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Realty: Demand woes

Sep 2, 2008

In the previous article, we had discussed the impact of rising interest rates and cost of capital on the fortunes of realty companies. In this article, we will discuss how the sluggish demand has led to the outlook for the real estate developers to get bleaker.

  • Also read - Realty: Interest rate woes

    Delay in projects
    In the past few years, aiming to benefit from the rocketing real estate prices, many developers purchased land at exorbitant prices assuming that there would be no downside to the same. However, post the US subprime crisis and the market meltdown in the year till date, the real estate firms are now in a state of anguish. Caught between the sluggish demand and rising cost of capital, many developers, especially the small and mid sized ones, have deferred the launch of their new projects. They now face a frail scenario in view of a slowdown across the segments - residential, commercial and retail. As external funds are hard to come by, the developers are expected to face delays in the ongoing and planned projects. According to CMIE, many small developers are willing to sell their land and incomplete projects, even at a lower value, to bigger firms and private equity investors, leading the Indian real estate sector to head towards consolidation.

    Oversupply in commercial space
    The IT/ITES sector contributes to nearly 75% of the total commercial office space absorption. To benefit from the booming IT sector, many developers had chalked out plans to benefit from the same by charting aggressive plans for the sector. With a large portion of the IT firms targeting special economic zones (SEZ) to expand their capacities and benefit from the tax gains, signs of deceleration are evident in the ITES segment of the realty sector.

    Further, many other office space occupiers have also become cautious with their expansion plans and as such have postponed their purchase decisions. This has led to oversupply of properties. According to CMIE, the supply in the commercial space is likely to outpace the demand in the next six to eight months, leading to rationalisation of rental rates in almost every metro city. To put things in perspective, according to Knight Frank India, a real estate consultancy firm, an additional 8 m square feet office space is expected to hit the Mumbai market by March 2009.

    Coming to the retailing sector, many retailers cannot afford the high rental prices being quoted by the real estate firms. According to media reports, rentals in the retail space have fallen by 10% to 20% in the past two months. Major retailers have postponed their expansion plans in hopes of further rationalisation of rentals and property prices. Infact, a handful of them who had booked properties earlier are also renegotiating the rates. According to Estate Agents Association of India, the fall in real estate prices has been in the range of 15% to 30% even in the normally price-inelastic areas of Greater Noida, Noida, Gurgaon and Mumbai.

    While property prices have already declined significantly in the last few months, the outlook for the sector continues to remain subdued for the medium term. The growth in income for the developers is expected to slow down if they continue to hold on to prices. On the other hand, selling or renting properties at lower prices are likely to hurt margins of the real estate developers going forward. The CMIE believes that deferment of purchase decisions by the end users and the exit of speculative investors, the unabated price rise in real estate has stopped and property prices have corrected in several overheated pockets.

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