It Would Cost the Govt Just Rs26,000 Crore to Save Real Estate Industry That Contributes Rs12.5 Lakh Crore in the Economy: Liases Foras
Indian real estate sector, which was already struggling in the last three years in dealing with demonetisation, goods and services tax (GST), Real Estate Regulations Act (RERA) and the financial liquidity crisis, is now set to suffer more turbulence.
Pankaj Kapoor, managing director (MD) of Liases Foras hosted a webinar recently to discuss an empirical assessment of the immediate and long term outlook of the residential and commercial real estate market. He offered suggestions on how the government could help boost demand and also explained how it would cost the government just Rs26,000 crore to save the country’s real estate industry that contributes Rs12.6 lakh crore to the Indian economy.
Significance of real estate market to India’s GDP:
The real estate sector contributes 6.1% (Rs12.58 lakh crores) of India’s GDP. It employs 2.2 crore people and contributes Rs 1.10 lakh crores to the government in taxes and duties.
Chart 1. Contribution of real estate industry to India’s GDP
Chart 2. Contribution of real estate industry to employment
Chart 3: Contribution of real estate industry to taxes and duties
Covid-19 impact on job market affecting commercial office space:
Almost 55% of global outsourcing work handled by Indian IT companies is generated mostly from US and Europe. Both US and Europe have been reeling under Covid impact. Fresh orders and renewals will suffer. Every passing week of the lockdown is painful. Companies are likely to reduce their expenditure by 25-30%, which is likely to induce pay cuts, job cuts. This will have repercussions on new absorptions of commercial office space as well as increase in vacancy levels of commercial office space. To reduced costs, companies will reduce employee costs.
Scenarios based on when the lockdown ends:
The research company made an assessment of different scenarios of how companies will reduce employee costs based on when the lockdown ends. Every additional month of lockdown will lead to a spike in reduction of employee costs. Reduction in employee costs is directly proportional to vacancy levels and will thus impact the demand for office real estate and the lease rates.
The current office market inventory in Top 8 cities:
Ahmedabad has the highest percentage of vacant office space (35%), followed by Kolkata (28%) and NCR (24%). In Mumbai, which is one of the most expensive cities, 15% office space is vacant. 6% office space is empty in Chennai and Pune while 7% is empty in Bangalore and Hyderabad.
According to their research and calculations based on the different scenarios, if the lockdown continues upto September then the vacant stock levels could increase by almost 32%. By June, 21% increase in vacancy levels will be seen if the lockdown is not lifted.
Excluding NCR all cities have more than 60% of the clients from the three segments (IT + BFSI + Coworking)
Economic meltdown during the 2008 financial crisis had brought down the rental values to the extent of 40% to 50% in the commercial office space segment. Interconnected sectors of IT and BFSI (Banking, financial services and insurance) segments were the first ones to go down and will most likely bear the brunt again. Cities having higher concentration of these segments are likely to experience jitters before others.
City wise cumulative increase in Vacant stock
If the lockdown continues, vacancy levels will continue to increase and the highest quantum of vacant supply will be present in Mumbai and NCR.
Residential Market in India:
Mr Kapoor said the only segment of residential real estate industry where there were sales was the affordable housing segment. “But I foresee a reduction of almost 30 to 40 per cent in sales in the upcoming financial year, in comparison to last year in the affordable housing segment".
The situation now is so severe that there is four to five years' worth of real estate inventory across India - an all time high. This is in line with a report in January by Prop Tiger which reported that India’s nine major residential markets have unsold units worth some Rs 6 trillion ($80 billion). Buyers can expect steeper cuts
and sellers will have to cut their prices if they want to complete the deal. Banks are also worried that if developers can't liquidate their stocks, it could lead to defaults and add to a $140 billion pile of bad loans.
Maximum share of annual residential sales (for last FY) came from MMR, NCR and Pune. But Hyderabad and Ahmedabad which had lesser residential sales also hold less inventory overhang of 27 months only. All other cities have inventory of over 40 months and Chennai has inventory overhang of 73 months. According to Mr Kapoor, an inventory overhang of 12 to 15 months is productive and sustainable, anything more than that suggest that we have high inventory overhang, unsustainable and will continue to put pressue on the prices. Pre Covid itself, prices were not positive on growth and post Covid, there would be increased shrinkage in demand, adding to price pressure.
The lockdown has stopped all the on-site sales activity. Construction has halted not just till the lockdown ends, but also till the migrant labour gets confidence to return to the city. The consumer sentiment is also at an all time low with fear of job cuts, pay cuts and job insecurities.
Every month of lockdown is equivalent to 8.3% of loss of revenue. The lockdown till 3rd May is a straightaway dent of 11% on the revenue as can be seen in the chart above.
By June 2020, if the lockdown continues, the market would shrink by 33% and if it continues till September it would shrink by 65%. Even if lockdown ends, there might be another one or two months of inertia before things can pick up again. There are two customer segments: investors and end users. In cities where the investors are more active participants (mainly North India) in buying, lesser adverse impact will be seen. The compulsive investor from North tends to be less rational and they are more prone to believing in market stories that investment will move from stock market to property..
Price correction is imminent
According to Mr Kapoor, developers will have to provide discounts to re-ignite demand. Some might have to face losses too. But the only two options they might have are either lose to the customer or lose to the lender but they will need to make their choices. A price correction of 15% will further shrink revenue to 57%. Even if the sales increase by 20% each quarter post lockdown (assuming that the lockdown ends in June 2020), it will take at least 4 quarters after June to reach the stage of Dec 2019.
How Covid-19 will alter real estate demand?
According to Mr Kapoor, the pandemic will initiate the process of de-densification. Contribution of large cities to the housing sales will reduce from its current share of 75%. Larger, denser, expensive cities will lose to smaller cities. He said that spatial diffusion of jobs is expected not just to the periphery but also to smaller towns. Land prices will undergo sharp corrections. Businesses too will focus on cost rationalization.
He said that luxury housing might suffer larger corrections than the affordable and mid-segment housing. Distress sales can be expected
. On a specific question about whether ready reckoner rates should be decreased, he said that ideally ready reckoner rates should be calibrated to the market rates. Maharashtra and Gurgaon have made amendments in the past. If ready reckoner rates are retained, it somehow restricts the buyers and sellers from carrying out the deal. The government needs to reduce ready reckoner rates and reduce the premium they charge.
Measures that Government can take to boost demand and the potential associated costs for the Government:
Mr Kapoor also discussed what possible measures and initiatives the government could take to boost demand. He said over 92% of the supply is lying in under-construction phase. He said the government needs to consider waiving off the GST for under-construction property.
He suggested a waiver on stamp duty as well. Interest exemption limit under section 24 of Income Tax Act (currently at Rs2 lakhs) can be increased to Rs12 lakhs. Meanwhile, builders also should reduce prices by 20%. With these measures, the rental yield can go upto 3.6%.
According to him, current rental yield is 2.40%. “The optimum yield is 5.5% but at a rental yield beyond 3.5%, generates demand.” He drove home his point by mentioning that he went through an HDFC presentation recently, which shared very startling facts. He said “In 2006-07, the average consumer / end user age for property was 28 to 30 years. Now it is 39 years. That clearly indicates that very large sections of consumers are unable to purchase property despite four years of price moderation in the industry and unaffordability continues”.
Impact (Costs) of the potential measures on Government:
Table above shows the details of the calculations
He calculated that it would cost the government just Rs26,000 crores to save the country’s real estate industry that contributes Rs12.5 lakh crores to the Indian economy.