Indian Real Estate: Good Returns
International funds have reportedly invested some $2.5-billion in Indian real estate, while nearly two dozen domestic funds have raised another $3.5-billion for similar investments.
Recalling a dinner conversation, Anoop Dave, a real estate consultant in Philadelphia, had two years ago with a senior Goldman Sachs executive involved in the firm’s global real estate investments, Dave tells how the executive swore he would never invest in India, while adding that his determination had been cemented by impressions formed after a recent visit to the country.
However, times have changed and are a changing, as for about a year now, Goldman Sachs’ Whitehall Street Real Estate Funds have been exploring the Indian market and checking out potential investment partners. In March 2005, the firm announced it planned to invest up to $1-billion over the next two years in Indian private equity, real estate, private wealth management, and other businesses in India for its institutional clients. A month later, California Public Employees’ Retirement System invested $100-million in a $400-million real estate fund promoted by India’s Infrastructure Leasing & Financial Services.
At the last count, international funds had reportedly invested some $2.5-billion in Indian real estate, while nearly two dozen domestic funds have raised another $3.5-billion for similar investments, including Wall Street powerhouses such as J.P. Morgan, Warburg Pincus, Morgan Stanley Real Estate Funds, Merrill Lynch, Lehman Brothers, Warren Buffett’s Berkshire Hathaway, the Blackstone Group, Colony Capital, Starwood Capital, etc.
Rising Returns
All these firms have been encouraged by Indian policy changes that took place in February 2005, allowing foreign investment of up to 100% in construction development projects with fast-track approvals. The real attraction is investment returns of potentially 25% and more in Indian projects that might be hard to come by today in the U.S. and Western Europe. India’s urban office space market is tiny at about 60-million sq. ft., compared with New York City’s 400-million sq. ft. or New Jersey’s 175-million sq. ft. (Bangalore, in southern India, has 25-million sq. ft. of office and high-tech space, of which 9-million sq. ft. was built last year). Investors could view that as a glass half-full or half-empty.
Investors from Asia have been among the earliest to jump into India’s construction development industry, firming up a presence established before the latest reforms. Ascendas, CapitaLand and Keppel Land are a few of the large Singaporean development firms, already with projects underway in India. In June 2005, Ascendas launched its $350-million ‘Ascendas India IT Parks Fund’, with investments in two IT parks - the International Tech Park in Bangalore and the Vanenburg IT Park in Hyderabad. Keppel Land has stakes in several IT parks across the country. Indonesia’s biggest conglomerate, the Salim Group, has proposed four investment projects in West Bengal - a ‘health city’, a ‘knowledge city’, a special economic zone and an express highway that will account for 1,500-acres.
Enter the Developer
Tishman Speyer was among the first U.S. developers to invest in India. In April 2005, the New York City-based firm formed a joint development company with ICICI Venture Funds of Mumbai with a war chest including leverage of up to $2.5-billion. Tishman Speyer and ICICI Venture Funds brought in $300-million each in equity, investing equally in projects. Kishore Gotety, Investment Director of ICICI Venture Funds’ says, the internal rate of return net of developer margins and fees could be between 25% and 28%, confirming returns were ‘in excess of 100%’ in some markets, such as, Devanahalli in Bangalore, where a new international airport is being planned. He believes returns could be equally high in other locations earmarked for large infrastructure projects.
So far, the Tishman Speyer - ICICI Venture Funds company has signed memorandums of understanding for two ventures in India. One, a $200-million project for residential and commercial development on 42-acres in Bangalore’s prime Whitefield suburb, the other in the final stages of due diligence, with Tishman Speyer-ICICI Venture Funds company striking a deal to buy the land. Gotety expects to have the residential component ready for occupancy within two years, while the commercial space will be ready in five years. While, it will initially be leased to tenants, plans are to sell it eventually. The second project is in Devanahalli, where Tishman Speyer and ICICI Venture Funds are buying a 25-acre lot whose final use has not yet been decided, says Gotety. An earlier plan for a development project in Pune, 100-miles south of Mumbai, has been shelved for now.
“This is a long-term partnership,” says Gotety about ICICI Venture Funds’ venture with Tishman Speyer. He explains that the U.S. developer has “relationships with large tenants that we find very valuable. We are able to contribute with our access to institutional land owners and banks and our local influence.” He believes that once the current fund with Tishman Speyer kicks off, “very shortly we will need more capital.”
Gotety has no complaints about the government’s revised construction development policy, even while worrying that too much money could inflate short-term property prices to unjustifiable levels that will hurt later investors. He says it is important to ensure that price spikes are not driven by speculators. But, that is not an immediate worry; he adds that most of the market is driven by users, and that about 70% of the bookings in residential projects ‘are made by the people who want to live in those houses.’
Gotety believes that Indian real estate is unlikely to face speculative bubbles like other Asian markets faced in the mid-to-late 1990s. He points to India’s conservative ratios for ‘floor space indices’ (FAR or ‘floor area ratio’ in the U.S.), which measure the relationship between the size of a lot and the total space that can be built on it. That index is between 1 and 2 in most Indian markets, while in land-constrained Hong Kong, it went up to more than 10.
New York City-based developer Vornado Realty Trust has teamed up with the Chatterjee Group, a venture capital firm also located in New York City. The Chatterjee Group has more than $1.5-billion in investments, including some in Indian real estate development projects and business process outsourcing operations. Vornado’s investments through this partnership are primarily in the booming market for information technology parks in cities like Bangalore, Hyderabad and Navi Mumbai.
Vornado’s president Michael Fascitelli declines to detail the company’s investments in India, but says that it plans to create a fund that will co-invest with its Indian partner. Initially, Vornado will be a minority partner in the fund. “It will buy and develop corporate properties all over India,” says Fascitelli. “We are encouraged by the growth of India and the opportunistic play in that market.” He adds that while his company has targeted China and India as the top destinations among emerging markets for real estate investments, India scores higher marks. “We feel more comfortable about India than we feel about China,” says he.
The lay of land for development in India has improved in several other areas over the years, according to Marja Hoek-Smit, Director of the International Housing Finance Program at Wharton’s Samuel Zell and Robert Lurie Real Estate Center. “You have to lower the transaction costs,” she says. “India has had a problem with high stamp duties, and they are addressing it state by state.”
She says land assembly procedures have been simplified with the removal of India’s land ceiling act. “The land ceiling act made it difficult for private investors to accumulate land for development, and governments in different states have eliminated the law.” Hoek-Smit says zoning and permitting regulations, while having been simplified, “are still major constraints for development both because of the rules themselves, but also because, so many different agencies have overlapping jurisdictions. Simplifying the process is as important as improving the zoning, planning and sub-division rules.”
Brokerage Deals
While, many U.S. investors are still testing the waters, real estate services firms with existing operations in India are on a roll. Anshuman Magazine, Managing Director of CB Richard Ellis (CBRE) South Asia based in New Delhi, joined CBRE in 1994 to launch its Indian operations - the first by a foreign brokerage firm. Today, he runs operations in 66-cities in India, Pakistan, Bangladesh, Sri Lanka and Nepal from his New Delhi base, with 600-employees in seven cities. It has property management contracts totalling 25-million sq. ft. in 14-cities, and has advised on construction projects of more than 10-million sq. ft. in just the last two years.
Cushman & Wakefield of New York City entered India in 1997, and the firm has since grown to offices in four cities with 350-employees. Many of its global clients have significant operations in India, including HSBC, Verizon, IBM, Lucent Technologies and Boeing. Arshpreet Chaudhry, Managing Director of Client Solutions at Cushman & Wakefield in New York City, who oversees the firm’s strategy in India, sees big gains around the corner. “Real estate and construction development in India will have availability of cheaper, long-term capital from international lenders, he says. “Foreign developers will encourage implementation of international best practices, and prices will get competitive for better quality.”
The $5-Billion Question
Depending on whom you ask, the total equity capital headed for Indian real estate is between $3-billion and $5-billion - and that could be just the beginning.
What lessons can India learn from similar reforms in other emerging markets? Wharton’s Hoek-Smit believes there are many. She points to Thailand as an example of well-executed real estate policy reforms. Thailand adjusted its regulations and approval procedures related to urban development to facilitate moderate income housing development. The second measure it took was to make housing finance more widely available. Hoek-Smit says Thailand started that process with reforms at its state housing bank, which before the mid-1980s ‘was hindering the creation of a competitive playing field for mortgage lending’. The Thai government revamped the bank’s management in the late 1980s, which pegged its rates just below the rest of the market. “They gradually teased the market down into serving a lower income clientele as spreads came down,” she says.
Soon, the resulting competition lowered the average mortgage lending rate from 15% to between 7% and 8%. The newly energized state housing bank works on other fronts, as well, such as, improving borrowers’ credit information and setting up a credit bureau. Hoek-Smit says Thailand carried its reforms across the system, making it easier to get development rights and smaller plot sizes to build affordable housing.
When Hoek-Smit revisited Thailand in 2000 after the real estate crisis had blown over, she saw the net positive effect. “If you were at the 20th percentile of income distribution, you could buy a small new apartment and receive mortgage finance to pay for it, and that is unique,” she says. “In most emerging economies, the lowest priced new construction is affordable only for the 60th and 70th percentile of the income distribution.”
Vornado’s Fascitelli says he expects high returns from investments in India ‘because of the risks’. He admits that he has ‘tons of concerns’ about investing in India. “It is a developing market, and global business practices are being established slowly”, he says. “It’s a high-growth, developing economy, like a child becoming an adult.”
Whatever the temptations, there are some who won’t allow themselves to be swayed. Wharton’s Linneman says there’s certainly money to be made from investing in Indian real estate, but he is convinced that ‘developing is for the locals’. “India is a place where Indians will make money, but I am not sure Americans will; it’s the same thing with China,” he says. “I don’t even want to develop in St. Louis, much less in Bangalore.”
That may be so, but it has not deterred others from investing in the development of Indian real estate and they are more than happy with the returns.
Source: www.mumbaipropertyexchange.com
