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Refocus on ‘affordable’ equity
As analysts go gaga over the rise in PE investments in Indian realty last year, the fact is that players should really be looking at India’s middle class for their next phase of growth
Issue Date - 02/02/2012
Disappointing, uncertain and lackluster – these three words best describe the Indian real estate sector in 2011. Developers, buyers and investors suffered at the hands of stubborn inflation, falling demand and precariously rising interest rates. Market watchers say that even new project launches in hot areas like the Mumbai Metropolitan and National Capital Region went down by almost 60% from last year. And despite the fall in the number of launches, almost half of the new projects remained unsold in 2011. Scandals like the involvement of DB Realty promoter Shahid Balwa in the 2G scam and the alleged Noida Expressway land grab further eroded morale.

The ‘silver lining’ was the increased private equity (PE) activity in Indian real estate during the year even as banks looked to limit their exposure to the sector. The cash crunch in the sector saw PE players make a beeline for realty companies, and investments by PE funds grew by a huge 69% during the year, according to research firm Venture Intelligence. In real terms, private equity firms pumped in almost $2.70 billion into Indian real estate companies last year. In a manner of speaking then, Indian real estate was rescued from a complete washout year thanks to hefty arrivals of PE players in a depressed market.

As we move into 2012, the question on everybody’s lips is whether PEs will continue to dominate the market movement or will the demand curve show signs of an upward movement, or will it perhaps be a combination of both.

For those who believe that the PE party will continue at its present pace, here’s a reality check. The real estate dream of many PE players, particularly the foreign funds, already seems to have soured. And its practical translation is evident in the sizable $3 billion worth of exits from the sector over the last two years, as per a recent Jones Lang LaSalle report titled ‘Reaping the Returns’. The reason they cite is an average return of only 1.2 times for investors who were expecting a much higher yield. The report adds that real estate PEs – both foreign and domestic – have so far invested about $13 billion in the Indian market, including the $3 billion in exits witnessed over the last two years. B&E’s cover story on ‘The Dark Side of PE in India’s real estate’ for the issue dated April 24, 2011 had highlighted this very fact; that private equity with its focus on short term gains was actually a poison for the realty sector in India.

The real estate consultancy also paints a bleak picture for the year ahead. They predict PE exits to the tune of nearly $2.5-3 billion in 2012. Worse, they expect that fresh investments by real estate PEs will be under $1 billion in the year due to negative market sentiment and a weak economy. As more overseas investors shy away from putting their money in risky assets and the fund-raising environment gets tighter, some real estate PE firms are even opting to go the project by project route instead of the traditional fund-based approach. This allows investors to exercise the option of investing across several assets instead of backing just one fund with a fixed strategy. Naveen Raheja, CMD, Raheja Developers agrees. “In the current scenario, PEs are preferring to invest at the project level with participation in management at the Board level in order to secure their investment in project.” He adds that the developers are also okay with this development as they take private equity to finance the peak fund requirement.

Already reeling under high debts, the projected slowdown of PE activity in the sector will leave real estate developers with even lesser reasons to smile. So, how is the sector likely to retain its momentum, however slow, in 2012? The answer really rests with the affordable housing segment, which market watchers say, will define the real growth paradigm for Indian realty in 2012.

The surge towards mid-income and affordable housing is supplemented by three important factors. The first and perhaps the most important is the softening of inflation over the last couple of months and the resultant brake in monetary tightening measures by the RBI. Bankers and analysts expect interest rates to remain firm in the short term and even come down gradually in the medium term as RBI is likely to softens its monetary policy. Easing of this burden is likely to open the flood-gates of pent up demand from mid-income buyers. Finally, of course, we have what constitutes genuine demand for housing by India’s middle class, with the housing shortage in the country pegged at upto 70 million by the World Bank in 2010.

Pranab Datta, MD, Knight Frank India, believes that the year will see the deadlock between buyers and developers break in favour of buyers. “As this happens, the pent up demand from the section of buyers that are sitting on fence in anticipation of price correction would translate into improved fortunes for the residential property market,” he says, adding that “employment scenario, inflation and interest rate have a bearing on the overall sentiment of buyers.” The other reason for the shift towards affordable housing is the tightening liquidity in the sector, which is forcing developers to change gears and focus on affordable housing again. Notably, slack demand, rising input costs and hope for better margins prompted most players to shift towards luxury housing in 2011. But now the wheel is turning full circle.

Take the real estate market in Mumbai for example. In 2010-11, top builders such as Mayfair Housing, Rustomjee, Kalpataru Builders and Oberoi Construction typically focused on high-end residential buildings. With each apartment costing upwards of Rs.3 crore, they were obviously not catering to the interest rates/ inflation sensitive population in the city. But Ramesh Nair, MD – West, Jones Lang LaSalle India says that the residential real estate market in Mumbai is expected to bottom out by the second quarter of 2012. The residential market in this period will be sustained by the sale of affordable mid income apartments and he predicts that absorption will be driven by end users as well as HNI investors,.

The government also hopes to pitch into the affordable housing party. Take, for example, the Real Estate Regulation Bill. Expected to be tabled in parliament this year, the bill is likely to play a huge role in helping revive demand in the sector. Geared towards enforcing more transparency and accountability in land and home-buying transactions, it will go a long way in breaking down barriers between buyers and sellers. In fact, the Bill envisages setting up of a Real Estate Regulatory Authority, which will be mandated to encourage construction of environmentally sustainable affordable housing and promote standardization.

So starting this year, pent up demand in India’s middle class may well turn out to be the real rescuers of Indian real estate sector in 2012 and beyond. Demand revival is, however, always a time consuming journey and one should not expect any magic wands to be on display. But the groundwork has to be laid by the players today for a better tomorrow.

Mona Mehta           

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