‘The rising cost of construction, the cost of doing business, high compliance, and inflation/interest rates going up have already reduced returns to single digits.’
With expectations of the Reserve Bank of India raising rates at its April monetary policy committee meeting, property developers foresee challenges of financial closure of their projects.
Analysts expect another 25-basis point (bp) repo rate hike at the MPC meeting in April, even as headline retail inflation in January jumped to a three-month high of 6.52 per cent.
For most developers, the cost of borrowing has gone up 100-150 bps in the past year.
“Another rake hike and we may have to go for a reset. We have to rework our costs and push up sales. If rates touch 10 per cent, there can be resistance from homebuyers. Our rates will go up,” says a property developer.
Given the existing climate, a financial closure is conceivable, he observes.
“If I had sent a proposal for a loan six months ago when cement prices were Rs 300 per bag and today they are Rs 450 per bag, banks would question our repaying ability. We have to reset.”
Sanjay Dutt, managing director and chief executive of Tata Realty and Infrastructure, concurs.
“The rising cost of construction, the cost of doing business, high compliance, and inflation/interest rates going up have already reduced returns to single digits. Any cyclical and economic setback during the tenure of the project can wipe out returns,” says Dutt.
According to experts, returns from residential projects have come down from 20-30 per cent before the pandemic to 8-10 per cent in today’s market.
However, Dutt says a strong location, design and positioning, equity base, track record, and organisation strength can mitigate these risks.
Says Niranjan Hiranandani, MD, Hiranandani Group, “Until last month, sales were good. If sales turn sluggish, that can throw a wrench in our projects.”
Prashant Thakur, senior director and head-research, Anarock Property Consultants, says another rate hike will become a challenge to developers, more so because of construction financing, loan against property, and lease rent discounting.
“These will eventually impact the project’s profitability and investor’s internal rate of return estimate,” he adds.
Increase in finance costs, along with the rising cost of construction and a challenging economic scenario, did affect the profit margins of developers marginally.
Given housing sales broke all records in 2022, the impact on profit in the previous hikes remained minimal, says Thakur, adding if the RBI hikes rates, it will severely crimp profit margins.
Thakur also says sales will come under pressure because a large share of homebuyers avail of home loans.
With home loans becoming dearer, it will become increasingly difficult for homebuyers to carry on with the increased expenses and their monthly household expense arithmetic will not add up.
Also, under the new tax regime, there’s no benefit on home loans and buyers are not incentivised for investing in real estate.
However, some developers disagree.
Pavitra Shankar, MD, Brigade Enterprises, says: “We have been paying down our residential debt, thanks to good sales, construction progress, and customer collections. We do not see any issues impacting us from financing costs going higher on the residential side. For our leased asset portfolio, 85 per cent of the associated debt is secured by lease rentals. Hence, the cost of borrowing is lower than construction financing.”
Shankar says that the increase in rates usually does not translate into equated monthly instalment impact, rather the tenor of loan.
The borrower’s behaviour is to customarily repay the loan well before the duration.
“Sustained further rate hikes could bring some headwinds, if taken together with worse-than-expected impact of layoffs and recession in the US,” she says.
Murali Malayappan, chairman and MD, Shriram Properties, says a financial closure will not be a problem for big companies.
“The cost of borrowing is a concern. It has gone up 100-150 bps in the past year,” he adds.
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