Real Estate Funds Cracking Intrinsic " Value in Housing 22 nd June 2012 Presented by : Mr. Harish Gagwani Sr. Investment Manager CA. Rajeev Saraogi Investment Manager 1
Index Index Page No. How Private Equity has evolved in the Middle Income Housing 3 Real Estate Glory Days V/s Present Market Conditions 4 Investment Manager s Outlook on Middle Income Housing 5 6 Typical Deal Flow in PE 7 Investment process followed by a PE for Housing / Real Estate project 8 Various stages from Investment to Disinvestment in a Real Estate Project 9 Value creation for the Developer viz a viz Fund 10 2
How Private Equity has evolved in the Middle Income Housing Traditionally, real estate in India has been financed in an unstructured manner by HNIs. However, post liberalisation in real estate & dramatic reforms in India's FIs, the sector has witnessed a phenomenal development in the last couple of years. This is mainly due to real estate s flexible nature and its value appreciation over time. Market Scenario Post 2005 2005 2007 New concept, surplus liquidity, easy availability of equity capital, flurry of equity transactions 2008 2010 Era of worse ever recession, tight liquidity, slowdown, vicious debt trap, distress sales 2010 2012 Cautious and conservative approach, rationalized funding, strategic exits Private Equity in Real Estate A preferred funding option for the housing projects along with other sources such as Banks, Equity Markets, Non Banking Financial Companies (NBFCs) & End User Advances. Prominent form of funding that fully participates in project risk along with the developer Boon for real estate firms as it expedites project execution & absorbs risks related to a typical real estate project The real estate industry has been a mixed bag while decoding the returns delivered by the sector. JLL Analysis shows that real estate investment has been largely in the money at the time of exits. However, returns have been depressed by global recessionary trends. 3
Real Estate Glory Days V/s Present Market Conditions Real Estate in Glory Days Land acquisition with part payment Launch of project, collection of customer advances, payment of land dues Start construction, avail construction finance Use surplus fund as a down payment to purchase additional land Present Market Conditions Land acquisition with part payment Weak Launch with Muted Response Construction Finance not Readily Available Developer Stuck with High Leverage Delay in project launches Sale at Distress Valuation Under Present market scenario Entry/Backing of PE becomes critical for smooth execution of Real Estate Project 4
Investment Manager s Outlook On Middle Income Housing Middle Income Housing segment account for over 50 % of the overall housing market Characteristics of Aspirer Socio demographics (Midway generation~ 1960 80, Businessmen/Industrialists/Senior & Middle Mgmt Professionals, Graduate/PG, Married) Income (Rs 10 lac per annum and above) Needs (Want to be perceived as successful) Usage of products (Statement and Lifestyle) Luxury Aspirer Constrained Aspirer Characteristics of Constrained Aspirer Socio demographics (Mostly Midway generation; some Liberalization generations~ 1960 80, 1980 90, Businessmen/Industrialists/Senior/Middle Mgmt Professionals, Graduate/PG, Mostly Married) Income (Rs. 5 lacs Rs. 10 lac per annum) Needs (Want to be perceived as successful) Usage of products (Statement and Lifestyle) Struggler Mainstreamer Striver Characteristics of Mainstreamer Socio demographics (Midway generation~ 1960 80, Businessmen/Industrialists/Senior & Middle Mgmt Professionals, Graduate/PG, Married) Income (Rs. 2 lacs 5 lac per annum Needs (Security, value and social acceptance,) Usage of products (Behavior is marked by conformity) Socio economic Pyramid Characteristics of Striver Socio demographics (Midway and Liberalization generations ~ 1960 80, 1980 90, Shop Owners, Petty Traders, Small Businessmen/Industrialists/Middle /Junior Mgmt Officers, Graduate/PG, Mostly Married) Income ( less than Rs.2 lac per annum) Needs (improvement and escape from hardships) Usage of products (Better quality of life within limited budget) 5
Investment Manager s Outlook On Middle Income Housing.. Cont Target Returns To The North Of 25 % Low Land Cost Wide gap in demand & supply of units in Tier II & Tier III cities End customer oriented demand, less speculation Volume not value drives the market Evolution of Housing Loan Companies Both PSU & Pvt. Sector, NBFCs etc Significant spread for IT/ITES & industrial companies in Tier II & Tier III cities Value Engineering Short Project Duration 6
Typical Deal Flow in PE Deal Flow to the Fund NDA & First Level Filtration of Investment Second Level of Filtration Term Sheet Source of an Investment Opportunity 3rd party brokers Direct approaches Investment banker Principal deal flow 3rd party real estate investors Proposals are outright rejected as they do not meet the basic criteria of PE Size of the deal Financial Feasibility Poor Management team Poor financial/regulatory reporting Poor reputation of developer partner Documentation & Disbursement Low conversion ratio largely because of poor corporate governance, overstretched valuations and standards not in line with the market view 7
Investment process followed by a PE for Housing / Real Estate project Source Deal Assessment Of Deal Due Diligence Investment Committee Risk Assessment & Monitoring Existing Network Opportunity Due Diligence Investment Committee Risk Assessment 3rd party brokers Direct approaches Investment bankers Principal deal flow 3rd party real estate investors Preliminary assessment 1. Does the project meet financial and commercial requirements (ROCE and Equity IRR benchmarks) 2. If so, then an in-depth analysis will be conducted Preliminary project feasibility study Competitive landscape and comparative transaction valuation Engineering & environmental feasibility Legal & Tax due diligence and Financial scenario model Every project reviewed at least twice Summary fact sheet produced Description of project; 1. Cost of land & construction 2. Catchment area 3. Local competitive landscape and location Significant environmental issues Unresolved title status Potential legal, litigation, or tax problems Portfolio diversification 8
Various Stages from Investment to Disinvestment in a Real Estate Project Pitch to PE player Identification Of Land/Project by Developer Deal Analysis by PE Player Negotiations Acquisition of Land Pre Construction Approval & (Project Launch) - Land identification/acquisition by the developer with part payment upon signing of MoU - Feasibility analysis, -due diligence & risk assessment - Negotiation between Developer & PE in terms of revenue sharing, exits - Land acquisition in SPV. - NOC of various authorities - Submission of plan to municipal /architectural to local authority - IOD & CC - Submission of revised plan - Approval of revised plan Project Execution Together with Sales & Marketing Post Construction Approval PE Exit with the Agreed Returns Exit by the Developer /Profit Sharing between Developers & PE - Project Execution - Sales & Marketing - Deal Monitoring - Obtaining electrical /drainage /water connection - Occupancy Certificate - Completion Certificate - Property Tax Assessment - PE exits with expected returns - Exit by the developer /profit sharing between developers & PE with upside potential 9
Value creation for developers viz a viz Fund In 2008-09, owing to the liquidity crisis in the market Developer Corporate Governance Fund Secured Investor Capital lending norms of banks & other FI became stringent. This created a pathway for Private Equity players to Management Reporting, MIS Better Understanding of Innovative Real Estate Practice enter into the real estate market. This also introduced Cost & Quality Control Timely Exits from the Project disciplined approach towards construction, timely delivery of the project and full transparency in the Timelines Returns for the Investor market. Change in the Business Perception Professionalism 10
Thank You. For more information, please contact : harish.gagwani@arthveda.co.in rajeev.saraogi@arthveda.co.in 11