IPO market is double-edged sword for the PE investors: S Sriniwasan

S Sriniwasan
Kotak Realty Fund, part of Kotak Investment Advisors, made exits of $350 million last year, among a very few private equity (PE) funds to do so in dull property markets. S Sriniwasan, managing director at Kotak Investment Advisors, discusses real estate markets and the PE segment in an interaction with Raghavendra Kamath. Edited excerpts:

There were reports that you are raising a bo­u­quet of PE funds, including real estate ones.

Not at present. It takes a long while to get approvals. We want to ensure we have filed papers with Sebi (the markets regulator) and have strategies in place. We will do it once we get approvals. We are just doing a life 
sciences fund in PE.

There was a buzz that you are raising a new managed account in real estate. 

No. The ADIA-1 managed account, which had ADIA (Abu Dhabi Investment Auth­ority), QIA (Qatar Investment Authority) and others, is fully invested. It had a corpus of $350 million. We have generated returns (annual) of 19.8 per cent. In real estate, we have a second managed account with ADIA, which has $250 million; we are investing out of that. And, a separate managed account for Qatar — we are also investing from that. There is also a $50-million commitment from CDC (the British government’s development finance body) for affordable housing.

The year 2018 saw the highest PE flow into real estate. When sales are slow and developers in bad shape, why are PEs taking a contra bet?

The FDI (foreign direct investment) that has come (into the sector) is all into ready built-up properties. About 85 per cent of the money has come into this segment. Very little has co­me into dev­elo­pm­ent of pro­perties. Home-grown funds are taking development risks and foreign inve­stors are investing in developed properties, like IT (information technology) parks.

How long will developers face a liquidity crunch?

First, NBFCs (non-bank finance companies) have to recover the money they have given. The main issue is that the value of collateral developers had given has deteriorated. An NBFC might have given a loan of Rs 100, thin­k­ing the project will sell at Rs 25,000 a sq ft. The unit is now selling at Rs 18000 a sq ft. This means the asset cover on the loan has eroded. Along with slow sales, the cash flow is also slow, further eroding asset cover on the loan’s compounded value. So, the loan is ballooning in value, due to interest, and the asset is decreasing in value. This is a recipe for trouble. 

How are developers managing the show when sales are slow and liquidity is tight?

They are not. It is NBFCs which are giving extra money and taking that back as interest. They are doing exactly what banks were doing before the NPA (non-performing ass­ets or loans gone bad) issue 
came to the fore.

Are you expecting any defaults from developers?

Not right now but definitely in the next financial year (which starts April 1).

Lodha Developers has deferred its IPO (initial public offer of equity). Embassy-Blackstone is coming out with a REIT (real estate investment trust) public issue next year. Will investors buy these papers, given the condition in the real estate market?

They are not buying into any kind of equity papers, let alone real estate, before the next general election. The IPO equity market is shut because of overall uncertainty. It is not specific to real estate. Any investor will wait and watch as to what will happen next. Any serious money into public markets, especially IPO markets, will come after the election. However, a REIT is a safer option, as it pays regular dividends and in a time of uncertainty like this, it would be a good op­tion. While an equity issue might be tough, a REIT issue could find takers.

What is happening in the housing market? When do you expect recovery there?

The residential market is in two parts. One is the new projects  coming out with better pricing and sizes and, therefore, meeting the budgets of buyers. Those products are selling, whether in Mumbai or Bengaluru. Existing projects which are almost ready or nearing completion, especially in the premium and luxury 
segment, are not selling. Commercial properties 
are doing very well.

In the absence of an IPO market, some people say secondary sale, buyouts and so on helped PE entities to exit their investments. Do you agree?

Yes. The IPO market is a double-edged sword for PE investors. If the IPO market is robust, one set of PEs get to exit. If the market becomes slow, the PEs with dry powder get the opportunity to buy out other investors. If the IPO market booms, the issuers expect same valuations in private markets. That means it is an expensive buy. If the IPO markets are not there, I have the option as an investor to go and give an exit to another PE investor or at least bargain with the issuer, without being compared to public markets. That’s why I said it’s a double-edged sword. I want the IPO markets to do well, so that I get an exit. But, when I have a lot of money I want the IPO markets to underperform.

What trends do you foresee for PEs in the new year?

The next two to three years will be years of buyouts and control investments. More and more PEs will go out and buy companies when they come out of the insolvency process. Traditional wisdom was to have 10-20 per cent stake in companies. Those days are gone. 

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