A Study of Real Estate Sector in the Indian Economy for Investment Opportunities

By Bhavleen Arora 2007-08

A Dissertation presented in part consideration for the degree of MA Finance and Investment
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ACKNOWLEDGEMENT

It has been an incredible experience working on this dissertation. I would like to thank my supervisor, Ghulam Sorwar for his support and guidance. I would also like to thank all the interviewees for their precious time and useful insights on my research. A special thank you to all my fellow students and friends who have been there for me throughout this experience and provided me with constant support. I would also like to express my respect and gratitude to all the lecturers in the Business School for making this an outstanding learning experience. And finally I would like to thank my family, without whose support and encouragement, carrying out this research would not have been possible.

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ABSTRACT The dissertation provides an analysis of the Indian economy with a focus on the real estate for investment opportunities. Multiple research techniques were used to collect data. Both primary and secondary methods of research such as face to face interviews with the people related to real estate and trend analysis were used for analyzing information. . The economic transformation of India has pushed the GDP growth to an average of 6% per annum since 1992 due to economic liberalization, possession of highly skilled technicians and engineers in India and also the governments spending on road and transportation infrastructure. India is being discovered as a significant location for business, mainly in the services sector. Indian real estate sector is believed to offer foreign investors with an attractive opportunity of investment and lead to rapid expansion in FDI and international trade. Venture funds entries in real estate are expected to add to the growth momentum created by affordable financing options and rising disposable incomes. Several reports have been studied which has provided an analysis of Indian real estate markets and opportunities. The result of the study clearly shows a bright future in the real estate sector in the Indian economy apart from all the risks involved in investment in real estate markets.

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TABLE OF CONTENTS SECTION I: INTRODUCTION...6 1.1 Background .......................6 1.2 Research Question and Research Motivation....................7 1.3 Research Methodology..8 1.4 Outline of the Dissertation.9 SECTION II: LITERATURE REVIEW...10 2.1) India as an emerging economy....10 2.1.1 Overview ......10 2.1.2 Economic Analysis: Macroeconomic Indicator ...11 2.1.3 Government Regulations and Policies..19 2 .2) Indian Real Estate: An Overview ..21 2.2.1 Introduction...21 2.2.2 Market Segment & Investment Opportunities..22 o Commercial real estate....22 o Residential real estate..23 o Retail real estate.......28 o Hospitality real estate.......29 2.2.3 The Geography of opportunity..31 o Tier I ....31 o Tier II cities.32 o Tier III cities32 2.2.4 Opportunities: FDI regulations in real estate sector in India ...34 2.2.5 Capital market of real estate.36 2.2.6 Taxation39 2.2.7 Summery...40 SECTION III: RESEARCH METHODOLOGY AND DATA COLLECTION...41 3.1 Introduction..41 3.2 Techniques used for Data Collection...41 3.3 The Research process...43 3.4 Summery..44

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SECTION IV: EMPIRICAL ANALYSIS.45 4.1 Analysis of Investment Opportunities.45 4.2 Summery of Interviews and Implications47 SECTION V: KEY RISKS AND CHALLENEGES54 5.1 The risks to the Indian Economy.54 5.2 Risks in Indian Real Estate Investment...55 SECTION VI: CONCLUSION AND RECOMMENDATION...58 REFERNCES...62 APPENDIX I: Interview Questions65 APPENDIX II: Key players in Indian Market.67 APPENDIX III: International Funds in India..68

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INDEX OF FIGURES Figure 1: India GDP growth 11 12 13

Figure 2: Industrial production .. Figure 4: Growth of telecommunications .

Figure 3: Food grains production ..12 Figure 5: India wholesale price inflation 2007/08 ..14 Figure 6: Exports of India . 16 Figure 7: Imports of India 16 Figure 8: India Foreign Exchange Reserves 2007/08 17 Figure9: USD- Rupee Daily Spot Rates 18 Figure 10: Growth of IT/ITes Industry (Share in Indias GDP) ..22 Figure 11: Decreasing Household Size: 23 Figure 12: Rising Disposable Income (Growth Rate) .24 Figure 13: Trends in mortgage lending rates25 Figure 14: Public saving continues to grow driven by increasing share of working population.26 Figure 15: Increasing risk weight for real estate loans..26 Figure 16: Growth of retail industry...28 Figure 17: revPAR for Premium Hotel Segment (2006) 29 Figure 18: geography of regions with growth potential..31 Figure 19: Real estate share in FDI .33 Figure 20: Emerging business mode...34 Figure 21: Public capital market.....36 Figure 22: Securitization...37 Figure 23: Mortgage Rates Vs Real Estate Yields44 Figure 24: Inflation and Grade A office space45 Figure 25: 1 year performance of Real Estate sector vs. Sensex...45 Figure 26: Real estate index beta and real estate index vs. interest rates...46

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SECTION I: INTRODUCTION 1.1 Background: India is reaping the benefits of 15 years of reforms and is now all set for a phase of strong and significant growth. Since independence, Indian economy has made huge strides in the years. In the late 1970s, successive Indian governments required to reduce state control of the economy. Development toward that goal was slow but steady; many analysts attributed the stronger growth of the 1980s to those labors. The economic transformation of India has pushed the GDP growth to an average of 6% per annum since 1992 due to economic liberalization, possession of highly skilled technicians and engineers in India and also the governments spending on road and transportation infrastructure. India is being discovered as a significant location for business, mainly in the services sector. Significant liberalization of its investment regime since 1991 has made India an attractive place for foreign direct and portfolio investment. Proposals for direct foreign investment are measured by the Foreign Investment Promotion Board and usually receive approval of government. Depending of the kind of industry, automatic approvals are available for investments involving up to 100% foreign equity. Foreign investment is mainly sought after in power generation, telecommunications, ports, roads, petroleum exploration and processing, and mining. The real estate market of India has grown quickly over the past few years. LaSalle(2006) states that following the relaxation of FDI regulations , Indian real estate sector is believed to offer foreign investors with an attractive opportunity of investment and lead to rapid expansion in FDI and international trade . Venture funds entry in real estate are expected to add to the growth momentum created by affordable financing options and rising disposable incomes says Bharat (2007). Mike Nicholson, a real estate expert reveals that India stands on the fourth place amongst the top four Asian destinations for foreign investment and with excellent democratic governance and transparent property laws attract more people for making investment in the real estate sector than any other country. It is this positive attitude of the government that forms the main reason for the

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growth of real estate in India and has helped in the development of all the areas such as residential, retail and commercial. Lots of buyers are showing interest all across the world and Indian property now features at the top of the list of international real estate investors. Private equity players are considering large investments, financial institutions are floating real estate funds and banks are providing loans to builders. The strong fundamentals of the Indian economy are having a favorable impact on all asset classes of real estate in India viz. housing, commercial office space and retail and hospitability .Improvement in the living standards are driving the demand for better quality housing and urban infrastructure .many researchers states that housing in India is now moving from being viewed as only basic need to an aspirational purchase. During last two years, the IPO market has witnessed the shifting focus towards the realty sector on the capital market for the Indian real estate sector. Loan disbursals by housing finance companies have grown by 30 40 % per annum over the past five years. with the success of china in boosting manufacturing exports , the Special Economic Zones ( SEZ) model albeit with private participation had been adopted by India to provide world class infrastructure in order to boost its industrial export performance . The aim and objectives of my study and the reason for choosing the research topic for my dissertation have been presented below. 1.2 Research Motivation and Research Question: With property boom spreading in all directions, real estate in India is touching new heights .The reason for choosing this topic is to understand the current position of Indian economy for investment opportunities particularity in the real estate sector of India. The main purpose is to find out about the real estate market in India and the investment opportunities of this sector. Due to globalization and with 100 % FDI in real estate now being allowed, India has become a favorite spot for International Developers to invest in the country. Keeping this in mind, I have been motivated to take an in-depth study of the real estate sector in India in order to learn about the major factors that are attracting not only the domestic investors

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but also the international investors towards investing in Indian real estate. I intend to bring out the key driving forces in the Indian market, the role of government in Indian real estate, the role of real estate towards the growth of Indian economy, the risks and challenges faced both by the macroeconomic as well as real estate in India and also the state of Indian real estate in coming years. . 1.3 Research Methodology The research requires multiple techniques to gather data and analyze information. My research will involve a use of document studies and face to face interviews with industry experts, real estate developers, agents, consultants and other company employees. It will provide a better insight into the Indian market and will further help in better understanding of the role of real estate sector in the Indian economy. My research will also examine relevant quantitative data, consisting of reports, presentations, fact and figures related to the dissertation topic. Due to lack of transparency and low quality of data available in the Indian market which limits the findings of the research and therefore will not provide efficient and effective market data to access the state of real estate and Indian economy accurately. In order to overcome such limitation face to face interviews with the people related to real estate will be conducted so as to reach a suitable conclusion. It will facilitate in strengthening the analysis made about the reasons that influence future market.

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1.4 Outline of the Dissertation: This dissertation is divided into six chapters. They follow throughout in chronologically order. Introduction to the research topic is provided in Chapter 1. It also states the research questions, objective and the methodology used for the study. Chapter 2 contains the literature review and the existing secondary information on the current situation of Indian economy and the study of market and opportunities in the real estate sector of India comprising of sector reports, journals, and newspaper and magazine articles. The methodology and the data collection process during the research is mentioned in details in chapter 3 and the purpose for selecting the different techniques used in the research , appropriate to the topic is also explained . Chapter 4 provides the in-depth empirical analysis from the data collected through primary and secondary research methods. Chapter 5 brings out the key risks and challenges of Indian economy as well as the risks associated with real estate sector. Finally, Chapter 6 offers recommendations for further research.

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SECTION II: LITERATURE REVIEW 2.1 India as an emerging economy 2.1.1 Introduction: India has a diverse economy which encompasses old village farming, handicrafts, modern techniques of agriculture, a huge range of modern industries and a huge number of services. It is the second fastest growing economy behind china and will become the 3rd largest economy by 2035 according to Goldman Sachs survey .Services form the main source of the growth of economy which accounts for more than 50 % of output in India with less than 1/3 rd of its labor force as stated in CIA World Factbook ( 2008 ). It also tells us that the economy has posted an average growth rate of more than 7% in the decade since 1997, reducing poverty by about 10 percentage points. India achieved 8.5 % GDP growth in 2006, and again significantly expanding production of manufacturers in 2007. In order to become a major exporter of software services and software workers, India is capitalizing on its large number of well educated people trained in the English language. The expansion of economy has greatly influenced the capital of India New Delhi to continue making progress in reducing its federal fiscal deficit. Nevertheless, strong growth combined with easy consumer credit and a real estate boom is fueling inflation concerns. The huge and increasing population is the basic social, economic and environmental problem adds CIA World Factbook (2008). Indias economic growth has slowed down as compared to the previous years as showed by Reuters poll, undermined by moderating consumer demand, higher inflation and a swelling trade deficit. Economists therefore expect inflation to be very string than forecasted three months ago by them. It also states that growth for the current fiscal year to the end of March is slowed to 8.7 %, in line with government forecasts but below the previous years pace of 9.6 % which was the fastest in 18 years

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Macroeconomic fundamentals keep on inspiring confidence and the investment climate is full of brightness. Buoyant growth of government revenues made it feasible to maintain fiscal consolidation as mandated under the Fiscal Responsibility and Budget Management Act (FRBMA). As stated in the economic survey 2008 by domain-b.com The decisive change in growth trend also means that the economy was, perhaps, not fully prepared for the different set of challenges that accompany fast growth. Inflation flared up in the last half of 2006-07 and was successfully contained during the current year, despite a global hardening of commodity prices and an upsurge in capital inflows. An appreciation of the rupee, a slowdown in the consumer goods segment of industry and infrastructure (both physical and social) constraints, remained of concern. Raising growth to double digit will therefore require additional reforms.

2.1.2 Economic Analysis: Macroeconomic Indicators Gross Domestic Product: Figure 1: India GDP growth

The Gross Domestic Product is the most important indicator used to estimate the health of a countrys economy. GDP tries to capture all final goods and services that are produced within the political and geographical frontiers of the country , thereby assuming that the final monetary value of everything that is created in a country is represented in the GDP .according to the data released for the year 2006-2007 , Indias GDP increased at an remarkable 9.2 % . The share of different sectors of the economy in Indias GDP is as follows: Agriculture 18.5 %, Industry 26.4 %, and Services 55.1%. At the time of

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independence agriculture occupied the major share of GDP while the contribution of services was relatively very less unlike today, where more than half share of GDP is occupied by the service sector. For the Eleventh Five Year Plan, the government has set a goal of an average annual GDP growth of 9%. The remarkable growth rate of Indian GDP looks all set to continue as a result the target looks attainable as all the macroeconomic fundamentals are strong . (http://www.iloveindia.com/economy-of-india/india-gdp.html) Industrial growth: The recently released numbers by CSO on industrial production for 2007-08 were the lowest in 6 years, and show a major decline with respect to growth over the previous year. Industry showed an increase of 3% in March 2008 as compared to growth rate of 14.8% posted in the previous year.. Growth for the fiscal 2007-08 also suggests reduction in the total production. Growth numbers for all the three constituents of IIP showed negative in 2007-08. Mining, manufacturing and electricity grew by 3.8%, 2.9% and 3.7% respectively in March 2008 as against 8.0%, 16.0% and 7.9% respectively, which was recorded in the previous year. Low growth was witnessed in use-based classification. Basic, intermediate and capital goods recorded growths that were way too slow as compared to the growths recorded in the previous fiscal. Figure 2: industrial production Figure 3: food productions

Source : Indian economy review

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Consumer goods declined sharply entering the negative territory posting a negative 0.1% growth compared to 15.8% growth in the previous fiscal. Growth for beverages and tobacco, jute products, wood products, leather items and basic chemicals in 2007-08 shows an increase as compared to that of the previous year while for the rest of the sector growth showed a decline. And for the month of march 2007-08, growths of particularly three products, beverages and tobacco, jute products and leather products represented rise in production while that of metal products , textiles and transport were negative.

Core infrastructure industries: Core infrastructure industries recorded an increase of 9.6% in March 2008 which is marginally lower than the growth rate of 10.5% as recorded in the previous year. During the month the growth in finished steel and cement surpass the growth recorded in March 2007. The growth in the industrys infrastructure showed a decline in the overall performance in 2007-08 as compared to the previous year. It was only in the case of coal that showed an increase in its production as compared to the year 2006-07

Telecommunications: Figure 4:Growth of telecommunication

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Decrease in call charges is bringing 7 million connections on an average every month to the mobile phone network. Total number of phone connection that were registered crossed 300 million with mobile phone subscription surpassing 250 million. In 2007-08 net mobile phone additions were only 95 million. The fixed line connection, though they were lowered by over a million in a year time.

Inflation trends: The yearly WPI based inflation averaged for the year 2007-08 eased to 4.7%, well below the targeted inflation rate of 5-5.5% for 2007-08 compared to the average 5.4% which was recorded in 2006-07. Inflation showed a rise in the last week of March 2008 at 7.4% as compared with 5.9% in the previous year. It has been seen that actions by the government brought wholesale price rise near 3% in the middle of the year, 2007-08 from 6% in the starting but inflation was seen to rise by the year-end. Increase in inflation was mainly on account of high prices of food articles; dearer fuel prices and increase in the prices of various manufactured items. Figure 5: India wholesale price inflation 2007/08

The recent weekly price increase released for the week ending 3rd may 08 shows overall price index marked 7.83%. In the latest policy stance some measures have addressed the causes of rising inflation, which will slowly but surely show its effect on the inflation. -14 --

Monetary indicators: Money supply in the Indian economy has risen by 20.3% in the year 2007-08 as compared to 21.3% in the previous year . As compared to growth rate of 8.1% which was recorded earlier, growth in the net bank credit to the government has declined to 1.1%. Growth in borrowing by the commercial sector was seen to reduce to 20% vis--vis 25% growth witnessed in the previous year. The soaring Forex inflows and valuation in the currencies have resulted into increase in accumulation of net foreign exchange assets of banks which has resulted into a 38% growth over 25.7% in the previous year. There has been a minor downfall to 20.1% in the previous fiscal in the non-monetary liabilities of the banks from 22.4% in the 2006-07. The RBI policy twists to support deposits was seen to have an impact as deposits swelled by almost the same rate as recorded in the previous year. Investments in the government and other securities too were consideration representing 22.9% growth over the increase of 10.3% in the previous year. Increase in interest rates however seem to discourage credit off take. Total credit off take of SCB grew by 21% in 2007-08 compared to 28% in the previous year which was fully diverted to non-food items. Fiscal trends: Revenue collections from tax sources up to February 2008 stood at Rs 466163 crore growing at a low 26% as compared to the rate of tax collection in the previous year. Corporation tax mopped Rs 139506 (30% of the total tax collected) collected at a rate of 37%. From last year of revenue received from the income tax sources which were recorded as 30 %, it increased by 42.4% this year. It also showed a decline in rate of growth in revenue to 19% in February 2008 as compared to 34% growth which was posted in the previous year. There was a slight increase in excise as compared to what was recorded in the previous year.

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Stock market trends: The Indian stock market has been declining since four months due to the gloom which is sensed in the western markets. The other Asian markets also witnessed a slowdown in their stock market .Number of events like the sub prime crisis surfaced in September 2007 and followed by a depression in the US and European markets have impacted the index to fall beyond any immediate repair. On the other hand, favorable strong domestic indicators have recently overshadowed the global factors which have resulted in making the domestic stock market indices to rise.

Foreign trade: The exports of Indian merchandise fell short by USD 4.5 billion from the target set for the year 2007-08. Cumulatively there has been an increase in merchandise exports over the previous year by 23% in 2007-08. Import bill in US dollar terms showed a growth 27% in 2007-08 which touched a mark of USD 235 billion. Trade deficit also increased from USD 60 billion to USD 80 billion. Growth in merchandise exports (in USD terms) of important products to developed nations was seen to suffer a decline whereas exports to developing nations increased. Main items for exports that exceeded the growths in the previous year were agricultural products (rice), ores and minerals and gems and jewellery. Growth in non bulk imports increased at a faster rate as compared to that of last year where growth of bulk items was seen to decline Figure 6: exports of India (Source:Indian economy review) Figure 7: imports of India

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Foreign exchange reserves: Foreign exchange reserves surpassed the USD 300 billion mark in February 2008 and crossed USD 310 billion in the consecutive month. Most of the reserve money i.e. more than 90% has been in the form of foreign currency assets and stood at 299 billion which was expressed in terms of USD. Foreign currency assets crossed USD 300 billion mark in the first week of April 2008 and Gold position was seen to widen to USD 10 billion. Reserve position in the IMF increased to USD 490 million in April 2008 from USD 427 million in the preceding month of the year. . Figure 8: India Foreign Exchange Reserves 2007/08

Capital inflows: In 2007-08, total foreign investment inflows touched USD 60 billion, where direct investment attracted 50 % of the total investment and the remaining was received as portfolio investments. Foreign direct investment inflows received in 2007-08 were USD 7 billion which was in excess of direct inflows that were received in the previous year. Trends in the exchange rates: Indian rupee has turned weak against the USD which is strongly favoring the exports of India and has resulted in raising the bill of import. Indian rupee which is heading towards Rs44/ USD level touched Rs43.15 in May 2008. Rupee depreciated by 7% as against the -17 --

US dollar from January to May 22nd. Rupee was also seen to pick up from Rs57/Euro in January 2008 to Rs68/Euro in May 2008, weakening by 11%. Figure9: USD- Rupee Daily Spot Rates

The above figure shows the spot rates of USD Rupee from the time period of January to march 2008 as shown by Reserve Bank of India. The value of Rupee in March increased to around Rs40.5 as compared to Rs39.5 in January 2008.

2.1.3 Government Regulations and Policies Monetary policy & Credit policy

As stated

by the Economic Advisory Council, Dr. C. Rangarajan (2008),"The large

increase in foreign currency assets of the RBI has meant counterpart injection of highpowered (M0) money, a large part of which has however been sterilized by the issue of instruments under the Market Stabilization Scheme (MSS) as on December 21, 2007 a total of Rs. 162,665 crore of MSS bonds. There was an increase reported in Reserved Money of Rs 98,513 crore for 2007/08 up to Dec21, 2007 which is almost an increase of 13.9% over the end-March figure. The broad money aggregate (M3) also went from 11.2% up to Dec 7, 2007, on a year-to-date basis in a similar order as it did in the period of 2006/07.There is been a sharp drop in off-take of both non-food credit and total bank accommodation to the commercial sector. The year-to-date increase in non-food credit -18 --

was recorded 6% more than 4% that indicates that its lower than in the first half of 200607 and 2005/06. The banks which have been reassessing some of their lending operations has been provided a respite because of the slowdown in credit growth. The task of monetary management has also been slightly lightened by this slowdown. This is as good a time as any for the Indian banking system to invest some human and organizational capital towards improving risk mitigation in retail lending as world-wide attention is being refocused on the importance of credit quality and risk management as a result of subprime crime crisis.

Fiscal policy Central government finances have continued with their improving trend, propelled by a sharp increase in direct tax collections which far outstripped budget estimates up to the end of November 2007. Gross tax collections for the first eight months of the year rose by 25% compared to 17% envisaged in the 2007-08 Union Budget. According to currents estimates, direct tax collections would cross Rs 300,000 crore in 2007-08, an increase of about 30 % over the last year. Direct taxes have now overtaken indirect taxes in the Centers tax revenues. This tax buoyancy has come about to a great extent from an outstanding collection record in Income Tax , consequent on the vast improvements in the tax information network , even as corporation tax collections have remained very strong .. Overall net central government revenues have risen in the first eight months by 24% as compared to expectations of 15% in the Budget. Even as revenue expenditure has outstripped budget estimates, deficit indicators have improved in absolute terms relative to the comparable period last year. While fiscal consolidation has been an unmitigated good, making available much larger resources for financing the sharp increase in productive investment in the economy, it has avoided the need to take a hard look at expenditure. Indeed almost the entire reduction in the deficit since 2001-02 is accounted for by increase in direct tax collections in the Centre, through the switchover to VAT in the states, and reduction in interest payments. ( http://pmindia.nic.in/Review_Economy_2007-2008.pdf)

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2.2 An Overview of Indian Real Estate Sector 2.2.1 Introduction: The Indian economy has transformed substantively over the last two decade which is growing consistently at an average rate of 8% and is moving towards an era which will take its place among the leading economies in the coming year. Its strong performance is attributed to healthy and positive growth mainly in the manufacturing and service sector. The booming economy of India is recognized all over the world which has resulted in making India a favorite real estate investment for both commercial and residential properties. The economic performance of India has provided strong impetus to the real estate sector, which has been witnessing heightened activity in the recent years. It is the rapid growth in the real estate sector of India which is moving towards maturity with rise in participation from domestic as well as international investors, raising the interest of the investors. The real estate sector of India did remarkably well last year as it recorded a high rate in its growth. The growing economy of India has obtained a lot of popularity in recent years which has captured the attention of the entire world and has made it an attraction for both domestic as well as international investors. REIW India 2008 is a premier international platform where global industry players meet Indian property developers to access and source for investment opportunities in Indias high yielding property sectors and cities as stated in the survey by E&Y (2007) The strong fundamentals of the Indian economy are having a positive impact on all asset classes of real estate in India like housing, commercial office space and retail and hospitality. The growth in real estate sector of India has spread out to tier II and tier III cities as well in recent years. Due to a tremendous increase in the rate of service and manufacturing sector, the demand for commercial and industrial real has witnessed a significant growth. The growth in the economy of India has lead to large Indian middle class which have resulted in increasing affordability and affluence. The improvement in the quality of living standards is driving demand for better quality housing and urban infrastructure. The housing of India today is no longer viewed as a basic necessity but has become an aspirational purchase. The growth of the sector has been complemented by

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positive policy changes like liberalization of Foreign Direct Investment (FDI) guidelines and major raise in investment on physical increase in investment on physical infrastructure. Lately, India has also witnessed an evolution of the sector towards greater institutionalization and corporatisation. With the entry of global players, inflow of foreign capital, evolution of capital markets, geographical diversification and introduction of reforms, the sector has undergone some magnificent changes. Even critical concern areas like transparency in the sector is also improving significantly. The trend is expected to continue in the years to come. 2.2.2 Market Segments & Investment Opportunities: The growth of real estate in India has broadened the opportunity spectrum of the real estate sector beyond the established asset classes viz. commercial, industrial, residential, retail and hospitality. Commercial Real estate: In the commercial real estate sector, there has been a boom in this sector due to very high demand from the Multi National Companies mainly from Telecom, BFSI, IT/ITes and Pharma companies. The supply of commercial grade A office space, remained intense in the top seven cities in the year 2006. Key Growth Drivers: Growth in IT/ITES Sector: One of the main growth drivers of commercial real estate in India is the IT/ITES sector which is growing annually to 25 30 %. Indias IT/ITES industry is expected to grow to US$ 148 billion by 2012 according to NASSCOM. According to E&Y, the growth is expected in excess of 250 million sq.ft of commercial office space requirement by 2012 13. A number of other sectors such as financial services, biotechnology, telecom, insurance, pharma and consulting businesses are witnessing fast growth and have further added to the rise in demand. One of the forces that play a key role in its growth is progressive liberalization and the ease in FDI norms in many sectors.

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Outlook: According to E&Y report for ibef the commercial real estate market in India is expected to grow at a CAGR of 20-22 % over the next five years and would continue to grow with the help of prosperous off shoring industry. In the suburban areas the supply of commercial office space will remain concentrated and in the form of integrated campuses and IT Parks. Over the next few years, large supply of commercial space is also expected from special economic zones. Figure 10: Growth of IT/ITes Industry ( Share in Indias GDP)

Source : NASSCOM , E&Y Research

Residential Real Estate: Over the past few years, the residential sector in India has been on an upswing as it is driven by increasing urbanization, rising incomes and decreasing household sizes. The residential market in India constitutes almost 75 % of the Indian real estate. It also estimates that more than 70 % of the dwelling units shortage is for middle and low income brackets. In order to correct this demand supply gap many policy interventions and initiatives be taken into consideration. Key Growth Drivers: India is getting urbanized at a much faster rate than the entire world and by 2030 , 40.7 % of the countrys population would be living in urban areas assorting to the United Nations Population Fund (UNFPA) . Only 28.7% of India is urbanized in 2005. However, the growth rate was 2.3% as compared to 2 % average growth rate globally. In 2005, the urban population of India was estimated to be 316 million which is also the second largest in the world after china. And by 2030, it is estimated to reach 590 million retaining its second position after China. The driving force in shaping Indias -22 --

socio economic profile is its cities. During the last sixty years, India has seen a growth of two and a half times in its population, whereas urban India has grown by nearly five times. According to Census of India 2001 estimates, By 2015 the largest cities of India Mumbai and Delhi are expected to be 2nd and 3rd largest cities. Fast urbanization is encouraging the growth of real estate in India. Figure 11: Decreasing Household Size:

The increase in the popularity of nuclear families in India has reduced the average household (HH) size in the country which as result has lead to increase in the number of households in India. The average HH size in the country has declined from 5.4 persons per HH in 1981 to 5.1 persons per HH in 2001. As compared to other economies, India has a much younger population. At present, the population from the age group between 16 to 65 years is around 700 million which constitutes 64% of the total population. By 2010, India is expected to emerge as the top most contributors to the work force globally. India has seen a significant growth in the disposable income since past one decade. The current annual per capita disposable income stands around US$ 693 and is expected to grow further by in the next five years by 8 13 %. Increase in the service sector has lead to the increase in the income levels in the India. It has been indicated by several studies that salaries have been increasing by 10 15 % in India annually. As a result, it has led to affordability of houses even though there exits high prices of property.

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Figure 12: Rising Disposable Income (Growth Rate)

Apart from increase in the level of income , other such factors that have lead to the increase in home affordability are easier access to mortgage finance , longer loan tenures , higher loan to value ratios and tax incentives . Although India has seen an increase in rates of home loan by 200 points, they still are cheap as compared to the home loan rates in 2001 by 45%. Other such factor that has made home purchases more attractive is the tax savings on interest payments and principal repayments. Thus, housing is expected to become increasingly affordable especially in the mid-market and premium segments) Outlook:it has been envisaged by the government of India that every body will have a house by 201o and that the housing shortages will be removed . Several policies are adopted by the Indian government to overcome the shortage of housing. This will result in large scale development in this segment. Due to accessibility of land and proximity to upcoming awareness industries, secondary regions of major metropolitan cities are expected to attract maximum development such as Bengaluru Whitefield, Delhi greater Noida and Gurgaon , Kolkata Rajarhaat , Chennai along OMR .regional developers are expected to dominate supply in short term even though national developers are expanding their geographical base , especially in mid segment category.

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Mortgage Rates The banking sector of India has made it very easy to obtain loans through several policies being covered by them. The ownership of home is most likely to increase with the increase in economy. The expansion of the mortgage industry has become a more easy availability to first and second time home buyers. According to ICICI equity research, the percentage of mortgage to GDP is approximately 3% which is still greatly lower in comparison to developed economies with US 51% and UK 54%. Through increase in funding options, it will boost up residential demand as there exits huge opportunity for funding housing units. The market for mortgages is projected to grow at 17% CAGR from US $16 billion in 2006 to US $30 billion in 2009 as stated by Lang , J (2006) , adding into the present demand side liquidity. Figure 13: Trends in mortgage lending rates

Savings Rate While studying the real estate market, saving rates form one of the most important variables. The saving rates are expected to increase from 28.1% in 2005 to 31.7% in 2010 15 due to strong fundamentals and growth of Indian economy as stated in ICICI equity research (2007). Indian household segment contributes 75% - 80% to the economies overall savings with around 50 % generally invested in physical assets such as gold and real estate. Therefore if this fraction remains unchanged, then by 2030 household saving would account to 26.7% of GDP. -25 --

Figure 14: Public saving continues to grow driven by increasing share of working population

Interest Rates Due to increase in the lendings of loans by banks, it has lead to increase in the rate of debt. In order to overcome such a problem, banks might increase the interest rates in future. Rise in the rate of interest is a threat for the real estate market as it declines the buying power and also affects the demand for homes. In the investment research by USB (2006), 1% increase in interest rates, results in reducing buying capacity by approximately 5-7%. In addition, a decline in selling prices to compensate for decrease in demand will result in a decrease for 13-16% on a profitability of a project. However, the impact on interest rates should not be that dramatic due to increase in salaries and rise in loan tenor. The industry experts feel that the interest rates will not rise but will flatten up in near future and the demand for housing will gradually increase. Figure 15: Increasing risk weight for real estate loans

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Retail Real Estate: India is witnessing a change in the structure of its retail industry with the individual small format stores to huge large format shopping malls and hyper markets. It is the partial relaxation of the FDI regulation which is 51 % FDI in single brand retailing, has provided a boost to the retail segment. The total organized retail absorbed for the year 2006-07 in the top seven cities was around 19 million square feet. Key growth drivers: With the growth of Indian economy, increase in the household income has doubled since 1985. As a result people are spending more than before. There has been a rapid increase in the middle income population which has lead to striking increase in overall consumer spending which in turn has been driving the exponential growth of the retail industry in India. Due to great make over of the retail industry in India, retail industry has emerged as one of the fastest growing industry in the economy of India. . There are many factors that have lead to the growth of organized retail such increase in the disposable income, rise in consumption due to increasing use of credit cards and finance option made easy. Large international retailers are attracting towards India. According to E&Y, India has been ranked the most attractive country for international retail expansion as per latest AT Kearney Global Retail Index 2007. Due to the potential of the retail industry in India and steady opening up of the sector for the FDI, many international retailers are attracted towards it. Either through the franchisee route or retailers who considering expansions are already present in the retail industry of India in order to obtain all the benefits that the retail industry of India has to offer. Growth in demand is also expected to gain momentum due to large retailers entering the market and new retail formats being introduced. Outlook: Estimates of market put the growth of organized retail industry in the rate of 25 30 % per annum. Ongoing policy debate to allow 100% FDI in organized retailing in both single and multiple brands holds a strong future for the Indian retail. By 2010 the contribution of Indian retail is expected to be 10% of the total sales as it can attain increase in annual growth rate. Much needed corporatization can turn into organized retail with enhance operational efficiency as many domestic as well international corporate have either made a foray into the retail segment or firmed up plans to enter the

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retail segment . This will also result in diversification into tier II and III cities and greater geographical reach. Figure 16: Growth of retail industry

Hospitality real estate: Hospitality is experiencing huge demand due to increase in tourism and the growth in business travel .as per FHRAI (2006) estimates there were close to 100,000 hotel rooms in India in various categories with five star and five star deluxe contributing close to 30000 rooms. estimates indicate that India would need an additional 50000 rooms in the next 2 to 3 years to cater to the projected tourist arrivals into the country. The occupancy rates are high in cities like Delhi, Bangalore and higher than the average room rate in the US. Key growth drivers: India has emerged as a major international tourist destination. There has been a boost in the foreign exchange earnings from tourists by over 17 % to US$ 7.22 billion due to huge amount of tourist traveling India every year. India has witnessed an increase of 13% in the arrival of international tourists which has also resulted in increase in the employment in the country. In order to promote inbound tourism, India has launched many global campaigns such as Incredible India! , Colors of India, Atithi Devo Bhavah , and Wellness Campaign . Growth in the Indian economy has lead to increase in middle class which has resulted in increased affordability and trends of leisure travel. Due to reduction in the cost of airlines, more and more people are traveling resulting in the rise of hospitality real estate sector. Government also plays an important role as it is making tremendous efforts in improving the infrastructure of the country. -28 --

India has also emerged as a provider of high quality healthcare service. Many tourists are attracted due to the low-cost advantage provided by the country. Medical tourism has increased over the past few years with 150,000 international patients visiting India. The hospitality sector in India is expected to gain more popularity with the upcoming international events such as the commonwealth games. Moreover, India is most likely to be placed on the top position of global business travelers itineraries due to its increasing recognition as a preferred destination for global business conventions. Figure 17: revPAR for Premium Hotel Segment (2006)

Source : E&Y Outlook: There will be a total of 2.9 million and 6.6 million hotel rooms in India by 2010 and 2020 respectively as forecasted by the ministry of tourism, government of India .Demand for hotel rooms in the country will keep growing at a CAGR of 10 % over the next 5 years as stated by CRIS INFA. As stated in the report of ibef (2007). At present, the room shortage is likely to be around 27000 rooms. These include luxury hotels as well as mid tier budget hotels and service apartments.

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2.2.3 The Geography of Opportunities: India is characterized by key differences in the economic, business and socio- cultural environments between its major cities and regions. Important variation in regional economic growth rates has emerged, leading to a widening gap between the economies and real estate markets of the more advanced regions. From the opening up of the economy , more advanced cities of western and southern India have benefited and they are most likely to be the most active in the coming years . Such states of India contain a proper infrastructure and are Indias wealth generating commercial hubs. Due to more open business friendly environment, they are most successful in attracting FDI as compared to areas of northern and eastern part of India. Tier I Cities: the cities that are mostly the first choice for new market entrants and are highly preferred by the domestic as well as the international investors. Mumbai is the highly preferred as it is the commercial hub along with Delhi and Bangalore which are the political capital and the technology hub respectively. These cities have succeeded in attracting a magnificent proportion of FDI and have proved to be the favorable destination for international investors. The development of infrastructure in these cities is very advances and it provides the most qualified labor pool and has the most advanced formats for real estate. Bangalore remains at the forefront of the global IT outsourcing trends. Delhi and Mumbai , as Indias two largest city economies , have developed a diverse range of real estate activities , and as well as rapidly expanding suburban office markets , have led Indias retail and residential development booms as mentioned by LaSalle , L (2006). Tier II Cities: There is a strong competition being felt by the Tier I cities from the Tier II cities. Due to increase in business costs and labor shortages in tier I, the other location have also grown, more domestic and international investors are now considering tier II cities for the expansion plans. Hyderabad, Chennai and Pune are gaining a momentum due to its increasing popularity and attractive business locations. Several benefits are now provided by these cities which are making the investors to invest in their cities such as

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their competitive business environments, the availability of human resources, telecommunication connectivity, quality of urban infrastructure, transparency of governance and availability of real estate. The yield gal has now narrowed between the Tier I and Tier II cities with only 100 basis points. Tier II cities now have some of the most high profile developments by foreign developers. Tier III Cities: Indian real estate base in now gaining a momentum in the small cities as well. India is witnessing a continuous widening of its real estate base into a larger group of cities. This trend is being led by domestic IT and ITES companies such as Wipro, Infosys , and Satyam , and the more established foreign companies , such as IBM , Microsoft and Dell. Jones Lang LaSelle has identified 18 tier III cities that have potential to emerge as important real estate markets over the nest five years. Figure 17: geography of regions with growth potential

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The most successful cities are likely to fall into two groups: Large cities , such as Kolkata ( population in 13 million ) and Ahmedabad (population in 5 million) . which have historically lagged Teir I and Teir II cities , but by virtue of their size , labor market quality and economic dynamism , are expected to attract substantial real estate activity :Kolkata ( West Bengal ) has transformed from an insular communist economy into a business friendly IT hub Smaller Indian cities , which will complete successfully for business due to superior education levels , a higher quality of life and urban infrastructure , good proximity to primary cities and their cultural and tourist offer .Chandigarh , north of Delhi designed by le Corbusier and Kochi on the Kerela coast stand out , but cities such as Jaipur , Mangalore , Mysore , Thiruvananthapuram and Bhubaneshwar are also attracting increasing corporate interest as stated by Jones Lang LaSalle (2006) 2.2.4 Opportunities: FDI regulations in Indian Real Estate sector A large number of foreign investors/ developers are now interested on real estate investment opportunities in India. The share of real estate in FDI has been increasing as a result. It has increased from a 4.5 % in 2003 to 25% in FY06 and an expected 26% in FY07 says E&Y (2006). The relaxation of FDI regulations by the Indian government have lead to significant increase in the number of foreign investors who are now chasing real estate sector in India . The global investors are now allowed to make a purchase in commercial sector over 540,000 sq ft or buy a minimum of 10 hectares plot in the residential sector of real estate. It has further lead to a capitalization of minimum US$10 million for wholly owned subsidiaries and US$ 5 million for joint ventures with Indian partners. The government thus allows a time of six months in order to collect funds for the commencement of business of the company. International investors are not allowed to sell or do business in those areas which are not developed such as where the access to roads, water, lightening, drainage sewerage is not made available. Direct asset acquisitions will become more

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common, as the real estate market grows. Though, with the current risk perceptions, most capital inflows will be in the form of joint ventures or developments that leverage the local partners expertise and market knowledge. Figure 19: Real estate share in FDI

Several strategies are adopted by the international real estate players in order to enter the market. One of the strategies adopted by them is the large scale direct entry with an approach which is independent for undertaking the schemes of property development. In order to carry out various projects in future with a local player, the global investors enter the market through establishment of an umbrella property development joint venture. Some of them enter the market through investing into the Indian property market through the creation of a capital fund which results in facilitating local developers.

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Investment models: the investment through financial investors comes primarily in the form of opportunity funds, private equity and venture capital. One of the important models of investment is shown below: Figure 20:Emerging business model

Real estate funds (REFs): one of the most preferred entry routes for foreign investors is through private equity investment. The major factor for its preference is the low transaction cost and an easy exit route. Currently most of the private equity investments are directed towards unlisted firm. Joint venture and wholly owned subsidiary and PPP: the preference towards joint ventures by global developers in primarily to mitigate the risk associated with entry in newer and emerging markets. Joint development is another example of joint venture wherein the foreign investors set up an Indian presence and undertake development actively jointly.

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A moderately less preferred arrangement few overseas developers are developing projects on a standalone basis. For example:. Ascendas Pte , Asias leading total business space solution providers , has a significant presence in India with a wholly owned subsidiary , Ascendas India Private Limited. The public private partnership mode is opening various opportunities for overseas developers.

2.2.5 Capital Market of real estate: in order to learn about the opportunities and risks present in the market of real estate , it is very important to study about the investment potential of the various markets of real estate . to know the size of the respective market , we divide the Indian real estate capital into three categories ; total stock which is the overall stock of commercial real estate , the investible stock which is or can become an asset of institutional investors and invested stock which is the current stock owned by professional real estate investors. The commercial real estate stock is USD 300 billion as estimated by the RREEF real estate research and stands fourth in the Asia behind Japan, China and South Korea. The investible stock constitutes only 27% of the total stock and amounts to no more than USD 83 billion. It is due to the fact that in India, the institutional real estate market is still under developed. Invested stock: the increase in investible stock is most likely to increase in the future; however, it is also important to learn out the already invested stock in the market. It usually consists of private debt, private equity, public debt and public equity. The majority of the invested stock is mainly held by privately and the total invested stock amounts to USD 4 billion as estimated by the RREF/DB Real Estate. The share of invested stock is less than 2% of the total stock which also suggests that 98 % of all the commercial property in the real estate market of India is still occupied by its owner. Private debt: one of the most important sources of financing real estate in India is private debt as it accounts for more than 60 % of all institutional real estate investments.

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The demand for commercial real estate lending is increased due to reduction in the interest rates, a vibrant market of real estate and an increase in corporate outsourcing activity. During the past years, India has witnessed an increase in the bank loans for the commercial real estate which is more than 500%. Despite the RBIs desire to slow the credit growth, the credit rate is likely to increase in the future as it only forms a minor role in the balance sheet of banks. Figure 21 :Public capital market

Private equity: Private investors play a very important role in the Indian investment market. Private property companies and individuals holdings of real estate grew by 40 % in 2005. in system of pension fund in India is still poorly developed and also carries a high degree of risk aversion. Private equity is the second largest investor group although its exposure to the real estate sector is very small. Changes in the pension funds asset allocation strategy will mainly be motivated by similar changes in regulation. In its absence, pension funds are expected to keep their big positions in government bonds and other approved securities. The Security Exchange Board of India (SEBI) approved the Real Estate Fund (REF) in 2005. Though, it will be sometime before retail investors actually start investing in real estate funds. The demand for REF is strong and this could be the catalysts for the future development of Real Estate Investment Trusts (REITSs).

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Public debt: The market of public debt in India is still on its early stage in the development process and comprises of outstanding bonds and Commercial Mortgage Backed Securities (CMBC). It is mostly dominated by the Residential Mortgage Backed Securities (RMBS). This has certainly played a significant role in Indian securitization in the past 5 years because of the rapid rising residential sector and low cost of financing. The inexistence of a performance of CMBS market can be explained by investors uncertainty over foreclosures under the Indian legal system and by tax implications associated with securitization. Figure 22: Securitization

Public equity: Neither Real Estate Investment Trusts (REITs) nor Real Estate Mutual Funds exits in India, implying that the real estate public markets are still limited. The only way to invest in real estate in the public market is through listed property companies, but there are only a handful of these companies currently present in the market. Capital inflows and future prospects: Although the capital market of real estate of India is small, its growth momentum so far has been magnificent mainly in the private equity and debt markets. The demand in private equity is mainly driven by the unlisted property -37 --

funds and companies as well as by private individuals. Owing to be deficient in of alternatives, commercial bank lending seems to be the main efficient way of raising capital in India. But both the private equity and private debt markets are also set to mature considerably over the coming years, profiting from further project developments and more foreign direct investment. In contrast, the public markets are set to remain relatively small until the private markets increase in range and more significantly, the broader capital markets undergo important deepening and development.

2.2.6 TAXATION Real estate specific tax provisions A service tax of 12.24% is levied on gross value of taxable services which includes services provided by definite service providers in the process of project construction and property management contracts. Under a particular provision, submissive rental income is subject to a flat subtraction of 30% on income. Furthermore, the provision confines costs that can be claimed against such income to municipal taxes and interest costs. Profit on sale of fixed property is taxed depending on the quality of the assets in the hand of the sellers and whether the asset is a held as a capital or business asset. A business asset is subject to tax at normal corporate tax and other at a condensed tax rate. Normally they are classified as business assets for a developer. Stamp duty is a state level tax and is payable on documents. In case of fixed property stamp duty is paid based on market value of the property at different rates based on nature of transaction either a sale, leases or release. Movable corporations and local bodies are allowed to recover property taxes from buildings urbanized in cities or towns. Tax is based on rateable values fixed based on market value or rental returns. Mehta , R (2006)

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2.2.7 Summery: In this chapter various academic papers as well as secondary research material has been used in order to learn about the current position of the Indian economy as well the deep insight about the market and opportunities present in the Indian real estate investment. Different market segments are studied such as commercial, residential, retail and hospitality along with the outlook of investment opportunities present in each sector. With the increase in foreign investment in the country due to relaxation in the FDI deregulations have been studied in depth. It has been observed that the liquidity in the Indian markets is mainly driven by either private equity such as international investors or private debts in the form of commercial bank loans to the sector .lending by banks is most efficient source for raising capital in India due to the limited alternative investment instruments available in the economy.

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SECTION III: RESEARCH METHODOLOGY AND DATA COLLECTION

3.1 Introduction: In this chapter I shall discuss the methodology used in carrying out my research in detail on the investment performance in the real estate market of India. I shall then cover all the techniques and tools which are used for data collection and to give justification on the use of such specific tools which has enhanced my knowledge on the study of real estate. Lastly I shall discuss the research process in detail touching upon the interview phase.

3.2 Techniques used for Data Collection: My dissertation requires a methodology that allows the use of multiple research techniques to collect data and thus analyze the information thereon. In my research, multi data collection techniques have been employed such as document studies, literature review and face to face interviews with highly professional experts and people related with real estates like investors, developers, consultants, commission agents, dealers etc. In order to make my research more precise I have also studied project related documents such as internal working papers, presentations, meeting notes and reports. Both primary and secondary methods of research have been used in my project to get a clearer view of the market in real estate in the Indian economy. For a deeper insight on my topic, face to face interviews are conducted so as to get a better understanding of the changes taking place in the market. It has also enabled me to find out about the attitudes, thoughts and behavior of the people towards Indian real estate. Research methods of both primary and secondary nature have been used: Empirical data research and analysis Face to face interviews with industry experts

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Empirical data research and analysis: Empirical data research provides various facts about the state of markets and trend analysis gives indication of movement of market in the coming years. The driving forces that effect an Indian economy and returns in real estate are identified in a three factor model. Such analysis will be studied using the economic and regulatory and the demand/ supply in the markets of Indian economy specially the real estate market of India. All the main indicators of economy are identified such as GDP growth, inflation etc. the FDI regulations , government policies , tax policies and reforms that influence real estate are taken into consideration. Demand and supply in market includes the data findings and analysis based on market size and its growth is also studied for the research purposes The above framework allows in developing an overview of the Indian economy and examines the cause and effect relationship of real estate investment returns. Furthermore the various Indian regions i.e. Tier I, II and III cities are also discussed and an attempt has been made to outline the real estate investment market in specific regions.

Face to face interviews: Due to lack of transparency and low quality of data available in the Indian market which limits the findings of the research and therefore does not provide efficient and effective market data to access the state of real estate and Indian economy accurately. In order to overcome such limitation face to face interviews with the people related to real estate have been conducted so as to reach a suitable conclusion. It facilitates in strengthening the analysis made about the reasons that influence future market. Interviews enable to establish rapport with the respondent and therefore also allow observing as well as listening so as to learn about their prospective on looking at things. One of the main factors for me to choose this method is because of the fact that it permits

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more complex questions to be asked from the respondent than in other types of data collection. It widens your knowledge about the particular topic and therefore enables you to get a deeper insight into the topic. Interviews also provide some other useful information as an addition to the questions being asked and enhance your ability to learn from them. NAME Mr. Sukhjeet Singh Mr . Amrinder Singh Mr Rajiv Duggal Mr. Arvind Chauhan Mr. Inder Puneet S . Hardeep Ghai Mr. Pammi Arora Mr.Rajiv Gabba COMPANY NAME GK Real Estate Bonn. Nutrients Ltd Asian Networks Ram Chauhan Real Estate Rise n Shine Agency Ghai Property Dealer Arora Housing Group Gabba Property Dealer DESIGNATION Investor & Commision Agent Property Consultant Real Estate Analyst Director Managing Directer Investor & Dealer Director Dealer & Consultant

3.3 Interview process: a list of real estate investors, developers, consultants and agents were drawn up which comprised of both small regional and local players so as to get a complete picture of the market. The contacts were made through telephones and emails requesting them for an interview slot. Out of all the people contacted from different companies, only eight of them agreed for an interview. I conducted interview from those eight respondents of which three were real estate agents, three were investors and developers and one of them was a property dealer and a consultant while the other was an investor as well as a commission agent. I had a structured a set of ten questions which were asked from the interviewees and were open ended to as to get a deep vision on the topic. It has also helped me broaden my views about the working of real estate in the market of India. I have recorded the data on a tape so as to get all the information provided by the respondents instead of manual notes which can lead to missing out some important information.

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3.4 Summary: This chapter states the techniques and the tools used for data collection. It explains the methodology in detail so as to provide an overview of the whole of research process. The research process has been established for the purpose of drawing up an empirical analysis on this subject matter.

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SECTION IV: EMPIRICAL ANALYSIS 6.1 Analyzing performance of real estate companies by comparing with inflation, interest rates and Sensex: figure 23: Mortgage Rates Vs Real Estate Yields

The above figure is a comparison between the yields of real estate and mortgage rates in Delhi, Mumbai and Bangalore regions. Mortgage rates have been following a declining trend since 2001. the reduction in mortgage rates result in increasing borrowing , which leads to increase in demand and eventually result in higher capital and high rental values and consequently a decline in yields in top cities . Hence, there is a direct relation between the mortgage rates and real estate yields. As the reduction of mortgage rates take place it automatically results in decline in yields in different region with varied proportions. Comparison between inflation and Grade A office space: Figure 23 depicts the relationship between inflation and Grade A office space. It shows the comparison between real estate yields in Grade A office space in Delhi, Mumbai and Bangalore regions. Since 2001, the average yields and inflation rate shows a difference of

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almost 5% between them. Therefore, providing a hedge against rising inflation has reckoned real estate as a low risk asset. Figure 24: Inflation and Grade A office space

Figure 25: 1 year performance of Real Estate sector vs. Sensex

From past one year, the Sensex has been more impulsive as compared to the real estate index. However, after the boom of real estate in December 2006, the index has been more volatile over the last few months, but still performing well even better than the

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performance of Sensex. The rate of interest and real estate yields are negatively correlated which means that increase in the rate of interest results in decline in the real estate yields. Unpredictability has enlarged and the sectors beta has been on an rising trend which states that if the returns on Sensex incline or decline, the real estate returns would rise or fall by higher proportions. Figure 26: Real estate index beta and real estate index vs. interest rates

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Summery of interview findings and implications:

Real estate towards growth of Indian Economy The developments taking place in the real estate sector of India symbolizes the new face of nation and is a reflection of the growth in the economy of India. It is brought about by ever increasing rates of GDP and also by the combination of India with global economy. In recent years, the growth in services sector followed by real estate sector has been a key driving force in the growth of Indian economy. Many experts related with the real estate industry feels that the real estate sector in India is so powerful that it has a capacity to manage growth by itself without putting any pressure on the government. The entry of international investors into India has resulted in demand in for proper infrastructure as per the international standards which have resulted in government making serious efforts to improve the urban infrastructure in the economy. This is also one of the factors which have resulted in growth of Indian economy through real estate sector. The government have already opened construction development sector for FDI so as to attract more inverters globally. Real estate sector in India plays a vital role in the growth of its economy. The participation of private sector in the real estate market is helping in providing the technical and managerial expertise in order to come up with good quality mass housing projects in the different regions in the country. The development in such regions will automatically lead to increasing the state of infrastructure in the economy of India. The real estate sector is helping the Indian economy in order to raise their standards as per the international standards so as to attract huge investors from foreign countries. While the government acts as a catalyst, the real estate is bringing great benefits with it towards the growth of Indian economy. Many state governments have come forward in helping the private entrepreneurs by joining hands with them so as to resolve the problem of severe scarcity of residential real estate in urban areas. In turn it is the duty of the government to improve the state of financial and capital markets of real estate so as to strengthen the position of Indian real estate which in turn provides hug returns not only to the investors but also to the economy as a whole. -47 --

Supply / demand in real estate Several economic fundamentals are pushing the growth of real estate sector in the economy. This growth is mainly witnessed due to increase in the internal consumption and demand from foreign countries. The demand in Tier I cities is highly preferred only with those partners who are experts in this field such as a right developer. The key point is to find the most attractive location in order to get high returns. These cities have emerged out to be highly developed and the prices have already increased to a large amount. India is witnessing a shift in its demand for investing in cities from Tier I to Tier II and III cities due to immense amount of benefits been provided by these cities towards real estate investment. These cities are turning more stable as compared with Tier I cities and are providing quality human resource and reduction in their costs. As a result they provide more opportunities which are highly profitable for opportunistic funds. The increase in the rate of service sector mainly in the IT/ITES sector is providing high revenues which clearly show a growth in the real estate sector. This sector is one of the primary driving forces which have resulted in increase in demand and supply in the market of real estate. Almost half of the service sector is formed by the IT/ITES industry which has greatly influenced the market on real estate and therefore, continues to be a major driving engine for the growth of demand and supply in the Indian real estate market. The residential sector in the market is suffering from the good quality housing projects. The increase in the rate of urbanization and the emergence of 1st and 2nd home buyers has resulted in creating major opportunities. Although the development in retail sector has taken off considerably but it still requires a proper infrastructure and a well planned mall developments in major cities like Gurgaon which are unorganized. However, the retail sector is starting to show signs towards its development process. Special economic zones (SEZ) present main tax breaks for investors and has experienced key investment through the automatic route in Greenfield projects that are FDI complaint. a lot of SEZ have still to be permitted by the government and are expected to supply 33 million sq ft in the coming years. Nevertheless with the large number of emerging SEZ, the government is

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being careful in approving to certain states such as Maharashtra that already has approved 600 Special Economic Zones. The India is at its rising stage in the real estate sector with its rapid growth, high returns, policy liberalization and the decline in its price rate should not be considered as its downfall. The real estate sector in future is likely to grow which backed by strong underlying macro fundamental. Real Estate Market: An Attraction for International and Domestic Investors India is a spectacular nation attracting many souls to its shores for tourism, business and adventure. Real estate investors find it very attractive to invest in this country due to the stability in the government structure, natural attraction and its booming economy. It will continue to be a hot spot for international as well as domestic investors. The stability in governments structure in India has fueled the confidence of property investor .the overall system of India is completely different than the system in UK. Investors are familiar with the system and it gives them better understanding about whatever happens on the local political front where they invest. India remains very stable even though there are some ups and downs in the political climate. As a result it proves to be great booster in the confidence for investors who are looking to buy property in India. Due to its attractive exotic destinations and well-known sights, India has drawn many travelers from all over the world towards investing in the country. It has always been a favorite for the British holidaymakers and large number of tourists is also seen from other countries as well. The investors are getting several benefits by making a purchase in the Indian property as they receive high returns with rentals to tourists. Real estate investors are seen with the return of more than GBP 1000 per week during the peak periods which is likely to increase over the period of time. India has made it very easy for the tourists from all over the world to enter its premises with more than 20 international airports. As a result many investors are confident about their properties being accessed easily by the holidaymakers .some of the airlines also offers reasonable rates for the tourist who are flying into and out of main European airports in India to international airport destinations.

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The overall cost of living in India is considered much more affordable as compared to UK or USA. the food or clothing which is not imported , the basic necessities , day to day activities and lifestyle constitutes less expenditure and therefore enable the international investors to make huge profits by buying a property or simply by letting it . India has a much diversified geography which attracts many visitors and buyers and makes it a sound choice for investment while buying property.. It makes India very attractive especially to those investors who desire a lot of property based options. The present exchange rate between the Indian rupee and the British pound is very beneficial for British investors. The prices of Indian property are very attractive especially when the exchange rate is taken into consideration. Investing in real estate has become very easy due to low interest rates provided by the banks. Low interest rates have made buying property in India a favorite for those investors who require financing. It is the ease in finding the property which is kept for sale and continuous increase in the growth of Indian economy which makes an investor favor India. The increase in employment and higher salaries being offered makes India an attraction for buy to let properties to domestic as well as international investors. Booming economy of India greatly attracts the investors towards investing in the property market for India. The growth in the Indian economy proves to be very beneficial for the investors as it provides them with a huge potential for expansion and overall development. Another such attraction provided by Indian real estate to its investors is the high returns on investment. According to the Indian property show, rental yields in the commercial arena can reach 10.5%. Not only the commercial sector but high returns for investors are also promised by residential market. With Increase in globalization due to major corporations opening headquarters in the market and rise in tourism, rental returns from city based flats or from hotel industry tend to make the investor satisfied with the returns on their investment. The overall steadiness of real estate market makes India very attractive.

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Role of Government in Real Estate Sector: Government has played a crucial role in the development of Indian real estate with the liberalization in its regulations and policies. It has helped in providing a lot of options to the investors and investors are now free to buy or sell any land or property with lesser complications than before. Government is taking essential steps in improving the infrastructure so as to make it reach the international standards which will result in attracting more international investors. With the decrease in the interest rate, investors can now purchase more of a land with ease and make it a profitable investment as the returns are much higher than the interest rates being charged by the banks. All such policies that have been adopted by the government have greatly influenced the demand and supply in the real estate market which has resulted in more liquidity in the economy. real estate industry experts also states that the role of government only remains till the property in kept unsold , when the land is brought up by any investors , all the responsibilities than move up to that particular investor. The role of government does not much play much importance to the small investors but their significance is highly felt by the major industry experts. The government has moved towards urbanization has is taking major steps in the modernizing other areas of regulation impacting real estate .one of drawback as stated by one of the agent was the unorganized system in the real estate market in keeping the record of land ownership and title. Government needs to take major steps in order to organize this market so as to reach up to the global standards.

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Future of Real Estate According to the real estate experts, the anticipation of getting higher returns in the US combined with low price of asset, distort the risk-reward balance in opposition to real estate markets of India. Therefore, this can result in international investors to avoid the real estate market of India. For example, the pension funds in US have the opportunity to invest in India or other markets as these are existing properties. , the absence of political or currency risk and the expected rate of about 18-20% returns in the US make it very attractive for investment and they are not mainly eyeing for extra 5% they may realize investing in India . Taking into consideration the high risk that the investors have to face in India; this small additional return seems to be quite inadequate. This might be an impulsive phase but it can result in investment decisions taken against the real estate market of India. There are large number of doubts that prevails in the mind of the investor and several questions are unanswered which has resulted in cancellation of deals between India and international investors. Citi Venture and AIG backed out of a future investment of Rs 1500 crore which was to be made in Mumbai based real estate developer Akruti City in April . There is a hindrance because of slow decision making process by the PE majors. According to the experts the reason is simply the insecurity among the international investors. However, developers are beginning to recognize the reality and are now coming with better terms and condition. This is clear from the financing terms that they are accommodating nowadays with the growing demand of economy. The coming year could lead to more confusion within the investors in the real estate market, as inflation would raise the rates of interest rates. Shortage in financing for oil subsidy is also likely to place the economy in much tension. And thus real estate in India is all set for a tough time which indicates an end of those days that brought extraordinary profits for the investors, and real estate developers would be force to price their products affordably. Further, the enthusiasm to purchase would decrease and as a result the property prices of India would be corrected. The aggressive land purchasers, having a propensity to purchase lands in large scale will definitely be in a reserved mode for insufficiency of fund.

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However, Real estate in India still has huge potential and will continue to grow in the next few years. Investing in property now looks safe due to favorable position and boom in real estate as the government has liberalized its foreign direct policy in order to attract international investments. India is witnessing an increase in the price of its property since last few years in several regions in the country. And as predicted by most of the interviewees, the future of the real estate is bright even though it lacks certain elements in its market.

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SECTION V: KEY RISKS AND CHALLENGES 5.1 The risks to the Indian economy Political risk, US economy Impact and Terrorism: Considerable differences have arisen between different parties of the ruling association government. A state in which one of the political parties withdraws support for the congress could cause a stock market correction. The US is facing the risk of a recession because of the sub prime credit mess. This impacts spending of the international investors which will limit the inflows of FDI into India. Instability in neighboring Pakistan and terrorism will always be a risk for the Indian economy. High oil prices and stronger rupee: One of the main risks faced by the Indian economy is the increase in oil prices. Oil prices are hovering at $88 a barrel. In order to feed the growing population in India, it needs to import large amounts of oil from the Middle East and other nations which produces oil. For accommodation small businesses like transportation companies, oil is subsidized in India. It is also used as a tool to control inflation in the country. When the price of oil goes higher, the government then is forced to pass on this cost to the consumers which results in increase in price across all the board. The rupee has been gradually strengthening against the dollar. This has made Indian exports costly in foreign markets vis china whose currency is falsely pegged to the dollar. This trend is adversely disturbing businesses in export. The Indian IT industry which has been the large drivers of job creation and contributor to the rising middle class is facing ever-increasing pricing pressures which could transform to considerable layoffs.

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Real estate valuations and stock market correction: The real estate valuations in India are very high. The growing popularity of real estate in India has led to the credit boom in the economy. The RBI is also very concerned about a credit boom. The lendings by bank to firms and households are increased by 30% over the past year. On commercial property, lending is up by 84% and 32% on home mortgages. A slowing world economy would potentially decrease foreign investment in the Indian real estate sector. A price correction here will direct to slower spending of customer. Job losses in other sectors could potentially cause a credit crunch like the US credit markets. A man from India, (2007).The stock market in India has enjoyed an excellent position over the last five years. A correction here will reduce the consumer spending and will impact the overall consumption of Indian economy. This would also decrease FDI inflows into the stock market which will further result in the reduction in the market of stock.

5.2 Risks in real estate investment Despite the magnificent growth in the real estate market, there still exits several issues that act as constraints to global investor activity. As per the international standards, the sector still lacks maturity which results in foreign investor to loose their confidence. Capital market constraints: market liquidity of real estate is continuously increasing but its participation through capital market still needs to be taken into consideration. Domestic institutional investment is still comparatively small, and pension and insurance funds are restricted from investing directly in real estate. Exit routes therefore need to be assessed at the time of investing.

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Ownership and land title issues: Ownership and land title issues lead to reduction in the investment opportunities. One of reason for this decline is that a huge proportion of land holdings do not possess cleat title deeds and families and individuals mostly hold the private land which results in unorganized dealing and the hindrance of title transfer. There is a rising tendency for investors to decrease title risk by securing insurance of title generally being structured by insurance companies Transaction costs: Increase in the cost of transaction results in the reduction in direct investment. Current transaction related duties boost transaction costs considerably. Stamp duty paid by the consumer on direct acquisitions of real estate assets which can be as high as 10 12% in a few states , encouraging investors to take the SPV ( Special Purpose Vehicle ) or company equity routes , thus reducing purchase costs to as low as 0.5% of the asset value . Stamp duty is set at state level, and further rationalization of stamp duty is mandatory. At present, it ranges from 5 % in Maharashtra (i.e Mumbai) to nearly 10 % in Karnataka (i.e. Bangalore). (Edelwiees securities) Slow development processes The development approval processes are generally slow in the real estate market and also lacks transparency. It also differs from various sectors and states. I order to convert the agricultural land or industrial land into commercial or for residential purposes; it takes a long time for this conversion which is also very expensive. For this purposes many developers now prefer the special economic zone which constitutes of proper window system and hence make it comfortable for the investors. The Urban Land Ceiling and regulation act (ULCRA) , the historic legislation which was introduced to prevent profiteering , has been repealed in most states , but gradually is

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limiting the market development in states such as Maharashtra , Andhra Pradesh and West Bengal. Liquidity, Regulatory and property market transparency risks: The market of investment is in its early stages which make a challenge to the investors in order to find an appropriate investment product. In terms of property ownership permission from the Reserve Bank of India is required for foreign investors in terms of property ownership. Investors need to apply for approval from the RBI for capital repatriation, and foreign direct investment is limited to a limited set of opportunities (e.g. townships).Lang, L (2006) Jones Lang Laselle (2006) rates the Indian property market transparency as low in its international transparency survey from 2004. Even though market transparency has improved immensely, it is still hard to get consistent and steady information on the Indian property market. There is still a shortage of quality labor force and it requires a proper valuation system even in Tier I cities.

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SECTION VI: CONCLUSION AND RECOMMENDATION: The growth in the economy of India is mainly driven by a combination of positive macroeconomic fundamentals. The rise in the rate of consumption has also resulted in Indian economy to witness magnificent growth. Apart from the real estate sector, other areas such as banking, capital goods and telecom have gained momentum over the past few years and are likely to do well in the years to come. Such sectors provide investors with profitable opportunities. The increase in domestic income levels and regulatory framework which is favoring the economy, India has become an attractive destination for investment. SWOT Analysis of Indian Economy: Strengths: Favorable demographics Continuous improvement in education system and training Positive birth rate Improved regulatory framework Weakness: Poor infrastructure Basic needs of many Indians remain inadequate inefficient public services 50% of women in India are illiterate large budget deficit increase in inequality

Opportunities: An attractive destination for international investors Benefits from globalization Increase in quality of workforce Provide investors profitable opportunities Real estate , banking , telecomm and capital markets provide significant opportunities

Threats: Amount of lendings has increased by 30% during the last few years. Inequality has lead to more and more Indians to fall under the poverty line Corruption and terrorism Increased inflation Higher oil price and strong rupee

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The significant economic performance of India has resulted in attracting the worlds attention which is brought about by the process of liberalization and its opening up to the world economy. All the market segments in Indian real estate have huge investment opportunities and shows massive potential. The speedy growth in the population rate, increase in the number of qualified workers, greater integration with the world economy and a rise in domestic and international investment are fuelling demand for office, retail and residential property. Investment in real estate is proving the investors with positive returns due to increase in the rental values and reduction in the rate of vacancy. PEST Analysis of Indian Real Estate Sector: POLITICAL FACTORS: Governments regulations and policies in favor of real estate sector Heaviest tax imposed on the construction industry FDI experience in Indian real estate market ECONOMIC FACTORS: Controlled Inflation levels Low Interest rates and high returns on the investment Provides further liquidity SOCIAL FACTORS: Increase in per capita income Increase in average salaries Increase in consumption Urbanization Rise in demand for quality housing projects TECHNOLOGICAL FACTORS: Impact of internet revolution Media

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Investment opportunities are found in all the market segments such as commercial, residential and retail mainly in the Tier II and Tier III cities. India has been witnessing a huge demand in the office blocks due to the popularity in IT/ITES sector. Tier I cities are already exploited by the first mover opportunistic funds and are considered with very limited opportunities. The price of the property in these cities is already very high and is experiencing competition with many investors in the real estate market. For the risk taking investors, Tier II and Tier III cities are the better options to make an investment. It is because of the fact that these cities provide better returns due to the expansion of IT/ITES sector which are increasing the demand in the space market. Now days experts who are related with the real estate industry firmly believe that the Indian capital markets, do not offer liquidity in demand and supply. It is the rise in the confidence of the investor which is growing momentum in stock markets. There has been an increase in the lending capacity in the debt markets. Increase in the investment by international as well as national investors, the demand in the real estate market is continuously rising. Indian capital markets are noteworthy for level of development, volume of trading and amazing growth potential. An increasing trend of companies reformation, selling non-core business assets and expanding businesses is increasing the supply in the real estate market. This abundant liquidity on the supply side is very essential especially when the markets are growing, so investors can avoid risks which occur due to few products available in the market. The liquidity on the demand side offers more exit options for investors. The government of India needs to speed up in the process of improving its urban infrastructure. The development of urban infrastructure is the key task for the coming years. The lack of infrastructure is the major drawback hindering the growth of the Indian economy. The government requires additional funding and must take essential steps to improve the infrastructure which will also make an impact on the real estate. The governments various steps with regards to improving overall infrastructure will provide many benefits which will be seen in the near future that will have a positive impact on the realty sector and investment returns.

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In India, further opening to FDI is desirable. The international investors have the means to finance new construction projects. They also hold enormous skill in market analysis, facility management and building construction. As a result this will enhance the economy of India and will act as catalysts to bring greater transparency to the Indian market. India should make further efforts in order to attract more and more international investors. India lacks a proper base for capital market and needs a stronger capital market base for property financing. The introduction of REITs and real estate funds points in the correct direction. The opening of REITs in 2007 will give international investors in particular a familiar investment vehicle. Private investors could also enter into indirect investment in real estate. Although interest in new products is most likely to come mostly from institutional investors, the increasing middle class is expected to seek new instruments aside from direct property investments in the medium term.

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References: Allen, M., Madura, J., & Wiant, K., (1995). Commercial Bank Exposure and Sensitivity to the Real Estate Market, Journal of Real Estate Research, vol. 10(2), pp. 129-140 Buckley, R., (1994). Housing Finance in Developing Countries: The Role of Credible Contracts, Journal of Economic Development and Cultural Change, vol. 42(2), pp. 317332 Chan, K., Hendershott, P., & Sanders, A., (1990). Risk and Return on Real Estate: Evidence from Equity REITs, Real Estate Economics, vol. 18(4), pp. 431-52 Das, G. (2006). The India Model, Foreign Affairs Magazine, vol. 85(4), pp. 216 Dani Rodricks, May 2007, the financial globalization debate, played out in India, David G.; Norman G, 2001, Commercial Real Estate Analysis and Investment, South Western Publishing, pg 23-38,104-150 December 2007, The Risks to the Indian Economy A Man from India, India. Economy of India http://www.indianchild.com/economy_of_india.htm as on 10th August 2008. Ernst and Young, Real Estate Market and Opportunities Indian Brand Equity Foundation, India Fortune Magazine. (July 10, 2006 issue). Indian real estate: boom or bubble? Downloaded from http://cnnmoney.com as on August 5, 2008 Goldman Sachs, (2003). Dreaming with BRICS: The Path to 2050. Global Economics Paper, no.99. Gupta Pooja , (2006) , Analysis of the Indian economy for investment opportunities from the perspective of a foreign private equity firm , with a special focus on the real estate sector Cranfield University . Hesketh, E., & Laidlaw, J., (2002). Developing the teaching instinct 2- Supervision, Medical Teacher, pp. 364-367(4), vol. 24 Hugh E. (2008) Indias Inflation, Capital Inflows, The Rupee and Macro management Problems Global Economy Matters, Barcelona.

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Hugh E. (2007) The Rupee, Wheat and Various India Economy Watch, Barcelona. ICICI equity research, Indian real estate sector (2007) Indian Economy 2008 http://www.economicshelp.org/blog/economics/indian-economy2008/ as on 5th August 2008 Indian Reality News http://www.indianrealtynews.com/real-estate-india/real-estatefacilitating-indian-economy-growth.htm as on 8th August 2008 Indian Real Estate Market: An Insight, Global Press Release Distribution, India. India GDP http://www.iloveindia.com/economy-of-india/india-gdp.html as on 20th August 2008 Indian Venture Capital Journal, Indian Banking and Financial Services, Volume 1, Issue 4 January 2008 Review of the Economy Economic Advisory Council to the Prime Minister, New Delhi, India. Jha, R. (2004). The Political Economy of Recent Economic Growth in India. ASARC Working Paper 2004/12. Jones Lang LaSalle, New Investment Mantra understanding risks and return in Indian Real estate sector, 2006 Just T (2006), Building up India Deutsche Bank AG, Frankfurt, Germany Jugale V. (2006), The State of Indian Economy Serials Publications, Vol 4, India Kaplan, B. & Maxwell, A., (1994). Qualitative Research Methods for Evaluating Computer Information Systems, Evaluating Health Care Information Systems: Methods and Applications (Paperback), Sage Publications, pp. 45-68. LaSalle, J L (2006), a Real Estate Investment Future, India Lanthier, E., (2002). Psychology Research Methods. (Online) Downloaded from www.nvcc.edu/home/elanthier/methods March 2008 Indian Economy to slow to 8.1% in 2008-09 Indian Express Newspapers, Mumbai, India Marriott J W (2008), Building Wealth Real Estate Investment World, Mumbai, India. -63 --

Mehta, R (2007), A study on the Indian Real estate Market for Investment: A qualitative Approach University of Nottingham. Monthly Economic Analyses Fortune 2008 http://indiainbusiness.nic.in/businessnews/news-bulletin/monthlyanalysis-april_08.pdf as on 12th August 2008. Nicholson M (2008), Future of Real Estate Market in India, Singapore. Problems Facing Indian Economy http://www.economicshelp.org/indian/problemsindian-economy.html as on 5th August 2008 Real Estate in India http://www.indianground.com/real_estate_india.aspx as on 21st July, 2008 Saini, N (2008) , future of real estate market in India,ezinearticles.com Sanjay Verma, June 2006, A mature property sector opens the door for capital markets, SwaminathanSAnklesariaAiyar, January 2007, India booming: Cyclical or sustainable, Economic times Saxena S (2008) Real Estate Investment in India Real Estate News and Opinion, India Sivam, A., & Karuppannan, S., (2002). Role of State and Market in Housing Delivery for Low income Groups in India, Journal of Housing and the Built Environment, vol. 17(1), pp. 69-88 Sreejith, P., & Raj, J., (2007). Organized Retail Market Boom and the Indian Society, Consumer Markets and Marketing, Part VI, pp. 603-612 Strengths of Indian Economy http://www.economicshelp.org/indian/strengths-indianeconomy.html as on 5th August 2008 The 2008 World Fact Book http://www.theodora.com/wfbcurrent/india/india_economy.html as on 30th July 2008 UBS investment Research, Indian property Boom, September 2006

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APPENDIX I:

INTERVIEW QUESTIONS:

1. What are the key driving forces of growth in Indian economy? 2. Why has India become an attraction for both international and domestic investors? 3. What is the role of Real Estate towards the growth of Indian economy? 4. What is the scope for Real Estate segments in India? Can you suggest the demand / supply dynamics for the Indian real estate sector? 5. Which category of Indian cities has the greatest scope for investment in Real Estate Tier I, II and III? 6. What is the role of government in the development of Real Estate market in India? 7. What are the policy level barriers to growth in certain sectors? 8. What are the investment opportunities offered by Real Estate investment? 9. What are the problems that are most likely to be faced by Real Estate sector in India? Can suggest ways to overcome such challenges? 10. What do you think will be the state of Indian Real Estate in coming years?

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APPENDIX II: Key Players of Indian Real Estate

Source: E&Y

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APPENDIX III: International Funds in India

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