Forecast for realty investments: Cloudy with hints of sunshine
PE investments in realty in the Q1 2018 looked positive with overall PE funding increasing by 1517% since a year ago
The ancient Chinese curse ‘may you live in interesting times’ certainly has a lot of pertinence to Indian real estate today. These are doubtlessly ‘interesting’ times for the sector, which has transformed significantly over the last decade.
A new regulatory environment is being created with the implementation of several disruptive policies. The Real Estate (Regulation and Development) Act, 2016 (RERA), Goods and Services Tax (GST), Real Estate Investment Trusts (REITs), the Benami Transactions (Prohibition) Amendment Act, 2016 and the Pradhan Mantri Awas Yojana (PMAY), among others, have all happened over the last four years.
These policies are bringing in higher levels of transparency and accountability, financial discipline, focus and efficiency into the industry which could only be dreamed of in the past.
The market size of Indian real estate sector is expected to touch US$ 180 billion by 2020 and is poised to grow at the rate of 30% over the next decade. According to the Indian Brand Equity Foundation (IBEF), the number of Indians living in urban areas is slated to increase from 434 million in 2015 to 600 million by 2031. The housing sector alone is expected to contribute around 11% to India’s GDP by 2020.
PE INVESTMENTS RISE BY 15-17% OVER 2018
The increasing share of real estate in the country’s GDP will be supported by increased industrial activities, improving income levels and rapid urbanization across cities. In terms of FDI equity inflows, real estate is the fourth-largest sector in the country. The total FDI inflows in the sector were US$ 24.67 billion from April 2000 to December 2017 – which is 7% of the total FDI equity coming into the country during this period.
As for PE investments in Indian real estate, the first quarter numbers of 2018 looked positive with the overall PE funding increasing by 15-17% since a year ago. However, the steady fall in appreciation and persistent gloom in the residential property market caused PE investors to shift their focus towards other asset classes.
The sector which is seeing most institutional investments right now is the commercial office real estate. Driven by rapid employment generation and the near possibility of the first REIT listings, Grade A office projects, IT parks and even logistics centers are currently yielding the levels of returns on investment that previously made the residential asset class so attractive to investors.
Data suggests that the average investment per deal, particularly in commercial real estate, has increased by almost 3-4 times to nearly the average investment per deal 6-7 years back. Also, the appetite of institutional investors - including private equity, sovereign wealth and pension funds - is visibly increasing for matured, yield-producing commercial assets with established rentals and occupiers.
Needless to say, the rise of institutional investors in Indian real estate space will significantly improve levels of governance in the real estate sector and make it far more structured and transparent.
Major consolidation by way of mergers, acquisitions and JDs has also become a prominent trend in the Indian real estate sector. Some of the top deals in H1 2018 alone are worth over $1.5 billion comprising of investors like Blackstone, Canada Pension Plan, Ascendas, GIC and Indiabased HDFC venture.
Office real estate attracted considerable private equity investments in 2017 and this trend continues in 2018. The promise of India’s first REIT listings is a sure-fire draw for liquidity infusions into the office real estate sector. In fact, this will cause commercial property players to deploy more bandwidth and resources into the commercial property asset class.
The ongoing sluggishness in residential real estate continues to work against it, with private equity players wary of the re-in- vestment cycle risks associated with it. However, while this means that commercial real estate will elicit the bulk of institutional investment interest over the mid-term, the Government is also working hard at making the residential asset class more attractive for large investors.
Overall, India needs investments to the tune of US$ 4 trillion over the next 5-6 years to fulfil the Government’s various schemes. The ‘Housing for All by 2022’ initiative alone is likely to bring US$ 1.3 trillion investments into the residential sector by 2025. In this environment, institutional financing is gaining prominence.
BANKS’ CAUTION ON REAL ESTATE A MAJOR PE DRAW
The rapid increase of non-performing assets (NPAs), significantly reduced profit margins in the real estate sector and the RBI identifying the real estate sector as a ‘high-risk’ business have made banks leery of too much exposure to this sector.
Ultimately, funding sources like private equity, financial institutions, pension funds and sovereign wealth funds have to step in and these are now the predominant funding avenues for the real estate sector. PEs and other institutions have contributed nearly 75% of the total funding coming into the sector in recent times.
However, private equity players are now conducting thorough due diligence and investing only in ‘clean’ and viable projects by established developers with strong track records for compliance and completion. Government interventions like RERA and GST have served as weeding-out mechanisms which will ultimately leave only strong, credible developers with the clout required to attract institutional funding in the fray.
Overall, it has been a rather messy maturing process for the Indian real estate, but it is largely so because there are decades of incredibly messy business practices to be cleaned.