Quick recovery of real estate markets in India after the global downturn in 2008 was a predominant factor in the lower appreciation of risks associated with this sector. The continued increase in prices followed by a weak growth of the economy from 2012 to 2014, coupled with excess liquidity, as debt, has led to a bunch of ‘over-committed’ real estate developers. A focus on luxury products, affordability and high interest rates also adversely impacted the buying behaviour and eventually, the projected cash flows of the sector.
The real estate industry has no entry barriers and hence anyone gets to be a developer. Core competencies of a developer include identification of a land parcel; getting approvals in place; planning; design; execution of projects; cost control as well as project completion within the defined timelines to name a few.
Post delivery service in terms of facility management and putting in place a redressal mechanism; are some of the crucial aspects that a developer should focus on. However, so far, developers have focussed too much on the liaison for approvals for reasons beyond their control. They have relied on excessive borrowing, not only limiting it to construction finance alone but also borrowing for buying land.
This also led to over-leveraging along with over-commitments, delayed delivery and an absence of focus on quality, which has tarnished the image of developers who were supposed to be custodians of life-time savings of the Indian middle-class segment. In last ten years, $25-30 billion of offshore real estate funds and $7-10 billion of domestic money were deployed in the Indian real estate sector.
All this money put to use in the last ten years has led to an increase in supply, especially in the segments where the demand is not commensurate due to the affordability. Inefficiencies of developers have added to the cost and further elevated the end-product pricing. We have currently reached a situation wherein many developers are resorting to selling their land parcels to fight the cash crunch.
This is a crucial phase and strong developers with a proven track record will have to survive these difficult times and aim at reviving sales when markets recover over the next 12-24 months. This has to be supported by a decline in interest rates for markets to be affordable.
The Real Estate Regulatory Bill (RERA) strongly endeavours to limit the excessive abuse within the sector that has been occurring in the absence of regulations. RERA (proposed) will ensure that the project is not launched without approvals; surplus cash is not diverted to other projects so as to avoid jeopardising a performing project; completion in defined timelines is achieved; penalty payable in case of delay should be commensurate with penalty being charged to customer for delayed payment, etc.
After the global downturn, excessive liquidity in real estate has mostly come in the form of structured debt whereas the industry needs equity for deleveraging existing projects and developers. Equity participation for the real estate sector largely comes from long-term investment players in the real estate space like Real Estate Private Equity (REPE) funds.
These funds are supposed to perform all the functions specified by the proposed regulations and bring in the desired governance. Direct real estate investments should only be undertaken with a requisite comprehensive knowledge about the developer, their financial strengths, commitments, micro-market and supply, amongst other factors. However, due to the complexities involved, it is advisable to participate through the fund route for liquidity and access profit margins.