?Buy land, they are not making it any more,? said Mark Twain a long time ago, surely not in India or anywhere else for that matter. But the asset bubble seems to have burst. Blindly investing in real estate thinking that land is finite in supply might not be advisable at the moment. While there will be corrections and recoveries and even growth in certain properties, the time for secular growth is behind us.

Therefore, the need to be careful while investing in real estate is important. Now, you could choose the direct method or a via media through several private funds available in India and overseas. But the critical factor to remember is that transparency in India, for real estate deals, is still dismal.

Transparency factor

The 2008 Jones LangLaSalle transparency index made on a few key factors, namely, performance measurement, market fundamentals, listed vehicles, legal and regulatory environment and transaction process was recently released.

While Indian players may have chosen to boost their egos over the fact that our tier 1 cities have shown some improvement, further scrutiny in the matter shows us where we truly stand. While agreeably transparency in these cities have increased over the last two years, where we rank in the world, or even among other BRIC or Asian countries leaves a lot to be desired.

While India Tier 1 cities have had a change in score of 0.20, the fact remains that we are the 18th biggest movers and Brazil, Russian, China among other emerging markets have improved far more. So a movement to Dubai, even if rates are high, might be interesting purely because there exists a high degree of transparency.

Looking at the overall performance levels, India Tier 1 & 2 cities stand at the 50th and 52nd rank, while our Tier 3 cities are 62nd, this out of a total of 82 countries rated and ranked. While we have made progress no doubt, there is still a lot to be done if we wish to stand up and be counted in this large world of real estate. India’s Tier 1 cities have currently shown improvement, but unfortunately still rank below the other BRIC nations.

Vikas Aggarwal, senior VP ICRA, a rating agency adds, ?Transparency levels in real estate are very low. This is an issue that needs to be addressed and transparency in terms of carpet area and property area, time of delivery, penalties if failure to deliver, accounting and finances should be looked at very seriously. However, the reason this level has even increased over the last few years is due to an inflow of private equity money into the real estate sector.?

He mentions the need for black money transaction to be removed. The main reason for their occurrence is the high stamp duty one has to pay here, Aggarwal adds. The need for buyers to be more careful while transacting is now important, as there will be a lot of mouth watering deals coming your way, says a real estate agent.

Real estate investors need to be aware of several structural factors that could impact their wealth growth. Balaji Rao, managing director, Starwood Capital says ?During the boom years had we concentrated on infrastructure, growth and development, rather than land banking, private banking and the likes, we would not have been in this uncertain position. Mumbai office property prices are comparable to New York’s Manhattan. However, India’s floor space index or FSI remains 1-2, while they have an FSI of 20-30 in New York”. So Mumbai rates could be affected if there are changes in the FSI and rates could be impacted further. There are other areas as well, which could be impacted.

If you are investing in funds that are focussed on real estate, you might be presented with some amazing valuation numbers. A lot of land and property is being valued by future expected sales derivative modules. A property worth two crore will often be valued at 50, says an industry observer. ?If the supply were to improve and meet requirements like it has the potential to do so, the norms ease up and become more practical and sensible, transparency were to improve, which in turn will bring in larger investments, one might finally see the real estate sector coming to some sort of global standards” explains Balaji as some of the reasons for our low rating.

Tread carefully

In a country where archaic laws, land banks, disappearing builders, high interest rates, ridiculous taxes, and swinging prices rule the roost, treading carefully in the world of real estate is advisable.

Amongst the many laws that have been steadily ruining this nation, the 1976 ‘Urban Land Ceiling Regulation Act’ is one amongst them. This act, which is still applicable in many states, was originally designed to ensure a more equitable distribution of land. However, this hampered the process of sale and reuse of urban land that they ended up helping in raising land prices. One of the Act’s main provisions includes setting a limit on the ownership of vacant land, so as to provide cheaper land to poor communities. As such, the Act gives power to state governments to acquire any excess vacant land above the limits set by the Act, to regulate the transfer of ownership of the vacant land, and distribute it according to the common good. Under the Act, individual states are authorised to grant exemptions depending on the category of land. However, all this act ended up doing was to give too much power to state governments, lock up large portions of land in never-ending legal battles resulting in an unduly low supply of land for housing and development, and boosting land prices, particularly in the larger cities.

Then there is the stamp duty of 5-14%. This is high when compared to most countries around the world have a duty of barely 1-2%. High stamp duty coupled with property taxes, have caused many buyers from shying away to register their property deals, says experts.

So the need to be careful while transacting becomes important. Transfers through the ‘power of attorney’ route are increasingly common, and is another used trick by investors. This too only adds to the already opaque nature of our real estate markets since even tracking deals has become a challenge.

Most builders still have a very high cash transaction ratio. This not only undermines the paper value of the property you buy, but also puts you through the trouble of having to come up with large amounts in cash, sometimes as high as 50-70%. These cash-based transactions are typically routed through various shell companies.

In India, one never knows till the fat lady sings, if a property deal is finalised or not, says a real estate guru, not wanting to be named. Buyers very often invest money on undeveloped and developing projects of builders, as they are able to acquire the property at a cheaper rate, then when the project is complete. While this is essentially a punt taken by many investors, in the current scenario doing so is ill-advised.

A multitude of approving agencies for planning permission also boosts costs and adds time to development. While this is one of the reasons to be careful, more importantly in today’s real estate scenario, there are major changes taking place. With these changes, most of the smaller and medium-sized developers will be sidelined and may all together be eliminated.

Rakesh Valecha, senior director, FitchRatings says, “Today the tightening bias of India’s monetary policy, together with slowing demand and growing liquidity concerns, could have a negative impact on the credit profiles of real estate companies. While this happens, the slowdown could actually aid the process of weeding out some of the weaker entities within the sector, and increasing the relative strength of some of the larger more established developers, Valecha adds.

The liquidity risks on account of significant bullet repayments falling due during the course of 2008 remain a key challenge across the board. However, larger, established and well capitalised companies with access to banks and financial institutions would remain better positioned to manage this risk. This is something you must look at while investing in real estate, especially with small-sized developers.

Conversely, some of the smaller players may end up either refinancing these at materially high rates of interest, or could default on their obligations. With access to capital markets likely to remain limited at the parent level, monetisation of SPV level stakes by attracting private equity participation would remain a key for managing overall funding and liquidity requirements, says Valecha.

“A prolonged slowdown could also reduce the appetite of private equity. While investors should continue to closely monitor the developments in the sector, and take appropriate action where necessary, the short-term outlook is negative,” he concludes.

The land title monitoring system is not a symbol of efficiency, so making sure that all dealings with them go through smoothly is something that one must be weary of.

Carpet size is another unclear area where developers dupe buyers who have not verified the sizes given to them. Also, land valuation is something that is not done properly here, most builders value their land as per the expected future return the land can get based on what is constructed upon it, rather than by valuing land from an independent land valuing agency.

Falling prices

With real estate prices set to ease, prospective land owners, home buyers and commercial space buyers have a lot to look forward to. Looking at alternate locations for property or waiting for the next two months in which this correction period is expected to take effect, will also be a prudent choice.

Real estate shares have had a major setback this year. The Realty Index has fallen 62% since January 1, against a 31% drop in the benchmark Sensex. A dozen of the 14 property index stocks, including DLF, Indiabulls Real Estate, and Unitech, have more than halved this year. A decline in demand has already prompted DLF and Unitech, the largest developers, to delay selling shares in investment trusts in Singapore.

?Property developers hit by falling sales and liquidity issues would need to reduce list prices to enhance demand, but many still seem to be holding on to the asking price.

This would delay the process of recovering demand and increase the risk of liquidity pressures. The sharp increase in construction costs, driven by increased steel and cement costs could also impact margins and, hence, liquidity.

The risk would be higher for real estate companies with a limited track record and limited cushion for debt financing. While banks have taken a restrained approach to funding real estate developers, we expect some of the more established developers to continue to enjoy access to the loan market. Only large players with an attractive portfolio of ongoing development and an established track record are in a position to attract capital through the private equity route,? says Valecha.

With many players expected to exit the markets in the coming time, which will appear on top is a question that still looms large. However, rather than punting now, awaiting for this mucky sector to clean its act up, and get things together before taking the plunge is for the best.

Transparency issues, land banks, speculations, high interest rates, stamp duties, low planning and infrastructure, overall bad governance and unscrupulous builders have left this industry with a lot to be desired.

It is a good foundation that holds one in steed during hard times, and a lack of it leaves one in shambles. This is more than evident as seen in our Indian real estate and it will take some serious effort for us to pick up the pieces and get real estate back on solid ground.