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Cash-strapped developers look to buyers to fund construction

Cash-strapped developers look to buyers to fund construction
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First Published: Tue, May 27 2008. 01 15 AM IST

Updated: Tue, May 27 2008. 01 15 AM IST
New Delhi: Smaller developers of commercial property, who are strapped for cash in a market where it is becoming increasingly difficult to borrow, are turning to their buyers as a last resort to fund the construction of properties including malls and office spaces.
Developers such as the Vatika Group, Piyush Group and Amrapali Group based in New Delhi and its suburbs are offering fixed returns to people buying space in their upcoming office and retail projects near Delhi. The returnsvary from 9% to 12.25% ayear for up to nine years.
(FIXED RETURNS - A NEW TREND) While the scheme might look like an incentive to attract buyers in a sluggish real estate market, it is actually a way for developers to raise money for projects in a tight credit market.
“It is a strategy to attract investors and maintain a long-term relationship with them,” says Animesh Indra, part of the marketing team of Piyush Group.
Another company, Vatika, however, admits that its scheme is largely aimed at capital to fund construction.
“Borrowing from banks has become very expensive as banks are lending to developers at 15-18% interest rates,” says Gaurav Bhalla, Vatika’s director (marketing and operations). The project cost is being taken care of by this scheme and it also suits investors, he adds. Vatika is offering a 9.25% return a year for its Vatika Trade Centre project in Gurgaon near Delhi.
It’s a simple enough plan. For instance, in the case of Amrapali Group, the developer is offering a fixed return of 12.25% a year to investors buying space in its Amrapali Tech Park project in Greater Noida. So, if an investor buys 500 sq. ft of space in the technology park at the purchase rate of Rs3,700 per sq. ft, he pays up Rs18.5 lakh upfront and in return, the company gives him a monthly return of Rs18,885 for a fixed period.
“We offer the scheme for five to five-and-a-half years,” says Tushar Pandey, Manager, sales and marketing, Amrapali Group. “We give returns for two years till the time the property is built and handed over to the investor and we continue to give returns after that for three years.”
Construction on the project has not begun yet and it is expected to start in three months.
Essentially, what the developer is doing is borrowing cheap money from buyers to fund the construction of the project instead of taking loans from banks at a much higher rate of interest.
Currently, developers borrow from banks at interest rates ranging between 14% and 18%, but banks are becoming reluctant to lend to companies in the business because the property market is cooling.
The scheme being offered to buyers of commercial space is just an extension of similar schemes in the residential property segment. Smaller developers such as Arun Dev Builders had earlier offered home buyers a monthly rent on the purchase of a flat till the time of possession to woo buyers and to fund the construction of the project.
But unlike residential projects that are self-funding, it is difficult to finance commercial projects. For commercial projects, developers either raise money from the market or borrow from banks.
“Developers are doing this because they are short of funds,” says Shailesh Kanani, an analyst with Angel Broking. “They are not getting bank loans and it is no longer easy to raise money from the market,” he said.
Schemes such as these address problems posed by cash flow issues in funding construction and the increased cost of borrowing at 16-18% from primary sources, says a report by Citigroup Global Markets.
“Developers win both ways through this scheme,” says Kanani. “Paying 9-12% returns to investors is peanuts for them (developers). Apart from that, developers will also get customers.”
According to Kanani, the fact that developers are offering such a scheme for commercial properties is a sign of a slowdown even in the office market segment. “It shows that they are not able to sell...”
Thus far, a slowing in demand was only being seen in the residential property market. Demand for homes has been sluggish because of a rising inflation and an increase in home loan rates.
Demand for office properties has been stable so far.
“We are still undersupplied in the office space and it is difficult to forecast demand,” says Anshuman Magazine, managing director, CB Richard Ellis, a real estate consultancy firm. “But there are signs that things will slow down towards the end of the year.”
Most developers offering such schemes retain the right to lease it out to tenants of their choice.
“The investor will legally be the owner of the property, but the company will decide on the tenant,” says Bhalla. The investor will, however, have the right to sell the property. “We are doing this to maintain the quality of tenants in the building,” he adds.
Developers also say that since the buyer would be buying space in the project for purely investment purposes, the size of property could sometimes be as small as 500 sq. ft, which could disturb the tenant mix. The rents, however, will be passed on to the buyers.
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First Published: Tue, May 27 2008. 01 15 AM IST