Foreign investment in hospitality companies, hotel properties and other leisure real estate assets in the U.S. has been red-hot during the past 24 months. Foreign investors have stepped in and filled the void left by the partial retreat of more traditional U.S. institutional investors, such as real estate investment trusts (“REITs”) and private equity groups, from the market. This foreign investment has been sparked by a combination of an accumulation of global wealth, a general relaxation on foreign trade regulations in the U.S. and in various foreign countries, and increasingly sophisticated portfolio diversification strategies. Not surprisingly, foreign investors are drawn to the United States real estate market specifically because of (i) return potential, (ii) variety of investment opportunities, (iii) economic, legal and general market stability, and (iv) the size and maturity of the market. In 2015, total cross-border investments in U.S. real estate totaled over $78 billion, and more than half of such investment was directed toward hospitality industry transactions, with foreign investment in hotel transactions exceeding $43 billion.
Historically, the U.K., Canada, Singapore, Japan, Middle Eastern countries and Norway have been sources of major foreign investors in the U.S. real estate market. Until about 2010, Chinese direct investment in the U.S. real estate market was considered fairly minimal. However, in the last six years, China has rapidly become one of the most active foreign investors in the U.S. real estate market, both in terms of the amount invested and the volume of transactions completed. By 2015, China was the third largest foreign source of commercial real estate acquisitions by dollar volume in the U.S. (trailing only Canada and Singapore). In 2016, Chinese foreign direct investment (“FDI”) in the U.S. generally was approximately $46 billion, which is triple the estimated amount for 2015, and approximately ten times the annual Chinese FDI in the U.S. in 2011. Since 2000, the cumulative Chinese FDI in the U.S. economy is approximately $109 billion.
It is estimated that, between 2010 and 2015, Chinese buyers invested more than $17 billion into U.S. commercial real estate. According to the Rhodium Group, which monitors FDI between the U.S. and China, Chinese investors invested $12.8 billion in U.S. real estate (including hospitality assets) in 2016. These figures exclude investments through open ended and closed end real estate funds or publicly traded stocks, and does not account for Chinese investments that flow first through intermediary countries. Beyond acquiring existing properties, in recent years Chinese investors have invested in U.S. real estate by (a) engaging in significant development activity across real estate asset classes, (b) increasing investments in portfolios of properties through public or private REITs and private equity funds, (c) financing development projects through the “EB-5” investor visa program, and (d) providing mortgage or other financing of real estate projects.
One of the most notable factors causing this increased Chinese investment were new regulations allowing Chinese insurance firms to allocate a portion of their portfolios to foreign investments. Prior to 2012, Chinese insurance companies had strict restraints on real estate investments, and could only invest in domestic real estate. However, in 2014, the Chinese Insurance Regulatory Commission amended the regulations so that Chinese insurance companies are now permitted to invest up to 30% of their assets in real estate, and up to 15% of their total assets in foreign markets. Within the last five years, Chinese insurance companies have invested more than $5 billion in U.S. hotels. In 2015 alone, Chinese insurance companies invested approximately $2.4 billion in U.S. hotels.
As a result of the recent devaluation of the yuan against the dollar, Chinese investors’ appetite for U.S. real estate and hotels may grow to help protect against future devaluation. Many economists predict the yuan will continue to depreciate relative to the dollar, albeit gradually.
The general relaxation of Chinese regulations has also greatly incentivized Chinese foreign investment. Prior to 2014, foreign investment projects by Chinese investors exceeding $100 million required prior approval by China’s National Development and Reform Commission (“NDRC”) and Ministry of Commerce (“MOFCOM”), followed by registration with the State Administration of Foreign Exchange (“SAFE”). Each of these processes could take as long as six months, inhibiting the ability for Chinese investors to invest internationally swiftly and efficiently. In 2014, the Chinese government loosened these regulations, allowing Chinese investors to invest up to $1 billion in “non-sensitive” countries and industries without having to obtain prior approvals from NDRC and MOFCOM. Instead, they only need to go through a filing process with each of NDRC and MOFCOM whereby each agency will verify the authenticity of the transaction and decide whether to accept or reject the filing. The filing with NDRC and MOFCOM takes much less time than the previous appeal processes (generally no more than 40 days). However, changes in monetary policy in China enacted at the end of calendar year 2016 have made it more challenging to export funds despite these rules.
Increased Chinese tourism also appears to draw Chinese investors to the U.S. hospitality market. Approximately two million Chinese citizens visit the U.S. each year, and by 2020, this figure is expected to rise to three million. Chinese investors are eager to invest in the U.S. markets experiencing the highest levels of Chinese tourism, including Southern California and New York City, which are popular destinations for Chinese travelers. Investing in U.S. hospitality markets thus allows for a recapturing of some of the capital outflow from Chinese tourists.
With such robust activity from China, hotel investors looking to sell assets and return capital to their investors increasingly want to attract Chinese investors to their deals. But before proceeding with a transaction with any foreign investor, a seller should be mindful of a few challenges that, at worst, may impact the ability to successfully complete a transaction, and in other instances could extend the transaction timeline beyond those typically experienced with U.S. investors. As an initial consideration, a seller should verify potential buyer’s ability and right to export funds out of China. If there are indications the investor does not have approval or that its investment may face scrutiny from the Chinese government, a seller should be prepared for the possibility of a lengthier transaction with lower certainty of closing. As previously noted, the NDRC also has retained the ability to review and approve any project involving “sensitive” countries or industries, no matter the size of the investment. In addition, in late 2016, China’s central government pledged to increase oversight of Chinese money being deployed overseas, in an effort to “ensure the safe operation of state assets” and “enhance return on investment.” The full extent of the impact of these pronouncements on the ability of Chinese investors to deploy capital outside of the China in general, and in the U.S. specifically, remains unclear, but recent reports suggest tighter controls on approving foreign investment. In addition, the registration process with SAFE has been materially delayed lately and, in some circumstances, suspended entirely. We are aware of various instances where the ability of a Chinese investor to export money out of China has been blocked or rejected by Chinese authorities, even mid-transaction or later.
In addition to the potential hurdles a Chinese investor may face exporting funds, for even the most experienced and sophisticated investors, purchasing and operating a hotel or other leisure real estate investment in the U.S. may be more complicated than in some other jurisdictions. The U.S. has its own regulations, market norms, conventions and hurdles in place that may adversely impact the flow of foreign capital to the U.S., including the Committee on Foreign Investment in the United States (“CFIUS”) and Foreign Investment in Real Property Tax Act (“FIRPTA”). Further, foreign investors may be surprised by and uncomfortable with (i) disclosure requirements to obtain financing or a liquor license, including having senior executives and principals having to submit passports, fingerprints and other background information, as well as (ii) the additional due diligence information that may not be typically required in other markets. Hotel brands entering into hotel management agreements and franchise agreements may be reluctant to make deals with foreign investors that have limited experience in the U.S. or with hotels. For foreign investors, the prospect of owning a hotel subject to union and collective bargaining agreements may create considerable deal anxiety or even worse, cold feet. These challenges of course are surmountable, and sellers that engage brokers experienced with working with foreign investors and experienced U.S. hospitality counsel should feel more confident that the collective efforts of the seller’s team and a motivated Chinese buyer will be able to navigate through the transaction hurdles to a successful closing.
For Chinese investors looking to enter into the U.S., there are a few keys to successful transactions. At the core is engaging experienced advisors that know the critical issues that must be addressed when investing in hospitality assets in the U.S. Typically, the highest priority for foreign investors is understanding the tax ramifications for investing in U.S. real estate, which are very different from those associated with investing in other U.S. companies. For example, experienced tax advisors can help Chinese investors navigate FIRPTA and its significant tax implications for foreign investors. Chinese investors have several options that may help reduce or limit tax exposure; however, these options require considerable tax planning and structuring. Chinese investors should involve their tax advisors in China in the discussions with their U.S. tax advisors to help ensure the tax structuring undertaken in the U.S. complements tax issues at home.
Chinese investors also should look to experienced U.S. counsel and hotel managers and advisors to help educate and inform them on the process for obtaining a liquor license, negotiating a hotel management agreement or franchise agreement with a major hotel brand, understanding and complying with a collective bargaining agreement, and negotiating third-party financing, including with respect to required guaranties. It is crucial that investors provide their U.S. counsel and advisors with sufficient details, direction and background on themselves and their goals to allow their advisors to effectively advocate and negotiate on their behalf. The protection afforded by the attorney-client privilege in the U.S., and the obligations that flow from it, should give the foreign investor confidence to freely share such information with their counsel. Foreign investors also should be prepared to be flexible, especially when it comes to matters of disclosure that may be required by a bank or a licensing authority.
While today’s global political climate may be tending toward more isolationist and protectionist policies, the current influx of capital into the U.S. hospitality and leisure market by foreign investors has been unprecedented in recent years, and while more recent monetary policies have at least temporarily placed tighter controls on Chinese investors, there continues to be considerable interest by Chinese investors in the hospitality and leisure space throughout the U.S.
 Wilson, Ken and Ma, Liya, Understanding the Momentum and Motivations of Foreign Investors in U.S. Hospitality. Boston Hospitality Review (Spring 2016), http://www.bu.edu/bhr/2016/05/05/understanding-the-momentum-and-motivations-of-foreign-investors-in-u-s-hospitality/.
 Rosen, Kenneth, et. al., Breaking Ground: Chinese Investment in U.S. Real Estate, An Asia Society Special Report. The Asia Society (2016), http://asiasociety.org/files/uploads/66files/Asia%20Society%20Breaking%20Ground%20Complete%20Final.pdf., in part
 See Wilson, supra note 2.
 See Rosen, supra note 3, in part.
 Hanenmann, Thilo and Gao, Cassie, Record Deal Making in 2016 Pushes Cumulative Chinese FDI in the US about $100 Billion, Rhodium Group (2016), http://rhg.com/notes/record-deal-making-in-2016-pushes-cumulative-chinese-fdi-in-the-us-above-100-billion.
 Chinese pour $110bn into US Real Estate, says Study, The Guardian, May 15, 2016, https://www.theguardian.com/business/2016/may/16/chinese-pour-110bn-into-us-real-estate-says-study.
 Meesak, Daniel, What to Expect from Chinese Hospitality Investments in 2017, Jing Daily, December 29, 2016, https://jingdaily.com/expect-chinese-hospitality-investments-2017/.
 See Rosen, supra note 3.
 Annual Report on Exchange Arrangements and Exchange Restrictions, International Monetary Fund (2014), www.imf.org/external/pubs/nft/2014/areaers/ar2014.pdf.
 Peltier, Dan, 4 Charts Showing the $5 Billion Boom in Chinese Investment in U.S. Hotels, Skift, August 4, 2016, https://skift.com/2016/08/04/4-charts-showing-the-5-billion-boom-in-chinese-investment-in-u-s-hotels/. This figure was bolstered by Anbang Insurance Group’s acquisition of the Waldorf Astoria New York for $1.95 billion in February 2015. See Dulaney, Chelsey, Waldorf Astoria Hotel Sale Completed: Hilton Worldwide Holdings Will Buy Five Hotels, The Wall Street Journal, February 11, 2015, http://www.wsj.com/articles/waldorf-astoria-hotel-sale-completed-1423705536. In 2016, Anbang acquired Strategic Hotels and Resorts for approximately $6.5 billion, and HNA Group, a Chinese conglomerate, purchased a stake in Hilton for approximately $6.5 billion.
 In June 2016, the yuan was trading at about 6.67 to the U.S. dollar, its lowest level since 2010. Mullen, Jethro and Yang, Yuli. Forget Brexit, China’s Currency is Falling Again, CNN Money, July 5, 2016, http://money.cnn.com/2016/07/05/investing/china-brexit-yuan-dollar-currencies/.
 See Rosen, supra note 3, in part.
 A.W., Chinese Firms are Investing Heavily in American Hotels, The Economist, October 28, 2016, http://www.economist.com/blogs/Gulliver/2016/10/rooms-growth.
 See Rosen, supra note 3.
 Fuller, Ed, Chinese Investments in US Hotels Accelerates with HNA Group’s 25% Stake in Hilton Worldwide, Forbes, December 9, 2016, http://www.forbes.com/sites/edfuller/2016/12/09/Chinese-investments-in-us-hotels-accelerates-with-hna-groups-25-stake-in-hilton-worldwide/print/.
 See Rosen, supra note 3.
 Qi, Liyan and Wei, Lingling, China Promises More Oversight of Offshore Investment by State Firms, The Wall Street Journal, November 30, 2016, http://www.wsj.com/articles/china-promises-more-oversight-of-offshore-investment-by-state-firms-1480521227.
Benjamin C. TschannPartnerCo-Chair of Hospitality & Leisure
Bridgette C. BolteCounsel