Softening Prices

In a rare deal in times of investor caution, IL&FS recently picked up a 9.36 per cent stake for Rs 200 crore in Indiabull's Bharat Mills Mumbai project located in upscale Worli. The deal pegged the residential realty project at Rs 2,136 crore, but initial media reports mistakenly projected this as "35 per cent premium" to the Rs 1,580 crore paid by Indiabulls in August 2010 for acquiring the 8.4-acre mill land.

One cannot calculate ‘premium' by comparing the total value of a project — the projected realisation on sales on completion — with the purchase cost of land. In August 2010, the projected value of the residential project planned by Indiabulls was closer to Rs 3,000 crore assuming a conservative sale value of about Rs 30,000 per sq. ft. At Rs 2,136 crore, IL&FS has got a 25 per cent discount on 2010 valuations.

As this private equity deal indicates, prices for land and built-up estate can only move south over most of this year. If there was any doubt that the real estate sector was in the grip of severe recession, recent data emerging on uptake of office space is an eye-opener. According to a CB Richard Ellis (CBRE) study, there has been a 12 per cent decline in the absorption of prime office space in the country in 2011 with leasing and purchases falling to 28 million sq. ft compared to 32 million sq. ft in 2010. According to a survey by DTZ Consultants, the cumulative absorption across India's seven largest cities was up a "modest 8 per cent to 36 million sq. ft." "We expect a further dip in demand in 2012 by 10 per cent. Absorption may fall to about 32 million sq. ft this year," says Anshul Jain, CEO of DTZ Consultants.

With corporates, especially IT companies, pruning or postponing expansion plans, builders have cut back supply and completion targets, leading to a huge slowdown in the construction industry. The CBRE report indicates supply addition in "leading Indian cities declined by almost 50 per cent touching about 30 million sq. ft in 2011, compared to more than 55 million sq. ft added last year.

That stagnation has hit the commercial and office space market is corroborated by DTZ whose extensive survey shows that total available office stock in 2011 has gone up 9.4 per cent from 335 million to 370 million. This is despite project completions falling 45 per cent compared to the previous quarter.

Given the recessionary data, lease rentals and property prices should be falling faster than they are. "Builders have protected themselves by selling off chunks to individual investors or private equity players. It is these stakeholders who are taking the biggest hit," says DTZ's Jain. On the other hand, Pankaj Kapoor, CEO of property market tracker Liases Foras, says: "Residential prices have peaked and we will now see a gradual decline over three years." Given a sharp slowdown in sales and funding for builders becoming scarce, HDFC CEO Keki Mistry predicts "a 5 to 15 per cent fall in the property prices" over the next year.

In this scenario, it is strange how government revenue authorities have jacked up the ready reckoner (RR) or property circle rates. These are used to compute stamp duty and registration charges for property transactions. From 1 January, in Mumbai the RR rates have been hiked 46 per cent while in the Delhi-National Capital Region, circle rates have gone up 250 per cent for residential property over one year. This has only stymied demand further. 

(This story was published in Businessworld Issue Dated 30-01-2012)