Is Real Estate on the Cusp of Something Special?

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Indian Real Estate: All Set for a New Beginning?

The real estate sector is India’s second-largest employer after agriculture and contributes about 9% to India’s GDP. While the housing sector makes up for 5-6% of India’s GDP, it had been often neglected from the angle of regulatory issues. Project delays, hidden costs, and fraudulent advertisements are quite common in the housing sector.

With the Real Estate Regulatory Authority (RERA) gaining prominence across India, the real estate sector is now witnessing a slew of structural transformations. This could accelerate in the coming months, as the RERA act gets fully implemented across all the states and union territories of India.

For a very long time, India’s real estate sector operations were marked by developers having an upper hand over the home buyers. In the absence of a real estate regulator, a majority of developers were happy keeping the terms and conditions of sale in their favour.

With the introduction of RERA, things are beginning to change. Before we discuss them, let’s quickly understand the key rules of RERA that make it a game-changer for India’s real estate sector.

Will RERA Bring an End to the Era of Shoddy Practices?

Developers who have got accustomed to no or little disclosures will find it hard to comply with RERA. This is because the act requires multiple disclosures throughout the life of a project. The disclosures are aimed at improving information transparency and creating a level-playing field for both buyers and sellers.

RERA has made it mandatory for all real estate projects to be registered with the regulatory body before the launch of the project. This holds for projects where land is more than 500 square meter or has eight apartments or more.

For the purpose of registration of existing and new projects, developers will have to submit information regarding profile and past record, financial details, project prospectus, and development plan, among others. Further, project developers will have to update the RERA web page with details such as project status, pending approvals, and unsold inventory, among others, on a quarterly basis.

It has now become mandatory for developers to secure project approvals before launching them. Moreover, developers will have to set aside 70% of the funds collected from buyers in a separate bank account and those funds can only be used to cover project-related construction and land costs.

Also, the liability of structural defects will have to be borne by the developer if there are any defects within the first five years of possession.

To make things worse for developers, the authority has ruled that delay in projects and non-compliance with RERA could lead to hefty fine and imprisonment.

Unorganized Segment Feeling the Heat

The essence of RERA is that it aims to end shoddy practices in the real estate sector. We believe small developers are going to find it hard to comply with RERA’s strict regulations, while organized players will be able to cope with them mainly because of larger resources at disposal.

Going by the numbers, residential projects in prime cities have taken a back seat. There was a 41% decline in new project launches in prime cities in the first half of 2017. This does not come as a surprise as RERA’s tough compliance requirements have managed to put brakes on the activities of unorganized developers.

Now, is the inactivity of unorganized developers going to be a temporary blip or permanent one? As far as small developers are concerned, we believe it is going to be pretty tough for them to stay in the game for long. Many should get absorbed by larger, organized companies, while some could remain in business under the aegis of joint development models.

In the near future, consolidation should be the name of the game in the real estate market. Larger players might procure attractive deals as smaller developers scale down or exit businesses. Both land transactions and joint development projects in prime cities have picked up pace this year, with renowned players either purchasing lands or joining hands with local builders to develop projects.

Home Buyers Not the Only Beneficiaries of RERA

Besides buyers, publically-listed real estate developers will benefit largely from RERA. They are accustomed to reporting disclosures under the governance of market body, SEBI, and thus will not face any hiccup in launching RERA-compliant projects. Moreover, these companies have large resources at their disposal and can afford compliance and legal teams that take care of RERA-related compliance, which would not be feasible for small real estate developers.

Real Estate Stocks Gallop to New Highs

On the backdrop of the changing regulatory environment, real estate stocks have witnessed a strong rally since the beginning of this year. BSE Realty has gained almost 72%, while Nifty Realty has advanced 74%, compared with gains of 22% and 25% in the BSE Sensex and Nifty 50 during the same period.

Leading stocks such as Sunteck Realty (up 201% year-to-date), Kolte Patil Developers (+170%), Godrej Properties (+114%), Sobha (+90%), Prestige Estates (+66%), and Oberoi Realty (+57%) have witnessed huge buying interest right from the beginning of the year.

Interestingly, all these stocks are within touching distance of their all-time highs ahead of the second-quarter earnings season. With the overall real estate market remaining subdued since the advent of RERA, will organized players be able to post decent sales and earnings growth in the coming quarters? We believe the stage is set for them.

At MarketSmith India, we continue to keep a close check on a few quality stocks such as Sobha and Godrej Properties and watch for companies that post accelerating sales and earnings growth in the coming quarters.

 

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