The last few quarters have been quite difficult for the real estate sector.
Developers and investors alike have been plagued with several issues such as a lack of confidence on the entire sector following the various scams, drying-up of liquidity from banks and institutions, stricter vigilance from various government authorities as well as continued softness in certain asset classes such as commercial, retail and now to a certain extent residential as measured by absorption levels over the last few months.
As a case in point, scripts of leading real estate development companies such as DLF, Unitech and Indiabulls are down 18%, 45% and 21% respectively since March ending 2010. So what can real estate developers and investors do in order to get themselves out of this hole?
Well amongst the several initiatives that industry participants can take, it is important for them to explore alternate and creative development models that cater to the needs of all segments of society.
We notice that developers tend to get caught up in the herd mentality and instead of implementing projects that cater to the needs of the market based on demand and supply, they often find themselves chasing the flavor of the month. Thus when the IT boom was taking shape in 2006-07’ all developers were busy announcing IT parks and when premium residential projects met with some success in 2007-08’, all developers rushed towards the premium end of the segment only to find themselves retracting to the affordable housing bandwagon when the music stopped in 2009.
There is a lot more to real estate than just high-end residential apartment buildings, commercial office spaces, IT parks and retail malls. It is important for developers as well as investors to now broaden their horizons and think out of the box. Before implementing a new project, developers need to accurately access the needs of the market and explore alternate asset classes which if implemented correctly, can yield to far greater success.
In this article, we explore some such alternate asset classes that one might explore after a carful understanding for the location of the land and other development parameters. Most of these models have been implemented successfully in more mature markets such as the US and Europe as they successfully address the needs of a particular segment of society.
As India continues to evolve rapidly, developers need to take some initiative and along with other industry participants, they need to come up with creative solutions to see how these or other similar development models can be successfully implemented in the Indian context so that the needs of all segments of our society are adequately met.
Low income housing: Clearly in a country like India, where as much as 80% of urban India’s population is unable to afford the homes that are currently being built, the segment of low income housing cannot be avoided for too long.
In recent times this segment has become a political hot potato and several industry participants such as local government bodies, government housing development authorities, home financing institutions as well as a few developers are all trying to figure out a sustainable housing solution to the vast majority of urban India that currently reside in shanties, slums and other forms of unregulated rental housing.
Already, a handful of low income housing projects such as Swarajaya by Neptune Builders at Ambivali (outskirts of Mumbai), Shubh Griha by Tata in Boisar and projects by Mr. Jerry Rao (ex-Citibank honcho) in Chennai and by Bakeri Builders in Ahmedabad have been successfully implemented across various parts of India.
No doubt several issues such as availability of inexpensive land, infrastructure, government approvals for such housing projects, availability of housing finance for the LIG segment etc. all need to be adequately addressed before low income housing can become a sustainable business model in India however private developers who until now have been catering to only 20% of India’s urban population need to pay more attention to this bottom of the pyramid opportunity.
Private developers have thus far largely been under the notion that this segment cannot be exploited for economic gains and have thus proclaimed that low income housing should fall strictly under the domain of the public sector.
A closer look at the economics might suggest otherwise especially given the huge demand potential across all Indian cities. In order to cater to urban India’s vast lower income segment, one would need to sell an individual apartment unit for Rs. 4 – 5 lacs a unit or approx Rs. 1,800 per sq. ft. depending upon the location of the land and the size of the apartment. With land & approvals cost of approx Rs. 250 per sq. ft. and construction cost of approx Rs. 1,200 per sq. ft. a low income housing project would yield post-tax margins of approx Rs. 250 per sq. ft. or ~ 20% margins on cost.
Even though such margins are considered decent in most industries, real estate developers who are used to earning anywhere between 40% – 60% margins (at times even more!) feel that low income housing is not profitable enough given all the work involved. However, when looking at this model from the perspective of ROEs and IRRs, (versus margins) things can look quite attractive.
Developer’s investment in a low income housing project is typically only required during the land acquisition phase as such projects usually experience heavy pre-sales which would fund all construction costs. Thus upon an investment of approx Rs. 250 per sq. ft. the low income housing model will yield to the developer a post-tax net profit of Rs. 250 sq. ft.
Additionally, with the help of quicker construction techniques that are now available such as myerwin shuttering, pre-fabrication etc. these projects can typically be executed over a 2 year time period.
Of course a lot of intricacies as mentioned above need to fall into place for this model to work however if implemented successfully, developers of low income housing projects can double their money in 2 years time thereby generating an impressive 50% IRR! Given the unmet demand, the long term business opportunity in this segment as well as the social good, developers would serve themselves well to pay more attention to this segment and work with other stakeholders involved in an effort towards creating solutions to low income housing in India.
Serviced vacation homes: Vacation homes or 2nd homes as they are popularly known have been around for years. These are typically located in hill stations or beach resorts located close to major cities and are used by the resident as a get away destination during weekends and holidays.
Even though several developers have been executing vacation home projects over the years, there has been a drastic shift in the type and format of vacation homes that is currently in demand by the large middle-age working population. Gone are the days when working professionals and businessmen can put in the time and effort required to maintain a second home in a nearby city or town.
Maintenance of a second home requires tremendous amount of attention with respect to upkeep, security, etc.Thus the need of the hour is for fully serviced vacation homes wherein all issues pertaining to maintenance, security, paying of bills and taxes is taken care of for the residents.
Also conveniences such as food options as well as entertainment facilities should be provided within the development itself such that residents of such projects simply need to show up at their vacation home and enjoy the facilities in a congenial environment with like-minded people.
The other aspect that developers need to keep in mind is that buyers of vacation homes typically also seek to gain some long term capital appreciation through their investment in the property. However, given all the costs involved in maintaining a typical vacation home, these often turn out to become a big drain on the expenses.
Eventually, the typical resident ends up ignoring the upkeep of the property thereby making the vacation home not only inhabitable but also detrimental to his investment in the long-run. A creative solution to these issues is made available through the condo hotel model that is successfully implemented by several well known hotel operating companies such as Four Seasons, Hyatt, Westin etc. in the developed markets of US, South-east Asia and Europe. Through this model, residents of such vacation homes may choose to rent back their units to the developer who in turn has a tie-up with a hotel management company.
The hotel management company not only maintains the units on behalf of the resident but also rents the same out to guests when the residents are not using their units during weekdays, thereby running the complex as a hotel. Profits generated through the operations of the hotel during weekdays are distributed between the residents such that not only are they able to meet the running expenses of maintaining the property but they also they earn a yearly income from their investment in the unit.
Assisted senior living housing: Assisted senior living housing or retirement villages have been successfully implemented in mature markets such as the US & Europe that have a large ageing population. Such developments are typically located on the outskirts of major cities and provide a comfortable environment for the elderly to enjoy a peaceful retired life along with provisions for all medical care and attention.
As families in India continue to nuclearize, such retirement villages may unfortunately become the need of the hour in spite of the possible social stigma against them. Already, a handful of such projects such as Ponni Delta Retirement Community in Trichy, Athashri by Paranjape Schemes as well as another senior living housing project by Apple Hospitality Services in Pune and other such projects in parts of Cochin and Amritsar have been implemented.
Such assisted senior living housing projects may be implemented under various business models, but typically the developer collects an upfront deposit from the elderly resident who is allotted a unit in the complex. The residents live in the allotted unit for as long as they desire and also make use of all the facilities such as nurse service, 24 hour medical attention, housekeeping, catering, social events etc. The residents typically also incur a fixed annual fee in lieu of these services.
As westernization continues to sweep across India, such retirement villages may be required in order to provide a comfortable and dignified retirement to our senior citizens. Additionally, from the point of view of the developer, this model can be attractive as typically his investment into the project is returned through the initial deposits paid by the residents and he also continue to earn a yearly yield through the fees collected.
Source: VCCircle
Vaibhav Jatia is the Managing Director of Rhythm Realty, a real estate development company engaged in residential and hospitality related developments in and around Mumbai. He was previously working in the real estate private equity industry in India as an investment professional with Lehman Brothers (LBREP) and Westbrook Partners. Vaibhav graduated from the Wharton School of Business at the University of Pennsylvania.
Posts
