and private equity, that’s making life difficult right now for Chinese citizens.
R: Unless you’re a full-time China watcher, you might not have heard of these companies, but they’re quickly changing the landscape of urban living China, we are also beginning by the way to see a few of these pop up in the U.S.
Y: Not quite the same, but similar. How do these companies work, and are they really the culprits behind soaring rents in Beijing? Let’s find out in today’s TechbuzzChina!

[03:01]R: So when I left Beijing at the end of 2015, I was sharing a spacious 2 bedroom in Central Park, it’s one of the best highrises in the city and it cost me and my roommate about 20K RMB, that’s about $3000 per month. Now most places in China come furnished, and so this one did too. It had OK furniture …it wasn’t IKEA exactly but definitely not Design Within Reach, if you know what I mean. I just checked, and similar units would be going for $3600 now, or about 20% higher. It’s been almost three years though since I left. So the increase in rent doesn’t seem too bad to me.
Y: I know that building, Rui. And yeah, that’s definitely on the higher end. But wow, I must have been living in San Francisco for too long now because that almost sounds cheap to me. I mean, it would be considered a steal in the Bay Area. Similar condos here can go for more than double that price pretty easily in rent.

[04:01]R: Well, given our story about souring rents in Beijing, it doesn’t seem like my old building was impacted very much. So that means the market is not really hurting at the high end, but in the middle, where there is more inventory. The current average for Beijing for one bedroom in downtown — that’s Dongcheng or Chaoyang districts, and maybe Haidian if you want to include all the tech workers — is about 5500 RMB, that’s 800 USD. A two bedroom, on the other hand, runs about $1100.

[04:26]Y: That doesn’t sound too bad until you realize that the average pay is not even $1500. New grads, by the way, fare much worse with an average monthly wage of just half that. Anyway, take away taxes, which are close to 25%, and you’re probably looking at close to $1100 maybe in your bank account every month. Remember, at the average prices we quoted earlier, rent alone could be over half or even two-thirds of your take-home pay! No wonder many people choose to live far away and suffer a long commute rather than well, be homeless, I guess.

[05:10]R: And definitely don’t even think about buying, because the average price per square foot of an apartment in Beijing’s Chaoyang district is, guess what, $1,000 per square foot. That’s not even the most expensive. In Haidian, which is the tech district as well as where the major universities are and where all the good schools are, is 20% more than that, and in historic Dongcheng District, the prices are on average $1400. Let’s compare that to San Francisco, which is already super unaffordable. Sun Francisco has an average of $1,100. So what does it mean? This means that in Beijing a regular sized one bedroom apartment will set you back at least $700,000 or more. Of course, these prices are not perfectly comparable because China doesn’t have a real property tax system yet and management fees are also much lower, but if you remember that the average person is only making $12000 a year, purchasing a home basically impossible.
Y: Honestly, I know those stats but it is still crazy to hear them again. I hope by going through the numbers though, that those of you listening from here in the Bay Area at least feel a little bit better — Beijing’s housing crisis is at least on par, if not far worse, than what we are seeing here in San Francisco, and we haven’t even gotten to the crux of it yet.

[06:32]R: No, we haven’t. Unaffordable housing is destabilizing everywhere, but it’s especially so in China, where home ownership is particularly prized and let’s face it, there are just too many people. So housing is one of the primary concerns of the government, and the people. Trust me, there are very few days you can go by in China without someone bringing up the state of the real estate market. It’s just that close to people’s hearts and wallets. It’s a nationwide obsession.
Y: Because people react to housing prices so strongly, the government often changes policies in order to manipulate the “market price” of homes. Common measures include forbidding second homes, increasing down payments or transaction costs, or limiting new developments. It’s all been tried, and at least in Beijing, it looks to be working. Housing prices have held steady or even declined slightly over the past year.

[07:29]R: But this story isn’t about buying homes, but renting homes, the other side of real estate affordability. At the prices we quoted you earlier, you can see that even though Chinese people hate renting, and would do everything in their power to buy, the numbers simply don’t work. I mean, the only thing that’s gone up faster than housing prices in China in the past decade is bitcoin. I’m only half joking.
Y: So, many young people who are new migrants to the city, the so-called 北漂族 aka Beijing Drifters, and don’t have existing family real estate or a hukou, which is an official “household registration” giving you special rights as residents of the city, well these young people are not buyers, but renters.

[08:15]R: Just how big is this market though? Well in the megacities of Beijing, Shanghai and Shenzhen alone we are talking about 5 to 8 million renters. And there is room to grow. Apparently, in Western developed nations the urban rental rate is something like 30% of the population, in Beijing and Shanghai though, that is still around 20%. As wages continue to fall behind real estate appreciation in China though, many people are guessing that China will eventually reach Western standards. Which means … the market will grow another 50%. At least.
Y: But it’s not just that. For the reasons we said above, the government is keen on expanding the rental market. And the problem, in their opinion, is urgent. So they’ve done a few things. First, the administration has been aggressively exploring how to stabilize the runaway real estate market by growing affordable housing as well as the rental market. The prevailing view is that they can’t let the bubble burst, but definitely can’t let it get any bigger, either.

[09:22]R: The government issued preliminary thoughts back in 2016 but it has since again reiterated in Party working papers this March, and in June, the Party officially asked the country’s banks to help accelerate the development of rental markets. So what did the state banks do? They jumped in and pledged more than $460 billion in rental financing. That means you, as a renter, can get a collateral free loan of up to 1milliom RMB or 150,000 USD that you can repay over a max of ten years to pay for your rent.
Y: Yeah, the way it works is that basically, the bank has partnered with certain real estate developers and rent apartments out to you on a long-term lease, at 5% increase per year. That’s pretty reasonable. They pay the developer upfront, you pay the bank in installments, and that’s effectively your “rent.” For many people, this amount ends up being lower than what they can get if they were to rent on their own.

[10:25]R: It’s nice that the government cares that its citizens are straining under the pressure of unaffordable housing. I really wish the Bay Area would take a clue. But knowing all of this, Ying-ying, what would you do if you are a tech entrepreneur? Do you see an opportunity?
Y: Of course! Get into the apartment rental business. It’s fast growing, and unlike gaming for example, which we talked about last week, it’s totally in line with the government’s objectives. And in China, innovating along with the government’s greater goals is a very, very good thing.

[10:59]R: Indeed. And who were amongst the first to spot the opportunity? Real estate brokerages, of course. Leading brokerage firm Lianjia, originally known as Homelink, with over 5000 storefronts in 24 major cities, was one of the first to get involved. Back in 2011, it incubated the subsidiary 自如, which means freely in Chinese, and has the English name Ziroom. Lianjia Vice GM 熊林 Xiong Lin headed efforts from the start. Since then, it has served over 150,000 landlords and their 400K apartments in 5 major cities, of course Beijing among one of them. Cumulatively, it has served over 1 million renters. Both Kevin and Carol of Pandaily, by the way, are loyal customers.
Y: After the company was officially spun off in May 2015, it didn’t raise funding again until January of this year. This “Series A” consisted of 621million USD from the likes of Warburg Pincus, Sequoia and guess who else, Tencent of course. Ziroom is now valued at $3 billion.

[12:11]R: Everything you do on Ziroom is done online. That’s starting from finding your room, of course, but also includes signing the contract and paying your monthly rent as well as doing repairs, cleaning and other services. Ziroom has even established its own credit system. I mean, the company really does try to use tech in everything. For example, I stayed with my cousin a few months back and he also uses Ziroom. He’s in a three-bedroom loft and he didn’t have to go and find his roommates, everyone is on their own lease with Ziroom. He has a QR code on his door — I ask him what it’s for, but he doesn’t know, I’m guessing it’s for the twice-a- week cleaning lady to scan and log her work? And oh yeah, they also installed digital locks recently, so everything is done through the app.
Y: Yeah, I’ve also heard good things. It totally fits the millennial and digital native lifestyle. But Ziroom doesn’t just do long-term rentals anymore. In June 2016, it expanded into the short-term rental market, launching what it calls a “youth-oriented” service department, sounds like Welive, also what I think you’d call a hostel or boutique hotel. At the beginning of last year, it began to sell small home accessories, such as plants, bedding, smart electronics and more.

[13:33]R: How does Ziroom make money? Well it first finds landlords from whom it signs a long-term lease. And these leases are long. If you sign a three-year lease with Ziroom, there is no rental increase at all, and only when you do five years do you see a bump of 1.3% a year. From these leases, Ziroom charges a 10% management fee. Then it might refurbish the property a bit, and of course, by offering all these extra services through the convenience of an app, along with a good brand, it’s able to charge a bit extra to the final tenant. How much extra you ask? As high as 30-50%. I know, hard to believe, but that’s the market data. And in the back-end, too, I’m sure there’s economies of scale in terms of the costs that Ziroom is benefiting from.
Y: With such a large market and reasonably clear cut economics, of course Ziroom has plenty of competition. For one, brokerage firm 5i5j 我爱我家 launched its own long-term rental platform, 1zu.com or 相寓, in 2015. Their marketing photos make it look like the Westin. Seriously. The company remains a subsidiary but announced that it had reached over 190,000 properties and half a million rooms rented last year.

[14:52]R: But not all players in the space are born out of brokerage firms. Some are startups, like 蛋壳, spelled Danke which means eggshell, this team came primarily from an old groupon clone called Nuomithat was originally part of Renren but got bought by Baidu. It raised $70mm from Tiger in June, just three months after it raised a $100million in Series B. And now it manages 120,000 apartments but hopes to more than double that by the end of the year. Now that’s still just a quarter of what first place player Ziroom has, but very respectable.
Y: In proper tech startup fashion, the company bills itself as a data-heavy play. It claims that its rich data allows it to rapidly expand. Which is different from how its competitors with real estate roots market themselves — more focus on design and service capabilities.

[15:47]R: Indeed, Danke has tech roots, but the others are run by real estate professionals. In this world though, that’s not a bad thing. Because real estate and finance go hand in hand and of the three players we’ve just discussed, Ziroom was the first to issue asset-backed securities last August has already issued three tranches worth more than $150 million so far.
Y: Wait, asset-backed securities? Weren’t those what caused the Great Financial Crisis of 2008? By the way, happy 10th anniversary to those horrible times and may they never repeat in my lifetime!

[16:24]R: Well, not exactly. Some of the most problematic securities that led to the great financial crisis were backed by subprime mortgages. These “assets” we are talking about here, however, are rental income. It’s actually not unlike investing in the loans that we talked about earlier being given by the banks to renters. These securities return about 5-6%, and are quite new to the Chinese market.
Y: I see here that they are literally listed as 房租分期信托, which can be roughly translated as rental installment trust, and that the first one was issued in July 2016 by Huafu Securities and JD. And before this year, only four such products had been created. It seems that Danke has also got in on the action as well this August, with its first offering of $30 million. Are you thinking what I’m thinking, Rui?

[17:20]R: You mean that Ziroom and others are using these securities to fund their expansion, causing a spike in rents?
Y: Yeah. Is that what’s happening?
R: Good guess, but probably not, since these securities need to actually be collateralized with lease agreements, I’m guessing. Some people think the answer is actually far simpler. Remember the rental loans we talked about earlier? What if what you signed and thought was an apartment lease, was not actually a lease, but a loan with a bank? A viral post mid August made this claim. Major media then reposted it and led to some major backlash from the public.
Y: So the rental platforms get the loan amount upfront, and then pay the landlord, but meanwhile it has the loan money, which it’s using to fund aggressive expansion by offering other landlords a premium to market price in an effort to corner inventory, which then leads to citywide rent increases?

[18:19]R: Bingo! That’s what he’s claiming. After the bikesharing deposit fiasco we discussed a few episodes back, people in China are pretty sensitive about companies abusing any money they receive upfront because there is so little regulation on what they can do with it. So this author really hit a nerve when he asked, what happens if these companies go bankrupt? Well, what happens if these apartment rental companies go bankrupt is that you, as the renter, are still on the hook for the long payments but the payments are going to the bank and not the landlord, so you might be evicted but you are still having to pay “rent”? It sounds pretty wild but it’s possible, because remember we said these rental loans are not collateralized. In fact, people interviewed said that it takes just 5 minutes to process.
Y: Well, 5 minutes to process up to $150,000 in loans? Wow. That’s kind of ridiculous.

[19:22]R: I’m with you. While the government had really good intentions, it’s possible that these lax policies, originally meant to benefit the renter and to increase rental supply, has been abused by these startups instead.
Y: But now it’s stepping in quickly, right? Xinhua reported that on August 17 the government asked to have a chat with Ziroom, Danke, Xiangyu, and some others, asking them not to use debt or other fund raising methods to inflate rents.
R: Honestly though, I don’t actually believe this narrative is true. And all of the long-term rental players have fought back agianst this accusation vigorously. As one noted, collectively, the top ten players only cover about 120,000 apartments in Beijing. Now that sounds a lot, but out of the total available inventory of 7.5million apartments, that’s not even 2%, that’s hardly enough to move the market.

[20:21]Y: Right, and actually what started all this hoopla was a post on social media aka Wechat, from a supposedly landlord who claimed that Ziroom and Danke agents were throwing money at him to get his property. Both companies have since come out and said that was fake, and they claimed that was an ill-willed rumor. Unfortunately in China, this kind of competitive smearing happens a lot, so they could be right, but the situation got so out of hand that effectively the entire industry is now under watch, so no one is safe.
R: Plus, while Beijing and Shenzhen rents have indeed gone up, Shanghai and Guangzhou haven’t. Chengdu, on the other hand, has had even crazier gains of 31% this year. And housing seems a bit random, honestly. So maybe it really is just inventory imbalance and inflation. Anyway, rents in China are still ridiculously low compared to purchase price. The current yield is 1%, when it really should be 6-7%.

[21:24]Y: Yikes. Sucks to be a landlord. But it’s interesting that the industry has taken off despite such crappy yields. The US is also seeing its crop of rental startups, although they are much more sexily branded as co-living communities, such as the startups Welive by Wework, Common, Ollie, HubHaus, Pure House … and I’m sure there is a bunch more.
R: The idea is similar though. We find you other people to live with, we give you some stylish furnishings, maybe some upscale amenities, and maybe some other perks like community events and stuff like that. I don’t have any friends currently living in one of these though, do you?

[22:05]Y: Oh I actually do. But most everyone still finds their places the old fashioned way. Like Craigslist which I’ve got on mind. Social networks and good old brokers.
R: But it looks like that’s changing soon, whether we like it or not! Personally for me though, I like it. I’d much rather use an app to do everything than go to a bunch of different sites and fill out forms and get bills and send checks.

[22:32]Y: Me too. But what about you guys, dear listeners? Are you fans of these longterm rental startups? Do you think they really caused the rise in rents in Beijing? Rui is skeptical and I’m not so sure. I guess we’ll see if rents continue to climb so steeply. Let us know what you think by tweeting at us @techbuzzchina!

TechBuzz China by Pandaily is powered by the Sinica Podcast Network. Pandaily.com is a new English language site that tells you “everything about China’s innovation.” Our producers are Carol Yin and Kaiser Kuo. Our interns are Ska Du and Wang Menglu.