Mumbai real estate is like a super-expensive Maybach-what we need are Tata Nanos

01-Mercedes-Maybach-1180x686The Financial Express had a very interesting newsreport on the super-luxury real estate market in Mumbai, a couple of days back. As per this report around 5,000 upmarket flats in Mumbai that are built and ready to occupy, have not been able to find any buyers. 

And how much do these flats cost on an average? The Financial Express estimates that each of these flats costs at least Rs 10 crore. Hence, the total market value of these unsold flats is at least Rs 50,000 crore. That clearly is a lot of money. 

As the newspaper points out: “Sales are tepid in central Mumbai – Lower Parel, Mahalaxmi, Prabhadevi and Parel. In these areas, the apartment sizes are typically between 4,000 sq ft and 7,000 sq ft accommodating three, four and five bedrooms. At the very least, they cost Rs 10 crore or approximately Rs 25,000 to Rs 30,000 per sq ft.” Interestingly, anyone who has moved around in this area would know that there are many other properties still under-construction and will hit the market over the next few years. So, this oversupply is unlikely to go any time soon.

In fact, super-luxury is not the only segment where sales are slow. Liases Foras, a real estate rating and research firm, estimates that the Mumbai Metropolitan Region has 46 months of unsold inventory of flats currently. “Months inventory denotes the months required to clear the stock at the existing absorption pace. A healthy market maintains 8 to 12 months of inventory,” Liases Foras points out.

Further, the sales velocity or the ratio of monthly sales to total supply currently stands at 1.05% in Mumbai. Liases Foras considers a sales velocity of 2.75% optimum as it translates into a gestation period of 36 months. And despite the slow sales, launches of new home projects have remained on a firm footing in Mumbai. 

During the period January and March 2015, the Mumbai Metropolitan Region witnessed new launches of 18.16 million square feet. This amounted to the second highest new launches ever-the highest having been in April to June 2010. What is interesting is that the new launches form around 9.5% of the total unsold space of 192.27 million square feet. 

Within this total unsold space, the maximum is for flats which are priced at Rs 2 crore or more. 62.06 million square feet of home space remains unsold in this category. This is around 32.3% of the total unsold inventory of flats in Mumbai. 

The weighted average price of a flat in the Mumbai Metropolitan Region is around Rs 1.3 crore. Banks and home loan companies give a loan of 80% of the price of property. Hence, on a flat which is available for a price of Rs 1.3 crore, the bank would give a home loan of Rs 1.04 crore. The remaining Rs 26 lakh would have to be paid by the buyer. 

Further, the EMI on this loan at 10% interest and repayable over a period of 20 years, would amount to over Rs 1 lakh per month. Hence, in order to get this loan the buyer would need to have a monthly income of Rs 2.5-3 lakh per month. How many people have that kind of income? 

Hariprakash Pandey, senior vice-president, finance and investor relations, at Mumbai-based developer HDIL,recently told Business Standard that flat prices in Mumbai had gone beyond Rs 1.5-2 crore and this meant that homes were beyond the reach of the middle class. As he said: “If you take a loan of Rs 1.5 crore, you have to pay an EMI of Rs 1.5 lakh. For that you should have a monthly income of Rs 4-5 lakh.” 

This was a rare occasion of an individual who makes his money in the real estate industry admitting that there is a problem. The usual tendency till date has been to blame the slowdown in the real estate industry on high interest rates and the fact that the Reserve Bank of India was not doing enough to bring them down

This as I have often pointed out in the past is a very stupid argument. 

All these numbers have some lessons to offer. First and foremost is the fact that the Indian real estate is now way beyond the affordability levels of the rich as well and not just the salaried middle class, as Pandey of HDIL pointed out. 

The Indian real estate companies have stopped catering to demand. As Dhirendra Kumar rightly points out in a recent column: “It’s as if the car industry would try to sell nothing but large BMWs, Mercedes and Jaguars while most of the country yearned for cheaper cars.” 

I think I would go a step ahead and say that “it’s as if the car industry would try to sell nothing but Maybachs.” (Maybach is incidentally also made by Mercedes). 

The second learning here is that the real estate industry has been for long been catering to the real estate investor rather than the real estate buyer. But now this business model seems to be breaking down as well. Take the case of Mumbai-as pointed earlier, the city has 5,000 upscale flats with a price tag of greater than Rs 10 crore, which are lying unsold. And more such flats are still being made. 

Even in a city like Mumbai it would be difficult to find so many genuine buyers who would have the ability to cough up Rs 10 crore or more for a home to live in. And those who have that kind of ability, already have a home or two to live in. 

It now seems that the price is beyond what investors would like as well. Even with all the black money going around in the country, there is only so much of real estate that can be bought. Also, at a price of Rs 10 crore or more, what kind of returns can the investor really expect is a question worth asking? 

To conclude, it is worth pointing out a couple of numbers from the latest Maharashtra State Economic Survey. The per capita income in Mumbai in 2013-2014 was at around Rs 1.88 lakh. In Thane, it was Rs 1.73 lakh. And we are selling homes priced at greater than Rs 10 crore. Who is the joke on? And when will we get around to build and sell flats at prices at which there is real demand? 

Mumbai real estate is like a super-expensive Maybach-what we need are Tata Nanos. Or maybe even bicycles. 

(The column originally appeared on The Daily Reckoning on June 18, 2015)

Money lessons from Uber

When it comes to technology I am a slow adopter. I got an email account only after most of my friends already had one. I started using Facebook and Twitter after these two social media websites had already taken off big time. Further, its been less than a year since I got a smart phone and given that I have only recently started using the app-based Uber taxi service.

For those who have used Uber will know that the company primarily offers three levels of taxi service. Its most basic service is uberGO. This is followed by uberX in the mid-range and UberBLACK in the top-range.

Further, the company does not take cash payments. In order to use Uber, you first need to create a wallet account with Paytm, transfer money into it from a bank account and then link it to the Uber app on your smart phone. The cost of the travel is deducted against the money in the Paytm account.

After using the Uber service, you don’t pay paper money or cash to the company. As mentioned earlier, the payment is deducted directly from the Paytm account. Hence, in that sense the situation is similar to when you buy something using a credit card or debit card.

And this is where things get interesting. Research shows that when people use their credit/debit cards they are likely to end up spending more in comparison to when they use cash, simply because there is no pain of purchase, as is the case when using cash.

Gary Belsky and Thomas Gilovich explain this phenomenon beautifully in Why Smart People Make Big Money Mistakes and How to Correct Them: “Credit card dollars are cheapened because there is seemingly no loss at the moment at the purchase, at least on a visceral level. Think of it this way: If you have $100 cash in your pocket and you pay $50 for a toaster, you experience the purchase as cutting your pocket money in half. If you charge that toaster though, you don’t experience the same loss of buying power that your wallet of $50 brings.”

The same stands true about using a debit card as well or for that matter a wallet account like Paytm, to purchase things. “In fact, the money we charge on plastic is devalued because it seems as if we’re not actually spending anything when we use cards. Sort of like Monopoly money,” the authors add.

Hence, as people don’t feel the pain of spending money, they are likely to spend more. “You may be surprised to learn that…you not only increase your chances of spending to begin with, you also increase the likelihood that you will pay more when you spend than you would if you were paying cash,”Belky and Gilovich write.

So how is all this linked to Uber? The area that I live in central Mumbai, uberGo, which works out cheaper than even a kaali-peeli taxi and is air-conditioned, is not so easy to get. On days I don’t find an uberGo I end up using an uberX which is more expensive than a kaali-peeli. And on a couple of occasions I have also ended up using UberBLACK, which is significantly more expensive than a kaali-peeli taxi.

The reason for this is straight forward. Since I don’t have to pay Uber in cash, I don’t feel the pain of paying and end up using a service which is more expensive than a kaali-peeli. In fact, since I am paying using a smartphone the pain of payment is even lower than when using a credit or a debit card, given that payment through a smart phone using a wallet is one more step removed from cash than a credit or a debit card.

This also explains why almost every e-commerce site wants you to shop using an app and not from their website. Since you may pay using a smartphone through a mobile wallet account, there is chance that you will end up spending more money.

(Vivek Kaul is the author of the Easy Money trilogy. He can be reached at [email protected])

The column originally appeared in the Bangalore Mirror on June 17, 2015 

Do public sector banks deserve a taxpayer bailout?

Fostering Public Leadership - World Economic Forum - India Economic Summit 2010
The finance minister
Arun Jaitley said on June 12: “Banks have made a strong case for additional capital… And over the next few months, this is something the government is going to seriously look at.” Jaitley was talking about the government owned public sector banks.
There are two questions that crop up here: a) do public sector banks deserve additional capital? b) can the government afford it? Let me first define the word capital and then answer the second question first.
As Anat Admati and Martin Hellwig write in
The Bankers’ New Clothes: “In the language of banking regulation, this word [i.e. capital] refers to the money that the bank has received from its shareholders or owners. This is to be distinguished from the money it has borrowed. Banks use both borrowed and unborrowed money to make their loans and other investments. Unborrowed money is the money that a bank has obtained from its owners if it is a private bank or from its shareholders if it is a corporation, along with any profits it has retained.”
In case of public sector banks, the government is the biggest shareholder and any capital infusion would mean the government investing more money in these banks. How much money does the government need to infuse in these banks? In a research note titled
A Growing Need for Indian TARP, Anil Agarwal, Sumeet Kariwala and Subramanian Iyer, analysts at Morgan Stanley estimate that an immediate infusion of around $15 billion (or Rs 96,000 crore assuming $1 = Rs 64) is needed in these banks. And that is clearly a lot of money for the government to spend in a single year. The budget for 2015-2016 provided Rs 11,200 crore towards fresh capital infusion by the government in public sector banks.
The PJ Nayak committee report released in May 2014, estimated that between January 2014 and March 2018 “public sector banks would need Rs. 5.87 lakh crores of tier-I capital.” The report further points out that “assuming that the Government puts in 60 per cent (though it will be challenging to raise the remaining 40 per cent from the capital markets), the Government would need to invest over Rs. 3.50 lakh crores.”
It is safe to say that the government clearly does not have the kind of money that is needed to be invested in public sector banks. Now let’s try and answer the first question which is, whether the public sector banks deserve this kind of money to be invested in them by the government.
On the face of it, the answer is yes, simply because that public sector banks carry out nearly 70% of lending in India. And if they are not adequately capitalized, they will not be able to lend as freely as they may want to and as may be needed.
But there is more to it than just that. As the Morgan Stanley analysts point out: “
The current managements’ policy of “extend and pretend” is causing banks to move further into problems.” What do they mean by extend and pretend? Crisil Research estimates that 40% of the loans restructured during 2011-2014 have become bad loans.
A restructured loan is where the borrower has been allowed easier terms to repay the loan (which also entails some loss for the bank) by increasing the tenure of the loan or lowering the interest rate. If 40% of restructured loans have gone bad, it is safe to say that the banks have been essentially restructuring loans in order to postpone recognizing them as bad loans, which is what the Morgan Stanley analysts meant by “extend and pretend”.
Interestingly, bad loans are expected to go up during this course of the year primarily because more and more restructured loans will turn into bad loans. The Morgan Stanley analysts expect nearly 65% of restructured loans to turn into bad loans.
Further, as
Crisil Research points out in a research note titled Modified Expectations: “Reported gross non performing assets[bad loans] will still remain at elevated levels as some of the assets restructured in the previous 2-3 years, especially in the infrastructure, construction, and textiles sectors, degenerate into non-performing assets again.”
Also, as Debashis Basu
points out in a column in the Business Standard, that other than an increase in bad loans, “the continued evergreening of bad accounts – and, what is worse, the continued dubious new lending by public sector banks, with minimal collateral, arranged by touts,” continues to remain a worry.
In this scenario there is no point in the government putting in more hard-earned money of taxpayers into these banks. Until, Jaitley’s statement on June 12, the government’s stand was that additional capital would be put into public sector banks only after they improve the governance structure of public sector banks. The irony is that some of the biggest public sector banks have not had a CEO for many months now.
It had also asked the banks to reduce government stake to up to 52% and raise money directly from the stock market. But given the weak balance sheets of many of these banks, this option really does not exist.
To conclude, it is worth asking, why does the government of India need to own 26 public sector banks, especially in a scenario where many of these banks will require a lot of money to be invested in the next few years?
The best bet for the government is to go in for “strategic disinvestment” of most of these banks. Given their distribution network they may be good bets for the private sector. Further, the government can continue to own the State Bank of India and probably four other best public sector banks, in order to ensure that it is able to push through its financial inclusion programmes.

The column originally appeared on The Daily Reckoning on June 16, 2015

Huge debt: The real reason why Indian corporates are not doing well

In a column that appeared on Firspost last week, we had shared a chart which showed that profits of Indian corporates as a proportion of the gross domestic product(GDP), have been falling. As can be seen from the accompanying chart, corporate profits as a percentage of GDP have fallen from 7.1 percent of the GDP in 2007-2008 to around 4.3 percent of the GDP in 2014-2015. That is indeed a huge fall.

Why has this happened? The answer perhaps lies in the following table. The table has been made using data from 433 companies which are a part of the BSE-500 stock market index. It does not include banks and financial services companies. The net sales of these 433 companies accounted for 83.3 percent of the total net sales of close to 3,400 listed manufacturing and services companies excluding banks and financial services companies. Hence, the sample is a fair representation of the Indian corporate space.Chart2

Take a look at the total debt column. As of the end of 31 March 2005, the total debt of the Indian corporates had stood at around Rs 3,49,296 crore. By 31 March 2014, this debt had shot up by 8.1 times to Rs 28,43,155 crore. In comparison the total amount of equity or the money that the owners of these companies put into their respective businesses, had gone up by just five times to Rs 25,83,606 crore.
This meant that the debt of the Indian firms went up at a much faster pace than their equity, and in the process managed to push up the debt to equity ratio from 0.68 to 1.10.

Further, the excessive borrowing did not translate into sales. The sales during the period March 2005 and March 2014, went up by around 5.1 times. The profit on the other hand went up just 3.2 times.

Hence, to summarize, an 8.1 times increase in debt, led to a 5.1 times increase in sales and 3.2 times in net profit. What this clearly tells us is that as Indian corporates took on more and more debt, the new debt wasn’t as productive as the older debt that had been taken on.

And this finally started to reflect in the net profit margin of Indian corporates. As can be seen from the table, the net profit margin (net profit divided by net sales) fell from 10.51 percent in 2004-2005 to 6.55 percent in 2013-2014. This is primarily because a greater amount of profit over the years was used to repay the debt as well as pay interest on it and in the process pulled down net profit margins of Indian companies.

How do things look in 2014-2015(the financial year ending 31 March 2015)? For the last financial year we have results of around 384 companies and not the entire sample as was the case in earlier years.Chart3

In 2014-2015, the net profit margin is down further to 5.95 percent. Though the debt to equity ratio seems to have improved to 0.89. Whether this trend sustains once all the results of the sample come in, remains to be seen.

The conclusion that can be drawn from this data is that Indian companies loaded up on debt between 2004 and 2011, when times were good. During this period the net profit margin varied between 9-11 percent, except in 2008-2009 when it was 7.44 percent. Nevertheless, 2008-2009 was the year when the current financial crisis started and could be discounted as a bad year.

All the debt accumulated between 2004 and 2011 is now coming back to haunt India Inc. And we haven’t seen the last of this.

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

Data support from Kishor Kadam.

The column originally appeared on Firstpost on June 16, 2015 

Taxing unsold homes will not lead to fall in home-prices, busting black money will

Vivek Kaul

Earlier this month, the Daily News and Analysis reported that the Income Tax department plans to tax builders on their unsold homes. “The move is as per the central action plan for 2015-16, under which the I-T department can levy tax on any unsold flat by treating it as ‘income from house property’,” the news-report pointed out.

This news-report has gone viral on WhatsApp and it’s being suggested that this move will force builders to get rid of the unsold homes they have or else they will have to pay income tax on it. 

An estimate made by Liases Foras, a real-estate research and rating firm, suggests that the total number of unsold homes in six metropolitan cities (Mumbai Metropolitan Region, Bangalore, Chennai, Hyderabad, Pune and National Capital Territory) stood at 6.88 lakh units or 919 million square feet, as on March 31, 2015.

And once builders start selling these flats real estate prices will fall. Theoretically this makes immense sense.

The real estate companies are owners of unsold flats. This means that they will have to pay a tax on the annual letting value pf these flats as they are owners of the unsold flats. The annual letting value is essentially the annual rent at which any home can be reasonably expected to be rented out. And given the fact that an income tax will have to be paid on this notional rent, the builders would rather sell the flat than pay an income tax on it. At least, that is what is being suggested.

Nevertheless, let’s see how the numbers stack up. The rental yield in India is currently anywhere between 2-3%. As Ashwinder Raj Singh is CEO – Residential Services of JLL India points out on a recent column on “An average of 2% of rental yield is considered a good deal for residential properties in India.” Rental yield is the annual rent that can be earned from a property divided by its market value.

The builders will have to pay an income tax on this rental yield. As per the Statement of Revenue Foregone that is released by the government along with the budget, the effective tax rate of the income tax paid by companies comes out to 23.22%. This number has been arrived at from a sample of 564787 companies.

As the Statement points out: “The statutory tax rate was 32.445 per cent in the case of companies having income upto Rs 10 crore and of 33.99 per cent in the case of companies having income exceeding Rs 10 crore resulting in an average statutory rate of 33.217 per cent.”

In an ideal world, I should have considered, the average rate of income tax being paid by builders, but given that I don’t have access to such a number, I will work with the average rate of income tax of all companies.

At an average tax rate of 23.22%, the builders will have to pay an income tax of 0.46-0.7% (23.22% of 2-3% rental yield) on the market value of the unsold homes. This is a very small number and is unlikely to hassle builders much. On paper, taxing builders on the unsold homes sounds like a good move, but it is unlikely to lead to a fall in price. And even if it does have an impact, it will not be huge. Further, how will the income tax department determine that a flat has been completed and has not been sold?

If the builders have to be forced to sell the unsold homes, the only way to do so is to attack their funding. This means going after domestic black money which inevitably finds it way into real estate. The Narendra Modi government has shown very little interest in going after domestic black money. All the attention seems to be on trying to get back black money that has already left the Indian shores.

Another data point that needs to be mentioned here is the bank lending to commercial real estate. During the period April 18, 2014 and April 17, 2015, which is the latest data that is available, the bank lending to commercial real estate grew by 8.8%. This when the overall bank lending grew by 8.7%.

This is clearly good news. Lending to commercial real estate is finally growing almost at the same rate as overall bank lending. Interestingly, this is the second month in a row, this has happened. For the period of one year ending March 20, 2015, lending to the commercial real estate sector by banks had grown by 8.9%. The overall lending by banks on the other hand had grown by a very similar 8.6%.

Further, the total amount lending to commercial real estate by banks in March 2015 had stood at Rs 1,66,500 crore. In April 2015, this number fell marginally to Rs 1,66,400 crore.

Now compare this to the period between April 19, 2013 and April 18, 2014, the lending to commercial real estate had grown by 21.2%, whereas the overall lending by banks grew by 13.9%. All these data points clearly show that the lending by banks to real-estate companies is slowing down.

And if the trend continues, builders will have to start cutting prices to sell the huge amount of unsold homes that they have been sitting on. Stay tuned.

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

The column originally appeared on Firstpost on June 11, 2015