Sep 2019 , by , in Interviews

K. G. Krishnamurthy, Managing Director & CEO, HDFC Property Ventures Limited talking to Sapna Srivastava, stated that real estate is no longer an investment opportunity and HFCs made a mistake by going aggressive

The reason for the current financial mess in real estate?

Historically , prior to introduction of RERA , whenever a residential project was launched by a developer , the initial sales would always be to a set of investors and the end users would come in only after certain progress in construction of the project. In the current situation, with stamp duty & GST costs as high as 11% ( previously 18 %) which is a compulsory expenditure one has to incur , the appreciation for investors has substantially reduced and developers are left with no option but to find actual users.

With sales substantially coming down, the developers receivables from sold stock are only going towards servicing the interest payments, thereby impacting progress of construction – leading to further delay in receivables from sold stock, ultimately leading to stalling of a project. The only solution left is to sell the units at a heavily discounted price. But many of the projects are not viable for this, as the interest amount has really bunked up.

What is the Solution?

The discipline has to come from within the industry. About 15 years back the interest cost on the overall project was about 15-16% that has risen to 40-45%, because the project is 90 – 95% on borrowed money. NBFCs and HFCs became aggressive and even on a 5% equity from the developer, funded the project. Ideally, developer should have at least 20%-25% equity in the project. The financial institutions that have booked the interest in their books will have to take a rate cut on interest and maybe to a certain extent on the principle that is outstanding to facilitate the developers in completing projects and recovering money. In certain projects certain amount of equity infusion may also be required.

The thumb rule that works beautifully is – One third land, one third construction and one third profit. This actually fits into the affordable housing model.

Will The Home Prices Crash?

Property prices inflate due to the presence of investors and speculations in the market. Presently, real estate is not an investor driven market as there is not much appreciation expected. The prices will now be defined by the actual buyer’s affordability.  Crashing of prices will be subjective to the amount of distress the project is in and the developer’s dire need to sell units. Almost, 50%-55% projects have become unviable because the developer has no skin in the game.

The direction real estate will take going forward?

Currently, units which are relatively small with good quality construction and pricing in the range of 60 lakhs to a crore are selling well. I think there will be good amount of consolidation that will happen in the industry. Institutions and NBFCs should support developers in developing completing the projects and homebuyers should buy only ready units.

Moreover, if commercial real estate can have REITs, then residential real estate rents should also be tax free. Tax should not be charged on the rental income generated. The government should focus on increasing the rental housing supply rather than ownership. In any case, the young generation believes in renting home near their workplace rather than buying 40-50 km away. If rental housing is encouraged and residential real estate is not going to be a appreciating asset why would anybody block their capital on buying real estate.

The direction for developers should be to focus more on joint development with landlords – which was the situation prior to 2004 – prior to entry of private equity investors in real estate.

The aggression shown by HFCs in lending monies to the developers to grow their book in the last 4 -5 years has resulted in the developers having no equity in the project.

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