The Real Estate Promise

The Indian economy is now facing the reality of a significant moderation in growth partly due to the prolonged weakness in the global economy coupled with structural imbalances in the Indian economy. One sector, in particular, that continues to be buffeted by bad news and has few sympathizers is the real estate industry. Of the many charges made against the industry, exorbitant or unrealistic pricing leading to profiteering is often the main complaint. But is that true? In a fragmented industry such as this, how can developers dictate pricing? Led by a chorus of influential voices and supported by the ridiculous levels of prices in Mumbai, it was easy for policymakers, regulators and financiers to clamp down on the industry. Monetary policy on the industry has been tight since 2007 with periodic further tightening thereafter. However, given the slowdown in the macro economy, it is essential to consider some important facts about this industry and the critical role it plays in the economy. The real estate and construction industry accounts for 19.5% of GDP and 20.6% of gross capital formation in the economy. The industry arguably provides employment to the largest number of skilled and unskilled workers. By various estimates, 33 million people are employed in the industry. This sector also drives core industries like cement and steel. In this writers view, high real estate prices will remain a reality for some time in India due to three key factors: Huge pent-up demand with the supply side artificially constrained by a set of archaic state and central laws. Opaque functioning of the planning and approving authorities who are vested with a disproportionate level of discretionary powers. Weak machinery for enforcement of consumer rights due to an overburdened judiciary. On the first point, consider a simple statistic. India accounts for ~17.8% of the worlds population (behind only China, ~19.5%), but accounts for a relatively smaller share (2.4%) of the worlds surface area. This disproportionate share of the worlds population makes India one of the more densely-populated countries in the world. Indias population density at 373 per sq km is 7.4x of the worlds and 2.7x of Chinas population density. Under the circumstances, we have no choice but to go in for more dense developments which means higher FSI. However, this cannot be achieved without significant planning of supporting infrastructure and overhauling of existing rules for development. Supporters of the affordable housing theme may baulk at the suggestion as it seems to enrich developers. But India does have a micro-level successful experiment in Noida. Several things are notable about the explosion of housing in Noida. First, the government built fantastic road infrastructure. Second, the density norms and FSI of residential development is the highest in the national capital region (NCR). Third, on an average, a developer can get plan sanctions and approvals in a single window in 6-8 weeks. These steps have led to a flood of supply backed by topclass infrastructure. The resulting numbers are breathtaking. During the two-year period 2009-11, Noida (including Greater Noida) witnessed sales of around 283 million sq ft of residential space: 2.83 lakh units at an average price of. 2,800 per sq ft and an average home price of. 28 lakh. In terms of area sold, Noida accounted for nearly 54% of NCR home sales and 18% of cumulative home sales in NCR, Mumbai, Pune, Hyderabad, Chennai and Bangalore combined.

High density norms enabled smaller apartments, bringing down ticket sizes to the. 25 lakh and below range. During the four-year period 2007-11, the weighted average selling price in Noida rose at a CAGR of just 1%. Adjusted for inflation, prices actually declined over this period! There will be instances of developers not delivering on promises in Noida too, and naysayers will question the land acquisition policy. While the policy needs to be transparent and equitable for all, let us not disregard the lessons to be learnt from Noida. Planned infrastructure investment ahead of time, uniform FSI and building plan norms (limited discretion), higher density and quick approvals kept prices in check and the supply kept building. The government must realise that enabling adequate supply at affordable prices needs reforms at the townplanning stage and quicker approvals as well. Tightening the screws on developers and squeezing capital flows are not having the desired impact. At a time when the economy is staring at a slowdown, the real estate industry can give an impetus to growth. I would, therefore, argue that while developers need to get their act together, reforms are also sorely required at the municipality and town-planning level if the aam aadmi is to have a quality makaan in addition to his rotiand kapda.

How big is organised retail today? Between the dozen or so big chains including Pantaloon and Reliance Retail and all outlets that do a VAT billing, organised retail is estimated to be around $22 billion, a figure thats around 5-6% of the total retail market of close to $400 billion in the country today. In August 2008, McKinsey had estimated that by 2015, India would become a $450 billion retail market, comparable in size to Italy ($462 billion). The total retail market is estimated to be growing at 78% and the share of organised retail is projected to touch 15% by 2015, from 2% in 2006 when the market was estimated at $250 billion. Is this in keeping with the projections for retail sales? The organised retail space is estimated to have scaled up 3 times in 3 years, or at a compounded 40% to $18 billion by March 2009, although growth... was a very slow 4-5% in 2008-09, following the economic downturn. About 50 million sq ft of space was added during this period. In 2009-10, the organised retail sector is estimated to have grown at 25% or thereabouts, a growth rate that could sustain over the next few years and help revenues hit $35 billion by March 2012 and $75 billion by 2015, according to IDFC Capital. Is Big Retail making money? Not too much. The casualties have been several: Subhiksha, Indiabulls Retail, RK Foodland and Vishal Retail. Others like Koutons and Spinach are in trouble. Vishal Retail lost Rs 414 crore in 2009-10; it had piled up a debt of Rs 700 crore and written off Rs 350 crore of inventory before it went bankrupt. Many retailers were in the red between 200609 and Spencers, amongst the first to get off the ground, posted a loss of Rs 300 crore... in 2008-09. It is still unprofitable, losing an estimated Rs 12-13 crore a month. Reliance Retail, which runs 667 stores across 80+ cities, reported a loss of Rs 450 crore in 2009-10, down from Rs 700 crore in the previous year. Shoppers Stops losses in 2008-09 were Rs 64 crore but the company turned the corner in 2009-10. The Aditya Birla Groups more. chain, which kicked off business in 2007 after buying out the Trinethra chain, hopes to become ebitda positive in 2012-13; it reported revenues of close to Rs 1,500 crore for 2009-10. Players like Pantaloon, with close to Rs 4,000 crore of debt, are highly leveraged. Others like Spencers, which now has less than a million sq ft after closing down 150 outlets, are downsizing. Reliance now operates 667 stores in total, down from the peak of around 900 in the September 2009 quarter. well? In the June 2010 quarter, same-store sales (SSS) for lifestyle retailing at Pantaloon were 19% year-on year, while the figure was11.5% for value retailing . During the same time, lifestyle SSS for Shoppers Stop was 21%, though that came off a very low base of minus 6%. Has Big Retail finally got the mantra worked out? Retailers have been looking to straddle formats in a market offering limited breadth. Home retailing, for instance, is a popular choice across retailers. Post the downturn, there has been a move to consolidate. Shoppers Stop, primarily in the department store format, has abandoned its catalogue and food and beverages retailing. Store expansions have been dramatically curtailed. At Pantaloon, the plan, 2 years back, was to have 25 million sq ft by March 2011; that has been cut back to 14 million sq ft. Niche formats like Crossword or Music World make little... money. But in segments like electronic goods, where the Croma chain is doing exceptionally well, niche formats have paid off. The convenience store format has suffered the most, though chains like more. chain are attempting to get it right by opting for a high share of private labels. With a high shareapproximately 80%of store brands, Westside has done well and is able to control both cost and quality.

Why does organised retails share of the market remain small?

The biggest category is food and groceries, which accounts for 55-60% of spends and the kiranas do a good job of providing both service and credit. Besides, the FMCG companies do a good job of servicing the kiranas so that stockouts are low. Also, most cities just dont have enough space for organised retail and rentals are prohibitively high. Why do you need FDI in retail, surely local firms like Reliance have...enough capital, and they can buy the technology? No one firm has enough capital or management bandwidth to do a good job. Fresh vegetable and fruit retail, for instance, requires a cold chain of trucks and refrigerated warehouses connecting most major growing areas with retail markets. Globally, supply chains are developed by third party logistics firms, not retailers. But these firms come in only when there are enough big chains they can supply to. Whether this requires FDI or not is unclear, but you do need a lot of players to create an efficient supply chain that is vital for organised retail to start doing well. Effectively, the capital needed to address 50 million sq ft would be $2.1-3.2 billion over 3 years at the front-end of the business. The cold chain and other back-end infrastructure could cost a lot more, maybe requiring an investment of $15-20 billion over 10... years. FDI flows into India over the past 5 years have been $156 billion, so the amounts required are manageable . So a Wal-Mart alone cant change things? No, it cant. How will the entry of Big Retail change the farm sector? When enough chains buy directly from the farm sector (and this will take decades), the 20-30% loss that takes place in fruits and vegetables, in terms of both theft and the shrinkage that occurs due to the long farm-to-fork time taken, will come down to say 4-5%. Conservatively, this could result in a saving of $8-10 billion annually. More importantly, farmers should get a better price for their produce. How will the entry of Big Retail affect the aam aadmi? First, lets keep in mind that even if Big Retail comes in in a big way, its not going to finish off the kirana shopsBig Bazaar and its... peers have been around for 10 years now, but their market share is minuscule. The better kiranas operate on a negative cash flow (they get credit from FMCG firms and sell their produce within the required period if theyre efficient). To the extent that the kiranas look tacky, FMCG firms like Hindustan Unilever are beginning to spend money to help them refurbishdont forget that a Lever makes more money from kiranas than from selling to Big Retail. Once Big Retail takes off, it will reduce the difference between wholesale and retail prices; consumers will benefit from choice (private labels), hygiene and better prices. Wont Big Retail hit employment? The traditional argument is that it will. Wal-Mart alone has a turnover thats equal to that of the entire retail industry in India and it employs around 5% of the labour that Indias retail industry does. So, the argument goes, Big Retail... will mean Big Unemployment. Thats not necessarily true. For one, any impact will depend upon the market share of Big Retail and thats not going to grow suddenly. Second, with the economy growing at 8% and inflation at 6%, thats a 14-15% growth in nominal sales each year, or a doubling of the retail market every 5 years. So, if in 5 years the market grows from 100 to 200 and the share of retail trebles from 4% to 12%, that still leaves a market of 176 for kiranas in 5 years or a growth of around 13% per year. McKinsey estimated that organised retail would create over 1.6 million jobs between 2009-2014. But if FDI into multi-brand retailing is permitted, this number could be higher....