The initial public offering (IPO) from second only REIT Mindspace Business Parks is open for subscription till July 29. REITs are a new investment option in India, so many investors want to understand the risks involved in it and how much returns it can generate. We tell you whether it makes sense for you to invest in this IPO.
Real Estate Investment Trusts (REITs) are similar to mutual funds in pooling money from many investors but these funds invest only in real estate with objective of generating a stable rental income. The overall return that they generate is a combination of rental income and an appreciation in the value of the property itself.
"In the last few years, there has been a significant increase in demand for Grade A office space in India. While there may be short-term disruption due to COVID-19, once things normalise we may see exponential growth in demand for quality office space as a lot of multinational companies and technology giants are expected to shift their base to India," says Tushar Mittal, founder, Workplace Trends India.
Office spaces at prime location command a premium price and not every business wants to lock in their capital. "Most of these companies will prefer to take offices on lease, rather than acquiring or building. In such a scenario REITs that specialise in leasing and maintaining Grade A office space in prime locations can have robust occupancy and rentals," says Tushar Mittal, founder, Workplace Trends India.
With rise in focus to health and hygiene, the demand for better managed commercial property may increase. "REITs which typically consist of Grade A office space will see upsurge in demand. Occupiers will prefer Grade A offices due to more dependable hygiene and health facilities. High quality developers with less leverage will benefit from the anticipated consolidation of commercial real estate space," Sahil Vachani, MD & CEO, Max Ventures & Industries.
What kind of returns to expect?
Investors who invest in REITs primarily depend on their ability to generate stable rental income over the next few years. "With nearly 80 per cent of the portfolio comprising completed assets and a projected yield of 7-7.5 per cent on the issue price, one can expect an overall return in the range of 11-12 per cent by investing in this REIT," says Sharad Mittal, CEO, Motilal Oswal Real Estate Fund.
When it comes to IPO from Mindspace Business Parks REIT the proposition for investors looks interesting. "At Rs 275 per unit, post-listing equity value stands at Rs 16,308 crore, based on 59.30 crore units post IPO. NAV (as of 31-3-20) stands at Rs 320 per unit, which leads to 14 per cent discount to issue price of Rs 275. On FY21E financials shared in the RHP, the yield works out to about 7.5-8 per cent, on issue price of Rs 275 per unit," says a report from Ashika Research Equity. "There is further scope of growing in the yield with new lease/release offering and an average escalation of 15 per cent from a three-year perspective makes it a good investment option for investors seeking certainty in returns, says the report.
When interest rates have touched record bottom and equities are yet to recover fully from recent meltdown, REIT appears an attractive investment asset class with fixed dividend income option. REITs are mandated to pay out at least 90 per cent of their net distributable cash flows to stockholders as dividend.
Though REITs are new in India, they have quite mature products in global market and are known to offer relatively stable return. "Globally, REITs have provided returns commensurate with those provided by equities over a 10-15 years period with a large part of the return being less volatile compared to equities. From an investor standpoint, the REIT product is a must have in any portfolio," says Mittal of Motilal Oswal Real Estate Fund.
So far as liquidity is concerned, it it fairly liquid because it gets listed on exchanges. However, the ticket size is not small like MFs. The minimum investment amount is Rs 50,000.
Quality of underlying assets
The strength of REIT depends upon the quality of property it owns and kind of rental it commands. "Mindspace Business Parks is having a portfolio of best office spaces which are strategically located in cities like Mumbai, Hyderabad, Chennai and Pune, which are hubs of the IT industry - the sector which happens to be major occupiers of such office spaces," says Mittal of Workplace Trends India.
As per the report from Ashika Research Equity, Mindspace portfolio consists of five integrated business parks with superior infrastructure and amenities and five quality independent offices aggregating to 29.5 msf of total leasable area. These markets have exhibited strong market dynamics with world leading absorption and constrained forecast supply resulting in high rent growth and low vacancy on average.
As per the report, portfolio assets are well diversified across 172 tenants with no single tenant contributing more than 7.7 per cent of the Gross Contracted Rentals. Approximately 84.9 per cent of the Gross Contracted Rentals were derived from leading multinational corporations and approximately 39.4 per cent from Fortune 500 companies as on March 31, 2020.
Besides the location of the property another factor that really matters is the quality of tenants it has. The tenant base comprises a mix of multinational and Indian corporates, including Accenture, Qualcomm, BA Continuum, JP Morgan, Amazon, Capgemini, Facebook, Barclays. It has a high quality tenant base with 92 per cent Committed Occupancy along with long-term contracted rentals which provides long-term visibility of its revenue, as per the report.
It is well positioned to achieve further organic growth through a combination of contractual rent escalations, re-leasing at market rents, lease-up of vacant space and new construction to accommodate tenant expansion. However, the outbreak of COVID-19 pandemic affected the commercial real estate companies as the prolonged lockdown across the country to curb the virus spread and growing culture of work from home adversely impacted the demand for commercial real estate.
Should you invest?
Although many investors want their investment to be diversified into real estate, big-ticket investment and lack of liquidity have been main major concerns. However, with REITs they have the option to invest in real estate in relatively small size and with decent liquidity.
"We believe that listing of more REITs in India is a long pending and welcome move. It will make this investment class more mainstream in India and hopefully add depth and volumes to this category. It will provide a viable avenue to top grade commercial real estate investors for correct value discovery for their office complexes, thus freeing up investments for future growth," says Sahil Vachani, MD & CEO, Max Ventures & Industries.
However, the current economic situation due to coronavirus pandemic may trigger shocks in future. So it makes sense to assess the resilience of the underlying asset. Though, Mindspace Business Parks REIT was able to collect 99.4 per cent of their Gross Contracted Rentals for the month of March 2020, properties were not fully occupied by their tenants for the months of April and May 2020, as per the Ashika Equity Research report.
Should investors be alarmed? The industries which are affected most are aviation, education, entertainment and events, food and beverage, co-working, and hospitality. As per the company, during March-May 2020, 1 per cent of their Gross Contracted Rentals were attributable to these industries. However, as per the Ashika Equity Research report, the company has shown strong commitment by not letting the pandemic hinder operations and continues to enter into commitments with potential tenants for securing pre-leasing and lease-up of vacant space.
Besides, the lockdown has also resulted in restricting the development of new projects. "Demand for office space should start picking up after H1 FY21. However, the supply for FY21 will also be constrained since stretched balance sheets of some developers will delay or stall ongoing projects. This will balance the demand-supply scenario," says Vachani of Max Ventures & Industries.
REITs are one of the best ways to diversify your portfolio into real estate as it gives you benefit of real estate investment with high liquidity and professional management. "Retail investors with medium to long-term investment horizon can certainly consider investment in REITs to diversify their investment portfolio and get exposure to commercial real estate," says Tushar Mittal of Workplace Trends India.
However, this is only the second IPO by a REIT in India and this segment is yet to mature. Though the returns look promising, one should refrain from going overboard because unless the economy improves to pre-corona levels, future risks cannot be ruled out. As part of asset diversification it would be better to keep the portfolio exposure restricted to up to 10 per cent in the real estate sector.