The plight of realty firms is going from bad to worse with each passing quarter. That’s reflected by the BSE Realty index, which has plunged 53% in the past one year, more than the Sensex, which fell around 17%.
About a dozen rate hikes by the Reserve Bank of India (RBI) since March 2010 has hit the realty firms more than any other industry. Costly retail loans have resulted in a slowdown in sales of residential property. Further, sluggish sales in the monsoon period, poor execution because of tight liquidity conditions of most firms, slow pace of approvals for new projects and dwindling new launches in the last three to four quarters would translate into a moderate 4-6% revenue growth for most firms in the September quarter. In fact, the inventory of residential property in most big cities is expected to rise by 50-70% from a year earlier. Although commercial leasing activity picked up in the last few months, the supply overhang would weigh on the leasing rates.
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Indeed, small is beautiful in the realty space, which seems to defy the fundamentals of economies of scale. Firms which have a smaller regional presence, such as Mahindra Lifespace Developers Ltd, Oberoi Realty Ltd, Godrej Properties Ltd and Sobha Developers Ltd, will display better cash flows, healthier balance sheets and return on equity, compared with large pan-Indian players such as DLF Ltd and Unitech Ltd.
Large firms are in a tight spot with high debt, and the consequent rising interest costs will continue to suck out cash flows. For example, DLF’s interest costs are expected to reach nearly 20-23% of sales in the quarter as the firm’s contemplated asset sales to reduce debt have not happened because of poor prevailing demand and asset prices. Besides, the impact of spiralling costs on operating profit margin will be less intense in the September quarter, when compared with the preceding two quarters.
The sector is expected to register a 5-10% drop in net profit when compared with, both, the year-ago period and the preceding quarter. A Motilal Oswal Securities Ltd report says, “a 2008-like adverse impact along with economic turmoil would lead to a price cut, but a relatively better situation could lead to a time correction.” The prevailing stubbornly high property prices, especially in Mumbai and parts of Delhi, and the high mortgage rates seem to indicate a price correction in assets is imminent. The widening “bid-ask” gap (buyers’ and sellers’ price) is also a pointer to the forthcoming dip in asset prices. Analysts believe this trend could drive sales volumes in future. But the lacklustre performance by most firms and the strained profitability is expected to continue in the next few quarters, too, which along with poor transparency in the sector, will keep investors away.