Is it a good time to invest in the commercial real estate sector?
4 min read.Updated: 22 Feb 2021, 09:11 PM ISTRenu Yadav
While the residential segment has been struggling, experts see the office segment recovering soon
Office properties in the right location attract quality corporate tenants and can yield very good rental returns
Real estate has always been one of Indians’ most favoured investments. People invest in real estate for price appreciation as well as rental income. However, as the residential sector has been going through a tough phase over the past few years, there has hardly been any price appreciation across markets. Rental yields have never been attractive in residential real estate.
On the other hand, commercial real estate (CRE) has been doing well over the past few years and experts believe that despite the covid-19 setback, the sector is likely to recover early and may prove to be a good investment option over the long term.
Commercial real estate comprises various segments including office, warehouse, data centre, etc. Office is the biggest segment of commercial real estate and are graded based on their location and facilities, with Grade A being the most premium. It has done well in the past few years with Grade A offices touching a net absorption of 46.5 million square feet (sq. ft).
“CRE has been the growth engine for India’s real estate over the past two years, adding quality assets, huge global capital, unlocking value and increasing retail participation in the sector. It has also brought in global majors to set up offices in India," said Amit Goenka, managing director & chief executive, Nisus Finance.
The rental yield from commercial real estate has been better than residential real estate.
“In the residential sector, the rental yield turns out to be 2-3% odd after paying maintenance and property tax, whereas in commercial real estate, investors get a net yield of 7-8%," said Raja Seetharaman, co-founder, Propstack, a commercial real estate research firm.
The office segment has been a favourite of institutional investors. Despite the pandemic, the office segment has seen investments of $3.1 billion in 2020 compared to $2.8 billion investments in 2019, as per a India Real Estate Outlook, A Growth Cycle, report by JLL.
Covid-19 did put the brakes on the growth trajectory of commercial real estate. However, as vaccination has started and economies across the world open up, the impact of work from home (WFH) is not expected to be as severe as anticipated earlier, believe industry experts. The decline in demand due to WFH policies adopted by a few companies is expected to be replaced by increased demand from sectors such as information technology, e-commerce and healthcare.
In the December quarter, recovery was seen in demand for office spaces.
“Net absorption (space physically occupied minus vacated) increased by 52% in Q4 CY20, while new completions grew by 39% when compared to the preceding quarter," a JLL report said.
One of the risks of investing in commercial real estate is vacancy risk, that is office spaces remaining vacant. However, despite the pandemic, vacancy levels across Grade A offices remained limited.
“Vacancy in Grade A office spaces in India has stayed below the 15% mark since 2017. Even during a pandemic-riddled year, vacancy increased marginally and is expected to remain range-bound in 2021," the JLL report said.
In 2021, experts believe new office requirements are likely to get back to previous years’ averages. “2021 is expected to witness 40-42 million sq. ft of new completions, while net absorption is likely to hover at 32-35 million sq. ft. This is almost at par with the annual average levels of net absorption seen during 2016-18 at 32-33 million sq. ft. Rentals are also expected to remain largely range-bound across major markets," said Samantak Das, chief economist and head of research & REIS, JLL.
How to invest?
Investing in real estate is always capital-intensive, which makes it out of reach of retail investors. Investing in Grade A offices directly may cost you in crores of rupees.
If you buy property in lower-grade offices, the vacancy risk may be higher and you may not be able to command good rentals as well.
“Office properties in the right location and project attract quality corporate tenants and can yield very good rental returns over prolonged periods," said Anuj Puri, chairman, Anarock Property Consultants.
Real estate investment trusts (Reits) are a good option for retail investors.
“Reits allow investors to have flexibility and exit options as it is market-linked, whilst not having the obligation of holding a physical asset," said Viral Desai, national director, occupier services, Knight Frank India.
There is another option where a few platforms are offering fractional real estate investing. They collect money from investors and invest in office spaces. However, they are not fully regulated and you should do due diligence before investing via the platforms.
Listing of REITs
The office segment has seen money flow in through Reits. Since 2019, three Reits including Embassy Office Park, Mindspace Business Park and Brookfield have been successfully listed in India.
They are investment instruments structured like mutual funds that pool money from investors and issue units to them.
The minimum investment requirement in Reits is ₹50,000.
Reits in India are allowed to invest only in commercial real estate properties including Grade A offices. They need to distribute 90% of the rental income as dividends. The dividend received is tax-free in the hands of investors if a Reit opts for 30% instead of 22%.