Realty firms turn to PE investors, NBFCs as banks tighten funding

Realty firms turn to PE investors, NBFCs as banks tighten funding

Mumbai: Realtors are turning to private equity (PE) investors and non-banking financial companies (NBFCs) for money as banks tighten funding for real estate firms in the wake of the recent bribes-for-loans scam.

At least three real estate companies are currently engaged in talks with PE investors to support their ongoing projects as banks turned risk-averse after transactions with realtors came under the scanner of regulators and investigating agencies, according to investment bankers.

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Typically, PE funds invest $50-150 million (Rs225-675 crore) in realty firms for three-five years and make returns of around 25-30% on exit.

“It (the scarcity of loans) has just started. The real shortage will be felt in the next 30-45 days. Given that banks are now hesitant to give new loans, the issue is likely to persist at least in the next two quarters. Real estate companies are now looking at private equity and non-banking firms for funds," said Arun Kedia, director of marketing at Mumbai-based Garnet Construction Ltd.

In November, the Central Bureau of Investigation (CBI) busted a racket arresting eight officials from banks and financial institutions for violating prudential norms while sanctioning loans to realtors or for leaking vital information.

The Reserve Bank of India (RBI), at the instance of the finance ministry, also sought information from banks forcing them to step up their surveillance mechanisms at various stages of processing loan proposals.

“Definitely there is going to be much more appetite for PEs to look at more projects (in the real estate sector). From our perspective, I think that the pace and quantum of funding (by PEs) will take a leap now (given the shortage of bank funds)," Ashish Joshi, managing partner (real estate) at Milestone Capital Advisors Ltd, said.

Milestone has around $750 million worth of assets under management with 90% investment in real estate.

Banks’ exposure to the real estate sector has grown manifold in the past few years. Overall, the banking industry lent 17% of their total advances to the real estate sector in the fiscal ended March.

For the new private sector lenders, the comparable figure is 26%, according to RBI data.

In the first 11 months of calendar year 2010, PE firms invested $1.24 billion in real estate firms, up from $749 million that they had done in 2009, according to data from Venture Intelligence, a firm that tracks venture capital and PE deals.

Typically, real estate companies raise equity capital through qualified institutional placements (QIPs) and private placements, but the QIP route is not a viable option in the prevailing market conditions as the valuations of realty firms have fallen sharply in the recent past, said Vinay Menon, managing director of equity capital and derivative markets at JPMorgan India.

“Valuations have fallen sharply for some of the companies. Though valuations are attractive for an investor, it may not be so for firms as they have to dilute shares at a considerably lower price," Menon said.

The PE firms will also get the advantage of relatively lower valuations. Yet, the realtors are not averse to negotiating with them as the time taken to raise money through the PE route is shorter.

Since 24 November, when the corporate loan scam was unearthed by CBI, the Bombay Stock Exchange’s real estate index has fallen by 2.97% to 2,951.25.

Shares of leading realty firms DB Realty Ltd and Unitech Ltd have fallen by 8.11% and 4.47%, respectively, while Ackruti City Ltd dropped 29%.

Real estate companies are also looking at the lease rent discounting route (LRD) to access funding. Under LRD, developers can avail of loans against their rental receivables.

Demand is also on the rise from realtors for funding from NBFCs. Banks lend at 12-15% to real estate firms while the cost is much higher, often 15-20%, for raising funds from non-banking firms.

NBFCs are selling non-convertible debentures of real estate firms through their wealth management arms yielding 14-18%. These securities carry a maturity of two-three years and do not provide any guaranteed return to the investor if the market turns adverse, according to Om Ahuja, head of wealth management at Emkay Global Financial Services Ltd.

“There are many NBFCs in the market who downsell these papers issued by real estate firms to HNI (high networth individual) customers. HNIs are buying these papers out of greed, driving the whole demand, but if something goes wrong in the market, these investors will have to suffer," Ahuja said.

According to a senior official with a large state-run bank, lenders have stopped accepting proposals for fresh loans to companies that figured in CBI’s list. Until recently, builders used to avail of bank loans by showing inflated project costs and use the money for buying land.

“Banks have become very cautious. The real estate promoters can go to private equity players. Extra precautions will be incorporated now (while considering loan proposals)," a senior official of state-run Union Bank of India, said. He did not want to be named.

Graphic by Yogesh Kumar/Mint

Shraddha Nair contributed to this story.