Real estate prices in the country are ripe for a correction in 2014 as the sharp slowdown in demand coupled with the highly leveraged balance sheets of developers will force players to slash prices to stimulate demand.

Over the last couple of years, residential real estate prices have increasingly become unattractive to unaffordable for buyers. . In the National Capital Region (NCR), for instance, average home prices were nearly 30 per cent higher in the first half of this year compared with the second half of 2010. This is true of most other markets as well — during the same period, prices rose by about 21 per cent in Pune, nearly 33 per cent in Bangalore and around 9-11 per cent in Chennai and Mumbai. Among major markets, Hyderabad (down 9.5 per cent) was the only exception to this trend during this period because of the uncertainty caused by the agitation for a separate Telangana State.

Unsurprisingly, demand has been a casualty of this decline in affordability. In the NCR region, demand is down an estimated 10 per cent in 2013 over and above a 12 per cent fall in 2012. Likewise, demand is down around 8 per cent in Mumbai. Investors too are in wait-and-watch mode. There are numerous factors responsible for this sharp slowdown in absorption, prominent among them being weak macro-economic conditions, high inflation, slower income growth, and high interest rates for home loans.

Slower economic growth has impacted the demand for real estate, particularly in Tier-1 cities. Income growth has not only slowed down but has also become uncertain due to the weak economic environment Both WPI and CPI inflation remain at high levels and we do not see any respite in the short-term. CPI inflation, which is more relevant to the home buyer, is currently a high 10 per cent and is likely to stay elevated .

To curb consumption and bring down inflation, the Reserve Bank of India raised the repo rate to 8 per cent in November. Consequently, home loan rates are also unlikely to come down significantly. At the same time, fresh launches by developers over the last 2-3 years coupled with large unsold inventory has eventually forced many developers into a corner . As home sales slow and cash flows dry up, several developers, particularly small and mid-sized players, are finding it difficult to repay their debt.

The aggregate debt of the companies considered in our analysis stood at Rs.620 billion as of March 2013. Bank borrowings account for around 42 per cent of debt, and the set of players considered constitute about 21 per cent of the total banking debt of the industry. The aggregate operating income of large companies has declined on account of the slowdown in execution and new launches due to weak demand. Consequently, players are selling off non-core assets to repay debt and manage leverage levels. In the recent past, under pressure from their lenders, large companies such as DLF and Unitech have sold their non-core assets to partially repay their borrowings and reduce their debt levels.

No decline

While the borrowings of some large companies have not declined, the high interest towards ongoing projects (which are capitalised) have resulted in negative cash flow from financing for last 3 years. Mid-size and small players are also being forced to consistently raise funds to finance operations. But funds are hard to come by as banking have become increasingly cautious in their lending to the real estate sector.

All this has set the stage for a correction in real estate prices. In major residential markets , we expect prices in the second half of 2014 to be nearly 13-14 per cent lower than in the first half of 2013. In certain prime areas such as South Mumbai and South Delhi, the fall could be even steeper (around 17 per cent).Prospective home buyers in most cities can, therefore, expect better prices than they have seen in the past couple of years.

The author is a Director at CRISIL Research.

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