By Taponeel Mukherjee
As lenders and borrowers in India grapple with heavy debt levels, asset sales have been a strategy used to pare debt levels by conglomerates.
We think one aspect of asset sales that needs even greater focus in India is for corporations to realise that selling real estate is an alternative to using the capital markets for share or debt issuance. This “unlocking of real estate value” need not be limited to only distressed borrowers, but should be deemed as a financial strategy that needs to be looked at from a capital allocation perspective by the Indian corporate world.
As we know, corporates that have significant real estate holdings such as those engaged in retailing (like Aditya Birla Fashion & Retail Ltd.), hospitality (like ITC) and healthcare services (like Wockhardt Hospitals), amongst others, need to clearly demarcate the value of the business that they derive from their core business versus the value they derive from their real estate portfolio.
For example, a hospital chain can use a Real Estate Investment Trust (REIT) like structure to monetise its real estate assets to pursue further growth if it finds that capital raising through the REIT is cheaper than issuing debt or equity.
Real estate sales can add substantial value for banks which hold Non-Performing Assets (which stands at more than Rs 8 lakh crore ($124 billion) according to an estimate by CapitalinePlus). We know, for sure, almost all public sector banks hold real estate with market value running into thousands of crores. And these banks need to work with cash-rich asset buyers to do a transaction where the bank sells the asset to the prospective buyer and then leases the asset back for use. This financial transaction will allow the bank to use the sales proceeds to infuse capital into its own balance sheet.
Such capital infusion strategies have been used in the more developed markets such as the US to unlock real estate value. The capital infusion assists the bank to create a more efficient balance sheet and focus on its core business of banking, while the real estate asset is managed by a real estate focused investor.
In addition, corporates in India must look at real estate asset monetisation as an alternative to raising capital through IPOs and issuing debt. By the very nature of the lease payments involved in a sale and leaseback of real estate assets, there are similarities between real estate asset monetisation and debt.
We hasten to add that it is important to factor in the debt issuance cost versus the cost of funding through real estate monetisation. A corporate may find it cheaper to monetise the value of the real estate portfolio versus having to either issue debt or dilute equity, especially when credit markets are unfavourable. To further emphasise the importance of real estate asset monetisation, we think corporates that have borrowed over the last six years can use this strategy to refinance their debt.
In India, base rates from the RBI have headed lower from eight per cent in 2014 to the current six per cent. For corporates refinancing their debt by taking the capital from the real estate sale to buy back expensive debt and issue cheaper debt provides an opportunity to bring down interest servicing costs by over 200 basis points in some cases to reflect the lower base rate.
This will allow corporates to invest in new businesses — investments which lead to new jobs. This strategy can be used by both distressed and non-distressed corporates. The key is for the corporations in India to be able to utilise the value of the real estate portfolio to make the best financing decision. This will not only benefit the corporations themselves but also have a positive multiplier effect on the economy.
When each corporation tries to make better financing decisions, capital within the economy finds the best use, which in turn improves economic prospects for the country.
Real estate asset monetisation is not without complexities, with clear demarcation of ownership and control required. There can be issues around ownership of assets versus control of assets, but clear legal agreements at the outset are useful in putting such issues to rest. Nevertheless, real estate monetisation is a path that must be actively looked at and pursued in India much beyond it simply being a last resort for the distressed borrower.
(Taponeel Mukherjee heads Development Tracks, an infrastructure advisory firm. The views expressed are personal. He can be contacted at [email protected] or @taponeel on Twitter)