Real estate markets in the top six cities show unsold inventory of about 1,000 million sq ft, according to estimates of Motilal Oswal Real Estate Investment Advisors. With the average yearly absorption of about 340 million sq ft, this would result in an inventory overhang of about 35 months. The slowdown that was supposed to deter investors has actually resulted in opportunity for domestic private equity (PE) real estate investors who are providing structured debt to builders with successful track record. Since last year, PE real estate funds have invested more in residential than commercial projects that see equity investment.
According to Chennai-based PE investment data provider Venture Intelligence, PE funds invested $1,047 million in residential real estate across 24 deals in the first six months of the year, against $221 million invested in commercial properties across two transactions. Last year, PE funds invested $2,936 million in residential real estate across 61 deals, against eight transactions worth $979 million for commercial real estate. In the previous two years, PE investments in commercial properties were higher at $717 million (2014) and $991 million (2013) against investment in residential real estate at $671 million and $429 million, respectively.
"PE investors are expected to infuse more money into India's real estate market in a sign of their continuing confidence in the long-term viability of a sector that has struggled for the past two years," says Sharad Mittal, director and head real estate fund at Motilal Oswal Real Estate Investment Advisors.
"Given the slowdown, developers will need more capital, as operating cash flows will remain weak. There is still an opportunity to deploy capital at attractive risk-adjusted returns in selective opportunities," Mittal adds.
Among residential projects, top developers with a good track record, delivery background and those who are associated with bankable corporate brands attract investors. Most of these money available from domestic funds is in the form of structured debt, as fund managers remain cautious about taking equity risks.
"From the perspective of high-yield debt investments, the residential sector is preferred to commercial realty because residential is a self-liquidating asset," says Vikas Chimakurthy, senior executive director, Kotak Realty Fund, who expects 20 per cent annual return from investments in residential real estate projects. "Equity investors, on the other hand, prefer commercial real estate over residential," he says. His expectation from commercial properties is 16 per cent internal rate of return from income producing assets and 20 per cent from assets that are under development.
Anuj Puri, chairman and country head of JLL India, says: "Investors have been focused on residential and commercial developments. While commercial developments have seen interest of equity investments in core assets (rental earning), residential has largely attracted structured debt."
According to his estimate, returns from investment in core commercial assets with steady rental revenue stream would be seven to 10 per cent. However, probable rental appreciation and capital value appreciation can support much higher yields, though it would vary from project to project.
The Securities and Exchange Board of India allowed PE investments in real estate in late 2005, which saw global marquee PE investors, including Lehman Brothers investing equity across projects.
"In the first wave of PE investments in real estate in India, global investors burnt their fingers with equity investments in residential projects here," says Arun Natarajan, founder and CEO at Venture Intelligence. "This saw domestic funds coming up with more cautious approach to invest in projects through structured debt," he adds.
