India Ratings and Research (Ind-Ra) has maintained an overall negative outlook on the real estate sector for FY20. Ind-Ra has a stable outlook for players in Tier-I residential real estate, commercial office and retail property development and operations and a negative outlook for the rest.
Sector Consolidation and NBFC Slowdown: In FY20, Ind-Ra expects Tier I residential players to generate strong sales due to the ongoing consolidation in the market with fringe players losing ground in favour of Tier I, with better brand and execution ability. The market share of the top 11 listed players, Ind-Ra has analysed, increased to 14% in 2018 from 10% in 2015. Conversely, Tier-II and marginal players are struggling amid liquidity issues on account of declining sales, negative cash flows, RERA implementation and the slowdown in non-banking financial company (NBFC) space. Ind-Ra expects the NBFC lending growth to the real estate sector to slow down further in 2HFY19 and FY20, given the increased risk aversion by NBFCs and their liquidity situation, after slowing down to 37% in 1HFY19 (FY18: 44%; FY16-FY17: 65%).
Soft Commodity Prices to Support EBITDA Margins: In FY20, Ind-Ra expects Tier I players EBITDA margins to be supported by softening commodity prices (1HFY19: 24%; FY18: 22%) while Tier II players are likely to continue with compressed EBITDA margin due to weak sales and liquidity drove execution issues (1HFY19: 15%; FY18: 18%). Ind-Ra expects interest coverage of Tier I players to remain steady at 2.5x in FY19-FY20, driven by likely growth in sales through sectoral consolidation and strong execution capability. However, Tier II players are likely to face a significant challenge to meet interest expenses due to weak demand and liquidity issues. Interest coverage for Tier II players is likely to remain below 1x in FY19-FY20.
Cash Flow Generation: Cash flow from operations (CFO) has been negative in the real estate sector since FY12 and is likely to continue. Ind-Ra expects Tier I players to report neutral-to-positive CFO while fringe players are expected to continue to have negative CFO in FY19 and FY20. Consequently, leverage (gross debt/(inventory + investment property + receivables + unbilled revenue – customer advances)) for Tier I is likely to be better than Tier II players’ in the range of 50%-55% vs. 75%-85% over FY19-FY20, respectively.
Improving Affordability: Ind-Ra believes the affordability in FY20 would be better than that in FY12 if the residential prices remain flat. Growth in residential prices was almost stagnant in FY18 and 1HFY19, which has resulted in time value correction in prices, leading to improved affordability. Several residential players are expanding their portfolio in the affordable segment, given the favourable policy support such as Credit Linked Subsidy Scheme, lower GST and exemption under Income Tax, however, timely project execution within cost budget, given lower sales realisation, remains critical.
Companies with completed inventory will be in a better place in terms of offload risk than those with under-construction projects, as the demand is driven by end-consumers who are averse to risks. The interim budget 2019 has also extended exemption from levying a tax on notional rent of completed inventory to two years from the end of the year in which the project gets completed. Also, there is no GST on completed inventory sale while GST on under-construction projects has been reduced to 1%-5% effective from April 2019 (without input tax credit) from 8%-12%.
Stable Commercial Office and Retail Segment: The agency expects stable occupancy and rental rates for the commercial office segment across the major micro-markets, driven by healthy demand from IT/ITES, e-commerce players and co-work office aggregators. Given strong rental yields and stable cash flows, Ind-Ra believes commercial office will continue to enjoy financial flexibility on account of investor inclination and its refinancing ability. Demand in the retail property space will be supported by increasing penetration by organised players, rising consumer spending and favourable demographics.