The real estate investment trust ownership structure has come to India, but sources warn the success of REIT hotel ownership depends largely on the continuing success of assets in other real estate classes.
REPORT FROM INDIA—Real estate investment trusts are the newest ingredient to India’s hotel landscape.
REITs made their Indian debut in March via Embassy Office Parks, a joint venture between India-based Embassy Group and U.S.-based Blackstone Group.
Indian investors are coming to grips with this new type of ownership vehicle, according to sources.
For the 20 March initial public offering of Embassy Office Parks, the minimum investment was 200,000 Indian rupees ($2,834.58), which has subsequently been reduced to 50,000 Indian rupees ($708.64).
Much in the same ways as REIT are structured in other countries, typically Indian REITs will have to distribute at least 90% of their income by way of dividends and capital appreciation, with investors being able to participate in tax-free income—bearing fixed tangible assets at a fraction of cost of the real estate asset, sources added.
“Among the key things that any investor looks for or evaluates is the possible exit at the end of the investment horizon,” said Arvind Nandan, executive director of research at business advisory Knight Frank (India). “What has happened in the last several years is that a large amount of institutional capital has come into rent-earning commercial assets. This capital has to seek an exit in the next few years, and a REIT is one such option.”
He said REITs are poised to take off in the country.
“The present REIT is oversubscribed, which is a positive sentiment for investors,” Nandan said. “There is every likelihood that there will be more such REITs in near future. There are plenty of good-quality, commercial assets across the country (that) are well-managed and can offer good returns. So we can look forward to such assets being put to the market by way of REITs in days to come.”
Shobhit Agarwal, managing director and CEO at Anarock Capital, agreed.
“Data currently suggests that approximately 50% of the total office stock in India can qualify for REITs, a definite improvement over the 30% two years ago,” he said. “Clearly, the market is ready for REITs by developing investable commercial assets. The Blackstone-Embassy REIT is just the beginning as it comprised of merely a fraction of the massive portfolio held by the U.S. firm in India.”
He said others will soon follow Blackstone and Embassy’s lead.
“Given (the launch’s success), they will now work to list more properties under REITs in the future, thereby sending across a positive signal to global investors,” Agarwal said. “As for several retail investors back in India, the listing has unveiled yet another and more-robust investment avenue.
“Further, REITs could also percolate down to other asset classes namely retail and logistics, which will eventually bode well for the overall real estate in the country and entice investors to penetrate into other niche segments.”
REITs in India
Abhijeet Umathe, director of business development at Keys Hotels, said REITs provide a route for hoteliers to monetize capital by unlocking value.
“After the payback, a good hotel can give standardized returns,” he said. “Such properties can be hived off with other commercial rental-earning assets under a REIT, in which case, the hotel can continue to perform without any change to its name and branding, but for the owners an exit route is created.”
Umathe said this has become even more significant as the share prices and market capital of many hotel companies on the stock markets do not keep track of their revenue and book values.
He added he does not expect to see REITs diving head first into a structure where all of their assets are hotels.
“I do not see hotels forming more than 5% to 10% of the portfolio value of any REIT,” Umathe said.
He said what’s good for an Indian hotel industry that is maturing is that it brings in professional ownership, there likely will be less fallout between owners and operators and the management will be transparent.
“There will be greater patience (because) … an exit route is available,” Umathe added.
Sources said the new vehicle bodes well for developers, too.
“It gives a developer, particularly those facing cash crunches, an opportunity to make an exit at an appropriate time—that is, when the property is fully operational,” Agarwal said. “Hence it helps reap maximum returns on his investments.
“It will give an opportunity to the builder to make an exit once the project is up and running. Previously, few builders have collaborated with leading hotel chains to build hotels for them (as) cost overruns in construction (and) maintenance have put the builder in a fix. Despite owning land, builders became wary to enter into hotel industry and preferred other (real estate classes).”
Nandan said REITS will help formalize Indian real estate, a process that already has started.
“(Real estate) was a highly fragmented and informal sector for so many years. (Government legislation has) helped with organizing the sector,” he said. “REITs can further take it forward and strengthen it.
“It should help bring professionalism, transparency and better-managed asset quality.”
Investors have waited a long time for the REIT structure to be available in India, Nandan said.
“The gates were opened four years ago,” he said. “The problem remained how a REIT distributed its income. There was a dividend distribution tax, which was a major impediment, making the yields in the hands of investor so low it was not viable.”
In 2016, the Indian government removed this tax.
“The viability increased; the market for a REIT could act as a parallel avenue for the investor,” Nandan said. “Typically, the REIT is looking at delivering approximately 8% yields. The development so far is positive.”
Agarwal also said he sees a bright future for the structure in India.
“After tasting success of its first REIT listing in India, Blackstone will certainly look to line up more of its properties under REITs during the year or beyond,” he said. “Brookfield is also said to be in a wait-and-watch mode.”
Agarwal cautioned that REITs possess their own nuances and issues, especially in an Indian context, and the success of hotel ownership within a REIT depends to a great extent on the performance of other real estate classes in any particular portfolio.
“The industry at large has a lot of skin in the game as REITs promise to be a major inward-facing funnel, not only for foreign institutional investments but also considerable individual investments,” Agarwal said. “The market must remain vigilant. There could be a major issue for Indian REITs if the supply of investment-grade office spaces does not keep pace with demand. If it doesn’t, we will see an asset bubble form in the short-to-mid-term.”
Embassy Office Parks was contacted to contribute to the article, but it declined to comment due to it being within the cooling-off period following its IPO imposed by Indian regulatory authorities.