Monday 24 September 2018, 05:47 PM
Build and sell: Changing dynamics of real estate business
By Vinod Behl | Bharat Defence Kavach | Publish Date: 3/21/2018 12:03:18 PM
Build and sell: Changing dynamics of real estate business

Following the key reforms of demonetisation, Real Estate Regulation & Development Act (RERA) and Goods and Services Tax (GST), coupled with enabling policy initiatives, the real estate sector is looking at new business models that are set to change its very dynamics. Thanks to RERA, we have seen the emergence of the informed and empowered consumer. Several RERA provisions -- mandatory disclosures by developers, restrictions on construction without land and necessary permissions, separate escrow account for customer payments, stringent penalties, including jail term, for errant developers, and a fast-track redressal mechanism -- have helped to protect home buyers against frauds and also ensure timely delivery (with quality) of homes.

This has not just regulated the market but has also made the real estate business more professional and organised. The biggest advantage of RERA is that it has reversed the investor/speculator-driven business model, prevalent in the pre-regulation era, and replaced it with a consumer-driven model. The clampdown on the investor-driven model, together with demonetisation, has helped to check the flow of black money into real estate transactions, responsible for inflated prices. The rampant practice of "pre-sales", under the investor-driven model (now banned), was responsible for the artificial hike in prices over the years, making homes unaffordable for the masses.

Also, it because of the investor-driven model that real estate developers were mostly focused on the luxury/premium segment -- with its high profit-margins -- although maximum demand existed in the low-cost/affordable housing segment. But, after the reforms, all that has changed. From low volume-high margin, the sector has adopted a high volume-low margin business model. This has been made possible by policies aimed at incentivising development of affordable housing. From offering land for affordable housing to tax incentives to developers (100 percent service tax waiver) and consumers (up to Rs 2.67 lakh home loan subsidy under Credit Linked Subsidy Scheme of the Pradhan Mantri Awas Yojana), all these pro-active measures have given much-needed boost to affordable housing.

Together with these measures, the granting of industry status to affordable housing to help developers source cheaper funds from banks, has enhanced the affordability of homes, much to the benefit of consumers. There is still one major hurdle in making homes more affordable -- non-availability of bank funding to buy land, especially when debt- laden developers are facing cash-flow issues due to tepid sales. But with the reforms and greater transparency, newer models of financing are emerging. Foreign equity funds are now increasingly coming to the aid of developers. And even new age corporate NBFCs like Piramal Finance are providing end-to-end solutions to developers, treating them as business partners.

Besides, to tackle the land funding issue, the new business model of "joint development" is gaining momentum. Under this model, land owners and developers owning land but lacking financial strength and expertise to construct, market and achieve necessary scale for timely completion and delivery, are joining hands with big players who possess these capabilities. It is a win-win model for big corporate players like Godrej Properties who have consciously chosen the "asset light" model for real estate development. In the current real estate scenario where hundreds of thousands projects are either stalled or delayed, leading to a big slowdown in home sales, developers are taking to the business model of mixed development or simply going in for rent-yielding commercial developments which have elicited interest from both institutional and individual investors.

The huge trust-deficit between developers and property buyers is a key reason for the slump in property sales. According to a recent study by global real estate advisory JLL, there were as many as 472,100 unsold housing units at the end of December 2017. Amidst all this, a newer property marketing model of selling "ready" properties (which are in demand) has emerged. To win back the trust of buyers and push up sales, developers are focusing on project completion and lining up ready/near-ready properties for sale. As per the data released by JLL, by end-December 2017, there was an inventory of 34,700 ready-to-move units across India.

In fact, real estate major DLF Limited has announced it will adopt the business model of first constructing and then selling. While globally this real estate marketing model has been in vogue for years, the Indian real estate sector has been following the model of selling under-construction property to buyers. As, under the new regulatory regime, developers are bound to first buy/arrange land for construction and bear the compliance cost in terms of permissions -- besides being barred from diverting project funds -- it makes business sense for them to adopt a construct-and-sell model, especially as the marketing cost of selling ready homes is low.

This model equally suits buyers as they pay for what they buy, thereby avoiding cheating in terms of space, quality and price escalation. They are also saved from development risk which exists in buying under-construction property. And more importantly, they save 12 percent GST while buying ready property with a completion certificate. And as key reforms of RERA and GST fully settle down in the coming months, and the process of restructuring and consolidation gains momentum, it will be interesting to see how the new real estate business models take shape.

Tags:

demonetisation,Regulation,Development,RERA,escalation

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