Why fundamental restructuring of the residential real estate business is required

real estate, real estate in India, Jaypee Infratech, Unitech, NBCC, RERA, NCDRC, NCLT, bankruptcy law

While the government has done a great job by implementing laws like IBC, but sectoral regulator like RERA needs to be provided with more teeth.

Home buyers and lenders have recently unanimously (over 97 percent) voted for NBCC Ltd to take over the bankrupt Jaypee Infratech. Consequently, NBCC Ltd, a Government of India enterprise, will now build the residences, pay off the borrowers and hand over the apartments to home buyers over the next four years. It may, however, be noted that during the resolution process, Jaypee was able to deliver more than 6000 apartments to the home buyers. The management under the Resolution Professional was able to focus on delivery.

In the matter of Unitech Limited, after years of protracted litigation in various forums, the Apex court of the country ordered the Government of India to take over the company by appointing its own board of directors. It is expected that the new board, which is headed by a seasoned retired IAS officer and has renowned bankers and developers, will now work towards the completion of the stalled projects.

From 2003-2013, in most urban markets in India, reports of residential plot prices doubling every three-four years and residential houses/apartments yielding 20-30% annual returns were very typical. The bull market allowed all sorts of people to purchase and book properties, houses and apartments using their own money, investing funds from banks/NBFC’s and others, leveraging greed and black-market revenues and diverting funds from other legitimate businesses.

Even for large projects, real estate companies could collect most of the funds needed for project funding from homebuyers against their bookings and the Banks / Non-Banks. Land was being bought at whatever prices available, and houses and flats were being sold, many times in “pre-launch roadshows” even when the land was not in physical possession and was without the right title.

Several major real estate developers have pursued hundreds of ventures across India with small and weak structures with low equity funding and strong loan financing leveraging. Most importantly, with no management bandwidth of experience to handle such scale of business.

Demonetization, however, dealt a final blow to the market. This took away the positive demand’s main trigger. The residential real estate sector practically became insolvent in 2017, devoid of the prospect of huge capital profits and because of the loss of funding from unaccounted assets.

IBBI’s insolvency and bankruptcy newsletter notes that by the end of September 2019, there were 115 real estate firms under the Corporate Insolvency Resolution Process (CIRP). However, so far, no resolution with noticeable material significance has emerged out of the process.

Some key issues:

Currently, customers are hoping for more favorable outcomes from key forums like RERA, NCDRC, and NCLT. However, till now they have been unable to address the liquidity issue, which will hamper and prevent the execution of orders from these forums and courts. Ultimately these can only lead to personal liability and arrest of the promoter in question. However, after some psychological win, the issue of delivery of homes will still persist.

Homebuyers enjoy the status of Financial Creditor alongside the debt providers like Banks/NBFCs. However, it has been noticed in most of the cases that the expectation of the buyer is that the lending institutions should take a haircut, however the customers should be paid compensation for any delay. This makes the projects totally unviable despite the total erosion of promoter equity.

Over the past decade, developers kept running around various approval agencies and for the past two years, have become legal experts spending all their energy running around forums like NCDRC, NCLT, RERA, district courts and police. I think this is not required and developers need to be made to focus on delivery and not live under the fear of the unknown.

So, in terms of resolution, it’s a question of a haircut amongst promoter company, financial institutions, delay compensation for customers and dues to the government authorities. The following measures, we hope, will achieve the desired results. It is a given that when the market conditions are adverse, stakeholders must book losses to exit.

The solutions are quite simple. They are based around the reforms which are detailed below:

That government needs to take initiatives to amend laws and streamline the process or else people will have multiple rights with no outcome. While the government has done a great job by implementing laws like IBC, but sectoral regulator like RERA needs to be provided with more teeth.

The real estate industry also needs to be completely restructured. However, potential insolvent owners, unlike their peers in other industries, cannot be removed as it will open a pandora’s box on every project due to the complexity of the business. The companies should be run under an administrator appointed by a court process with the existing promoter & management reporting to the administrator.

Firstly, RERA should be amended to have the requisite provisions specifically from COPRA and IBC which are relevant for real estate. Since all projects are under the monitoring of their respective RERA bodies, it should be the only forum for initial complaints and grievances. The lenders’ interest should be on giving priority to the delivery of homes.

Secondly, any project which fails to meet the project timelines for three quarters consecutively should be brought under the control of the respective RERA body. The body should appoint an administrator who would work along with the existing promoter and management to develop a resolution plan. The selection of administrator should be from the IAS cadre to ensure he has enough administrative experience and is able to handle the various government departments on which the project is dependent.

Thirdly, RERA act must be amended to invoke a moratorium once an administrator has been appointed in a company. The moratorium has the effect of pausing all proceedings and legal processes that are being taken against the company in question. It also means no other legal processes can be commenced without the consent of the administrator or permission of the court. All promoters cannot be accused of wrong doings and only in exceptional cases where there is prima facie evidence of fraud, the respective RERA body should lodge an FIR to be investigated by a competent investigating agency like EOW or ED as the case may be. In such cases, the Administrator should work with the management of the company for resolution.

Fourth, once the resolution plan is formulated, the execution of the same should happen through a customer-monitored process. It is significant to involve the customers in the execution as without their buy-in on any plan, the project will never be completed. This will also take care of the investors who have bought homes but are not interested in taking the possession due to lower resale prices.

Finally, once the projects are completed and handed over to the buyers, the administrator should exit, and the company management should be handed over back to the promoter or the management as the case may be. This will work as an incentive for the promoter/ management to expedite the resolution and subsequent handing over of the homes.

A fundamental restructuring of the residential real estate business is the need for the hour and if that is done, the economy would be brought back to a high trajectory growth path, and people could get the possession of their homes.