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Real Estate Investment Trusts (REITs) have to offer higher returns over safe investments to make them attractive to investors, says Rubi Arya, Vice-Chairperson & Director, Milestone Capital Advisors, a real estate private equity firm.
She shares her views on what drives returns in commercial properties — the assets that REITs will hold once they are launched — based on her experience from managing two commercial property income funds.
What attributes do you use to shortlist an asset for purchase?
Location of the property, its demand-supply scenario, tenancy status and current yields are the attributes used to qualify an asset for purchase.
Commercial properties, especially retail and multi-purpose formats, offer a lot of scope for other income from advertising sales and space selling on temporary basis.
This can offset a fair bit of operating costs for the asset and are hence important.
As the quality of tenants is important in valuing a property, how do you evaluate them?
We look at details such as how long the tenants have occupied the property and whether they will be expanding their operations.
The nature of the business is important to evaluate if the sector is expected to do well. The cash flow position of the tenants is critical too, as it shows their ability to pay rents on time. And if the tenant has spent money on fit-outs, then they are unlikely to vacate the property in the short term. Lastly, we also visit the premises to see how well they maintain the property.
How do you ensure that the building retains its appeal?
For all our commercial properties, we outsource maintenance to International Property Consultants (IPCs) such as Knight Frank, JLL or Cushman & Wakefield, who bring with them many years of experience in property management. Additionally, we have a dedicated in-house team at Milestone that closely coordinates with the IPCs to supervise maintenance.
In the last five-10 years, how have the rental returns and price appreciation been in the commercial segment?
Rental yields in the commercial segment depend on the quality of tenants and their lease terms. Metro cities have generated yields of 9-11 per cent per annum owing to the higher cost of acquisition and construction. Smaller cities, such as Pune, Gurgaon and Rajkot, have generated double-digit rental yields. This apart, capital appreciation has been in the range of 3-3.5 per cent per annum.
That puts total returns in the 12 per cent range. Is this enough to attract REIT investors?
Worldwide, REITs have been successful in places where comparable benchmark rates are low. For instance, in Singapore, government bond yields are 3-4 per cent and fixed deposit rates are at 1-2 per cent, while REITs has a big market, providing around 6 per cent returns.
India’s benchmark bond yield hovers just a notch lower than 9 per cent. So, for India to have a robust REIT market, returns will need to be higher for investors to overlook property, currency and developer-associated risks.
Indicate some good locations and property types that one can consider?
The demand for acquiring leased out grade ‘A’ commercial properties has already started picking up and there is growing interest to own hospitality and healthcare properties. The top three cities for commercial realty are Delhi-NCR, Mumbai and Bangalore.
Delhi and NCR buyers have recently earned a return of 10-12 per cent from the day the capital is invested even if the property is under construction.
In Gurgaon and Noida, the demand for commercial space is expected to increase, but greater supply may limit growth in rentals.
In Mumbai, office space demand is primarily from the banking, financial services and insurance and software. So far, sufficient supply of office space has kept this segment exciting for occupiers as well as investors. With limited future supply in prime locations, rent is expected to go up in the next couple of quarters.
The Bangalore market is set to witness demand for offices and retail in both the central business districts and in the suburbs and peripheral areas.
Additionally, rental and capital value of retail shops is expected to increase across malls in Bangalore.
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