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Anatomy of a real-estate crisis

Anatomy of a real-estate crisis
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First Published: Tue, Mar 10 2009. 11 35 PM IST

Hard hit: A plot owned by Sobha Developers in Bangalore. Hemant Mishra / Mint
Hard hit: A plot owned by Sobha Developers in Bangalore. Hemant Mishra / Mint
Updated: Tue, Mar 10 2009. 11 35 PM IST
New Delhi / Bangalore: When he bought the four-bedroom apartment in Unitech Grande on the outskirts of New Delhi 22 months ago, the hefty price tag of Rs2.75 crore didn’t deter him. The economy was humming, the markets surging and nothing, it seemed, could go wrong.
Hard hit: A plot owned by Sobha Developers in Bangalore. Hemant Mishra / Mint
Billed as India’s first ultra-luxury residential project, Unitech Grande promised a Greg Norman-designed golf course and luxury trappings, including a dozen theme gardens, an integrated sports complex and world-class health care, shopping and entertainment facilities.
The price of the apartment, promised for delivery in September 2010, has now dropped by about half to Rs3,500 per sq. ft, said the 37-year-old buyer, who didn’t want to be identified by his name or profession.
“I can’t even sell the property because of the erosion in value. I will lose money if I sell now,” he says, adding that he is fretful the project will be delayed because “not even a hole has been dug in the ground” at the site in Noida since he purchased the apartment.
His predicament illustrates the plight of homebuyers who bought apartments and houses at the peak of the property cycle after prices had surged 30% year-on-year during 2005-07. Those properties are worth half the price they paid after the economy and, with it, the real estate market, went into a tailspin last year.
Debt-laden developers, too, are hurting as an economy headed for its slowest growth in six years, sinking property values, job losses, higher borrowing costs and tough-to-get credit keep both genuine buyers and speculators out.
“In hindsight, everyone is wiser,” says R. Nagaraju, general manager (corporate planning and strategy) at Unitech Ltd, India’s second largest developer by market value. “Nobody saw it coming.”
Speculators, with access to plentiful and cheap credit, fuelled the property boom, booking apartments and selling out for a profit when prices rose. Speculative buying made up as much as 40% of total property sales, experts reckon.
“They would come with Rs5 crore wanting to pick up five different properties of Rs1 crore each... They would quit as soon as they made a neat margin,” says Farook Mahmood, chairman of Bangalore-based realtor Silverline Group Inc.
Leveraged to the hilt
Developers tried to cash in by launching luxury and so-called super-luxury residential projects in the Delhi suburbs of Gurgaon and Noida, Mumbai, Bangalore, Hyderabad, Kolkata and Chennai.
“Every developer wanted to launch a luxury project,” says Amber Maheshwari, director (investment advisory) at real estate consultancy firm DTZ. He says there was “latent demand for high-end housing”, but it was “finite”.
Developers scrambled to acquire land in prime locations even if it was at exorbitant rates. “In the rush to acquire land, every developer leveraged to the hilt,” says Maheshwari. “Money available to construct projects was diverted to acquire land.”
Money became easily available after 2005, when the government allowed foreign direct investment in real estate. Developers funded their expansion though private equity investment, debt and money raised from the capital markets.
“The three major errors that most developers committed during the boom years that preceded the slowdown are, the greed to buy more and more land without understanding the risk factor associated with it, indiscriminately announcing projects of millions of square feet at the highest possible price,” says Pujit Agarwal, managing director of real-estate developer Orbit Corp. Ltd.
“And thirdly, developers forgot who the real customer was and got carried away into building luxury apartments even in far-off suburbs, which wouldn’t attract enough buyers just because those (apartments) assured higher margins and there would be fewer flats to sell,” Agarwal adds.
In 2007, when the stock market was booming, many developers raised money from the public. DLF Ltd, the country’s largest developer by market value, raised about $2 billion (Rs10,360 crore today) in June 2007 in what was then the largest-ever initial public offering in the country.
Developers such as Omaxe Ltd, Puravankara Projects Ltd and Housing Development and Infrastructure Ltd also came out with public offerings during the year.
End of the party
As property prices zoomed, alarm bells had begun to sound that the real estate market was overheating. Home loan rates shot up as the central bank raised interest rates to douse inflation that was surging on the back of oil prices that reached a record $147 a barrel in July.
Parsvnath Developers’ Exotica residential project in Gurgaon. Financing of huge amounts of debt is an issue for cash-starved developers. Ramesh Pathania / Mint
“The overheated real estate market started sensing the slowdown in the first quarter of 2008/end of 2007. It became clearly visible in the second quarter of 2008,” says Rajat Mahajan, national vice-president (commercial leasing and business development) at Century21 India, a real estate brokerage firm.
By mid-2008, the property market party was over.
According to a report by real estate consultancy firm Cushman and Wakefield, Mumbai, Delhi and its suburbs, Bangalore and Pune witnessed a quarter-on-quarter decline in prices of up to 15-20%, while prices in Chennai and Kolkata fell by 5-7% during the quarter ended December.
Land buying also came to an abrupt halt as even existing projects could not find buyers.
“I have stopped buying land a year back and I am now focusing on my copper business,” says Shyam Varma, 55, a resident of South Mumbai, who dabbles in real estate and the copper trade.
Riding high on the real estate boom of 2003-04, Varma bought land not only in Mumbai, but in Agra, Aligarh and Pune before the good times ended. Today, he has an entire building ready with at least 20 apartments in central Mumbai, but hasn’t been able to sell a single one in six months even after he offered a 30% discount. “I have about 100 acres and am trying to sell, but there are no buyers,” says Varma.
Developers also had to bear the brunt of measures taken by the government to prevent a bubble from building in the real estate sector. Interest rates on loans to developers rose from 12% to 16-18%.
Funding crimped
“The government got concerned because of inflation,” says Anshuman Magazine, managing director of CB Richard Ellis, a property advisory. “You can either control demand or supply. The government decided to control supply by increasing the lending rates to developers and increasing the risk rating on real estate lending.”
Restrictions on external commercial borrowings also crimped funding. Government measures choked funding options for developers, says Magazine. “Demand slowed down and on the supply side, developers were not getting money. That was the trigger of a slowdown.”
Developers are groaning under the weight of debt. DLF has a net debt of Rs13,000 crore, Unitech Rs8,000 crore, Parsvnath Rs2,000 crore and Omaxe Rs1,700 crore, according to figures they have made public.
“The high debt of developers is a systemic fault…there is no long-term funding for developers. How can you develop 10- year projects without such funding,” says Unitech’s Nagaraju.
Financing of such huge amounts of debt has become an issue for cash-starved developers. A recent Credit Suisse report says that companies are looking to sell land, restructure loans with banks, accelerate volumes by offering discounts and are even willing to consider equity dilution to manage their debt repayment schedules.
DLF wants to reshuffle its debt by replacing short-term foreign currency borrowings of Rs4,000 crore with domestic loans having longer maturity at lower interest cost. Unitech, which had to repay Rs2,500 crore of debt by this March, has already rescheduled over Rs1,000 crore of loans.
Developers have started to pull out of ambitious projects announced during the boom years. BPTP Ltd, which made waves when it won the bid for a 95-acre plot of land in Noida for Rs5,000 crore in what was considered India’s most expensive land deal, had to withdraw from the project because it could not make the payment. Projects across the country by Unitech, DLF and Puravankara are also being downscaled.
Project delays
Real estate projects by developers, including DLF, Unitech and Parsvnath ran into delays as funding dried up.
“Initially, the delay was because of approvals required for projects at various stages, shortage of manpower and poor project management skills,” said an analyst with a brokerage firm, who didn’t want to be identified, referring to the industry as a whole. “From there on, it has become a question of liquidity.”
Construction work on some projects has completely stopped in the last two-three months and many projects are likely to be delayed by one-two years, says a report by Citigroup dated 16 Janaury. A few small developers who have failed to start construction on their projects even one-two years after launch are now being forced to refund money to customers, the report says.
Developers are also not paying commissions due to brokers for at least a year and are defaulting on instalments due for land purchased at high prices in auctions, says the Citi report.
Realtors’ profits are falling, signalling that sales have virtually stopped. During the quarter ended December, developers saw up to a 95% decline in net profit on a year-on-year basis. DLF posted a 68% drop in net profit for the third quarter, while Unitech recorded a 74% drop.
The profit drop was due to a decline in sales and prices, and developers’ increasing focus on affordable housing, where margins are lower, but demand potentially higher. “The supply of homes became so high that after a point of time, pricing had to correct,” says Maheshwari. “This led to a decline in sales…which resulted in a decline in the profits of developers.”
Customers hold out
Many buyers are not paying their instalments on time because they are concerned that the developer may not complete the project. Many real estate projects offer construction-linked payment plans under which the buyer pays the developer depending on the construction milestone achieved, says Sanjay Sharma who heads Gurgaonscoop.com, a website on the real estate market in Gurgaon.
Developers, including DLF, Unitech, Omaxe, Ansal API Ltd and Puravankara Projects, have announced plans to develop affordable homes in the Rs10-50 lakh range.
The downturn has brought the property market back to its senses, says Aashish Kalra, managing director of Trikona Capital, a real estate fund management firm. “Now you find every developer going for affordable and low-cost housing today because that’s the sector developers ignored before and they now realize that the real demand lies there.”
So, when will the uptick come?
“It depends on the revival of the global economy,” says Century21 India’s Mahajan. “We are seeing that recent steps like lowering of interest rates, correction in pricing is not lifting the buyers’ sentiment.”
Expectations that prices would decline further, lack of confidence in developers’ ability to deliver, job insecurity and tightening of lending by banks have forestalled a recovery, he adds.
“As far as product pricing and interest rates are concerned, the correction has happened,” says Unitech’s Nagaraju. “The response to one of our affordable housing projects launched 10 days back has been very good. Bookings are at healthy rate. Almost 70% has been sold out. The only thing that needs to happen now is a change in customer sentiment.”
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First Published: Tue, Mar 10 2009. 11 35 PM IST