Ground reality

"What we used to sell in a matter of weeks, we now sell in about nine months or a year," says R Nagaraju, general manager, corporate planning, Unitech, referring to sales of residential flats. Nagaraju feels there's nothing to worry about. "It's simply the speculative buying that's tapering off," he explains.

The Rs 3,288 crore Unitech might have the resources to cope with a slowdown, but with banks increasingly reluctant to lend to developers and overseas borrowings ruled out, builders appear to be facing a bit of a cash crunch.

Not only is it not easy to come by, money is also becoming costlier. Nagaraju concedes that banks are now charging 12-12.5 per cent, but maintains that Unitech has access to credit lines from banks. At peer DLF, Gaurav Monga, VP (finance), says the firm's borrowing costs are up at 11-12.5 per cent.

Thanks to the Rs 9,000 crore that it raised from the equity market last month, DLF, has managed to bring down its net debt to just over Rs 1,000 crore from Rs 10,470 crore in March. Pradeep Jain, chairman, Parsvnath Developers, says his firm has closed out a Rs 100 crore loan at 9.9 per cent.

The larger companies may not find the going that tough, but smaller builders haven't been so fortunate. They're already forking out interest rates of 15-17 per cent and some are reportedly willing to pay as much as 2 per cent a month to fund operations.

To add to their woes, costs have risen by about 10-15 per cent thanks to a shortage of contractors and higher prices of steel and cement. The Delhi-based Best Group, says its returns could fall sharply because of higher costs.

What's more, with speculative purchases falling, transaction volumes, particularly in the residential space, are down by about 25-30 per cent compared with last year. At Parsvanath, customer advances have fallen from Rs 471 crore in June last year to around Rs 277 crore currently.

While Jain agrees that speculative buying is less today, he claims that customer advances are lower because projects are at various stages of completion. Moreover, Jain explains that the company has recently changed the way it works.

"Earlier we used to book some sales if we had started construction, but now we don't book revenues before creating some amount of infrastructure," he explains. However, according to Manish Gunwani, who tracks the real estate sector at Brics Securities, developers are taking longer to sell projects because of the low investor interest. "That appears to have drastically reduced customer advances of most developers," he says.

The retail space too may be seeing more supply than can be absorbed. Observes Ganesh Raj, head, real estate, Ernst& Young, "In some parts of Bangalore and Gurgaon, there about a half a dozen malls coming up within a radius of five km. That kind of supply is unlikely to find demand."

Adds Jai Mavani, executive director, KPMG, "Developers today are facing a potential double whammy. On the one hand, interest rates are going up and credit is hard to come by. On the other, real estate prices in some areas are showing a downward trend."

The only option for builders, according to E&Y's Raj, is perhaps to tap private equity (P/E) funds. "P/E funds may invest, though given the situation overseas even they would be cautious,"he says. Firms like Unitech have used the Alternative Investment Market to raise money; it recently picked up $350 million from AIM.

The domestic equity market, however, has already been tapped by most: real estate IPOs account for 45 per cent of the total money raised in 2007 so far. While more equity would help, a higher component of equity funding would lower the returns from the project.

Explains Mavani," Leverage is crucial to a project. Only if a big part, say 60 per cent, is funded through low-costdebt of 8-9 per cent, can the project generate decent returns."

What's also worrying industry watchers is that builders' plans are far more ambitious than ever before. Observes Gunwani, "Two years back if a firm was looking to develop 5 million sq ft, today it wants to build four times the area." Raj agrees."The scale is far higher this time but commitments are being made without the capital." With resources in short supply, developers are rolling over the same money.

Explains Mavani, "They're using the proceeds from initial sales to construct buildings, sell them and at the same time buy land banks. They're playing the timing game. Right now there is cash, but a systemic downturn could break the cycle. "

Because of the way in which real estate firms account for revenues, it's hard to tell the exact state of their finances. Typically, companies start booking sales once 20-30 per cent of the construction is complete. The revenues shown in the P&L statements don't necessarily mean that buyers have paid up fully;indeed they could later turn out to be tough customers, leaving builders high and dry.