Real estate innovation: The next phase of growth

By Taponeel Mukherjee:

As the Indian economy evolves, value-creation opportunities in real estate will exist as much in capturing the consumption-growth upside as in pursuing strategies of specialisation. The last decade has seen significant investments in real estate and real estate-related infrastructure, as investors braced for growth and development. The next phase of growth will be driven as much by value-added real estate strategies as by capital market innovation in real estate financing.

Mapping real estate by larger secular trends would give us fascinating insights into the real pockets of demand. Some of the broad secular trends we see are rising income profiles, a gradually larger pool of senior citizens with life expectancy increasing, increased retail consumption (both online and offline) and increasingly high consumption of data, among others. Not only have these trends created the need for specialised real estate, but also the need for greater partnerships between service providers and real estate investors.

Real estate strategies will have to go on to add value through a broad array of services through partnerships and astute asset selection. For example, warehouse real estate space has received significant investments over the past few years. The question is: How will the market evolve as demand further picks up?

The key to warehouse businesses is twofold. Firstly, scale up from being purely real estate providers to “solutions providers”. Such warehouse businesses should have the capacity and know-how to cater to an increasingly large and fragmented user-base with technology, real estate and supply-chain expertise to help support the business ecosystem. While this trend has started already, the future holds greater promise and investment returns, if done well.

Secondly, for warehouse businesses and platforms, it is essential to keep building on the spoke and hub model. Large-scale warehouses, linked to dispersed smaller warehouses, catering to increasingly quicker delivery times is how it is going to be in the future.

Another sector where the real estate partner can provide both real estate expertise and relatively inexpensive access to capital to the service provider will be healthcare. Assets such as hospitals and high-end laboratories need access to significant real estate. Usually, either the hospital acquires the real estate or rents it. There is potential going forward for institutional platforms to purchase land to be leased to hospitals. The key to the strategy mentioned above versus piecemeal renting of hospital land is the ability of the platform to source capital at a significantly lower cost versus what the hospital chain can do.

The healthcare real estate focused platform may able to do so for a variety of reasons such as having access to a pool of investors with a lower cost of balance sheets and better credit ratings. Both the factors will provide a lower cost of capital. Additionally, for platform investors, a diversified pool of real estate assets does lower the risk profile through diversification, which in turn reduces the cost of capital for healthcare real estate asset.

Such innovative real estate strategies will be vital to fuel the next phase of growth for real estate-heavy sectors such as healthcare. The ability of healthcare providers to focus on healthcare services and have a less demanding debt-burden will be a significant value creator in the ecosystem. Real estate-focused investors, funds and, eventually, healthcare Real Estate Investment Trusts (REITs) will provide a liquid capital base with which to scale business.

Ultimately, investor-access to platforms that allow for some degree of secondary market liquidity will further help reduce the cost of capital for businesses. A combination of innovation in real estate and the “capital structure” that drives the real estate will be significant business drivers.

The previous strategy or some modified version of it will apply to many of the new sunrise sectors. A sector such as datacentres is also a component of a differentiated real estate strategy, whereby a combination of technological capacity combined with real estate acumen will drive the data centre real estate play. In an economy such as India with a structural demand, value creation opportunities abound.

A word of caution: A thorough analysis of demand-supply dynamics will be critical for long-term success. Given the very nature of real estate, both macro and local factors have a significant influence on investment returns. Past experience suggests that when local factors are ignored, investment returns can be adversely affected even with positive macro fundamentals.