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How to choose the right developer

How to choose the right developer

With less than 30% of India’s population living in urban areas, there is an estimated demand-supply gap of over 30 million units in the residential sector alone. This offers great opportunity and incentive for entering the real estate development sector across residential and commercial development. Over the past decade, as the role of the government in developing housing and commercial infrastructure has decreased, different entities have entered the arena, be it established legendary brand names in other industries or small-time construction contractors or land owners-turned-developers.

Considering that there is a large variety of developers to choose from and the fact that most of the time the first time homebuyer ends up paying 5-10 years of her annual income for purchasing a property, it is important that the customer does due diligence before buying. While the sector has matured from what it was, say, 10-15 years ago, property investors need to be watchful about fly-by-night operators and even established companies that are unable to fulfil their commitments.

There are several key aspects—for both residential and commercial projects—that a buyer should consider while making an investment decision.

Market opportunity: In real estate, it could mean the feasibility of doing a project given the location and the type of development. Remember, developers have burnt their fingers by over-exposing themselves during good times and taking more on their hands than what they can execute. A developer usually exhausts his capital for purchasing land and awaits customer payment to finance working capital. Thus, the speed of sale and appreciation potential of the investment play a key role for any developer to execute the project in a timely manner.

Listed firms have to follow the Securities and Exchange Board of India’s (Sebi) guidelines. They need to submit financial statements, thereby allowing “smart customers" to make his or her own analysis of the financial stability of the firm and the resources available with it to carry on development work at a fast pace. Due to better corporate governance and audited financial statements, such firms have better chances of sourcing funds from financial institutions, provided they are performing well. However, the events of 2008 have sensitized all and sundry about the probability of even such firms facing problems on account of a slowdown. Many real estate firms that were listed in India were known to have liquidity problems on account of slow sales and price correction and banks refusing to lend further as the debt they had taken was already too high.

Land title: The title to the land that the project is being built on and all the regulatory approvals being in place need to be thoroughly vetted. This needs to be done irrespective of the nature, size and reputation of the developer. The buyer should insist that the developer make available all documents pertaining to land title, approvals of building plans and commencement of construction. Buyers can even hire professional legal expertise.

Track record of developer: The amount of space delivered, timelines for delivery and quality of work produced need to be ascertained. With poor execution strength, a project comprising even a few hundred homes can become tenuous for a developer to complete. Lackadaisical project management can also compromise quality and safety of the complex. To my mind, it is not an issue of being listed or not as there has been more than a few prominent developers who have kept their buyers in a limbo for a time way beyond their commitment period. Listed firms are answerable to a whole lot of stakeholders and are under the watchful eyes of market regulators unlike an unlisted firm and this puts a lot more pressure on the listed firms to deliver. Sebi stipulates basic norms for a company to be listed, among which a firm has to have a certain net worth and be profitable for the last three years, these should have been audited by a reputed firm. In this case, a listed player would have most likely put his house in order. Projects often contracted out to credible contractors can allay these fears for a buyer. A buyer needs to dig in deeper by talking to other customers or getting information from all possible sources. There has been serious talk of a regulator for real estate, which I believe is the need of the hour. The role of a market regulator should cut through the labyrinth of information that a buyer today has to carefully assemble and, in fact, present the buyer with the comfort that his investment is secured.

How to choose: For investing in projects of companies looking to go for a listing, look at details in utilization of funds section, which should have a clear intent of deploying capital in undergoing projects vis-à-vis using the land bank as a basis to raise funds which get routed in another direction. A listed firm definitely provides higher transparency and accountability as its misgivings start to affect its share prices and directly affect the promoter group.

This is not to undermine privately held firms which have a greater reputation at stake considering their largely concentrated geographic focus. There are a number of firms in India that are not listed, yet they are successful because of their project quality and delivery records. Such firms, while operating on a conservative business model, were able to sustain development and generate more business even during recessionary times.

Similarly, there are a number of real estate firms, which get foreign direct investments from reputed private equity funds. The due diligence done by private equity funds along with the investments made by it into the firm, provides some reassurance on the financial strength of the organization.

The final decision of the customer should be a combination of the credibility of the company, an assessment of the project fundamentals and his understanding of the market situation. A perfect combination of legal propriety, price, quality and track record will attract the customer and facilitate his final decision.

Om Chaudhry is chief executive officer, FIRE Capital Fund.

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