NBFI funding squeeze to hit property developers hardest: Fitch

Liquidity risk is increasing for Indian real estate developers as non-bank financial institutions (NBFIs) including housing finance companies are shying away from lending to the sector, Fitch Ratings said on Friday.

Developers that rely on refinancing from NBFIs, particularly those with weak financial profiles, will be affected the most if current conditions persist. The availability of unencumbered assets among large developers may be of limited use as NBFIs are looking to shed their already high exposure to the sector -- especially to large borrowers.

NBFIs have disproportionately increased their share of real estate sector credit in the previous few years, owing to heightened risk aversion by banks. Banks have been cutting exposure due to their own funding challenges that began in late 2018, which have become more acute in the previous few months.

 

Domestic bank exposures fell to 2.3 per cent of loans in the financial year ending March 2019 (FY19) from 2.8 per cent in FY16.

Fitch said NBFIs are now also shying away from refinancing maturing debt of even large, proven developers to limit concentration risk to the sector. This is pushing developers towards alternative funding channels such as private equity. The availability of such funding could be more limited than the value of maturing debt and may only be available to established developers with sufficient unpledged assets.

"It will also come at a higher cost. We believe banks may still consider exposure to quality real estate but overall exposure continues to decline," said Fitch.

Developers that are focused on high-end projects may face higher risk as sales of such projects have slowed in the last two years. "We believe these developers would be wary of taking sharp price corrections on unsold inventory to boost sales, except in extreme circumstances, as this could diminish the value of unsold inventory and weaken collateral cover for existing lenders," said Fitch.

In addition, any boost in sales will be temporary. Meanwhile, developers with substantial exposure to affordable housing may still benefit from marginal access to lenders in light of healthy pre-sales growth, supported by India's substantial housing deficit and government incentives for buyers.

Defaults by two NBFIs -- Infrastructure Leasing and Financial Services (IL & FS) in September 2018 and Dewan Housing Finance Corporation Limited (DHFL) in June 2019 -- have contributed to the sector-wide liquidity squeeze as investors have become more risk averse. Banks' low appetite for lending to real estate developers is evidenced by the usually high risk weights attached to such loans.

These are due to developers' typically low credit ratings amid high leverage, making exposure to the sector an inefficient use of banks' already-limited capital.

Substantial bank recapitalisation to increase lending capacity could benefit NBFIs as well as real estate developers, subject to the banks' risk appetite, although a structural improvement in NBFI asset books will take time.

"Nonetheless, even under better conditions we expect NBFIs to tighten credit standards with developers facing funding pressure until there is a broader improvement in their operations, with better end-user demand and pricing support," said Fitch.