Recently Indian cricket team's captain Mahendra Singh Dhoni was in controversy because of his connection with real estate company, Amrapali as brand ambassador. Amrapali is a leading real estate group, which had allegedly defaulted in providing houses to its customers within the promised time line. Dhoni stepped out of this group when dissenting purchasers raised their anger in social media.
It's not only Amrapali group, almost all the real estate groups are facing a tough time and all are defaulters of their contract conditions with the customers/purchasers some way or other. Although I am in professional construction line, but real estate sector being a special sector, I have absolutely no knowledge about its functioning and its business model.
However, recently I had a conversation with the head of a reputed real estate group regarding the tough time real estate sector is presently facing. He gave me some in depth information which I think public should also know. It's not always the developers or builders who are responsible, sometimes situations are also responsible for all the problems.
According to him, the business model of real estate is simple. Developers/builders generally invest in purchasing land, developing it, finalizing design and plan and then obtaining approval from statutory bodies. This approval system almost takes around six months and as many as 36 clearances are required (depending upon respective state government policies).
When everything is almost ready, they generally sell around 30 per cent houses/flats on cost-even (without any profit margin). The fund collected in this phase works as working capital. Then they start their project. When a part of project (for example one tower of a total three towers or thirty per cent of floors of single tower apartments) becomes ready, they start giving possessions to the customers booked in the first phase. At the same time they open their next 40% house booking at such a rate where they can get back their 90% of investment (direct and bank).
Because people start residing in that apartment, hence the cost of the house becomes more because of the obvious reasons. When these 40% houses are given to the customers they start selling balance 30% of houses at a very high cost. Because the apartment is already habituated people never mind paying more. This is the phase when the builders/developers not only get their investment with profit but also arrange fund for their next project. This cycle continues and sector moves in a sustaining mode.
During 2012-2013, due to various factors including policy paralysis in central government, people lost their purchasing ability and thus the initial 30% cost-even houses couldn't be sold thus creating a working capital crunch. Because of the reduction in demand, the 30% houses of the final phase, which were supposed to return the investment along with profit and investment for next the project, faced serious setbacks.
No selling or selling at lesser prices (desperate sale due to bank pressure) put the developers and builders in a serious cash-shortage situation. As the sector is interdependent on every phase including phases of next project, thus the sector has absolutely come under a serious slowdown phase. The developers failed to repay bank loans as they are not able to sell flats, forget about arranging fund to complete the initial phase of houses booked at a cost even rate.
Even the initial phase of 30% houses couldn't be sold. That's why projects got delayed and builders started defaulting.
Such a phase was seen during 2006-2007 because of recession. But somehow the sector sustained subsequently. Builders also feel that present recession in real estate sector could be over by 2017 although at the moment it looks very tough. An all-round development is only way to bail out this sector as it depends heavily on people's buying capacity.
I don't know whether the builder gentleman's assessment is correct or not, but, the business model he described appears to be very logical. There is no doubt about requirement of houses in India. At the same time people need to have buying capacity also. Thus somehow economy of the nation is linked with this sector.
Let's see how the present government deals with the economy to bail out this sector. Till then people who have booked their houses may suffer delay and harassment as builders won't be able to fulfill their promises.
Source - http://www.merinews.com/article/why-the-real-estate-sector-in-india-is-ailing-today/15915609.shtml
