Opportunities in times of short term pains

January 12, 2018 / By  

2017 was a significant year for realty sector in India as the country saw the effects of three big reforms – demonetization, RERA[1] and GST[2] replacing Service Tax – play out. The real estate industry recognises  the long overdue need for these reforms as they are important in creating a more respected, transparent, organized and sustainable industry in the long run.

However, in order to achieve the long term gains, there were short term pains to navigate. Smaller local developers in Indian cities felt isolated and challenged by the reforms. It didn’t help that many of them had chosen to remain outside business associations, which weakened their collective voice.

These companies found it hard to manage the constant rise in cost of finance, premium FAR[3] and compliance cost because they rarely borrowed from institutions and thus have inadequate track record in the organized credit industry. Their main source of financing was from buyers[4] and high networth individuals who would typically lend or invest in cash.  However, a fall in demand leading to slower sales and demonetization have reduced liquidity. Meanwhile, GST has increased buyers’ expenditure for buying a house during the construction stage and absorbing this cost to speed up sales rates is not working out for many such developers.

Financial institutions (FIs) are yet to revise the risk premium downwards for real estate. Their response to risk mitigation brought in by RERA, digitization of records, and induced financial discipline in the sector is taking time.  FIs are reluctant to consider developers other than the big-name Grade-A players.  A conservative approach in funding for Grade B and C developers is a loss of opportunity for them, and for the industry as a whole.

Why small developers matter

The challenges facing these developers and their weakened position is worrying. They are equivalent of SMEs- small and medium enterprises in the secondary sector and have a substantial role play in servicing smaller markets.

What can be done to help them to reduce the pain of the reforms? For one, small developers should actively look for possibilities of JVs[5], JDs[6] and DM[7] as part of project execution. They can turn to bigger developers and corporates who can be good partners as they would both make use of their individual strengths. Small developers can then make use of these opportunities to learn quickly in order to build up their own capacity. Here, I believe that reputed service providers like JLL can, and should, play a proactive role in these partnerships.

Finally, the buyers, especially end users, also have a decisive role to play. There exists an opportunity for buyers to choose from an array of properties selling at fair prices, with developers offering flexibility in payment terms, and retail inventors absent from the market for the time being. This means that end users can and will influence the market much more, leading to alignment between product offering and affordability. Buyers have to respond to their newly found empowered and protected status with positivity, and show they are willing to buy. That is crucial to moving the sector towards a maturing, transparent and accountable industry.

[1] Real Estate Regulation & Development Act
[2] Goods & Service Tax
[3] Floor Area Ratio that governs the quantum of space permissible to build
[4] Paying as per the construction stages of the project
[5] Joint Venture
[6] Joint Development
[7] Development Management

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