cii real estate whitepaper feb2010

8/2/2019 CII Real Estate Whitepaper Feb2010

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The information and opinions contained in this document have been compiled or

arrived at from published sources believed to be reliable, but no representation

or warranty is made to their accuracy, completeness or correctness. This

document is for information purposes only. The information contained in this

document is published for the assistance of the recipient but is not to be reliedupon as authoritative or taken in substitution for the exercise of judgment by any

recipient. This document is not intended to be a substitute for professional,

technical or legal advice. All opinions expressed in this document are subject to

change without notice.

Whilst due care has been taken in the preparation of this document and

information contained herein, neither CII nor Grant Thornton nor other legal

entities in the group to which they belong, accept any liability whatsoever, for any

direct or consequential loss howsoever arising from any use of this document or

its contents or otherwise arising in connection herewith.



Foreword

01 Indian Real Estate | Industry

Snapshot

02 Executive summary03 Regulatory environment

11 Governance & transparency

24 Financing & capital

About CII

About Grant Thornton

Contents



Foreword

Dear Friends,

Wishing you a very happy and prosperous new year 2010.

The year 2009 will be regarded as a unique year for Indian realty. A year that brought both despair and hope. The real estate boom that went bust in 2008 saw real estate players, investors and property consumersexperiencing its pain with the onset of 2009. The global economic slowdown added to their woes. But then,luckily this pain, much against expectations did not last long. The second half of the year brought in aglimmer of hope. In the third quarter, there were clear signs of realty revival while the fourth quarter has

brought the much needed relief to the real estate players, with demand for property picking up. One hopesthat the real estate sector emerges from the crisis. Let the bitter memories be a thing of the past and the New

Year bring in sanity, paving a way for systematic and sustainable growth of real estate in the months ahead.

The Eleventh Five Year Plan envisages a total investment of US$514 billion in the infrastructure sector forbridging the infrastructure deficit and for sustaining a growth momentum of 9% per annum. This ambitioustarget requires 30% of the total investment, i.e. US$154.17 billion, through private sector participation. Overa period of time, the Government of India has taken several initiatives to accommodate and accelerateprivate investments in the infrastructure sector. These include sector specific policies, providing incentivesand tax holidays to attract private investments, permission of 100% FDI in the infrastructure sector, specialprovision of Viability Gap Funding (VGF) and PPP approach.

In order to gauge a better understanding of the macro environment surrounding this sector, a survey wasconducted by the Knowledge Partner – Grant Thornton. The compiled analysis from the survey is includedin this Background Paper which also focuses on broad themes for discussion of this Conference - theregulatory environment, transparency & governance, and financing options available for this sector. CII hasbeen actively involved with the Real Estate Sector addressing their key issues relating to policy matter anddeveloping a roadmap for the growth of this Sector. As part of its initiatives, CII organises various focusedinteractions, seminars, conferences and expositions to provide an ideal platform for deliberations, andshowcasing of emerging trends and technologies for various stakeholders. REALTY 2010 is one suchinitiative.

We thank all the respondents associated with the survey for their immense support and vital inputs. We hopethat you find this Background Paper enriching and meaningful.

Looking forward to a fruitful association.

Thank You

Madhukar TulsiPresidentIREO Management (P) Ltd.



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Indian real estate | A snapshot

The real estate sector of India, just like most other sectors of the economy, has now started making its way out of the downturn. The period of slowdown had provided the industry with anopportunity of introspection and the signs of leaning are quite apparent in the industry.

The sector, once identified as an unorganised sector, has been evolving quite well, in terms of project planning, size, technology, quality and financial management. A host of real estatecompanies now have access to organised financing through primary and secondary markets,financial institutions and alternative financing routes such as private equity.

According to a latest ASSOCHAM report, Foreign Direct Investment (FDI) in the Indian realestate sector will increase to US$25 billion in the next 10 years, from present US$4 billion. Thecapital inflow from the routes of FDI, IPO, QIP and bank loans have increased from US$15,795million in 2008 to the tune of US$25,977 million in 2009.

Also, transparency on customer services has also improved vis-à-vis delivery schedules, informationsharing on issues and after sales. We also cannot ignore the positive developments on the fronts of policy reforms and the increasing recognition of real estate as an infrastructure service driving theeconomic growth engine of the country.

With so many “positive” signs, the sector has gained in a short period of time, the concern in the

present perspective, however, arises as how to deal with the challenges posed by multi-prongedpressures on the front of regulatory environment, governance and of course, finance and capitalmanagement.

There is an opportunity of high growth, yet again, in the approaching times, and a planned andstrategic approach will help seize this opportunity, at an optimum level.



Executive summary

The path from crisis to recovery is opening up. While themature markets are struggling to make their presence onthis path, the emerging economies such as India are well-placed.

According to International Monetary Fund (IMF), thedeveloped economies are likely to grow by an average of 1.3% in 2010. The Indian economy, on the other hand, isexpected to grow by over 6% in this year.

This position of leadership calls for more responsibility and the world is definitely looking at us. In thisenvironment, it has become imperative that we consolidateour fundamentals and emerge as a force to beckon with.

Real estate had been amongst the fastest growing sectorsin India in the few years before recession, and now withthe positive signs of recovery witnessed in the economy, itis the opportune time to address issues that will help boostgrowth in the long term.

This paper discusses an array of such significant matters, andconsiders the customer’s point-of-view along with the industry.It touches upon the critical aspect of transparency andgovernance, with an impact analysis of new tax regimes and alsthe home loan interest rate scenario.

The opening up of new avenues such as Real Estate Investment Trusts (REITs) and funds will translate in further refinement,and with this and other dimensions, the Indian real estate sector

would proceed towards making it a globally competitivemarketplace.

Meanwhile, the analyses are further supported by acomprehensive online survey being taken by industry expert anhighly experienced real estate professionals, including industry captains, market professionals, research analysts, consultants,investors and end users.

2010&

IndianReal Estate

Financing & capital

Regulatory environment Governance & transparency

Affordablehousing

Valuationmetrics

FEMA/ ECB

Direct tax code/ GST

Real estate bill

Traditional sources

New avenues

Policy issues



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Significant developments

More than any other sector, the regulatory environmentand procedures have a significant impact on the real estatesector. In this section we have covered the draft RealEstate Regulation Bill, Direct Tax Code, the ForeignExchange Management Act, 1999 (FEMA) and theproposed introduction of GST.

The real estate bill

The Union Ministry of Housing and Urban Poverty Alleviation has released a discussion draft of the RealEstate (Regulation of Development) Act (referred to as the‘Real Estate Bill’). The preamble to the Real Estate Billstates that its objective is to establish a Regulatory

Authority and an Appellate Tribunal to regulate, controland promote planned and healthy development andconstruction. However, the following aspects need to beconsidered:

• Role of the regulator

In order to ensure that the regulator efficiently achieves its objectives, it is critical that the regulatorshould have sufficient authority with respect to laying down guidelines for state governments and otheragencies concerned with approval of real estateprojects. The issues such as Floor Space Index (FSI),

verification of land title, standardisation of construction norms, civic and social amenities,disclosure norms, etc. should fall under the purview of the regulator.

• Streamlining land records

One of the key requirements for the real estate sectoris to computerise land records and more importantly,establish a comprehensive procedure for verifying thetitle to land. Apart from increasing transparency, this

will ensure that there is adequate land with ‘clean’ titleavailable for development.

• Single window clearance

Registration of all projects with the Regulatory Authority suggested under the Real Estate Bill may result in projectdelays. Instead, a single window clearance system (whichincludes such registration) may be introduced for real estaprojects. This will not only reduce the time involved inobtaining approvals but will also avoid the need for theproposed restriction in the Real Estate Bill on developersadvertising the project without such registration.

To restate, once the single window clearance has beenobtained, the condition in the Real Estate Bill restricting developers from advertising their projects will not berelevant.

• Bank guarantee

The condition to furnish bank guarantee equal to 5% of thestimated cost of development with the Regulatory

Authority will increase the cost of project. There is a needfor examining other viable alternatives as well.

• Real estate agents

Currently, almost anyone can become a real estate agent.Regulations may be introduced for certification of realestate agents that lays emphasis not only on procedural anbusiness knowledge, but also on ethics and best practices.

While the Real Estate Bill requires details of agents or

dealers to be furnished by the promoter, it does not specifyany requirements in order to qualify as a real estate agent.

• KYC While it may not be possible to carry out any detailed‘Know Your Clients’ (KYC) of the buyers, at least apreliminary background check may be carried out to reducfuture defaults on payments and to reduce speculation.



Market view

3%

24%

7%

38%

28% StronglyDisagreeNo Opinion

Slightly Agree

Agree

Strongly Agree

Figure 1: A single statutory body should regulate realestate developers and agents (similar to IRDA for theinsurance sector)

Figure 3: The proposed Real Estate Act prohibitslaunching a real estate project without appropriatesanctions from the local authorities.Given the numerous linear approvals required for commencing a project, is this provision feasible

50%50% YES NO

Figure 2: The real estate bill would enable the common man in Indiato breathe easier

9%

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13%

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13%Disagree

Slightly Disagree

No Opinion

Slightly Agree

Agree

Strongly Agree

“The draft Real Estate Act has hit the nail on the head inproposing a mandatory requirement of real estatedevelopers to obtain all sanctions and approvalsrequired to undertake a project prior to marketing itexternally. This is especially so for housing projects.

Only by stipulating such criteria will the inherentuncertainty and delay that the home buyer invariablyfaces in the execution of projects be minimised. Animportant off-shoot of this will be that the authoritieswill come under pressure to release approvals in anefficient manner to the right projects. Stategovernments will also be forced to make the current

hugely cumbersome processes simpler and moredeveloper-friendly.

If this requirement is not brought in, I am afraid thepresent unacceptable state of affairs will continue toflourish. Single window clearances are a must. Onlysuch laws will enable this to happen, if only in the notso near future.”

Ravi RamuDirector and CFOPurvankara Projects Limited



Direct tax code

The Direct Tax Code (DTC) has proposed significantchanges to the existing law on income tax. While there arekey changes which impact all industries, certain changes

would specifically affect the real estate industry.

Key implications of DTC relevant to all

industriesDTC proposes to introduce General Anti-Avoidance Rules(GAAR) provisions to plug tax avoidance. Under theseprovisions, if the tax authorities are satisfied about lack of commercial substance in any arrangement, then the taxauthority may declare the arrangement as an impermissibleavoidance arrangement and disregard, modify, nullify orre-characterise the arrangement including re-allocation of any gross income, receipt or accrual of a capital nature,expenditure or rebate amongst the parties or disregard theprovisions of any tax treaty.

The onus has been shifted on the tax payer to prove thatavailing of tax benefits was not the main purpose of entering into the arrangement. The proposed rules aresweeping in the power conferred to the tax authorities andare likely to lead to excessive litigation.

In case the above provision is made effective, basically all thetax treaties signed by India till date could potentially berendered otiose in so far as the DTC specifically provides.

This will have a far-reaching impact for foreign investors whohave invested in India, taking treaty benefits into account .

Key implications of DTC specific to real estatedevelopers/ corporates

Taxability of income under the head “income from houseproperty” – DTC proposes that the income from allproperties held for earning rentals shall be computed underthe head “income from house property”. This proposal aimsto do away with the litigation on classification of rentalincome as ‘business income’ or ‘income from house property’

which is a welcome move.

Besides, an asset based computation of Minimum Alternate

Tax (MAT) at the rate of 2% has been proposed in DTC, which will be a significant tax burden where the rents are low due to unfavorable market conditions. It has also beenproposed that there will be no credit for MAT which willonly compound the burden. This levy and deletion of a creditmechanism should be revisited.

Under the current provisions, any taxtreaty entered into by Central

Government with another countryoverrides the provisions of the IncomeTax Act, 1961 to the extent they aremore beneficial. The DTC proposes toreplace this principle with the conceptof ‘whatever is later in time shallprevail’.



Special economic zones• levy of MAT and Dividend Distribution Tax (DDT) –

SEZ developers are currently exempt from levy of MAT and DDT as per the changes introduced by theSEZ Act, 2005. DTC proposes to override theprovisions of SEZ Act and levy MAT @ 2% of grossassets and DDT @ 15% on SEZ developers. Further,

there is no proposal to amend the provisions of SEZ Act. There seems to be a lack of clarity in the policy and this need to be addressed.

• taxability of SEZ developer’s income – Under thecurrent provisions, the profits of a SEZ developer as

well as co-developer are exempt for a period of 10years (out of 15 years). DTC proposes to replace thisexemption with investment based tax incentive. Theprofits of a SEZ developer will be taxable afterallowing deduction for certain capital (including land

cost) and operating expenses. Further, it is unclear whether such deduction will be available to co-developer. This imposes a severe disincentive for SEZdevelopers/ co-developers.

• the current tax incentive available to SEZ units hasnot been specified under DTC under thegrandfathering provisions. This appears to be aninadvertent error and should be clarified.

Implications of DTC on computation of incomefrom house property

• currently, if a property is vacant for a part of the yearand the actual rent receivable is lower than theexpected rent, such lower amount is taken as grossrent. Under DTC, it appears the gross rent will becomputed at 6% of ratable value without any concession, even if the property is let out only for apart of the year. Where ratable value has not beenfixed, 6% is determined with respect to the cost of construction or acquisition of the property. This

could result in a higher tax impact, in the periods wheredue to the market conditions the lease rentals are lowercompared to 6% of ratable value or cost of construction.Further, rent usually varies significantly with the city (area) where the property is located and therefore, thecost of construction (which is likely to be similar acrossgeographies) does not seem to be a logical basis for

determining ratable value.

• no deduction will be available for unrealised rent underDTC

• deemed deduction on account of repairs, maintenanceand other expenses is currently allowed at 30% of grossrent. This has been proposed to be reduced to 20%under DTC which will lead to higher tax.

• presently, interest paid for capital borrowed foracquisition, construction, repairs, renewals or interest onrepayment of fresh loan is also allowed on self occupiedhouse properties as a deduction, the upper limit being Rs.150,000. This has been proposed to be removed fromDTC, thus resulting in higher tax for individualsoccupying the properties that they own.

• interest for the pre-construction period (interest paidduring 3 years prior to completion of construction iscurrently deductible in 5 equal annual instalments) willnot be allowed under DTC. This will result in furtherhardship in the case of individuals.



Implications of DTC specific to individualinvestors

• tax rebate on repayment of home loan has not beenprovided explicitly. Currently, principal repayment of home loan qualifies for deduction up to Rs. 100,000 forinvestments under Sec 80C of ITA. While the DTCproposes to raise this overall limit for such deductionto Rs. 300,000, the repayment of home loan is notexpressly provided for, which should be included.

• the DTC proposes to eliminate the distinction betweenlong term and short term capital asset and insteadclassify capital assets as investment assets or businessassets. Capital gains from sale of house property willnow be taxed at a uniform rate of 30% regardless of the period of holding for individual taxpayers(currently, taxed at 20% plus surcharge and cess forproperty held for over three years). The base date of indexation is shifted from 1 April 1981 to 1 April 2000.In order to encourage long term investment in realestate (which acts as a stabilising factor), the distinctionfor period of holding should be maintained.

• exemption for house rent allowance has been proposedto be eliminated. Currently, a salaried individualresiding in a rented accommodation is eligible to availexemption for HRA as per specified limits. This wouldimpact employees whose place of work is not theirhometowns.

FEMA The opening up of the real estate sector to foreign investmentunder the Foreign Exchange Management Act (FEMA) was asignificant step in the growth of the sector. In order tomaintain that growth, certain further changes may beconsidered:

Project and investor related conditions The Department of Industrial Policy and Promotion (DIPP)under Press Note No. 2 (2005) permitted FDI of up to 100%under automatic route in real estate projects subject tosatisfying project-related and investor-related conditions. Inorder to increase FDI inflows in the sector, some of the key conditions could be relaxed. For instance:• reduction in minimum built-up area stipulation for projects

which currently stands at 50,000 square metres• reducing minimum capitalisation levels which stand at

US$10 million for a 100% subsidiary and US$5 million foa joint venture

• permitting investment through optionally convertibleinstruments

• the mandatory three-year lock-in for foreign directinvestment in the real estate sector may be reconsidered. Athe very least, it should be clarified that the lock-in will nodebar the non-resident investor to sell his stake to anothernon-resident investor



ECB guidelines

Currently, overseas loans in the form of ExternalCommercial Borrowings (ECBs) are not permitted for realestate projects, other than those qualifying as‘infrastructure’. The following relaxation to these normsmay be examined:

• in order to ensure that ECBs are availed for viableprojects, the amount of ECB may be limited to aspecified percentage of the overall funding requirement for the project

• certain minimum eligibility criteria may be specifiedfor borrowers and / or projects

• the funds may be held in a separate bank accountthrough which development expenses may be incurreddirectly, subject to satisfaction of conditionsprescribed by the authorised dealer

The above would equally apply to real estate developersraising funds through the issue of Foreign Currency Convertible Bonds (FCCBs).

Impact of GST on real estate sector

Introduction of GST is one of the most important steps instreamlining the multiple indirect taxes structure currently in existence. The first discussion paper regarding implementation of GST was issued on 10 November 2009and a subsequent draft on 15 December 2009. The salient

features are as follows:• GST shall have two components, i.e.

– one GST levied by the centre (Central GST orCGST) which will cover all indirect taxesbeing levied by the Central Government. TheCentral Government will administer andframe a separate law with respect to CGST

• other levied by the States (State GST or SGST) which will subsume all indirect taxes being levied by the StateGovernment. The respective State Governments willadminister and frame a separate law with respect to

SGST.

• the Centre and States would have concurrent jurisdictionover the entire value chain

• the value of the goods / transaction on which CGST andSGST would be levied would be the same for bothcomponents. This will ensure that there is no cascading effect of the double levy i.e. no tax is charged on theamount of CGST / SGST.

Impact of VAT on real estate sector

At present there are various schemes under which a builder(civil contractor) can discharge VAT liability, such as:• composition scheme under which tax liability has to be

discharged on entire value of contract but at a lower rategenerally 2-4%. Depending on the specific state, inputtax credit may or may not be permitted (either in full orpartially).

• adhoc deductions towards labor costs irrespective of actual amount incurred in this regard. The concept paperissued by the empowered committee is not clear aboutspecific schemes for the real estate sector, which shouldbe specifically included. However, considering theexisting framework of GST, the implications for the realestate sector would be as follows:

– both CGST and SGST would be charged on theentire amount of contract

– since both taxes, SGST (representing VAT) andCGST (representing Service tax/ Excise duty),

would be simultaneously levied, the existing complexity in bifurcation of the contract intogoods and services would be done away with

– civil contractors would continue to be registered with the VAT authorities of the respective stateseven in the cases where only services areprovided by the civil contractor in that state



1

In light of the above, the following issues need to beaddressed prior to the introduction of GST legislation:

1. based on the existing draft for implementation of GST, the real estate sector would effectively sufferdouble taxation, i.e. both CGST and SGST would be

levied on the entire value. This is because CGST would be charged on the entire value but input taxcredit would be available in very few cases since mostsuppliers of building material operate in theunorganised sector. In order to reduce this burden,CGST for the real estate sector could be levied at anominal rate

2. since there will be a levy of both CGST and SGST,the burden of levy of SGST may be reduced by taking into account the following:

a. clear provisions for non inclusion of freesupplies, even where they are supplied afterfinalisation of contract

b. increase in the threshold limit for levy of SGST in the real estate sector. Optionally,civil contractors may be permitted to pay SGST at a lower blended rate of tax insteadof determining the tax rate on each and every item.

3. there should be a provision for single registrationinstead of multiple registrations in each State



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Transparency in valuation metrics

Land or property deals in India have had a notoriousreputation during the past two decades. Indian real estatedevelopment rode the economic growth wave till aboutthree years back only to slow down to a realistic level.Incessant money pumped into the real estate industry,coupled with thriving demand helped the sector grow at an

unsustainable growth rate from 2003 to 2007. The past few quarters witnessed a slowdown, thus creating aconsiderable gap between the demand and supply of realestate.

India has always lacked the presence of a registered andofficial land evaluator for land and property, and henceprovide an official benchmark for various real estate dealsin the country. Local level property dealers, and moredangerously on some occasions, market rumours havebeen responsible for the ‘going’ market rate. What is

needed are consistent and prescribed valuationmechanisms for all real estate deals in India. Thisrequirement is also felt by the industry as reflected in theresponse of the survey participants, wherein more that50% of the respondents felt a strong need to introduceindependent ratings for real estate projects.

Property valuation in India is essentially a function of critical characteristics of the property under consideration.

The characteristics themselves can be divided intoproperty specific and developer specific.

Property specific factors

Real estate developers and buyers alike, value property based on some critical features of the property: amenities,connectivity, quality of construction, maintenance andlocation.

Condominium developments usually contain groupamenities, a fact that reduces the per unit rate. High quality

of construction has a direct correlation with the property valuation per unit as well. A fair factor that is decisive in thisprocess is the maintenance, if provided by the developer.Locational preference also results in a higher quote by thedeveloper.

The factors rightly determine the importance of a particularproperty but do not necessarily determine the price of one.Proximity of a property to an upscale market or the floor on

which it is situated is seldom translated justifiably to a costper unit of measurement.

The most logical factors that can and should be used forassigning a monetary value to a property should be thequality of construction. A lack of required awareness on thepart of the buyer as well inconsistencies in the market do notallow the buyer to be a good estimator of the per unit cost of construction.

An overall cost of construction amount by the buyer can bemade available to the customer. However, this would notonly be unsuitable for the developer but also be difficult toprovide to the buyer. Most of the developers today areunlisted and for the ones that are, it is not mandatory forthem to divulge this information.

Therefore, a centrally introduced and explained valuationmetric is warranted from the government. The metricsshould be able to estimate the future earnings of theproperty in question and also take in to consideration, theother critical aspects of the property, possibly through

weights attached to them. The proposed solution only showsa direction and there is a significant work that needs to bedone both by the government and by the industry, andindependent service providers who can audit thisinformation.



1

Developer specific factors

Finance for real estate has been, for long, a topic of muchdebate in India. The real estate developers often talk aboutunjust soft terms and extremely high rates of interest forthe projects that they undertake.

Lines of credit have a tendency to be short and abrupt forproperty developers. Mysterious to the developers, thisapproach by the financial institutions is often upheldstrongly by them as a move that curbs excess supply as

well as a balancing point with their retail disbursements.RBI has defended the high rates offered to the developerto keep property speculation in check.

Beaten by limited lines of credit in India, certaindevelopers have been forced to finance their own projectsthrough external debt raised through binding instrumentssuch as Compulsory Convertible Preference Shares(CCPSs). These instruments, convertible into equity within2 to 5 years, compelled the developers to pass on the costof debt to the ultimate buyers to redeem the shares beforethey turn in to equity. This contributed to the unrealisticpricing/ valuation of properties.

The property boom has also left its effects lingering in thereal estate sector even today. During the boom, thedevelopers grabbed land to cater to the burgeoning demand. Much sooner than expected though, the demandstarted to dry out, burdening the developers with unsoldprojects. To service the debt undertaken for these lands,the valuations of properties still remained high and unfair.

Lines of credit in India need to increase in duration as wellas in magnitude, in order to protect the ultimate consumerfrom bearing the brunt of low liquidity.

Developers cannot be allowed to pass on the cost of operations to consumers without justification. Aperformance index such as the ones maintained by the NSEand BSE for listed players, should also be maintained for theunlisted players. The ultimate buyers should be able to decideprudently with the help of all the necessary information

about the developer.

Conclusion

Scarcity of important information like land registry details,and building codes has led to the lack of consumerawareness. The availability of the same through agovernment initiative like a Centralised Real Estate databaseis warranted. Real Estate Regulators at the national and statelevel can also be active in maintaining a legitimate watch overthe real estate transactions that take place in the country.Using the RTI in such matters may provide information tothe individuals but what is required is a more concentratedand holistic effort.



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Utilisation of external development charges

In the onset of the 20 th century, only 1 out of every 91Indians lived in towns or cities. After nine decades thesituation had experienced remarkable changes. In 1901, thesum total of people living in urban areas was a meagre 26million, by 1991, the number of people living in urbanareas had reached 218 million, a figure that far exceeds thetotal population of Russia, Canada and Australia takentogether. By 2001, India’s urban population had reached

286 million, a decadal growth of 31.2% with net additionsof 67.81 million in urban areas. In 2009, nearly 2/3 rd of India’s total urban population lives in class I cities.

Yet another fact of immense significance is the fastdevelopment of "Million Plus" cities. In 1981, there were12 such cities, by 1991, the number had risen to 23, and by 2001, the number had grown to about 351. This has puttremendous pressure on the town planners andinfrastructure developers.

The Constitution of India has allocated primary responsibility for urban infrastructure in India to the state governments.

Types of urban infrastructure include public health centres,roads, bridges, ferries and other means of communication andlogistics including municipal tramways, ropeways, and traffic,

water supplies, drainage, land, industries, gas and gas works,markets and fairs, theatres, cinemas, entertainment andamusement parks. It is estimated that the requirement of funds

for development of urban infrastructure is about Rs. 40,000crore annually, inclusive of the capital requirement for light raitransit, mass rapid transit and new township developmentprojects.

The state governments, municipalities, urban developmentauthorities and local town planning and boards are faced by adouble-edged sword. On one end, there is a massive urbanpopulation growth and concentration; and on the other hand,the cost of services has been increasing at an incessant pace. Tobalance the act, various authorities have experimented with new

ways of strengthening their financial resource base. TheConstitution Act of 1992 (74 th Amendment) provided a push tolocal efforts by according a constitutional status to theMunicipalities as the third tier of Government. The Actmandated an institutional framework in which theMunicipalities are to function as effective democraticinstitutions of local self-government, preparing andimplementing plans for economic development and socialjustice. The emphasis was placed on decentralisation as a meanto improve service delivery as a key factor responsible for thesurge of local efforts to improve the system of urbandevelopment financing. This note assesses the usage andgovernance of one such practice – External DevelopmentCharges (EDC).

The note will touch upon topics such as:• assessing the current usage of EDC, should utilisation of

EDC funds be made public?• should external development be completely outsourced to

private bodies, allotted through tenders? Or, should EDCbe waived for private developers, developing more than acertain acreage of land?

• what should be the time frame for development of theexternal facilities, and if EDC payments should be

development linked?



1

1 Water supply 9 Nominal maintenance of roads: first five years, andupto 10 years

2 Sewerage 10 Resurfacing of roads after five years, and upto 10years

3 Storm water drainage 11 Maintenance of public health services for first fiveyears and up to 10 years

4 Electrification including 26.5% operation andmaintenance and supervision charges 12 Maintenance of street lights for first five years; and

up to 10 years

5 Horticulture including first five yearsmaintenance 13 Maintenance of Horticulture and beautification of entry points, junction improvements and levelling

after 5 to 10 years

6 Street lighting 14 Development of recreational and communicationzones

7 Community buildings

15 Protection works, etc.

8 Diversion of high tension (HT) lines;

EDC, a noble idea to develop urban infrastructure – accountability still an issue

Accountability in EDC is a topic that needs to be discussed amongst all stakeholders in the Real Estateindustry; we have taken an example of Haryana Urban Development Authority (HUDA) to explain the conceptand the concerns. The same is true for most of the other development agencies as well. Section 2 and 3 of Haryana Development and Regulation of Urban Areas Act, 1975 included both internal and externaldevelopment projects in the definition of "development works". These charges were levied on “ colonies”,defined as areas of land less than 1,000 square metres, divided or proposed to be divided into plots or flats forresidential, commercial or industrial purposes. The “ coloniser” would eventually enter into a bilateral agreement

with the Director, Town and Country Planning, Haryana, such that, the conditions of the agreements regarding the payment of " proportionate development charges " if the main lines of roads, drainage, sewerage, water supply andelectricity are to be laid out and constructed by the Government or any other local authority, were laid.Payments are calculated over the gross saleable area.The EDC in respect of a development area are levied to meet the costs of Master or city-wide infrastructurefacilities required to be laid or developed as per the stipulations of the Development Plan. The externaldevelopment work includes:



1

These EDCs, meant to meet the costs of externaldevelopment works, are calculated on project basis for thetotal urban estate. By 1998, the HUDA was able to recovera sum of Rs. 560 crore from private colonisers on accountof EDCs. Till date, HUDA has collected in excess of Rs.3000 crore and, as per their statements, spent only aboutRs. 1800 crore. The lack of development and

underutilisation of these funds is not questionable.Further, the pace of development is slow and has notmatched the pace of urbanisation.

Numerous Public Interest Litigations (PILs) have already been filed against the local municipalities regarding collection and questionable utilisation of the funds. Onesuch example was SURGE filing a PIL against the HUDA,

where they took over a 100 photographs of the localmunicipality (parts of Gurgaon) and submitted them to the

Judge along with a filed affidavit.

Convinced that HUDA had been making unsubstantiatedclaims, the Judge directed that the Government of Haryana must file an affidavit which must include thefollowing:

− total money collected as EDC− total expenditure reports− audit reports− plans to improve basic structure− periodical reports on the above

Similar legislation should be made applicable to all thelocal municipalities, around the country, where justifiableusage of funds is published for public use from time totime.

Currently, the increase in the EDC rates is the hot topic which has been disputed by the developer community. Wethink apart from the quantum of EDC collected by HUDA and its utilisation, we should also talk about thearbitrary increase in the EDC rates.

Public vs. Private development – Who should dothe job?

To make the development process transparent, the localbuilders should be contracted for time bounddevelopment assignments of urban infrastructure allocatedthrough tenders. This would make the process transparentas well as more accountable, further, it will also give animpetus to the small local developers in the region. Realestate players proposing to develop large townships andindustrial parks should be incentivised for developing largeinfrastructure projects. They should be providedconcessions on EDC, based on development proposed.

Alternatively, the responsibility for developing externalinfrastructure in a region in a time bound manner, as permaster plan of the region, should be given to thedeveloper, in lieu of the EDC payable.

Time and milestone bound externaldevelopment

The EDC charges payable should be made time andmilestone bound, such that the status can be constantly tracked. Milestones should be penalty linked to ensureproper, effective and time bound completion of theprojects. Alternatively, the EDC can be made developmentand milestone linked, such that, the residents in the regionpay pre-agreed amounts, from time to time based on theactual infrastructure development, as certified by anindependent body.

Conclusion

In a country such as India, with a forecasted GDP growthrate of over 7% over the next 5 to 10 years, the need forurban infrastructure is undoubted. It is the utilisation of the funds such as EDC that has come into the scanner asit is perceived that the infrastructure development is eithernot matched with urban growth or that the developmentlacks transparency. Measures such as Public PrivatePartnership (PPP), time bound and KPI baseddevelopment should provide for the required justificationand quicken the urban infrastructure growth in the urbancities in India.



1

Role of government and builders in creating affordable and quality housing

A challenge that every growing economy has to deal with

Barriers to affordable housing

1 High cost of developing new housing, including cost of land, infrastructure, and construction cost.(High end housing is built as there is more margin in it for builders)

2 Insufficient information and understanding about affordable housing

3 Attitudes and stigma: fear of change, growth, higher taxes, higher crime, higher traffic, rising burden on infrastructure, negativeimpact on property values, etc.

4 Economics: Lack of employment opportunities near the proposed sites and low income of the target consumer

5 Need to combine groups/agencies/business efforts to provide more resources and mobilise micro credit

6 Lack of incentives/subsidies to build low cost, affordable and quality housing

Housing the economically weaker sections – the challenge

“Roti, Kapda aur Makan” , not a line from a hindi movie, butfundamental necessities that every government strives toprovide its citizens, and yet is unsuccessful. Thesignificance of a house is larger than the immediate need

for four walls and a roof; home ownership is oftenreferred to as the fulfilment of a dream.

Undoubtedly, free markets unleash productivity andinnovation, but they are still bound by economic laws. The market price always reflects market demand , and in markets suchas India, where half the population is below medianincome, market-quality housing commands market prices.Hence, as a result, the markets alone will never adequately house the country's poorest citizens. Thus, whether peoplebuy or rent, housing will typically be affordable to only

half of the population.

The fact remains that the citizens who flood the country'sgrowing metropolitan areas, however, are overwhelmingly poo

They migrate to cities that were built for smaller populations,and whose formal-sector housing producers only build housingthat these urban immigrants cannot afford.

Consequential to unavailability of homes, the metropolitan

cities have since long, witnessed a spontaneous community of self-built or informally built homes—the shanty towns,settlements, and ever-expanding slums that sprout likemushrooms on the outskirts of cities or adjacent to large-scale

work locations. People who move to the city act by animpeccable economic logic: they follow the money. They seekto maximise their incomes; these citizens are willingly consuming the least expensive space they can, which is oftenjust a room in a larger informal structure. Left alone in themarketplace, the impoverished create and inhabit slums becausthat is their only available and economically viable option.



1

A major barrier that haunts the public and private bodiestowards development of affordable housing is the cost of land. In most metropolitan areas, the land costs have risento such high rates, that building low cost housing isuneconomical.

The conventional wisdom continues to portray homelessness as a problem of individuals. This myth

completely ignores the reality of Indian joint families, the working poor who can't afford a full month's rent, seniors who have lost their housing due to gentrification, all of which have reduced the supply of affordable housing.

Further, most developers in India today, are againstdeveloping housing for EWS as a part of their largetownship projects, as it drastically devalues land, whichrestricts their margins and at times even sale and resale of property in certain pockets.

The practical issue According to a World Bank estimate, 42% of India'spopulation falls below the international poverty line of US$1.25 a day. Given the situation, when the poor slumdwelling families are provided free housing, it has beenobserved that they tend to rent them to others and returnto their slums. It is often considered a source of income tofamilies that cannot make their both ends meet. Thusmeasures have to be taken to avoid such practices.

Some other issues relate to increase in crime rate, fall inthe level of local sanitation, sudden rise in need for roadinfrastructure and public transport, etc.

Role of government & private players

The private sector and the government have to work intandem towards the common goal of providing housing forthe middle class and lower middle class which has not beengiven enough importance in the last two decades. The demandand supply mismatch has created a great opportunity in thereal estate space in Tier I, Tier II and Tier III cities.

The government’s role in facilitation of EWS housing is notlimited to making the residential units available, providing subsidies and monitoring correct use of the units, but extendsto aspects such as job creation, infrastructure development,etc. On the other hand, it becomes imperative for large privateplayers to develop EWS housing not just from a project costperspective (through government incentives) but also from aCorporate Social Responsibility (CSR) perspective.

Affordable housing should also be made a part of integrateddevelopments such as large-scale townships, SEZs, MRTScorridors and industrial clusters to ensure better connectivity for low earning population, which is critical for such segment.

Striking the right balance



1

1 Researching existing income supplements to increase affordability including down payment assistance, mortgageinsurance/other interest rate reductions, etc.

2 Start notification/involvement process early in neighbourhood/communities that will be home to affordable housingdevelopment

3 Help in acquisition of land/allocate land for development of EWS housing. Also alter, by-laws such as FAR, etc tofacilitate drastic increase in number of households

4 Subsidised house rental and leasing scheme, through public private partnerships

5 Encourage reform in the banking industry to allow occupancy in unfinished units that meet local government healthand safety standards for occupancy

6 Control land-use through planning and zoning to avoid wasteful or environmentally detrimental uses

7Tax SOPs including reintroduction of income-tax benefit to developers under Section 80IB, cuts in duties and leviesfor the real estate sector reduction/removal of multiplicity of taxes, stamp duties, VAT, service tax, and other dutiesand levies

8 The government should provide special tax incentives for those interested in affordable housing. Building planapprovals should be made easier and simpler

The profit margins in affordable housing projects aretypically low and a strategy to cater to the market has to bebased on cost minimisation. The developer can reduce costby developing a value chain — oriented strategy of backward integration.

Conclusion

The government should strive towards providing itscitizens the basic necessities; on the other hand, it becomesa social obligation for the private builders to develop low cost housing as a part of their larger plans. In order toachieve positive results, the two entities must work together to achieve a common goal.

“Affordable housing can become a potential growthdriver for the Indian real estate sector—both in thenear and long term. There is a huge latent demandfor affordable housing in all parts of the country,however, this opportunity is not much leveraged, atpresent.

The developers would certainly also require apolicy-level support in order to reduce the cost of housing, while the end-user shall be provided more

exemptions, in order to enhance the affordabilityfactor.”

Role of the government

Some of the interventions from the government in lieu of facilitating EWS homes can be:

Ajay MangalDirector, The Uppal Group



2

Market view

Figure 4: Low cost housing and SEZs will be viable even inthe absence of tax holidays as proposed in the Direct TaxCode

Figure 5: Full/ Part of EDCs should be given to thedeveloper for external development with definedexpectations on development

28%

22%

34%

16%

No Opinion

Slightly Ag

Agree

Strongly Ag

Figure 6: It will help to have a commonly defined basis for calculating super area/ built up area/ carpet area

3% 6%3%

28%60%

Slightly Disagree

Slightly Agree

No Opinion

Agree

Strongly Agree

3%12%

41%

44%

Slightly Agre

No Opinion

Agree

Strongly Agr

Figure 7: It is useful to have independent ratings of realestate projects on defined benchmarks

22%

7%

21%29%

21% Disagree

Slightly Disagree

No Opinion

Slightly Agree

Agree



2

The vagaries of home loan interest rates

The end customer of the residential sector has over theyears seen the interest rates on their loans vary significantly, resulting in significant changes in disposalincomes and resultant lifestyles. These rates also have beeninconsistent across stage of entry and timing of both theend user and the institution providing the loan. The key issues regarding this variation are discussed as below:

Structural problems

The financial downturn had turned the liquidity situationin the real estate industry on its head. The erstwhile days of abundant cash were replaced by a squeeze from both sizesfor the real estate developer, with financers having lost alot of money and therefore being very apprehensive andcustomers being unable to take any decisions regarding asset creation. Though the crisis has crossed its inflectionpoint now and businesses have started to come out of thered, the way the interest rates have behaved has been farfrom consistent.

It would be presumptuous of us to say the recent financialupheaval is responsible for the inconsistent or unjustinterest rates that are determining the limits of individualaspirations of now. These limitations have been posedessentially by the inconsistencies found in the real estate orhousing finance market in India. There are three structuralproblems that come to the fore through some deepdigging.

Unclear methods used for fixing interest rates

The Indian housing finance market still lacks clarity withrespect to fixing interest rates for home loans. There is anevident difference between the home loan offers given by private and public sector enterprises. The mechanismsused for fixing interest rates are still not entirely transparent. It is believed that Prime Lending Rate (PLR)is the peg for determining all interest rates, private andpublic financial institutions alike, but a meaningfulcorrelation cannot be found between the two, on a deeperanalysis.

For banks and financial institutions that admit to a diversionfrom the PLR for their interest rates, the internal rule ormethod used for arriving at an interest rate is still mysteriousfrom a customer perspective. Projections and backwardanalysis based pegging is also not consistent across markets.

Banks are also able to charge different rates due to the factthat the customers either suffer from lack or inconsistency of

the information that is available in the market. The PLR, it isrecommended, should be made the official basis for all homeloan rates subject to a 50 basis points variation across banks.

The brochure containing the soft and critical terms of the loanshould also contain the process used for arriving at the rate ointerest for the loan.

To avoid the inconsistencies, the already effective Banking Codes and Standards Board of India (BCSBI) should divulgethe information on rate determination, at least of its members

Fixing this problem would help the customers fill the gaps ininformation and would help turn the market from aninconsistent one to one that facilitates perfect competition.

New and lower rates only for new loan takers

Another structural problem that the housing finance markethas been reeling under relates to the convenience offered onlyto new loan takers. Dips in interest rates, as and when they happen, only favour the new loan takers and not the existing ones. Such unequal rate charges to different customers of thesame institution, also leads to added confusion.

A possible solution would be the retrospective adjustment of interest rates for the old customers as well. This might lead toa considerable loss of future earnings for the financialinstitutions. However, such sophisticated institutions arebetter placed to hedge their interest rate risks than aconsumer.



2

Interest rates – the deceptive “Rise and Fall”

The third structural problem is entirely observation based.It relates to the movement of the interest rates. Consumersseeking loans for houses have been made to believe thatthe peg for the interest rates has always been the 90 day

Treasury Bill from the Government of India. This hasalways been debated as the historical trends have shownthat the interest rates and the T-Bill interest rates do not

move in tandem.

Banks and other financial institutions have been quick toraise the rates whenever there has been a rise in the rate of the T-Bill, but have failed to reduce their interest rates atthe same speed in case of a fall.

This problem stems from the fact that there is still no clearmode for fixing the rates of home loans. Introducing anofficial mechanism for rate determination would help.

Also, deciding upon the movement per basis point of themean or median interest rate with respect to a movementin the 90 day T-bill will help maintain a good balancebetween the consumers’ interest expenses and the financialinstitutions’ earnings.

Conclusion

Interest rate wars and movements in India are primarily theresult of the fulfilment of mandatory requirements by the banand other financial institutions. For instance, the Cash ReservRatio (CRR) or the portion of cash that banks have tocompulsorily keep with the RBI.

The regulatory requirement helps drain out the excess money

from the financial institutions. Unfortunately, this concept of excess money is used by the financial institutions as ajustification for charging high interest rates from the home lotakers. The banks are believed to be in a comfortable position

with respect to CRR and industry experts are of the view thatthe interest rates are considerably higher.

Governance in the form of the BCSBI has to be increased. Thmembership still remains voluntary and it will be beneficial fothe consumers to make this membership mandatory for banks

The industry members stress on more clarity in arriving at theinterest rates and also the equal treatment of the old and new customers alike.

6%

13%

10%

23%

32%

16%

Disagree

Slightly Disagree

No OpinionSlightly Agree

Agree

Strongly Agree

Figure 8: The home loan rates should be benchmarked against a common RBI defined ratio (CRR, etc.) rather thanindividual bank rates



2

Figure 9: Streamlining land title records in an organised and accessible registry will aid in:

97%

3%

YES NO

(a) removing ambiguity on ownership and title (b) increasing the land bank available

84%

16%

YES NO

(c) eliminating unregistered transactions (d) enforcing full and accurate reporting of thetransaction value

81%

19%

YES NO

75%

25%

YES NO



2

Financing &Capital



2

An insight

Exhibit 1: Capital inflow through the following routes

In US$ million 2005 2006 2007 2008 2009

FDI - 38 467 2179 2801

Bank loans - 5740 9479 13,616 19,694

ECBs - 334 157 - -

IPOs - 393 3251 - 166

FCCBs - - - - -

AIM - 2438 322 - -

QIPs - 415 - - 3316

Total - 9358 13,676 15,795 25,977

Background

The real estate sector in India has emerged as a significant driver of economic growth in the last decade,rather than being a derivative of the global upturn seen till end 2008. In terms of GDP contribution, thesector has grown from 4.5% in 2007 to 5% in 2009. Expansion in sources of capital has been a criticalcatalyst in the sector’s progression towards a more organized play with closer linkages to the macroeconomic conditions of the country. The sector received capital flows of around US$26 billion in 2009(Exhibit 1).

However, the sector started facing acute capital scarcity towards the end of 2008 with slowdown inabsorption, increase in home loans rates, declining internal accruals, commercial bank’s cautious approachand expensive FDI/ Mezzanine funds. The overall credit situation got amplified by the global economicdownturn leading to classification of Real Estate on the ‘negative’ list of the already limited universe of institutional investors.

Comparative Evaluation with Mature Markets

Globally, the maturity of the Real Estate sector is gauged by the availability of and access to institutionalfunding. While institutional funding alternatives have expanded considerably in the last 5 years (Exhibit 2),the domestic Real Estate industry continues to be at a nascent stage when compared to a mature marketlike the US (Exhibit 3)

Source: FDI: DIPP; Bank Loans: RBI Annual Report 2010; ECBs: RBI website; IPO: BSE website; FCCBs: RBIwebsite; AIM: AIM, LSE website; QIPs: Media Reports



2

Exhibit 2: Channels of financing in India

Bank finance

Private loans

Bank finance

Private loans

RE funds

ECBs

Bank finance

Private loans

RE funds

ECBs

IPOs

QIPs

Bank finance

Private loans

RE funds

ECBs

IPOs

QIPs

REITs

REMFs

IPOs

Pre 2004 Pre 2004-07 Pre 2008-09 2010 onwards

Active channels

Less active channels

Exhibit 3: U.S. Equity Sources (US$ billion)

441.8

130.2

4626.333.9

16720.1

Private Investors (Larger Porperties)Pension Funds

Foreign Investors

Life Insurance Companies

Private Financial InstitutionsREITs

Public Traded Funds

Source: FDI: DIPP; Bank Loans: RBI Annual Report 2010; ECBs: RBIwebsite; IPO: BSE website; FCCBs: RBI website; AIM: AIM, LSE website;QIPs: Media Reports

1809.7

300.3

110.231.4

673.5

178.515.8 1.1

Banks, S&Ls, Mutual SavBanks

Life Insurance Companies

REIT Unsecured Debt

Pension Funds

Commercial Mortage Securities

Government Credit Agencies

Mortagage REITs

U.S. Debt Sources (US$ billion)



2

Determinants of capital requirement at various stages of the RE value chain andcurrent financing environment

For a sector which has linkages with various sectors of the economy (associated with 250industries) and accounts for a multiplier effect generating 5x income for every unit of expenditure,the importance of maintaining a robust institutional capital flow cannot be over emphasized.

Though significant policy changes have been initiated in the recent past such as opening of the FDI

window under automatic route and the ECB window for integrated townships & infrastructuredevelopment in SEZs (Exhibit 4 for current financing environment), the next leap for the sector

would require the policy framework to be driven by the following:• creation of a conducive ecosystem for debt funding, domestic and external• calibrate policy framework to align with Real Estate Value Chain, for e.g. the current build

up in projects under construction requires favourable debt environment to supportconstruction completion

• facilitate faster capital churn through opening of the REITs/ REMFs window

Fragmentedland

Developedland

Approvedland

Developedasset

Underdevelop-

ment

Leasedasset

Domestic

Foreign

Domestic

Foreign

DEBT

EQUITY

Exhibit 4: Sources of capital at various stages of the RE value chain



2

Sources of capital

*FDI Guidelines

Source Nature Issuer Regulator

Loans – Domestic Debt Any entity – Private, Public, Listedor Partnership

Governed by RBI Monetary Policy

FDI - equity shares/ Compulsorilyconvertible preference shares or debentures (CCPS/CCDs) Equity Any corporate -- Private or Public FIPB, under the automatic route, subject

to fulfillment of conditions*

Qualified Institutional Placement(QIP) Equity Listed company SEBI guidelines

Capital Markets Equity

Public company, Red Herringprospectus, approved by theSEBI

SEBI guidelines

External Commercial Borrowing(ECBs) Debt Any corporate – Private or Public

ECB guidelines – recently opened for integrated townships and infrastructuredevelopment in SEZs

Overseas Offerings - ADR/GDR Equity Listed company SEBI and FIPB guidelines

Overseas Listings - AIM Equity Any corporate AIM/ LSE

Conditions for Development Conditions for Investment Miscellaneous Conditions

Minimum 10 hectares for serviced housingplots

Minimum capitalisation of USD 10 million for wholly owned subsidiaries and USD 5million for Joint Ventures with Indianpartners

Investor not permitted to sell undevelopedplots

For construction, development projects,minimum built up area of 50,000 sqmt

Infusion of funds within six months of commencement of business

Project to conform to norms and standardslaid down by respective state authorities

In case of a combination project, any oneof above two should suffice

Original investment cannot be repatriatedbefore a period of three years fromcompletion of minimum capitalisation

Investor responsible for obtaining necessaryapprovals as prescribed under applicablerules/ bye laws/ regulation of the State

At least 50% of the project to bedeveloped within five years from the dateof statutory clearances

Investor may be permitted to exit earlier withprior Government approval

Concerned authority to monitor complianceof above conditions by developer

*Now allowed for integrated townships and infrastructure development for SEZs



2

Comparative evaluation of available sources of capital & key issues

Domestic debt

- between February-August 2009, total bank exposure toRE sector increased by Rs. 59 billion to Rs. 967 billionin August 2009

- in the mid year credit policy review for FY10, the RBIenhanced the provisioning requirement for real estateloans from 0.4% to 1%.

- real estate still accounts for less than 4% of the totalbank credit creation

Key Issues: With the current inventory build up inprojects under development, construction focused relaxedlending norms could accelerate revival of the sector. Thesemeasures could include – (a) rescheduling / rollover of construction loans (b) priority status to housing sector tohelp remove disparity in risk weights for easier access toreal estate loans.

Foreign direct investment

‐ majority of FDI investments through Real EstatePrivate Equity/ Venture Capital funds, the moreexpensive form of FDI (Exhibit 5)

‐ deployment of FDI in the Indian real estate sector witnessed an increase of 29% y-o-y in FY09

‐ during FY06- FY09, FDI in the sector registered aCAGR of 193% and witnessed an increase fromUS$38 million in FY06 to US$2.8 billion in FY09(Exhibit 6)

Key Issues: There is clearly an investor preference forproject level investments which mitigates ‘Developer Risk’.However, to accelerate equity investments in the sector, adefined framework needs to be installed for FDI at entity levels. Capital repatriation norms also need to be relaxed

with respect to original capitalization for faster churn of capital in the sector.

Exhibit 5: Return expectations of Real Estate PE investors

Deal structure 2006-07 2008

Pure equity deals Targeted IRR:22-25%

Targeted IRR:25-30%

Improvised equity

deals

Preferred return:15-18%

Targeted IRR:20-25%

Preferred return:18-20%

Targeted IRR:22-27%

Mezzanine deals 15%+ equity upside 18-21%+ equityupside

Qualified Institutional Placement (QIP)

‐ is a capital raising tool, whereby a listed company canissue equity shares, fully and partly convertibledebentures or any securities other than warrants, whichare convertible into equity shares, to a Qualified

Institutional Buyer (QIB)‐ it does not involve many common proceduralrequirements, such as the submission of pre- issue filingsto the market regulator

‐ So far, a total of US$2.76 billion has been raised by thereal estate sector in India through QIPs, accounting for~26% of the total QIPs announced in the Indian equity market in recent months

‐ at least another US$2.45 billion is expected to be raisedby real estate developers in the future (Exhibit 7)

So far, a total of US$2.76 billion has been raised by the realestate sector in India through QIPs, accounting for ~26% of the total QIPs announced in the Indian equity market inrecent months. At least another US$2.45 billion is expected tobe raised by real estate developers in the future (Exhibit 7)



3

550575

110

350

60

500

300

750

500

400

325

788

0

100

200

300

400

500

600

700

800

900

U n

i t e c h

D L F

I B R E L

U n i t e c h

I I

S o

b h a

H D I L

A k r u t i C i t y

P a r s v n a

t h

A n s a

l P r o p e r t i e s

P u r v a n

k a r a

O r b

i t

O m a x e

Q I P I s s u e

S i z e ( U S D m n

April – September 2009 Expected in Near Term

38

467

2179

2801

1797

0.7

3

8.9

10.2

13

0

2

4

6

8

10

12

14

0

500

1000

1500

2000

2500

3000

FY06 FY07 FY08 FY09 FY10 till August

S h a r e o

f R e a

l E s t a

t e ( % )

F D I E q u

i t y I n f l o w s

i n R e a

l E s

t a t e ( U S D m n

)

FDI Equity Inflows

Source: DIPP

Exhibit 7: Trends in QIPs

Exhibit 6: Trends in FDI growth

Source: Media reports



3

Comparative evaluation of available sources of capital & key issues

• Initial Public Offerings (IPOs)

IPOs enable privately owned companies to issue new,publicly traded common stock or shares to the generalpublic. Property firms picked up 42.7% of the totalfunds generated via IPOs in 2007. However, it isbelieved that most of the raised capital was used tobuild land banks instead of developing property orimproving the capital structure of the firm. Withseveral real estate players having submitted a redherring prospectus to the SEBI, a total of US$3.31billion is expected to be raised in the coming months(Exhibit 8). Given that the SEBI has recently allowedanchor investors to participate in this fund- raising channel, IPOs can be an attractive vehicle to tapdomestic, as well as foreign institutional investment.

Additionally, they provide a good exit option for mostPE investors that have a short- term to medium- terminvestment horizon.

• External Commercial Borrowings (ECBs)

As per the existing policy, the utilisation of ECBproceeds for real estate is not permitted. However, asa sector- specific measure, since January 2009, the use

of ECB proceeds for the development of integrated

townships and infrastructure development in SEZs hasbeen permitted.

Key Issues: Facilitating availability of low cost – long term

capital needs to be a priority for accelerating sector growth.Opening of the ECB window beyond integrated townshipscould emerge as an attractive financing option for the sector

• Foreign Currency Convertible Bonds (FCCBs)

FCCBs are bonds that allow the bond holder to redeemthem after the maturity period or convert them into equity at a pre determined price. Until then, they carry a nominalrate of interest

‐ not a single precedence of issue of such instruments in thesector

‐ early last year, RBI wanted the such issuances to beremoved from the automatic route and investments be

routed through FIPB

Key Issues : Confusion over the 3 year lock in clause applicableto FDI persists owing to discretionary conversion in the handsof the bond holder. Unitech’s aborted attempt to issue FCCBsof US$700 million with the exemption of the 3 year lock in is acase in point.



3

Exhibit 8: The IPO story so far

• Global Depository Receipts/ AmercianDepository Receipts (GDRs/ ADRs)

– no precedence of issue of these instruments due tolimitations in tradability

Key Issues : Lock in under cap on FDI needs to beremoved for free trading of these instruments

Lack of institutional support for debt finance forconstruction and lack of an appropriate exit mechanism on‘Yield Assets’ encouraging retail participation in assetportfolios have clearly emerged as the key challengesaccompanying the changing real estate paradigm. Severaldevelopers are seeking equity as an expensive alternative todebt in their pursuit of discharging repayment obligations

which cannot be restructured.

The market today is characterised by an increaseddependence on consumer financing as a means of construction finance leading to delays in completion incase projects are not sold, which perhaps has a higherpossibility of creation of an ‘Asset Bubble’ rather thanrelaxing of lending norms for the sector. Availability of construction debt coupled with stricter framework forproject launches could contribute significantly inaccelerating execution & improving consumer sentimentto strengthen market fundamentals in the long term.

REIT models: Key to faster capital churn

The Indian Real estate market currently lacks any monetisatio vehicle for capital intensive verticals such as commercial officand retail malls – asset classes which create identifiable cashstreams in the form of rental/ fixed incomes. Real Estate beina relatively illiquid asset class requiring a high resourceallocation from a retail investor’s standpoint has remainedpractically out of reach for an investor looking at portfolioinvestments in real estate.

Though there is conceptually a consensus on REITs as anattractive instrument to complete the RE cycle and create aliquid platform for investor participation, the implementationcontinues to be uncertain with repeated iterations occurring between RBI and SEBI.

In contrast to developed institutional exits available for REassets in mature markets, REITs is only a first step in India,immediate implementation of which cannot be overemphasized in a sector starved for capital and requiring additional US$23.66 billion for construction of undertakencommercial projects and to fulfil the unmet housing demand.

2009-2010

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3

Market view

Figure 10: Favourable policy initiatives on the following would lead to more sustainable long termgrowth in the industry

Figure 11: Opening of the ECB window beyond integrated townships providing access to low cost-long term capital would improve market depth through faster project completion and competitivepricing

3% 9%

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15%

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Relaxation in capitalmarket guidelines

Opening of ECB window

Faster implementationof REITs/ REMFs

Ref ining of FDI norms

Availability of domesticdebt



3

Figure 12: Favourable policy initiatives on the following would lead to more sustainable long termgrowth in the industry

3% 7%

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Slightly Agree

No Opinion

Agree

Strongly Agree

10%

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Agree

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Figure 13: In the last decade, the growth in real estate market is largely attributable to expansion insources of capital



3



3

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A c k n o w l e d g e m e n t

Grant Thornton India acknowledges the commitment and contribution of the following individuals:

Anupam KumarDavid Jones

Deepak JoshiNeeraj Sharma

Nidhi MaheshwariRajul Mathur

Siddharth NigamSumeet Abrol

Vikram JethwaniVishwas Panjiar

We also thank Mr. Pikender Pal Singh and Ms. Bhupinder Pal Kaur of CII for their valuable support in

the development of this report.



Grant Thornton offices in India:

New Delhi GurgaonNational Office Centre Point, A BlockL 41 Connaught Circus Sushant LokOuter Circle Phase INew Delhi 110 001 Gurgaon 122 002T +91 11 4278 7070 T +91 124 462 8000F +91 11 4278 7071 F +91 124 462 8001

Bangalore HyderabadGrant Thornton House 3 rd floor, Uptown Banjara3274/A, 11 th Main Road no. 3HAL 2 nd Stage Banjara HillsIndiranagar Hyderabad 500 034Bangalore 560 038 T +91 40 6452 8666T +91 80 4243 0700 F +91 40 2354 0224F +91 80 4126 1228

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T +91 172 433 8000 T +91 22 6626 2600F +91 172 433 8005 F +91 22 2367 1624

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