The commercial real estate sector has witnessed increasing participation by various large international funds and private equity players, buoyed by the gradual recovery in the sector since FY2015. Of late, many of these international institutional investors have also started looking at residential real estate favourably, albeit in a selective manner. In ICRA’s opinion, the tie-up with international investors would help real estate developers build a healthy launch pipeline. The table below gives the details on some of the notable transactions.
Table 1: Details on Recent Transactions
Source: ICRA research
The investment platforms provide the developers with access to capital, which can be deployed across projects. The investment is typically routed through the project special purpose vehicle (SPV), with the costs and profits to be shared by the partners in a pre-determined manner as per their respective economic interests. The investor is associated with the project since the start, and is provided an exit through the ultimate monetisation of the project. The interim profits generated from the projects are, sometimes, invested in acquiring interest in new projects thus lowering the incremental equity contribution from the partners as well as opening up a more tax efficient way of channelising profits.
Mr. Shubham Jain, Vice President, ICRA Ratings, says: “The stress in the industry has made available ample of investment opportunities in the sector at attractive rates. With over US$ 2 billion of capital commitment expected under various platforms, the leading developers would be able to acquire new projects thus ensuring a steady launch pipeline over the medium term. Moreover, the equity nature of such partnerships would reduce the burden of providing any committed exit to partners,”
Real estate development traditionally involved outright purchase of land parcels, necessitating a large upfront investment by the developers. Moreover, the delays in project launches resulted in a lock-up of the developers’ capital over a longer time period, thus eroding the returns on capital employed. The past decade, therefore, saw other asset-light models of development, like joint development agreements (JDAs), joint ventures (JVs) and more recently, development management agreements (DMAs) gaining prominence. This shift from the land-banking model to risk-reduced project development has also attracted many international investors. Among the first to do so was Godrej Properties Limited (GPL), which launched a US$200 million investment platform in partnership with Dutch pension fund asset manager APG Asset Management NV in 2012, following it with an additional US$275 million platform with the same investor in March 2016.
While the private equity investment inflow in the industry has been healthy, the domestic real estate developers have been grappling with challenges such as subdued sales as well as cash flows.
Given the limited supply coupled with the delays in execution across projects, there has been a shift in consumer preference towards projects from large and reputed players. This, however, has helped support the sales for large developers, though the overall demand continues to remain muted.
“By partnering with well established and experienced developers, having a demonstrated track record of execution as well as delivery of projects, the private equity investors are able to participate in the domestic real estate sector while reducing the exposure to execution as well as counterparty risk,” Mr Jain added.
An analysis of the recent private equity investments in the sector shows that while such partnerships have been largely limited towards leading developers, the mid-rung developers have attracted investments in the forms of debt or structured instruments which allow for profit-sharing with pre-defined minimum returns. The significant funding requirement in the industry has created an opportunity for non-banking financial companies (NBFCs), considering the less rigid regulatory environment coupled with their larger risk appetites.
The recent policy changes are also expected to help create a more favourable operating environment for foreign investors. For instance, the recently passed Real Estate (Regulation and Development) Act, 2016 (RERaD Act or The Act or the Regulation) Act 2016 Bill seeks to bring in structure and much-needed transparency in the industry and thus is expected to be a positive for the sector in the long run.
The Government of India (GoI) has also amended the foreign direct investment (FDI) norms for the sector to provide an impetus to foreign investment. The reforms pertaining to the sector include removal of the minimum FDI eligibility criteria in terms of size from (20,000 square meter earlier) and capital (US$5 million earlier), permission of FDI investment in completed projects, and easing the process of exit for investors by allowing exit and repatriation of the investment before the completion of the project.
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