Covid-19 having a significant impact on operating cash flows of residential and mall developers
In its earlier releases, ICRA has commented that the Indian residential real estate sector, which has already been under stress for a prolonged period, has been served a double whammy on account of Covid-19. Overall demand risks for the sector have increased, also reflected by a decline in new sales and the associated collections in Q1FY2021. For the current year, ICRA expects overall sales volume from completed and under-construction inventory to reduce by 40-60% on account of Covid-19; the preference for completed inventory is expected to continue thus favouring the developers having higher proportion of such projects. Further, the steep reduction in home loan rates may aid housing demand to some extent, with home loan interest rates having dropped below 8% for the first time in 15 years.
Committed receivables from already booked sales have also been impacted, given that some mile-stone based payments have been deferred due to stoppage of construction activities earlier. Projects catering to the self-funded segment have witnessed a more significant disruption in collections as compared to the home loan funded segment, as banks continue to make payments to developers. Although in some cases, pay cuts/job-losses have led to re-evaluation of buyer credit profile by HFCs, thus impacting incremental disbursements. In FY2021, ICRA expects collections from customers to decline by around 35-40%.
Project execution has also gotten hampered, with reduced labour force presence and raw material supply chain disruptions attributable to continuing localized lock-downs on non-essential services. ICRA expects the spend on ongoing projects to reduce by around 30% in FY21 on account of the pandemic. Notably, Covid has been classified as a force-majeure event under RERA, and therefore, deemed extensions of 6-9 months on project execution timelines have been granted by many states. New launches, which were already on a declining trend given the increased focus on deliveries, are likely to get further deferred.
Overall project cash flows are expected to be impacted by slower collections leading to reduced inflows. While there will be reduction in project spends as well, the reduction in inflows is likely to remain higher than the reduction in outflows, leading to lower net operating cash flows and higher dependence on other forms of liquidity/refinancing. However, higher rated clients have maintained considerable liquidity buffers, which can be used to meet project costs and debt obligations. ICRA also notes that many companies have availed moratorium to bring down debt repayments, which coupled with automatic reduction in collection-linked prepayments, has provided some relief to the developers. Going forward though, adequacy of operating cash flows to meet scheduled repayment obligations will remain a key look-out area, with developer ability to refinance or carry out one-time restructuring of debt obligations under the recently announced Government relief measure, in case of a cashflow gap remaining critical. Those with adequate balance sheet strength, available liquidity, financial flexibility, refinancing ability and a well-diversified project portfolio under varying stages of execution, spread across different geographies and segments are expected to be better positioned to absorb disruptions in operating cash flows.
· No material impact witnessed on revenues from office leasing segment thus far; recovery in new leasing activity key monitorable
The office leasing segment has witnessed lower impact due to Covid-19 pandemic so far. Notwithstanding the widespread adoption of work-from-home by corporates and low proportion of employees working out of the business and IT parks, there has been no material impact on rental collections and occupancy till date. Data from developers with significant portfolio of office leasing assets indicates that collection efficiency for billings in Q1FY2021 was more than 95%. Certain category of tenants within the segment are highly impacted – such as food and beverage outlets, co-working spaces, small and medium enterprises – and there could be a possibility of rent waivers or deferments offered to such tenants. However, as the tenant mix for Grade A office parks is dominated by strong counterparties, including large sized IT/ITES companies and captive support service units of multi-national corporates, the revenue impact for FY2021 is not expected to be material.
However, in the medium to long term, the recovery in new leasing activity will be a key monitorable. Over the last six months, fresh leasing transactions have reduced significantly due to the operational challenges posed by Covid-19 as well as cautious approach adopted by corporates towards office expansion / consolidation plans. While leasing activity is expected to pick up once normal business activities resume, ability to reach the pre-Covid levels may be constrained by any sustained economic downturn as well as adoption of work-from-home on a permanent basis by corporates. On the other hand, India’s cost competitiveness in the IT, knowledge and business support services segment underpins hopes for healthy recovery in demand for incremental office space. Moreover, there could be considerable reduction in the supply pipeline (earlier estimated to be around 120 million sq ft over 2020 and 2021) due to moderation in demand over the medium term and constraints on availability of financing.
ICRA expects developers with low leverage, strong counterparties, comfortable balance sheet liquidity and unencumbered cash flows to be better placed to withstand any challenges which may arise over the medium term. Further, institutional investor interest in the sector continues to remain strong, as evidenced by the successful listing of the second REIT in the country in August 2020.
Net operating income of mall developers to decline by 45-60% in FY2021
The retail real estate segment is one of the most impacted segments due to the pandemic as most of the malls were closed for around three to five months. Even after resumption of operations, local restrictions and weekend lockdowns result in suboptimal property utilisation. A few mall operators have announced blanket waiver for tenants while many others have worked out customised agreements. Broadly the mall operators have agreed to waive minimum guarantee rent anywhere between 50% to 100% during the lockdown period. The quantum depends on the balance sheet strength of the mall operator, the competitive advantage of the property and the bargaining power of the retailer. The mall operators, recognising a possible weakness in the performance of the retailers even after resumption, are offering a staggered reduction in discounts over the next two to three quarters. ICRA notes that key tenants like multiplexes, restaurants and family entertainment centres, which are not allowed open yet, are the key footfall drivers for malls and hence the holistic experience of visiting a mall is lacking at present.
ICRA expects the cash flows of malls in FY2021 to get significantly impacted due to the waivers to the tune of 45-60%. Further, the revenue share income is likely to be depressed throughout the year. Additionally, the rental payments from tenants are likely to lack discipline throughout the year and hence a healthy balance sheet liquidity will be essential. ICRA notes that some of the vanilla or standalone retailers might not be able to resume operations even after the rental waivers due to weakening of their financial position.
ICRA has been emphasising on the importance of liquidity, parentage and financial flexibility of mall operators. Some players with diversified assets – apart from the retail segment on the balance sheet – will be able to sail through the crisis comparatively better than the companies with standalone assets. Overall, the outlook on the segment remains negative and navigating the near term challenges will be critical for long term sustainability.
