Organized / Branded Builders MarketShare Improve

Realty Launches are slowing down across metros on slower sales, but organized developers have been gaining on sales and launches given little price differentiation now. It also offers the comfort on timely delivery.

The market share of Mumbai, Pune and Gurgaon have increased for large organized / branded developers while in Bangalore, though the top 10 are ahead in performance, market share has only marginally increased over the past few years.

In addition to the land owners / corporates selling land, small and large developers have also started to tie up with select large developers. Such a route is usually adopted to realize higher selling rates, get faster volumes and even upfront cash flows for those in stress. Mumbai has seen the most number of deals while in CY2016, there were more deals than in FY2004-15 put together.

Access to capital and cost of borrowing remain low for larger developers, and they are getting equity funding. Four large developers have seen equity commitments / investments of over `75 bn in CY2015, in addition to multiple small deals in the market.

Traditional developers have shifted from land banking to quick monetization approach since FY2010. Prestige Estates has out-performed all on land acquisitions. It has acquired the most land in the past five years, mostly through the asset light JDA route and monetized them within four-five quarters.

Among corporates, Godrej Properties (GPL) has gained the most, we believe. It has capitalized the most on its brand equity and strong construction focus. Although older acquisitions were capital intensive, most projects after FY2013 have better structures. GPL has also been adding (i) projects in Development Management (DM) model earning annuity-type income on project management and brand equity and (ii) refundable deposits in Joint Ventures, thus protecting against cost inflations.

Chennai Property Price have gone too high too quickly

Chennai Real estate market is marred with government inactions and lot of dampening in interest due to Nokia and Foxcon. Commercial real estate had been very weak. However, commercial properties market are doing reasonably well now. First, due to government inactions, power cuts and less regulatory approvals in last 2-3 years, not many developers showed any interest in launching new projects in this segment. Second, post 2007-08 slowdown, commercial properties capital value has been mostly flat which is yielding very good lease rentals.

After clarity on state bifurcation, Hyderabad has emerged as a formidable competitor to Chennai to attract businesses. State government has renewed its focus in bringing up the commercial demand by recently organized Tamilnadu investor summit where about USD 20 bn of MoU’s are signed. This will be big positive for the sector.

Residential real estate sales are down by almost 70% YoY in Chennai. Land cost used be only 20-30% of whole project cost, now it is almost 50-70%. So overrunning cost due to delays, interest and regulatory hurdles can make a project unviable. Lots of townships (designed on the lines of mini smart cities) in and around Chennai have been flop because there is no transport infrastructure in place and no social ambience around townships. Government spend in transport infra is utmost important to propel the townships/smart cities/affordable housing in suburbs.

The problem is that even in suburbs, price have gone too high too quickly and matching the areas with adequate transportation infrastructure. This anomaly will be corrected by both price and time correction.
Developers are shying away from doing lot of advertisements because they know that with so weak sentiments, A&P cost won’t change anything. Lot of issues like regulations, plan approvals, NOC, environmental clearance, taxation (stamp duty etc) and arbitrary guidance value (Government rate which is higher in some areas than prevalent market rates) are taking toll on the whole commercial and residential space. PE players are taking advantage of this residential slowdown by doing value bulk buying at 20-40% discounts right now.

BANGALORE: Mushrooming E-comm and start-ups are driving commercial real estate

Commercial properties in the city are doing very well with less than 5% occupancy rate, which is one of the least in the country. Expert are expecting less than 3% in coming years. Lease rentals have appreciated by more than 20% in last 2-3 years.

Transport infra and power cuts have been major issue affecting occupancy level in Whitefield. Ecomm and start-ups have played a major role in absorption of small offices. Flipkart took 2-3 mn sqft office space in one go which is unheard before.

REITS are showing lot of interest in city so lot of developers are cleaning their portfolio in terms of cross ownerships, clearances etc as law requires lot of transparency to enable trusts to invest. Bangalore commercial market is the best placed among major Tier 1 cities to place the bets on. Retail is doing poorly in Bangalore due to subdued interest and Bangalore being epicentre of ecommerce.

Bangalore Residential Market Segment
Bangalore market is always known to be market with less speculative activities as compared to other markets because still 70% of demand comes from end-users segment. Developers were inching up prices by 5-7% or more in all areas historically but doing this in future seems impossible.

Luxury segment is taking a big hit because luxury homes are mostly 2nd-3rd home buying for mid management IT professionals. Issues such as low salary hikes, mid management level crisis and fewer onshore opportunities are bringing down this aspiration buying. So this segment is the most hit with prices are already down by 15-20% pan India.

Emerging trend in Bangalore is lot of compact apartments launches in the size of 500-700 sqft and costing around 25-30 lacks to cater to new entered professionals.

Govt Gifts Realty Sector on Diwali

Large developers have always been better capitalized than others with more access to money and at cheap cost (relatively). 100% FDI in townships and development of housing and commercial complexes is already permissible through the automatic route. DIPP has been advised to consolidate all FDI-related instructions such as notifications, press notes and others and prepare a single booklet so that investors wouldn’t have to refer to several documents from multiple time frames.

Investments by companies /trusts/partnerships owned by NRIs to be treated as domestic investments: NRI investments in real estate are estimated to be 10-15% (or more in select markets). Larger entities owned/controlled by NRIs will lead to more investments in housing units/projects, we believe.

Amending the FDI policy on LLPs: This will also be beneficial to the sector as an LLP structure saves tax leakages on distribution.

Transfer of investments to another non-resident investor has no lock-in and can be done through the automatic route. Earlier, such a transfer also required FIPB approval. Bringing this under automatic route will bring ease and speed to such transactions, which earlier had to face procedural delays.

Restrictions on minimum area (20,000 sq. m.) and capitalization (US$5 mn) removed. This was brought down from 50,000 sq. m. and US$10 mn last year. Condition of no lock-in already existed for investment in hotels and resorts, hospitals, SEZs, educations institutions and old-age homes.

100% FDI now permitted in completed projects for operations and management of townships, malls/shopping complexes and business centers. This will improve the service in Indian real estate with more players likely to enter the market. It could also mean cheaper services on this account.

DELHI NCR: Worst Hit Residential Real Estate Market in India

Delhi NCR Realty Market once upon a time flooded with Speculators Money from the Corrupt Congress Government Politicians and their Coterie of IAS Officers is the Worst hit Real Estate market in India as the present Government has Zero Tolerance for Corruption. 80% of apartments in NCR is 3BHK and the average size of unit is almost 1400 sq ft+, so getting a sub 1Core property is impossible.

Worst hit market in India with prices are down by 30 to 50% in select cases. Secondary market is comparatively doing fine with some deals happening. This market is known to have lot of speculative investments from investors and NRI’s in last couple of years. The average time to complete a project here is 7 years and market is so illiquid that it takes around 1.5 to 2 years to sell the property.


Noida market is even worse as compared to Gurgaon with lot of inventories building up .The same is the case in tier 2 and tier 3 cities such as Kanpur, Patiala, Lucknow, Amritsar etc with no deals happening despite price cuts of 20-30%.

All small time developers are just trying to get hold on some funds so that they can restart the halted projects and liquidate the inventory. It is the only market where there is an explicit price cut due to loss of trust factor in developers because of developers like DLF diverting funds to build land banks than developing a project. This has lead to over delaying of project, denting consumers’ confidence.

In primary residential market, the situation is so bad that no deals have happened in last 1.5 years. Lot of small time developers are in such cash crunch condition that they were not paying contractor for last 1-2 years resulting into contractors have stopped working and abandoned sites. So lots of uncompleted projects can be seen in this region.

Mumbai Residential Prices to remain sticky, time correction on the card

In the Mumbai residential space, number of new launches have declined to the extent of 15-20%. Newer launches are happening at lower price (not a market correction). Developers negotiate price depending on the cash paid at the time of booking.

Size of apartments has gone down by 20-25% in Mumbai. A 670 sq ft flat is very common for 2bhk compared to 750qft carpet area two years ago. Mumbai will remain strong because developers have mastered the art of supplying just about the right amount of properties.

Cycle has bottomed out in the commercial space and it is poised to do better going forward . Pick up in demand of commercial real estate is true for all the cities as absorption of space has climbed up. Newer launches are more aligned to what the markets need now. Ticket size has gone down.

Developers are working with much lower margins, input cost has gone up due to high labour costs.

In retail real estate, market is guided by supply rather than demand. Absorption is a function of quality and quantity of supply. Only a few players per city in this segment. The malls which flopped or are on the verge of shutting down because they were ill-planned. Consolidation will probably happen across developers. Weak developers who have financing issues might sell their stock to large, well-off developers. Block deals can happen in real estate too, a builder will sell it to another strong builder.

Online has impacted the business, especially in electronics. People come to Croma, check the model and order it online. But there are some activities which online can not cater to such as Movies, Food, entertainment .

1997 Worst Property Crash of India

1997 saw the worst ever property crash in India with all the major markets suffered 30-50% correction. Here is how the Residential and Commercial Prices Dropped across Mumbai, Bangalore, Delhi, Chennai, Pune and Ahmedabad.

Why the Residential Property Demand Will Not Come Soon?

All the major markets we visited are showing stress with sales stalling whereas unsold inventory buildup at life time high. All major market developers except Delhi NCR are offering discounts to the tune of 5-15% in garb of lot of freebies whereas Delhi NCR is witnessing explicit price cuts. As prices have gone up too high too quickly, we expect this segment to undergo significant price correction for ticket size of Rs10mn+ and time correction expected for ticket size of below Rs10mn. Demand will remain tepid till FY19 due to oversupply prevalent in all the major markets.

Semi Luxury and Luxury segments are hit the most
Lot of launches in semi luxury and luxury segment in last few years across India. As these luxury segments are more aspirational than need based, these have been hit the worst due to sentiments hitting new lows. Most of the developers agreed that this segment is seeing the maximum discounts and explicit price cuts in the range of 10-15% and expect the demand to remain tepid for couple of years.


Benign Inflation will boost the flow to Financial Savings. Job cuts in mid-management layer and falling wage hikes for new entrants should hurt.

Either price or time correction required for income to catch up the high property prices
Property prices have gone up too high too quickly vis –a-vis income levels. Differential in median property prices and median income has expanded. Monthly EMI to income ratio of 40 is the most comfortable ratio. Individuals with 5-10 years of experience and earning between Rs 1-1.5 mn can only afford a property ticket size of Rs 6mn. Time and price correction in property price levels along with lower HF loan rates seems inevitable.

Noida Green Ruling - Good News for NCR Developers

In a major relief for NCR developers / home buyers, the Environment Ministry has approved the draft notification of an eco-sensitive zone around Okhla Bird Sanctuary. As a quick recap: In 2013, the National Green Tribunal had halted construction activity within the vicinity of 10km around this bird sanctuary thus affecting real estate and urban infrastructure projects in Noida and NCR. As a result a lot of the completed apartments (almost 30,000) and other projects could not be handed over to customers. Sales too had declined as customers weren’t sure about the timing of the final approval – if at all. This notification should allow project handovers to commence and will likely result in improved sales traction in NCR – one of the slowest property markets in India.

We note that in Gurgaon, Dwarka Expressway construction also recently got the green light thus allowing for project construction to resume likely allowing for some improvement over time in the secondary market. We note that the market is down 20-25% in terms of pricing and volumes are almost 70-80% below 2010 levels, thus making it one of the most affordable markets in the country. As the secondary market improves, we think it will be reflected over time in the primary sales of developers.

We note that the ruling will essentially allow developers to handover existing projects to customers and likely improve secondary market sales between investors and end users. However, primary sales will take time to pick up as the market will first work through the absorption of these completed units. Nonetheless, in the medium term, this is positive for pricing as eventually when customers start taking possession of projects, prices in the surrounding vicinity will start to rise given improved economic activity and thus eventually incentivize developers to launch new projects.

Moody's Say Developers face Uphill Task

Largest property developers will continue to face a challenging operating environment over the next 12 months including weak cash flows, flat sales and stagnant prices; * expect solid economic growth in India in 2014-15 to provide some support to housing sales, while the likely gradual easing of lending rates will also boost investor confidence and investment activity; * high home prices and declines in savings rates will outweigh these factors, particularly in Mumbai and Delhi

Rising inventory levels in Bengaluru has been highlighted before. While job market has been robust in the region, improvement in IT hiring and continuation of E-commerce led job market boom will remain key monitorables for the region’s performance going forward.

Strapped for cash and struggling to find buyers, developers are offloading apartments in scores. And taking advantage of the situation, private equity (PE) funds and even high networth individuals are driving a hard bargain. Real estate firms, sitting on large inventories, find they have little choice but to offer deep discounts — anywhere between 20% and 40% — as they need cash to complete projects. Gaurav Gupta, director, Omkar Realtors and Developers, confirms he is offering discounts for bulk deals explaining that off-loading apartments. Kolkata’s Forum Project Holdings too has done a bulk sale to Piramal at its BKC project.

CII Conclave on Real Estate Demands Volume Based Business

At the CII Conclave on Real Estate, Most residential participants were from Mumbai but some large core asset developers from Bangalore and Noida also participated in commercial discussions. Key takeaways were,

Construction activity in India has increased over 2.5X since 2009 to US$240 bn. The ratio of construction which was nearly 50:50 between residential and commercial (offices, malls, hotels) is now skewed towards residential (around 86%). This, along with higher supply of high ticket projects are contributing to the current slowdown.

Residential: There is a clear shift towards this sector by organized developers across markets. While demand drivers remain strong, too many developers are focusing on premium projects while demand is at the lower end. Despite general perception, there is little ready-to-move-in inventory available across key metros. But going forward, we believe there will be more inventories in the ready-to-move-in projects for sale, as (a) supply increases, (b) size of projects are increasing and (c) projects available are much dearer than a decade back.

Government policies: There is no change or improvement in policies at the local level unlike announcements made by the central government. Announcements on REITs, ‘Housing for All’ did not move to the implementation stage in the past year. Some office developers believe the first REIT could come in the next 12 months, but land and taxes remain the biggest hurdle for private participation in ‘Housing for All’.

Affordable housing: There is a disconnect between central and state governments on affordable housing, as land is a state subject. 34% taxes on land and construction are unlikely to lure private developers to affordable housing. We have already pointed this out in our past notes. We continue to believe that giving higher FAR / FSI for projects and making EWS / LIG unit construction compulsory should be the major policy decision to be taken.

Most participants believe larger, organized developers will perform well as smaller developers struggle. We hear such discussions usually during down cycles. As real estate is a low entry barrier business new participants enter the market near the peak. Eight of 10 developers present in the market since the ‘80s continue to operate, and have increased their scale of operations.

India Wide Realty Slowdown - RBI

RBI’s Housing Price Index suggests that prices have moderated on a pan-India basis, data from property websites suggests a deeper slowdown in India’s large cities, with prices falling by 7-18% YoY. Alongside this, we are also seeing a significant drop in transaction volumes: our visits to five property registration offices in Mumbai suggest a sharp drop in the registration of new residential properties and data from property valuers in Maharashtra and Tamilnadu suggest that transaction volumes have fallen by 10-15% per annum
for three consecutive years now.

RBI data suggests that the banking system seems to have turned the tap off for property developers over the past year. This has in turn made developers either stop construction or cut prices. The knowledge that there is many years’ worth of unsold real estate inventory in most of India’s tier-1 and tier-2 cities is causing investors to hold back further purchases. Data from property research houses suggest that regions like Mumbai and Delhi would take as much as 11-14 quarters to clear the existing inventory.

Black Money Bill Pushes Speculators Out
The draconian Black Money Bill went live on 1st July and has made HNW families reluctant to invest in Real Estate. Key state governments (Karnataka, Maharashtra, West Bengal, Delhi) have hiked “ready reckoner” rates sharply this year and thus prevented prices from dropping to a market clearing level.

Residential Prices Halt, Slowdown Continues

After showing some pickup in first 9MFY15, demand has moderated in 4QFY15, especially in commercial segment. Residential prices and commercial rentals have flattened out. Full recovery will take some more time, in our view.

Residential absorption (area sold) in key cities of India fell 11%YoY in 4QFY15 and 21% YoY in FY15 (Prop Equity data). Decline of 21% YoY in FY15 comes on the back of very weak FY14 when absorption fell 22% YoY. But the silver lining is moderation in sequential decline – QoQ growth rate was -5%/-1%/-6%/0% in 1Q/2Q/3Q/4QFY15: this shows some moderation in demand de-growth through FY15. Anecdotally, demand for premium residential property in Mumbai and Gurgaon seems to have picked up at the margin over past six months.

High inventory and weak demand has forced developers to cut back on new launches. Residential new
launches fell 48%% YoY / 18% QoQ in 4QFY15 and 37% YoY in FY15. In terms of quarterly run rate, 4QFY15 saw lowest quantum of new launches after FY09. Anemic new launch data does not bode well for future construction activity.

Different data points continue to suggest broad-based deceleration in residential prices across India. Residential prices grew just ~0.5% YoY in 4QFY15, compared to 12%-16% YoY increase seen over 2QFY12- 4QFY13 (Prop Equity data). As per Reserve Bank of India’s All India Residential Property Price Index (RPPI), price increase decelerated to 3.6% YoY/ 0% QoQ in 3QFY15 from a high of 28% YoY in 3QFY13.

Modi's PSU Land Use Formula for Industrialization

While the ordinance on the land acquisition bill has been referred to a Joint Committee, according to the media, the government plans to use the large land reserves (250,000 acres) available with central PSUs (Public Sector Units), mainly financially troubled ones, for industrial and infrastructure projects.

Some of the land with the PSUs is leased from the state governments, not directly owned, while some is encroached on. The location of the surplus land will need to match with the requirement of the projects.
Healthy PSUs giving up land for the private sector could lead to protests from employees and opposition parties.

Apparently, the government is also planning to use this land for plug and play projects (all the clearances in place before the award), which as we pointed out in our budget note (see F16e India Budget: Visible Infra
Focus dated March 1, 2015) could be a game-changer. If the PSUs involved are already financially troubled companies, the impact of taking away unutilized land will be insignificant, reducing the risk of opposition from any stakeholders.

Declining Affordability, RBI Data Alludes Correction in Property Prices

RBI residential property index trends for 3Q15 indicates a marginal increase in all India property prices. While Bangalore witnessed 11% increase in prices YoY, Mumbai, Kolkata, and NCR saw limited price improvement during the period. In addition, home affordability continued to decline over last one year.

However RBI data indicates material time correction in Mumbai, NCR and Kolkata property prices last year. Bangalore and Chennai witnessed consistent increase in property values primarily driven by end user demand. Time correction has a domino effect in regions with high proportion of investor flats, as non-commensurate returns impact asset holding capacity of the investors, resulting in property price correction.

Home affordability has declined over last one year as EMI to income ratio increased from 36% to 40% during the period. As the home affordability declines, we see a gradual shift to smaller apartments especially in Mumbai, Pune and Chennai.

While property price escalation has moderated, it has outpaced rental inflation significantly over last 3-4 years. Lower rental growth and declining affordability has resulted in deferral of purchase decision by end users leading to higher inventory level across regions.

Mortgage lending rates have been reduced by 15-20bps across banks/NBFCs post the RBI policy in Apr-15. While the reduction is directionally positive, the reduction in EMI, in our view, is not material enough to improve demand scenario in the sector.

New Residential Launch, Push Up Sales

All cities except Gurgaon saw an increase in new launches in 1QCY15 leading to a QoQ increase in sales (demand). We question sustenance here as we believe (from historic property cycle experiences) that developers use new launches at attractive prices as one of their strategies to push up sales and cash flows in periods of market weakness. Gurgaon clearly witnessed this play out in CY14 with little success.

Mumbai - 1QCY15 witnessed a pick-up in sales velocity led by launches at attractive pricing by well-known developers timed with local New Year in March. However, we maintain our view that Mumbai housing market remains tough evidenced by CY14 annual absorption rate flat at 24% compared to CY13. We reiterate our belief that projects by developers with good brand-value and execution track record will see better sales velocity. 10 key project launches (mainly in eastern & western suburbs) accounted for 33% of total new sales in 1QCY15.

Bangalore - 1QCY15 was the 2nd consecutive quarter to witness new project launches greater than 13,000 units (14,000 units in 4QCY14). Led by aggressive launches, 1QCY15 clocked new sales (demand) of more than 8,000 units (only the 2nd occurrence in last 7 years). As unsold inventory continues to rise above 70,000 units or above 10 quarters, we believe these are early signs of weakness. Also, mere 4% increase in overall housing price in CY14 supports our hypothesis

Noida - CY14 strategy of controlling new launches (supply) worked well in containing rising unsold inventory. We believe Noida’s unsold inventory has peaked at 100,000 units. However, given recent absorption rate, Noida will require 14 qtrs to exhaust this unsold inventory. 1QCY15 witnessed new sales of ~4,800 units which is the lowest in last six years. Absorption rate at 4.5% is lowest ever as investors who held the market in the past seemed to have deserted the market given poor visibility on timely delivery, price appreciation and exit to end-user.

Gurgaon - We believe the key reasons for drop in absorption rate are – 1) poor affordability as housing prices rose amidst slowing income growth, 2) pace of development of physical and social infrastructure much slower than housing development and 3) stock dump by investors in projects nearing completion (launched in 2009-10). We foresee following events to occur before any meaningful resurrection in sales and cash flows – 1) notable rise in new launches with freebies and discount schemes and 2) reduction in investor inventory in secondary market.

Real Estate Regulator India - Closer to Reality with Modi's Land Bill

The Union cabinet headed by Narendra Modi has approved amendments to Real Estate (Regulation and Development Bill), 2013. Key changes / inclusion introduced in the amendments are a) Residential and commercial projects under ambit of the new Real Estate Regulator that will come into force, hopefully and not like Jan Lokpal.

We believe Real Estate (Regulation and Development Bill), 2013 is a step in the right direction to address the end user concerns. The key feature of the bill is appointment of Appellate Authority which will adjudicate disputes between the industry participants with predefined timelines. In addition the transparency introduced at the time of registration with Authority (documents like commencement certificate, layout plan, agreement copy etc.) will help end user in taking an informed decision.

Ambit of regulation has been increased by bringing 1) Commercial projects and 2) projects which have not received completion certificate under the its jurisdiction. Previously projects which had received commencement certificate before the implementation of act were exempted from registration.

In original draft bill developer was required to compulsorily deposit 70% of amount realised from allottees in a separate account. The deposit amount has been reduced to 50% thus improving working capital flexibility as compared to draft bill. Another key amendment is the requirement of consent from 2/3rd allottees if the developer intends to alter plan or make structural changes.

REIT to Fuel A new bull market in Investment Property

Over a 3 day tour over Mumbai / Delhi / Bangalore we explored the fundamentals of investment property assets (Office /Malls/ Hotels) along with longer term prospects of REITs in India. In summary we think Investment Property assets are entering a new bull market driven by positive rental reversions / peaking of new supply growth / market share consolidation and likely lower interest rates one year out. Cap rates then in our view will likely trend 100-150bps below current 9%-9.5% levels as market starts discounting positive rent reversions over the next 3 years

Office /Retail Real Estate markets are getting more consolidated, with the top 2-3 developers in each market increasingly controlling a higher share of new supply. This is because smaller developers are increasingly shying away from a capital intensive model and tenants too are now increasingly discerning across landlords.

Across our meetings with companies/ consultants/ funds in 3 cities, the clear trend that emerged was that office /retail real estate now is entering a new bull market. Rental revisions post lock in are rising 50-70% across portfolios for many companies. This is essentially driven by rentals catching up to market pricing and reflective of likely tight demand supply fundamentals in the space over next 3-4 years

Hotels are one of the worst affected asset class of the current slowdown but now seems poised to come back as peak supply is now starting to get over. Hotels in areas such as Gurgaon / Bangalore suburbs are witnessing near sell out levels as new industry is now moving towards city suburbs rather than conventional city centers. We think as peak supply gets over in the market, RevPAR reflation in the market will revert to double digit growth levels over the next 2-3 years

Modi Dislikes Investment in Gold / Real Estate

India has a higher savings rate than its peers. For instance, data from the World Bank suggests that a typical emerging market has a savings rate of 24% when its per capita income is US$1,600. India, on the other hand, had a savings rate of 30% when its per capita income was at US$1,500 in CY13.

Despite this, India is characterised by a high cost of debt capital and poor accessibility to capital, as more than two-thirds of India’s household savings are held in physical form, which includes real estate and gold.

Physical savings instruments are preferred to financial savings instruments in India because of the following two reasons: (1) Whilst the purchase of physical assets can be funded using black money, the purchase of financial assets cannot be funded using black money, and (2) Physical assets are perceived to be superior inflation hedge as against financial assets. The outright preference for physical assets in India is evident from the fact that an overwhelming 65% of households in a middle-income country like India own the houses they live in whilst only 59% of households have access to banking services.

Furthermore, the preference for gold over bank deposits has become even more pronounced in the last few years, as the size of India’s black economy has burgeoned (owing to the rise in corruption) and as inflation rates have soared. Besides explicitly targeting the black economy, PM Modi also aims to expand the white economy. He plans to exponentially increase the number of households with access to banking services.

Bangalore Residential Sales SlowDown

The primary residential sales dropped in Bangalore in CY2014. Slowing sales have resulted in a 30% drop in launches too in CY2014. As the pace of sales growth didn’t match the pace of launches in Bangalore, pricing power always remained with the buyer. This also resulted in building up of inventory (unsold under-construction area) in Bangalore. What surprised us, not matching our expectation of only super-luxury sales slowing down, is that units selling below Rs 5 mn each also slowed down while those selling above Rs 7 mn each showed volume growth.

Prestige's sales strategy and sales stand out as it entered various markets within Bangalore and launched projects starting below Rs 7 mn/unit, attractively pricing its projects, which have resulted in growth. While Sobha’s strategy of launching only luxury and super-luxury projects resulted in their sales volumes remaining flat (although an increase in value terms), Puravankara has managed to maintain marginal growth on volumes from its new launches. But unlike Prestige and Sobha, Puravankara has sizeable unsold ready units to be sold.

Sobha has soft-launched its ‘Aspirational Homes’ product in 4QFY15, with unit prices starting as low as Rs 3.5 mn/unit. We believe this project will see good response and Sobha needs to replicate such projects at multiple locations for growth from current levels. Prestige, too, acquired 15 projects in 3QFY15. Entry into new markets, we believe, will be the key to Prestige’s volume growth in its residential business.

CY2014 saw some large lease deals in Bangalore. Outer Ring Road (ORR) remains the most attractive location with the largest developments and the largest leases being discussed in the market. In the past five years, absorption contribution in Bangalore has increased from around 40% to around 65%, followed by Whitefield. All major office developers, Embassy Developers, RMZ, Prestige Estates, Salarpuria Group among others, are present in the market. Whitefield is the next desired location among occupiers.

Govt Exempts Capital Gains on REIT Sponsors

The government exempted the capital-gains tax on sponsors (which was only deferred earlier) to as and when the sponsor decides to monetize its holdings in an REIT (all other conditions remaining the same and provided the sponsor pays STT). This puts a sponsor on a level-playing field with most promoters’ equity offerings. For any asset/SPV created before FY2014, the sponsors can monetize their shareholding after FY2016

The government clarified the direct holdings of an asset in an REIT. The income will be a pass-through for the REIT. For the resident investor, there will be withholding tax of 10% while for a non-resident investor it will be as per the tax laws of the respective country. On the face of it, this remains a lucrative structure for institutional investors with a minimum tax leakage (provided the REIT takes a stamp-duty hit in stage 1). But one still needs to understand the taxation for FIIs as this falls under income from house property

While the above measures are progressive steps, they still do not address the issues of (1) upfront MAT payments while transferring shares in the SPV to the REIT and (2) direct transfer of an asset to the REIT. In both cases there is upfront cash outflow for the sponsors, without necessarily getting cash. In (2), there is a large stamp-duty consideration, which is governed by local states rather than the cent

We believe direct holding of an asset in a REIT is the most efficient structure in the long term—as the income in the REIT is a pass-through and with little leakage on distribution, we believe this will augment yields

MAT remains the biggest issue

MAT is still applicable during the initial transfer of shares from the SPV to the REIT. In case of asset transfer, the sponsor will have to pay capital gains. However, since in most cases assets are in SPVs, setting off of MAT credit could be difficult.

Stamp duty is another issue in case of an asset transfer. Stamp duty varies 6-9% as per state regulations. In such a transfer, this will also have to be taken into consideration and will affect yields. As in Exhibit 1, considering all other variable are similar, SPV transfer is better.

Sponsors are also seeking dividend distribution tax (DDT) exemptions in case of SPV holding assets and REITs investing in form of equity of debt. We continue to believe this will be hard to change, as the government is not giving exemption to other sectors on this parameter. Further, direct holding and investment through debt bypass the DDT. All said, we believe that one cannot set up a perpetual vehicle (REIT) based on financial engineering.

REIT taxation clarity provided

Union Budget 2015 finally provided some clarity on the taxation of REITs. As a brief recap, going into the Budget, there were two primary demands from the industry regarding taxation: 1. Exempt transfer of assets from sponsor to REIT from capital gains as it’s similar to a company doing an IPO; and 2. Exempt the project SPV from Dividend Distribution Tax when paying dividends to REIT. These norms would have incentivized sponsors to put assets into the REIT without undergoing significant tax outgo and also be able to upstream higher dividends from assets to final investors.

On the first demand, partial relief given. Transfer of assets from the sponsor to the REIT is exempted from capital gains tax. There will be a levy of MAT at transfer but this can be offset on other residential business that the sponsor may have. On DDT exemption, no relief has been given as against industry demands. Thus REITs will now need to take out dividends as interest income from the SPV. This, however, attracts withholding tax which is lower for FIIs.

 REITs can take out dividend in the form of interest income from the SPV. Under the regulations laid out, domestic investors pay higher tax on the REIT dividend as opposed to foreign investors that pay a withholding tax of 5% (additional paid depending on their tax jurisdiction). For both domestic investors and FIIs, REIT income is a pass through and is taxed at their hands (less withholding tax paid by the REIT). Thus for FIIs this is a good outcome. For domestic sponsors, technically, this will mean that entire rental income is taxed. Again for sponsors with large residential business can offset this. However, it might not be really attractive for pure commercial developers. We do note that the regulation is no worse than the existing tax structure. See pictorial representation below.

Exiciting Times for Mumbai Home Buyers

Developers are now offering freebies and discounts to sell projects, as the supply on offer is different from demand segments.

Similar to the trend in other markets, Mumbai also saw fewer (official) launches in 3QFY15 as developers pushed sales at existing projects (with more supply, investor deals still remain high, we believe). Pricing still remains high in certain markets, but is not increasing anymore. More deals and offers are now being followed up with absolute price-cuts at many projects, including those of larger developers and high-value markets.  

The residential market still remains slow and only strong brands are able to sell expensive products. Developers are open to giving discounts and cutting prices, but post definitive interest from buyers. Land buying has dropped and prices are not going up as only 4-5 developers have the capacity to buy land worth more than US$200 mn. Further, developers want to reduce absolute debt, but with changing approvals and increasing costs, we remain skeptical.  

Launches continue to slow down in Mumbai too, with the official launches during the festive season 50% lower than the average of the past 10 quarters. But our channel checks suggest developers are pre-launching projects to investors, offering deals for large projects that are yet to be reported as official sales.

Developers continue to push sales at existing projects, with many introducing discounts in the form of subvention schemes, schemes without interest rates linked to banks and apartment registrations, deferred payment plans and most even offering high discounts on offered rack rates. Our channel checks suggest discounts in certain high-value projects / large developers ranging from Rs 500/sq. ft to even Rs 5,000/sq. ft depending on locations and projects. Having done this, sales continue to hold ground in Mumbai on a consolidated basis.

Residential Demand Remains Weak

Residential absorption (area sold) in key cities of India fell -22%YoY/ -9%QoQ in 3QFY15 (Prop Equity data). While the decline in absolute terms is still substantial, the pace of demand decline has moderated over the past four quarters. Residential new launches fell 59%YoY/42% QoQ in 3QFY15


Residential prices have been increasing despite weak volumes over the past 3-4 years. However, now different data points are suggesting a sharp deceleration in price rises. Residential prices grew just ~2% YoY in 3QFY15 – a sharp deceleration from the 12%-16% YoY increase seen over 2QFY12 -4QFY13.

Commercial absorption in key cities grew 11%YoY/ -12% QoQ in 3QFY15. 3QFY15 was fourth consecutive quarter in which commercial absorption grew. Commercial absorption grew 15%/6%/51% YoY
in 4QFY14/1QFY15/2QFY15. High inventory (~50 months of available supply) has kept rentals in check. Rentals are flat YoY. Commercial new launches fell 95%YoY/ 98%QoQ in 3QFY15.

Commercial property demand is growing again while residential demand destruction is inching closer to bottom. Demand for premium residential property in Mumbai and Gurgaon has picked up in 3QFY15. However, full recovery is some time away

Transforming Mumbai - Infrastructure Thrust & FSI

A proposal has been mooted to increase Floor Space Index (FSI) across Mumbai between 3-8x. This is a follow-up of the announcement made at the recently concluded “Mumbai Metropolitan Region Transformational Enclave”, wherein the state government stated that it will look at increasing FSI in Greater Mumbai for the promotion of new industrial hubs and affordable housing. The state government is increasingly focused on urban infrastructure creation in Mumbai, something which the city desperately lacks. This is also in line with the Chief Minister’s resolve to make Mumbai a global financial hub. Even if half of these projects get implemented, it could have a cataclysmic effect on the city’s real estate / infra potential. Some of the key initiatives announced by the government are listed below

1. FSI increase in Greater Mumbai for promoting infrastructure creation and reducing population pressure on the city. Proposal has been mooted now to increase it to between 3.5-8x. However, the final notification of this plan is likely 1-2 years away.

2. Creation of an IT-based platform for project clearance thus cutting lead times. A “war room” at the CM’s office to coordinate projects across 17 different government agencies will also be put in place.

3. Implementation of the U$1.5B, 36KM coastal road project in two years.

4. Completion of the first phase of the Navi Mumbai International Airport by 2019.

5. Allowing the local municipal body (BMC) to raise bonds to fund new infra creation.

6. Release of a New Tourism Policy for the city.

7. Get work started on the Trans Harbor Link (22KM) that connects the city to the mainland and thus open up new development avenues.

8. Extension of Metro Rail in three new areas connecting the city to suburbs.

9. Creation of a new “BKC”-like district in Thane and improving connectivity of BKC to other suburbs via connector bridges and roads.

10. The state government has also asked the center for tax benefits for the promotion of financial activities in the city.

Mumbai, over the last 10 years, has lagged its competitor cities in new infrastructure creation. Delhi/NCR region has thus rapidly moved ahead of Mumbai driven by private/public infrastructure participation. However, the state government now seems to be intent on changing that. A master plan seems to have been laid for a “transformation” over the next five years.

SEZ Land - dual use of social, commercial infrastructure

In a recent gazette notification to amend the Special Economic Zones (SEZ) Rules, 2006, the Ministry of Commerce & Industry has allowed dual use (both by the SEZ and the domestic tariff area entities) of “social or commercial infrastructure and other facilities”, within non-processing areas. The core commercial activity of SEZ units is undertaken in the processing area, and the rest of the land in the SEZ is the non-processing area.

It is pertinent to note that non-processing areas will be divided into two zones: (1) where social or commercial infrastructure and other facilities are permitted to be used by both the SEZ and the domestic tariff area entities, and (2) one that will be exclusively used by SEZ units (this area will be bonded and physically segregated from the rest). While the first category will not enjoy tax incentives, the second will be eligible for tax concessions.

Notification lays out restrictions for duty-paid dual-use non-processing areas - The individual caps are: (1) housing (capped at 25%), (2) commercial (capped at 10%), (3) open area and circulation (not less than 45%) and (4) social and institutional infrastructure including schools, colleges, socio-cultural centers, training institutes, banks and post offices in the remaining area.

The notification is positive for SEZ developers with land monetization plans (will potentially lead to an uptick in land leased and pricing), given that it will lead to better economics for operators of social or commercial infrastructure facilities in the dual use non-processing area. The positive impact, though, for an SEZ developer, has been somewhat curtailed given that the dual-use non-processing area will get no tax concessions. The developer must refund prior central or state tax concessions availed for creation of the infrastructure