News Point: It is simply fiscal mismanagement that is behind the turmoil in Indian real estate market and developers are caught in vicious cycle now.
Over leveraged balance sheets affecting the operational expenses, debt hurting the profits, liquidity crunch bringing the projects to standstill but yet funds being diverted for expansion plans…these are some of the issues that are behind the current turmoil of Indian real estate where the homebuyers are on warpath after having waited patiently for long enough. It is not that most of the developers’ facing consumer wrath don’t have execution capabilities but what has derailed their business is the lack of fiscal management.
Today, fiscal management is the key missing link in the Indian real estate and the blame must go to the developers’ pipeline visibility for the lack of fiscal discipline. The fact of the matter is that by over leveraging the balance sheets the developers have hurt their reputation, brand and execution capability. More importantly, they have come to a point where the project and the company’s financial health have gone out of their own control to stand at the mercy of the greedy lenders. How else can one justify the borrowing cost of up to 48 per cent in the North Indian markets today?
Ground reality
- Fiscal mismanagement is behind current trumoil in real estate
- Imbalance of debt-equity, over leveraged balance sheets & unreasonably high cost of borrowing hurting the developers
- Land bank has turned out to be land liability as distress sale won’t fetch them over-valued cost or down payement
- Developers’ defend debt but no developer with fiscal indiscipline has delivered project on time
The developers who have maintained fiscal discipline do not just have a better debt-equity ratio but also their borrowing cost is very low. These are the companies that are not so over leveraging where they just can not deliver. On the contrary, the over leveraged developers who relied for long on the land bank are today stuck. Some of these developers even tried to come out of the vicious circle, but found that either their land valuations are over valued or the distress sale is not commanding upfront payment in today’s market.
As PNC Menon, Chairman-Emeritus say, “I have a very simple and conservative way of looking at the business. And my philosophy is that if I have Rs. 100 with me, I will never borrow more than Rs. 50.” The question is how many developers ae maintaining this debt-equity ratio.
Most of the developers would rather justify their over leveraged balance sheets under the pretext that the Indian real estate is yet to get an industry status despite being the largest contributor to the country’s GDP. As a result, developers find it difficult to raise finance from banks and organised institutions. They have to rely on unorganised sources of funding for their projects.
Besides, delay in process of approvals and the wide gap between conceptualisation of the project and sale of flats results in the shortage of funding for projects. The developers are hence compelled to raise funds from unorganised sectors. Once the sector gets an industry status, developers will be able to raise funds from the organised sector.
Amit Oberoi, National Director – Valuation & Advisory Services and Research with Colliers International says that real estate development is a high risk business due to the lack of certainty related to the approval process, changing market dynamics and consumer taste, and the obvious associated (and many times unforeseen) challenges in the construction business. Due to these factors predicting timelines becomes difficult. However, this cannot be an excuse for fiscal indiscipline. A prudent entrepreneur should factor these while raising capital for the project. Also many have over-leveraged themselves to fund expansion or acquisition of newer land parcels.
“The Indian real estate market needs to adopt global best practices (such as selling on carpet area basis), enforce self-regulation through industry bodies and peer pressure, and also get ready for the real estate Regulator. It is also imperative that the government lays down unambiguous guidelines for development norms and ensure a transparent and timely approval process. Additionally, reputed bodies like RICS should work towards educating future generation of professionals on the practice of real estate. Most stakeholders in the industry want to run an ethical and professional practice,” says Oberoi.
Manju Yagnik, Vice Chairperson, Nahar Group has a caveat here when she insists that fiscal discipline is a case to case basis scenario. Branded developers follow fiscal discipline as they generally get their funding from organised sources. Pipeline visibility to some extent can be blamed for lack of fiscal discipline as there is a huge gap involved between conceptualisation of the project to the sale of the project.
“Over leveraging of balance sheets cannot be applicable to all the developers but to only certain set of developers, especially small time or mid size developers. Builders of repute are generally not involved in over leveraging of balance sheets. Over leveraging of balance sheets takes place when there is mismatch on the funding of ongoing projects and the actual funding reflected in the balance sheets. However, this practise is not carried out by reputed developers as it affects the reputation and brand of the developer,” says Yagnik.
A section of the developers who are in deep trouble today find it convenient to even blame the media for poor perception and projection of the business. They maintain that debt and fiscal management should not be seen as the same but the mistake that media often makes is to not differentiate between the debt and fiscal management. If a debt is earning more than the interest that it is paying then such a debt can not be termed as fiscal mismanagement. On the contrary, it is a good fiscal management.
They maintain that the major problem today is pretty slow delivery and execution which gives an impression that developers’ fiscal management is poor but the fact of the matter is that some zero debt companies have a bad track record of delivery while some of the developers with standing debt in the books are delivering quality projects on time.
The defence line even goes to the extent of justifying the fiscal mismanagement with the argument that over leveraged balance sheet does not count much if the developer is delivering quality product on time. Those developers that have delivered as promised and on time command a premium in the market and have seen faster absorption rates. The market does factor brand when valuing a product.
However, the fact remains that over leveraged balance sheets and lack of fiscal discipline is the key reason behind the project not being delivered on time. There is hardly any case study where the developer with messy financial condition has actually delivered the project as promised. Industry bodies should also understand that there are certain best practices that need to be adopted as an industry practice for the facelift, beyond their lip service, of course.
Developers’ defence apart, the fact lies that the higher debt at unreasonable interest rates in Indian real estate today is not helping the cause of the developer in terms of taking the execution forward. Most of such debts accumulate without execution and sale of the project and hence there is a debt trap that speaks volumes about the fiscal indiscipline on the part of the developer.
They have reached to a point where it is not a choice or luxury but compulsion to really work on the fiscal management and that too with a fair degree of transparency in all the transactions and compulsory approvals before starting a project to leave the extra baggage of perception issues behind. After all, the consumers today are extremely well informed and assertive since do cross check to take cognisance of a developer’s past track record in terms of quality and timeliness of project delivery.
By: Ravi Sinha
