Investments in yield-bearing assets are a compelling proposition for the future, writes DEEP KANTAWALA.
Over the past two years, the government of India has announced several measures to liberalise foreign investment in the real-estate sector, including approval of the Real Estate (Regulation & Development) Act and relaxation in FDI norms, ie waiving off the requirements of a minimum project size, both in terms of area and capital, among other things.
However, the most notable announcements from the perspective of completed or operational assets were the setup of Real-Estate Investment Trusts (REITs) and consent for foreign investors to own and hold completed assets. While the government had earlier announced that 100 per cent FDI under automatic route is allowed in completed projects for operation and management of townships, malls or shopping complexes and business centres, there was a fair amount of ambiguity with respect to the actual intent, ie whether the government was only allowing foreign service providers to get involved in completed assets or whether actual foreign investors could own and hold completed assets. The belief from the industry now is that with the latest clarification, the issue has been put to rest and foreign investors can invest in ready operational assets and eventually exit through REITs.
A welcome step
This is a welcome step for the real-estate industry, which has been constrained owing to limitation on the avenues to raise capital. REITs will now provide developers with an avenue to monetise completed assets and raise capital. On the other hand, institutional investors have a strong appeal for yield-bearing operational assets as this does away with approval and development risk, which has been the primary source of concern for most investors in the sector. Such investments provide the dual benefits of annuity returns and potential capital appreciation on exit, either owing to upward revision of rental income or yield compression.
From the investment perspective, the year 2015 witnessed a number of leading private equity funds and institutional players scouting for operational assets, from shopping malls and corporate parks to even warehouses. For instance, Standard Chartered PE and Tata Realty have formed an investment platform to buy commercial assets across India.
GIC, the investment arm of the Singapore Government, acquired a significant stake in Viviana Mall in Thane. Even the logistics space is not far behind with Warburg Pincus and Bengaluru-based Embassy Group having set up a JV for building warehouses across India.
The REIT advantage
REIT-compliant assets in India are currently estimated to be in excess of 300 million sq ft, primarily located in the top eight cities of the country and valued at about $40 billion. REITs are thus expected to infuse liquidity in the system, which will not only give a fillip to development of more real estate and infrastructure, but should also help in bringing cost and, consequently, prices down. It may also increase transparency in the sector, which is infamously known for its difficulty in accessing information -REITs will make it easier to get accurate information on property ownership, rentals and yields.
For retail investors, real estate has always been a fancied asset class. They are willing to invest in residential apartments that provide around 3 per cent per annum rental yields on average, when the bank deposit assures a return of 7-8 per cent per annum. This is because there is a belief that over the long term, real estate will give good capital appreciation and is a relatively safer investment option than equity markets. With REITS, they will now have options to invest and own portions of large yield-bearing assets - shopping malls, hotels, and office buildings û something that was otherwise out of their reach.
Further, REITs bring with them the following additional positives for retail investors:
Diversification: Access to a diversified and quality portfolio compared to single-asset exposure.
Liquidity: As the units will be listed, the investor will be able to liquidate the investment in REITs within a reasonable timeframe.
Assured income: Reasonable assurance of annuity income as the assets would have long signed leases with tenants.
Inflation protection: Real estate and REITs provide reasonable hedge on inflation and there is potential for capital appreciation over the years.
Efficient due diligence: REITs will save smaller investors from the hassles of due diligence, paperwork and multiple taxes.
Given the above, REITs have the potential to attract significant monies currently parked in traditional financial instruments. To give some perspective, the US is the most developed REITs market in the world with a market cap of about $620 billion. About one-third of this is held by US pension funds (source: Towers Watson and Bloomberg).
In India, our retirement fund corpus is about $200 billion (source: CII-EY Report). If the government permits and encourages our pension funds and insurance companies to invest even 5 per cent in REITs, the allocation from this segment alone would be as much as $10 billion, not counting foreign inflows and investments from retail investors given India´s 33 per cent savings rate.
Thus, RIETs bode well for attracting and sustaining foreign investment and creating a congenial environment for development of a structured real-estate investment market in India. Perhaps, a new chapter in the Indian real-estate sector is being written.
About the author:
Deep Kantawala, Group CFO and Head Investment Advisory, ICS Group, is a Chartered Accountant and has been with the group for over 16 years, wherein he has managed several businesses, new initiatives and the legal portfolio.
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