December 2011
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Real estate PE business loses much lustre

Last month Ivanhoe Cambridge, one of the world’s ten largest real estate companies, decided to call it a day in India. The Canada- headquartered firm had spent almost three years in India looking for appropriate investments in retail real estate either on its own or with partners who could meet its risk return criteria. The end result, not a single deal.

There have been other exits also, among them RREEF, a real estate PE fund promoted by the Deutsche Bank group. Among general fund houses, some large ones as also a few hedge funds are not keen on making any fresh commitments to real estate dedicated PE funds.

The real estate PE scene presents a picture diametrically different from what it was the mid-2000s when India was the toast of the global real estate PE industry and there was rush to get in.

“For funds that started in 2005-06 it has been difficult, time- consuming and not so rosy,” said Shahzaad Dalal, vice-chairman of IL&FS Investment Managers.

According to an official of a domestic PE fund, over six years almost $12 billion (Rs 62,221crore) came in as real estate PE investments. After the withdrawals and a trickle of new investments, the figure still stands at just $12.2 billion (Rs 63,259 crore).

Many real estate PE funds in India have had difficulty returning their principal itself back to investors after five or six years.

“If as an individual you had invested in a decent location anywhere in the country six years ago, you would have multiplied your money three times over. But investments made at the entity level in firms such as DLF or DB Realty or in the London AIM- listed India- focused entities have instead collapsed in value,” said the portfolio manager of a real estate focused PE fund, who does not want to identify himself.

Some deals that went awry are the $100 million (Rs 531.85 crore) investment in November 2006 by Citi, NYLIM India and the Evolvence India funds in Emaar MGF that has yet to go public.

“In 2005-06 the real estate sector was hit by a mall mania. These assets took much longer to mature than planned. Some malls were never built or got shut in an oversupply of retail real estate,” said Dalal.

In those euphoric times almost 400 PE funds were looking for investment opportunities in India’s realty. “Today that number is down to 20 to 25,” said Balaji Rao, the Sun group’s head of real estate.

Multiple problems have stymied them. One large overseas pension fund head said his firm invested as much as $5 billion in a market, since it preferred to concentrate on a few markets.

“But in India it’s not easy to build up such a portfolio overnight. Then there’s the regulatory risk of the Indo-Mauritius tax avoidance treaty constantly being called into question. And finally, thanks to Anna Hazare, corruption in India has caught the attention of international media,” said the head of a large foreign firm which shuttered its offices in Gurgaon recently.

“Many bought into deals at high prices,” said an American pension fund head.

Real estate is a tough business and there’s no low-hanging fruit as a number of mid-sized funds have found out.

“Real estate requires quick decisions locally rather than a systems driven partnership where PE funds can help bring in value,” said Rao.

The experience of the half- decade will influence how the remaining funds still active go about their business. Real estate PEs are being forced to downgrade their return expectations, while some large international investors prefer direct investment sin India to investing in real estate PEs.

Others are going in for structured investments that’s somewhere between equity and debt. “Return expectations are being downgraded from the 30 per cent plus that equity investors make, to 22-25 per cent from structured products,” said Rao.

A casualty of all this is the raising of fresh funds. Most funds are struggling to convince international investors spooked by the rupee depreciation. Only a handful of funds which have had a successful exit track record may manage to secure any fresh investments, say experts.

Recently, Kotak announced that it had raised a Rs 523 crore high- yield fund entirely from domestic investors. It will invest in high-yield debt instruments, in addition with residential projects as its primary focus.

It was able to leverage its track record of exits worth Rs 1,200 crore ($233 million) on a combined realty assets under management of Rs 3,500 crore ($700 million) across five funds. In a statement Vikas Chimakurthy, director of Kotak Realty Fund, described the fund-raising environment as challenging.

“Big foreign funds seem to have disappeared from the scene; domestic firms are the only ones raising money and that too from domestic sources.”

“Very few suppliers of capital are left in the market and fund raising now is a bit opportunistic. But given where the rates are at the moment, it’s likely you can only gain from here onwards,” said Arun Natarajan, managing director of Venture Intelligence, a research firm that is focused on PE and VC sectors.
Source: My Digital FC

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