India Ratings: Demand not expected to improve for real estate sector in FY17

India Ratings and Research (Ind-Ra) has revised its outlook on the real estate sector to negative for FY17 from negative to stable, based on the expectation that property demand will not revive during the year. This will result in a continued fall in unit sales and revenue, and thus lower cash flows and worse credit metrics in FY17. Hence, Ind-Ra has also revised the rating outlook on sector companies to negative from stable.

Revival in property demand would depend on meaningful reduction in prices or significant improvement in economic growth resulting in positive customer sentiment. Revival is unlikely until FYE17, as property prices will remain high; Ind-Ra estimates GDP growth to improve to 7.9% in FY17 (FY16: 7.4%).

Companies have resorted to refinancing of debt through higher-cost funding from non-banking finance companies/private investors. This extends maturity and reduces pressure on them to slash prices to liquidate inventory and repay debt. However, this also increases the likelihood of stress.

Investor interest in the sector remains high and has received support from the relaxation of entry and exit conditions for foreign investors into the sector. While these measures will result in higher investment flows, it will be negative for the sector as most of the investments are in debt-like instruments and increases the likelihood of stress. The government has also permitted the classification of non-repatriable investments made by NRIs and companies, trusts or partnership firms incorporated outside India and owned and controlled by NRIs as domestic investments. This may result in higher property purchases by NRIs, but may be negative for the sector if it helps companies maintain prices at a higher level.

Ind-Ra expects demand for office space to be stable during FY17 driven by demand from IT/ITes and e-commerce segments.Demand for retail space has been hit by the expansion of e-tailers; however, it has been supported by the entry of foreign single
brand retailers.

Improvement in Demand: A rise in demand, leading to strong free cash flow, and a reduction in debt levels could change the sector outlook to stable.

Asset Monetisation: Sale of land and commercial property assets, leading to a substantial reduction in debt levels could be a driver for issuer ratings