Brokerages prefer realty firms with annuity assets amid stable cash flows

Topics Brokerages | Realty sector | CLSA

Brokerages are recommending stocks of real estate companies with annuity assets because of stable cash flows. They believe that demand for office properties will bounce back faster than others.

“While slowing global and domestic economies do not augur well for India’s property market, we believe annuity businesses, which provide stable and sticky cash flow, will show more endurance (vis-a-vis residential) during these tough times,” said a report by global brokerage firm CLSA last week.

CLSA said during the previous global slowdown of 2008-2009, the country’s office demand dipped in the short term (only in 2009), but then rose to even higher levels driven by increased global offshoring. It said the highest number of global capability centres were (GCCs) added during 2005-2010.

It argued that the country’s favourable cost economics (80 per cent cheaper than the US) and talent pool (second largest number of STEM graduates globally), remain a key driver of office demand. STEM means science, technology, engineering and mathematics.

At beaten down valuations, annuity developers offer favourable risk-reward, it said. DLF, Prestige Estates, Phoenix Mills and others have large office properties.

DLF, the country’s largest listed developer, has completed office assets of 33.7 mn sq. ft. This included those by its rental arm DLF Cyber City Developers or DCCDL. DCCL also has 6.6 mn sq. ft of office under development.

Adhidev Chattopadyay, research analyst at ICICI Securities, has said the portfolio of Embassy Office Parks REIT (real estate investment trust) is resilient when there is a risk to medium term demand for office spaces in the country. “While concerns over the medium-term demand outlook for offices in India remains a key risk, the recent rollback in the dividend distribution tax for investors, FY22E distribution yield of 7.7 per cent and high-quality tenant mix in the REIT’s portfolio makes risk-reward favourable in our view,” Chattopadhyay said.

According to new changes in the Finance Bill 2020 announced early this week, dividend earned from InvITs and REITs will be exempt in the hands of the unit holders, if the special purpose vehicles (SPVs), opt for higher rate of corporate tax.

Chattopadhyay said though Embassy REIT’s tenant portfolio has over 50 per cent of tenants in the technology domain, globally MNC occupiers typically enter into long-term tenancy contracts with office developers for 8-10-year periods with a contracted rental escalation of 15 per cent every 36 months. They also invest at least Rs3,000-4,000/psf for fit-outs for their offices in addition to the contracted rentals keeping in mind the longer tenure of their leases.

Though 2019 saw office absorption of 42 million sq ft in top cities, this year it is expected to come down to 30-35 million sq ft and additional leasing is expected to come down sharply. “We expect the deals that are signed to get closed and those where negotiations are on, we think they will be delayed by a couple of months,” said Raj Menda, chairman at Bengaluru-based developer RMZ.

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