Why Is Hong Kong Still Stuck On Building To Maximum Plot Ratio?

Stephen Chung

Executive Director

Zeppelin Real Estate Analysis Limited

August 2003 

Plot ratio (similar to the Floor Area Ratio in North America) is the amount of floor space one can put on top of a plot of land (site). For instance, a parcel of land 10,000 ft2 in size with a plot ratio of 10 means 100,000 ft2 of floor area can be built on top of it (naturally subject to other relevant land, building, town planning etc regulations). In Hong Kong and some of the regional developing economies, it is common for people to ask the relevant authorities for larger plot ratios, thinking that the more floor area one can put up, the more one earns. This is a common tendency and is not necessarily untrue. Nonetheless, building to maximum plot ratio may not be the optimal revenue / earning / profit solution for all cases or all the time, and sometimes it may even lead to ruin. Reasons:

A)     Demand comes first = without it, there is no point in developing / building any real estate, or getting a higher plot ratio for the land. Demand is generally a reflection of economic performance and expectation, financial liquidity, demographics, educational skills and levels, household income, socio-cultural inclinations etc, both macro and micro, and rational or irrational. For instance, suppose a market has 10 homebuyers, and already 9 homes are being built. A real estate developer buying the 10^th land parcel and asking to build more than 1 home is self-generating an oversupply, benefiting neither him / herself nor competitors.

B)     Some readers may ask “If one does not build to the maximum plot ratio, isn’t one underutilizing the land?” = but the (better) question to ask should be “what makes you think the highest plot ratio will (also) bring in the optimal profit?” Perhaps one can consider these: 1) Remember the high school math whereby say a factory has the capacity to produce 1,000 units of a certain product, yet the optimal profit may in fact mean operating at less than 1,000 production level. The same may apply to land and plot ratio. 2) Many land parcels in Hong Kong have long had the same plot ratios decades ago that they have today, yet many older buildings had not been built to their maximum plot ratios in those days as the demand was not there to support using the full plot ratio (also technical difficulties then might also have played a part). Hence, why do we now assume we can build to the maximum plot ratio for all land parcels and development projects? 3) In North America, land parcels are bought and sold, evaluated, and assessed based on expected demand for the project, not the stated plot ratio (or floor area ratio). Should the market demand exceed the stated plot ratio, all the better and perhaps then, and only then, will the developer ask the authorities for a higher ratio. Otherwise, the project will be assessed based on the lower plot ratio that is justified by the expected demand. 4) Say if hypothetically the authorities (irrationally) grant all land parcels a plot ratio of 50, 80, 100 or even more, do you really think one should thus evaluate and price the land parcels at such (inflated) plot ratios? Yes, some developers may evaluate and build to such plot ratios where and when given, and thus outbid the more competent ones. Yet, such foolish developers will not last long and will soon be extinct anyway.

C)    Authorities may not have a lot of responsibility to ‘manage’ supply = one reason is simple; it is very difficult if not impossible to do that in the context of a capitalistic free market economy. Authorities tend to control either too tightly or insufficiently at times leading to undersupply or oversupply respectively. Perhaps authorities should focus more on enhancing the safety, health, and environmental aspects of the built environment which they have a responsibility and leave the bulk of the land (and eventually real estate) supply (and thus land acquisition) decisions to the market or developers.

As to why Hong Kong, at least 1997 or prior, seemed to have gotten away with building to plot ratios and not suffered as a consequence might have been a combination of baby-boomers getting married / matured (thus wanting to establish a home and fueling demand), favorable global / regional economic trends, restricted government land disposal, and so on. With some of these factors changed or changing, perhaps real estate participants should also reconsider the way the plot ratio is viewed and interpreted.

Notes: The article and/or content contained herein are for general reference only and are not meant to substitute for proper professional advice and/or due diligence. The author(s) and Zeppelin, including its staff, associates, consultants, executives and the like do not accept any responsibility or liability for losses, damages, claims and the like arising out of the use or reference to the content contained herein.  

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