Stay away from debt-laden realty companies

Last Updated: Sat, Sep 07, 2013 04:42 hrs

Real estate developers are set to face a liquidity crunch yet again. Over the past week, the sector has been hit with two developments - the passage of the Land Acquisition, Rehabilitation and Resettlement Bill in Parliament and the Reserve Bank of India (RBI) cautioning banks on innovative home loan products. Both measures will impact the financials of real estate developers in the short and medium term. RBI's notification will curtail the flow of cheap money to builders and put the cash-strapped ones in a corner. The new Land Acquisition Act will, of course, make land much more expensive.

For starters, the new land Act will impact companies that have to acquire large tracts from private parties. One company which would be affected is Mahindra Lifespace . According to ICICIDirect, there could be some delay in the 750-acre North Chennai SEZ project, for which the firm has already acquired 500 acres. However, the project's contribution to the overall valuation is minimal. The Act would require companies to pay compensation of four times the market cost of the land if in rural areas and twice the market rate in urban ones. It would also require the consent of at least 80 per cent of landowners for tracts over 50 acres in urban and 100 acres in rural areas. However, developers are under the impression that the acquisition of land, below 50 acres would not come under the purview.

The sector will see a more immediate impact with RBI's discouraging of loan products where the developer gets the money upfront from a bank even before construction starts and the buyer pays only 20 per cent upfront. RBI has now linked disbursal to construction progress. Developers could suddenly be faced with a cash crunch and this could result in prices coming down in areas such as the National Capital Region and Mumbai. According to Citi, the ban will impact the already-weak residential demand and adversely impact the cash flows of levered developers such as DLF. Going by the uncertainties, analysts continue to recommend companies such as Sobha (with a comfortable leverage position), Oberoi (debt-free) and Mahindra Lifespace (with a debt to equity of 1.1x).

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