Liquidity pressures in real estate could lead to shakeout
CRISIL believes that a number of medium-sized and small real estate developers could face a liquidity crunch in the months ahead. Many such developers have stretched themselves operationally, and borrowed heavily, to benefit from the real estate upturn of the past three years. The current slowdown in demand for realty, coupled with declining internal accruals and reduced funding options, exposes them to the downside of this aggressive strategy: there are large amounts of debt already on their balance sheets, and external funds are increasingly hard to come by.
CRISIL in a July 2008 report, foresees delays in many ongoing and planned real estate projects, thereby leading to the possibility of sale of projects or even enterprises. This will result in some consolidation in the sector. From among the larger developers, those that are not over-leveraged operationally are well placed to tide over the current crisis and even emerge stronger.
These trends are in line with CRISIL’s prognostication, early in 2007, about the likely consequences of over-leveraging in this sector. CRISIL in its evaluation of the realty sector has always emphasised cash flows and liquidity, alongside the player’s growth and financing strategies.
Increasing real estate prices over the last three to four years resulted in a large number of developers acquiring land at high rates in anticipation of a further increase in prices, and scaling up their operations multifold. While some developers have managed to finance this growth through a prudent debt-equity mix, most medium-sized and small developers have relied heavily on debt.
The current situation exposes the pitfalls of such a strategy. There has been a slowdown in the sale of real estate projects across India since early 2008, across the residential, commercial, and retail segments. Demand has moderated with the sharp increase in real estate prices, coupled with rising interest rates that have made housing loans progressively expensive. In particular, residential projects, which have been funded largely by customer advances, have been severely hit by the slowdown in bookings.
Further, the sharp increase in the cost of land and construction materials (primarily steel and cement) has pushed up input costs by 20 to 30 per cent over the past two years.
This combination of sluggish sales and rising costs is expected to adversely affect the profitability and cash accruals of real estate companies in the near to medium term.
>>> GO TO NEXT PAGE
Inflation over 8.5% Could Slow India's GDP Growth
Sub-prime assets at 7% of retail loans in India
Global credit quality worsens in first quarter 2008
Current challenges in the global financial markets
Highest levels of political and economic uncertainty in 2008
No immediate threat to financial stability in India
CLICK FOR MORE FEATURES & STORIES