Cold property

What's more attractive, an investment in land, or one made on Dalal Street? If you consider the period since the beginning of 2009 till the first half of this year, the stock markets win hands down, with the BSE Sensex shooting up by close to 80 per cent in these 18 months. Land prices, on the other hand, have stayed virtually stagnant over this period.

Appreciation over a two-year period may not be an accurate barometer of the superiority of an asset class, yet the objective in using this illustration is that the real estate sector hasn't quite recovered from the crash of 2008. Also, although investors in equity did make a killing, those who invested in real estate stocks a couple of years ago aren't quite celebrating. Reason: The BSE Realty Index underperformed the Sensex by a long way, gaining only 32 per cent in the past one-and-a half years. If you consider the January-June 2010 period, the picture isn't comforting, either: Whilst the 30-share Sensex didn't gain much (just 0.8 per cent), the realty index plunged by 17 per cent.

Ironically, this is a period in which a section of real estate developers are claiming that property prices are inching up in key markets (by between 20 and 50 per cent). So, what's the story? It's still pretty grim from the equity investor's point of view. "None of the real estate companies that went public over the past three years is trading above their offer prices," says Jagannadham Thunuguntla, Head of Equities at SMC Capital.

Consider DLF, the country's largest realtor and the sector's bellwether. Last fortnight, it was quoting below Rs 290, some 45 per cent below its offer price of Rs 525 (it made its initial public offering or IPO in June 2007). In recent months, companies like Godrej Properties, Nitesh Estates and DB Realty tapped the public market, but since then all - except Godrej Properties - are quoting below their offer price. Nitesh Estates, for instance, trades at a 40 per cent discount. "Promoters should realise that it's not just about ensuring subscription for their IPOs; performance after listing matters more," says Shobhit Agarwal, Joint Managing Director, Capital Markets, Jones Lang LaSalle Meghraj.

The underperformance of the sector is bad news for an estimated 16 real estate companies that are keen to tap the IPO market. They are collectively looking to raise Rs 18,000-20,000 crore from the market at a time when investors are in no mood to come close to a real estate stock. What makes the new lot of IPOs even more unattractive is that, unlike their predecessors, they bring along with them the baggage of leveraged balance sheets.

"Investors are not very sure about the execution capabilities and valuations of real estate stocks," says Prakash Kalothia, CEO & MD, Sun-Apollo Real Estate Advisors, a real estate-focussed private equity fund based in Mumbai.

The Land Bank Bogey Unlike other sectors that are valued by their price to earnings ratios, real estate stocks were being valued on the basis of their land banks (something that the Securities and Exchange Board of India, the market regulator, doesn't approve of). It can be highly misleading to judge a company by how many acres it has - and putting a value to it - without knowing the location of the land, the type of project planned, and whether there is another partner owning the property. And promoters who did raise money by virtue of the acres they owned had to pay a price. Soon after the listing, many developers heavily leveraged themselves at higher interest rates. Then followed the 2008 meltdown.

With demand waning, real estate companies were stuck with higher debt and inventory on their books. "Investors did not see strong numbers flowing quarter after quarter," says Vaibhav Sanghavi, Director for Equities at Ambit Capital. Result: Brokerages that once gave a target of Rs 1,000 for DLF have lowered their targets to Rs 300-340. Promoters in the IPO queue are keeping a close watch on the DLF stock to sense investor sentiment.

"When DLF trades above Rs 310-320, that's the right time to tap the market," says a developer on the condition of anonymity. Nayan Shah is one promoter who is waiting to tap the primary markets. But he knows this is not the right time.

"Since a sizeable portion of the funds most players plan to raise will go into retiring debt, investors are asking for lower valuations," says Shah, President for Operations and Co-promoter of the Mumbai-based Neptune Group. Neptune had Rs 141 crore of debt on its books at the end of June 2009. One of the reasons for group company Neptune Developers wanting to make a public issue is to repay a part of a subsidiary's loans to the extent of Rs 37.5 crore.

In the midst of the meltdown, developers had opted for orthodox measures like selling land banks and residential stocks at a huge discount to peak prices. However, of late, private placements of equity are becoming more popular. Jones Lang LaSalle Meghraj's Agarwal was instrumental in facilitating over $500 million worth of private investments in the real estate sector in 2009. "We have already exceeded those numbers in the current year," he says and expects to cross $1 billion this year. While 90 per cent of these funds come through private equity, the balance comes from high net worth investors.

The IPO dawn, however, is still some time away. "Large amounts of debt and land-banking are still pulling real estate companies down," says Ramesh Jogani, Managing Director & CEO, INDIAREIT Fund Advisors, investment advisors overseeing a corpus of $450 million of private equity funds. "Till the time rationalisation does not happen on the above counts, the partial recovery is unlikely to translate into a full-blown one, and equity investors will continue to remain cautious," Jogani adds.

Sun-Apollo's Kalothia sums it up best when he says: "The storm is over but the wreckage is still out there."