REITS: Sebi throws a lifeline to developers, realty stocks perk up

Market regulator Sebi is soon likely to allow real estate investment trusts, or REITs, in India toprovide investment avenues for investors. REITs are trading units similar to mutual funds and Exchange Traded Funds for stocks, bonds and other securities. They also serve as financing instruments for liquidity-starved developers.

The timing of this move is important keeping in mind the prevailing paucity of funds and the ongoing slowdown in the real estate sector.

Like stocks, a REIT unit is listed and traded on a stock exchange. However,REITs primarily invest in completed, revenue-generating real estate assets that are less risky than investing in under-construction properties. They can provide regular incomes to investors from rentals received.

The Securities and Exchange Board of Indiahas released its consultative guidelines for the operation of REITs in India after five years of delivering its first draft. Realty stocks surged, but this could also be in line with the general bullish sentiment today.

REITs are beneficial to both investors and the real estate industry. On the one hand, it provides an exit route for the developer/industry; on the other, it offers investment opportunities in property for retail and high net worth investors. REIT sponsors, usually developers or private equity funds, allow developers to gain liquidity by passing on ownership to unitholders.

“This is a welcome move. Once in place it will provide an additional exit route for investors and enable retail money to be channelised into India’s realty sector through a regulated network,” Anshuman Magazine, chairman and managing director of CBRE South Asia, said in a statement.

What the trust is all about

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A REIT would have to be set up as a trust and wouldn’t be allowed to launch any schemes. ( You can view the entire consultation paper here )

Such an entity would have to apply for registration with the regulator and would have a trustee, sponsor, manager and principal valuer.

Once registered, it would be able to raise funds through an initial offer and its units need to be mandatorily listed on an exchange with the net asset value declared at least twice in a year. The regulator broadly has applied a framework similar to that of an initial public offering (IPO).The eligibility criteria for REITs says only large and established asset management firms can participate.

For an IPO, the minimum asset size of REITs should be Rs 1,000 crore. As per draft rules, only entities that have at least 90 percent of the investment in completed revenue-generating projects can issue REITs.

REITs will be able to invest in properties directly or through special purpose vehicles.REITS will thus not be allowed to invest in vacant land or agricultural land or mortgages other than mortgage-backed securities, thus bringing more transparency into the sector.

All REIT schemes will have to be close-ended real estate investment schemes that will invest in real estate with an aim to provide returns to unit holders. Returns will be derived mainly from rental income or capital gains from real estate. The minimum size of an initial public issue will not be less than Rs 250 crore, of which at least 25 percent has to be publicly floated.

The regulator said that REIT may raise funds from any investor, resident or foreign. However, initially, till the market develops, it is proposed that the units of REITs may be offered only to HNIs /institutions.Consequently, it is proposed that the minimum subscription size would be Rs 2 lakh and unit size shall be Rs 1 lakh.

According to industry experts, participation by foreign investors in REITs will depend on necessary clarifications in the FDI policy and also consultations with the RBI.

To ensure that the underlying assets of REIT are valued accurately, full valuation, including a physical inspection of the properties, has been specified at least once a year.Further, a six monthly update in the valuation, capturing key changes in the last six months, has also been specified. Detailed disclosures have been specified for the annual and half-yearly valuation reports.

Moreover, investors will have the right to remove the manager, auditor and principal valuer, seek delisting of units, apply to Sebi for a change in trustee, etc.

Bhairav Dalal, associate director, PwC India, in a statement said: “Sebi seems to have taken a very pragmatic approach on REIT regulations. Lot of emphasis has been given to transparency and disclosures.”

“The good news is that the regulator has clearly expressed its willingness to kick-start REITs in India at the earliest. The cautious approach adopted by Sebi during this initial period is acceptable and appreciable. One concern is with regards to the strengthening of our legal framework surrounding real estate in India, which is a pre-requisite for REITs to thrive here. The Real Estate Regulatory Bill, which was approved by the Union Cabinet in June 2013, was therefore a move in the right direction,” said Anuj Puri, Chairman & Country Head, Jones Lang LaSalle India.

The consultative paper on REITs is open for public comments until 31 October 2013, after which experts expect the first set of guidelines to set the ball rolling.

According to Morgan Stanley, one of the important hurdles in introducing REITs in India has been lack of clarity on taxation ofREITs income, which may not have been addressed in the draft regulation. “We remain uncertain on the timing of REIT introduction. As and when REITs are introduced, we expect them to benefit developers (easy liquidity) and investors (new investment option),” it said in a note.

According to the investment bank, DLF, Phoenix, Unitech and Raheja are the largest rental asset owners and likely to be the key beneficiaries. “Given DLF’s high leverage and limited success in monetising its non-core assets, REITs could provide new avenues to raise funding to help it reduce debt. However, this might take a few months to a couple of years to play out,” it added.

Shares of real estate majorsUnitech (up 7.54 percent), DLF (up 4 percent), Phoenix Mills (up 1.69 percent), Sobha Developers (up 1.25 percent), HDIL (up1.5 percent), Indiabulls Real Estate (up 1.6 percent), , Oberoi Realty (up 1.2 percent) and Godrej Properties (up 0.44 percent) edged higher.