The Changing Landscape of Indian Real Estate Finance

Real Estate sector is the second largest human resource employer, after agriculture in India. It was unorganised till year 2005. In 2005, Government of India allowed 100% foreign funds to invest in Indian real estate. This set the tone for the sector to be organised, professional and transparent. The sector has undergone a major transformation in the last 12 years and with it has changed its financing landscape. Let’s walk you through the major changes that took place in the financial landscape of the sector in the last 12 years. It has been divided into four zones:

Time Zone I  (Till year 2005) –  The means and structure of finance was simple. Developers and individual investors contributed equity, while banks and housing finance companies provided debt. Consumption of debt too was limited as developers relied more on internal accruals and private money for bridging the gap.

Time Zone II (2005 – 2008) – In 2005, India opened its doors for Foreign
Direct Investmen (FDI) money in Indian Real Estate. Many domestic and international private equity (PE) funds set shop and made investments across all asset classes, entity and Special Purpose Vehicle (SPV) level. As per Department of Industrial Policy & Promotion (DIPP) data, US$ 6bn got invested in this period giving immense liquidity to the sector. Large part of the funds raised in this period was invested in pure equity structure. Apart from private capital, public capital markets opened rare opportunities for real estate developers to raise money via listing their companies on Indian stock exchanges. Developers across geography and various sizes participated. This lasted till the market crash backed by Lehman crisis.

Time Zone III (2009 – 2012) – Post flurry of FDI investments not achieving its desired internal rate of return (IRR), partly due to higher entry valuation and partly due to aggressive business plan, PE players switched investment strategy from pure equity to structured equity/debt to limit their risk with similar IRR expectation. Along with this, many private equity funds were launched backed by high networth individuals (HNIs) as Indian investors saw potential of making money via this route. PE’s preferred residential projects over commercial as cash flows and early exit were visible. As private equity funds lacked flexibility of funding developer’s multiple projects, Non Banking Financial Companies spotted this potential and started operations. The space flourished and scale was achieved in later period. Banks and housing finance companies continued to lend pure debt for development of projects

Time Zone IV (2013 – 2017) – In this period, NBFC and Private Equity players dominated the funding scene as it provided required liquidity and end use flexibility for developers. Non convertible debentures (NCD), as an investment instrument, was widely used due to ease of structuring, providing liquidity and securing all rights. Residential projects across top 7 cities attracted most of this funding. The end use was either to refinance PE investments / Debt or to fund land purchase and approval costs. On the other hand, pure equity deals made its comeback in new avatar. Sovereign and foreign private equity funds, earlier participated through fund of funds route, entered into equity platform deals with top professional developers in the country. Their investments were in relatively less risky assets, such as, pre-leased commercial assets, warehousing and in affordable housing projects. This time around the funds came in with longer duration and low IRR expectation than earlier time zone I.

To put it in nutshell, since 2005, Indian real estate has moved from simple financial instruments to complex structured instruments. Apart from structure, the sector has also seen larger depth in the participants. Banks and HFCs dominated the scene till 2005, whereas now, there is active participation of soverign funds, foreign & domestic private equity funds and NBFCs along with Banks and Housing Finance Company (HFCs). It is believed that the sector has lot more scope for further deepening on listed debt market space and REITs (Real Estate Investment Trust). If we are lucky, we might see first REIT listing by end of this calendar year.

By: Adwait Kasbekar

AGM, Capital Markets

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