Bottom Line: When Track2Realty analysed the impact of demonetization over the property prices, a section of financial analysts disagreed with the analysis, but the fundamentals support the analysis.
Some of the critics even took Track2Realty analysis as an endorsement to the cartel of black money into the business of Indian real estate. However, the theory of lesser supply and higher input cost leading to costlier property prices has its genesis deeply rooted in the ground reality of Indian real estate. And hence, it could not be completely ruled out by any economic theory.
Odds in favour of higher property prices
- Supply constraints and higher input cost a reality as credit reliability for land finance limited to few developers
- Most of the foreign funds interested in construction finance and hence cleaner land finance to be costlier
- Most of the leading developers already over-leverage with execution capacity
- A large universe of of mid-size developers who are producing volume in mass housing will find land finance at higher rates
The only economic rationale behind demonetization leading to lower the property prices, that contested our theory, is that once the sector moves beyond the cartel of black money the cleaner sources of funding will emerge as the dominant market force. This market force will compel the developers to fall in line for clean business and get rewarded with lower cost of funding.
The proponents of this economic theory assert that serious foreign funds, like the US pension fund among others, are scouting for opportunities in the Indian real estate. Their only fear factor is the unscrupulous elements in the Indian market. Once these funds make entry into the Indian real estate with lower expectations of ROI (as they are used to 3-4 per cent return back home) the input cost of the developers towards land purchase will be much lower.
In theory, this economic hypothesis sounds like a robust and clean business model, and hence viable future alternative. However, the contention is that whether these foreign funds will be interested to invest at the level of land finance is yet not clear. If the foreign funds agree to only invest into construction finance, as has been the trend, it does not address the real need for cash or the black money of the sector with lower ROI towards land purchase.
Moreover, most of these funds would look to invest into the portfolios of top 3-4 developers in the respective cities. And it is here that the real dynamics of demand-supply-execution comes into the play. Most of the top developers in each of the key markets are already over-leveraged in their scale to capacity ratio.
And the history of real estate defaults by some of the big names like Unitech, Jaypee Group, DB Realty etc clearly suggests that more money sets in greed where the developer commits to launch more than what one can deliver, leading to execution defaults and that spoils the entire market and the eco system. Even the debt burden of DLF has a co-relation with its over-leveraging in terms of execution target.
As a matter of fact, launching beyond the delivery capabilities has been the biggest bane of top-line developers in this part of the world. This is something that everyone knows but only a handful of them admit on record.
Nikhil Hawelia, Managing Director of Hawelia Group admits that money is one of the components in the cycle of money, material, manpower, machinery and management. According to him, the final cost of the apartment is a combination of all these factors. Money alone can only lead a developer to over-commit, launch beyond capacity and then default on execution scale, as one tends to far exceed the execution capabilities.
“I am not sure whether the foreign funds will be inclined to invest in the Indian real estate across the board. They will only look for the bigger players who are in the business for quite some time; are mostly listed with a certain level of corporate governance and anyway operate in transparent eco system with mostly clean money. So, it is a paradox that while more liberal finance to these developers can lead them to far exceed their execution capabilities and default, the developers with limited resources and within limits of execution capabilities would still go for higher cost of land finance,” says Hawelia.
Amit Oberoi, National Director, Knowledge Systems, Colliers International nevertheless believes that in the long run this demonetization will lead to an economy that is more aligned to global compliance standards and an industry with high levels of corporate governance making it easier for foreign entities to invest in India.
“We expect cap rates to compress due to decease in risk. It should also boost REIT (Real Estate Investment Trust) listing in Indian market. We should see a more robust institutional investment market as retail investment participation in these segments will shrink,” says Oberoi.
Though there is no doubt optimism among a section of analysts who believe the demonetization will lead to more clean and transparent system, pricing index is a different story altogether. Despite of voices of optimism borne out of euphoria the ground realities of Indian real estate and economic fundamentals do not seem to support the theory of lower housing prices ahead.
By: Ravi Sinha
