Residential Vs Commercial: What Are Developers Choosing?

Residential real estate in India has been witnessing one of its worst slowdowns, and many fence-sitters owing to the many policy changes such as demonetisation, the real estate law, the goods and services tax and the bankruptcy code. However, the situation has not been the same for commercial realty. On one hand, the supply remained steady, and the demand and pricing also remained stable. Thus, experts are of the opinion that the residential developers are now bound to foray and diversify their assets to ensure returns and profits. Is that what the residential developers want though? Let’s examine.

Affordable housing is the new wave

There is a no doubt that the property market in India was facing a demand-supply mismatch. While the demand was for the below Rs 50 lakh segment, the builders targeted the luxury market which resulted in an inventory overhang. However, with the launch of Prime Minister Narendra Modi’s ambitious Housing For All mission, the affordable housing segment got revived though the luxury market overhang remained.

“In the affordable housing space, there has been tremendous progress in both, demand and supply of residential space. Majority of new home owners are those who have moved from smaller towns/villages to bigger towns/cities and are first-time home buyers. They moved to the city to aim for a better life and part of that milestone includes buying a house for themselves. This constitutes 8 out of every 10 people buying houses,” explains Sanjay Chaturvedi, CEO Shubham Housing Finance. However, even people like Chaturvedi acknowledge that commercial real estate is looking like the more attractive segment currently.

Why is commercial real estate becoming more attractive

“Larger real estate developers who are turning towards commercial realty, are looking to diversify asset holdings, reduce risk exposure and even consider property leasing as an option that would lead to regular income flows. Developers who have secured land holdings in prime locations in a city, can use this to their advantage. With investment avenues such as REITs, this opens up commercial real estate to even smaller investors who earlier could not look at larger deals due to capital constraints,” points out Chaturvedi.

What makes commercial properties more viable is the range of options available to participate in the eco-system. It can be shops, offices, land parcels, private equity funds and real estate investment trust (REITS). The newest option of investing through REIT is attractive for developers as it appears to be the best channel for retail investors and involves less challenges in terms of transparency and due diligence. Moreover, with REITs, it’s easy to move large ticket investment.

Gautam Thapar, CEO, Thapar Builders, further adds that “Commercial space has grown to be around 40 million square feet (sq ft) off late. This is majorly due to the inclination of several residential developers towards building office spaces, new-age co-working joints, and even e-commerce-specific buildings. Commercial spaces were always a preferred choice, however, very few realtors realised it was time to start investing in this category.”

Co-working spaces- the brightest star

Nobody would have predicted five years back that shared working spaces would be a big hit. However, the concept has now picked up in Indian realty. With government boosting the Make-In-India mission, co-working spaces have been a major boon for startups that are young in growth cycle and have lesser corpus for investment. It is expected that big names such as Amazon and Starbucks are going to enter the market soon. Also, the corporate work culture is undergoing a transformation which is not just about cost saving but creating an environment outside the conventional office set-up which can lead to innovation, boost in productivity and employee satisfaction. This transformation has been the biggest boost for the co-working segment. According to CBRE, with office rents continuing to move up across India, the total area leased by co-working spaces in Tier I and Tier II cities could touch 6 to 10 million sq. ft. by 2020.

 Commercial real estate attracts NRI investment

“NRI interests in commercial properties have been a new trend in the most recent years after the residential property market began producing lower returns. Likewise, factors like demonetisation and the execution of the Real Estate Regulation and Development Act (RERA) affected interests in the latter. Thus, commercial land has developed as a favored segment for NRIs,” adds Thapar.

Gautam Thapar suggests that purchasing a commercial property renders a rental benefit of 6-8 per cent in best case scenario whereas, a residential property would yield around 1.5-2 per cent, even in the major sections of urban communities. This implies the compensation time- frame is a lot faster for NRIs on account of commercial property having a higher internal rate of return (IRR).

While most developers are still figuring out the best way to stay in the competition, it seems the commercial isn't taking over the housing market but is trying to co-exist by creating demand and offering opportunities to earn returns which are still lagging in the residential market and will continue to be so for next few years.