Private equity (PE) funds are looking to snap up more office space, with the segment having done well in 2015 and in the hope REITs (real estate investment trusts) will soon take off. Marquee players like Blackstone have already accumulated a portfolio of close to 30 million square ft of commercial space. Now others such as Kotak Realty, Piramal Asset Management, Brookfield Asset Management, Macquarie and Milestone are shopping for property.
If industry sources are to be believed, Kotak Realty might soon team up with a Bangalore based company scooping up ten million square ft in the process. Piramal has set aside `5,000 crore to invest in commercial properties in FY17 while Milestone is in the process of raising `500 crore to do the same.
However, while money will move in, risk may not. Experts say purchases will be funded via structured debt rather than equity and while a few pedigree players may attract equity, fund managers will be largely cautious. Khushru Jijina, MD, Piramal Fund Management confirms his firm will fund projects primarily through construction financing and senior secured debt. Players like Piramal can be more competitive than banks who charge builders interest rates in the early teens.
“We can offer customised repayment schedules, flexible interest servicing and work around other rules that banks are forced to to adhere to,” Jijina said.
Last year, 72% of total transactions were financed by structured debt with the residential piece accounting for the bulk of the money. This time around more mezannine financing is likely to be seen in the commercial real estate segment. That unfortunately is not good news for a whole host of companies which, according to Rajeev Bairathi, ED, capital markets, Knight Frank India, looking to deleverage and need equity.
Meanwhile, a clutch of smart developers — K Raheja Corporation, DLF, Divyashree Developers and Prestige Estates — is quickly consolidating positions in projects so as to extract a better prices from PE funds. There have been at least two instances, in the last few months, of promoters buying out partners and putting together a pool of income generating assets. Such portfolios, they feel, will be more eligible for both PE players and a REIT listing.
Meanwhile, given how investors such as Blackstone, CPPIB, GIC, QIA have been actively scouting for commercial developments, cap rates in the sector have come off, driving up valuations. Cap rates, industry experts say, have been falling over the past two years from approximately 11% to 9% for Grade A developments, making commercial real estate an expensive proposition. Vikas Chimakurthy, director at Kotak Realty points out, however, that while cap rates for built-up projects have fallen, there are opportunities in acquiring properties that half- built and in need of last mile funding. According to the management at Milestone, it will choose assets that can deliver a 12% IRR on investments and rental yields of 15% over the next three years making Bangalore and Mumbai the best hunting grounds.
CBRE recently reported that 38 million sq. ft of gross prime office space was absorbed in 2015, the highest in any year. Bangalore led the way followed by by NCR. Rental values in the CBDs (central business districts) were stable, with the exception of Pune and Bangalore, which saw an appreciation between 5% and 20% annually in some micro-markets. According to Cushman and Wakefield, in value terms, 30% of the total USD 3.96 bn that was invested into real estate by PE funds was made in the commercial sector.