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REAL ESTATE
AN UPDATE FROM BDO INDIA CORPORATE FINANCE
RECENT AMENDMENTS AFFECTING • Honourable Bombay High Court has granted an interim stay in the case of Maharashtra
REAL ESTATE Chamber of Housing Industry (MCHI) vs. Union of India against recovery of service tax on
real estate. The constitutional validity of the levy of service tax is subjudice. Courts in
SPECIAL ECONOMIC ZONES (SEZs) other states have stayed recovery till the matter is decided by Bombay High Court
Income Tax Act Provision (Current CERTAIN REGULATORY ASPECTS
Provision)
Round Tripping
• Units in SEZs get 100% income tax
exemption on export income for the first Round tripping is usually referred to routing of domestic investments through tax haven and
five years and 50% for the next five years. taking advantage of the Double Tax Avoidance Agreement (DTAA) i.e. paying lower taxes
They also get exemption on 50% of the on profits.
ploughed back export profit for the next Example:
five years after the first 10 years. They are
exempted from MAT payment as well • An Indian company can invest up to 400% of its net worth in a JV/ WOS abroad
• Developers – 100% tax exemption for 10 • An investment by JV/WOS in Indian realty stocks listed abroad would lead to round
years in a block of 15 years tripping since the money would come back to India. This is prohibited by regulatory
authorities in India
Direct Tax Code (DTC) (Proposed
Provision) Real Estate Mutual Funds (REMFs):
• Units in SEZs that commence In May 2008, SEBI allowed mutual funds to launch real estate mutual fund schemes to allow
commercial operations by March 31, retail investors to participate in the booming realty market. Fluctuating market prices in real
2014, shall be allowed profit-linked estate sector in last two years have seen very few REMFs being launched.
deductions permitted under the Income Real Estate Investment Trusts (REITs):
Tax Act, 1961. Thereafter exemption
would be linked to investment REITs are investment pools formed to invest in real estate assets. Globally, REIT is a popular
route to invest in realty sector. SEBI has been slow in announcing the REIT guidelines whose
• It is proposed that MAT would also be draft was released in December 2007. Some recent reports suggest that REITs may take some
applicable to such units. However, the more time to take off in India.
MAT credit would be allowed to be
carried forward for 15 years TRENDS IN REAL ESTATE
• Developers would continue to get profit FDI IN HOUSING AND REAL ESTATE:
linked incentives if SEZ is notified prior
to March 2012. Thereafter, investment
linked incentive as contemplated under
DTC 2009 will be allowed
Impact
• It could be interpreted that since the
incentive provided to developers has
been linked to investments, there could
be a spurt in lease rentals to pass on the
tax benefit forgone. This would not have
any impact on valuation
• If the developer does not increase the
rentals, the outgo on account of tax
would be borne by developers. This
would reduce the valuation of the
project considering the projected
profitability
Service Tax
• The highest FDI inflows during the period beginning from April 2000 to May 2010, has
• Finance Bill 2010 introduced service tax been from Mauritius (42%)
on sales of under-construction property
from July 1, 2010. It increased • Total FDI inflow, in housing and real estate, during the period beginning from April 2005
abatement on construction from 67% to to May 2010 is $ 8,492 mn
75% if gross value of commercial or
• FDI in real estate as a percentage of total FDI investments has increased from 0.7% in
residential complex includes cost of
2005-06 to 11% in 2009-10. For 2010-11 (till May 2010) it stands at 7.4%.
land. This reduces the effective tax rate
to approx. 2.575% (10.3% * 25%) of
gross value
REAL ESTATE – AN UPDATE FROM BDO INDIA CORPORATE FINANCE NEWSLETTER 3
PERFORMANCE OF BENCHMARK
INDICES SINCE 2008.
* Based on financials for FY 2009-10 and average share price of July - Aug.
There is a gradual shift of real estate developers from the traditional development in residential and commercial space to areas like logistics,
warehousing, hospitals, schools and affordable housing. This shift is mainly due to limited players in the segment and also on account of the
rising demand for development in these segments.
• Booming trade both international • Health care industry is estimated • Growing interest of leading global • Growing demand for housing
and domestic to grow over a CAGR of 12% over educational institutions in setting up among nuclear families
the next 5 years. institutions in India
• MNCs around the globe are • Easy access to various avenues
establishing operations in India • The industry size was USD 38.8 • Growing working class population of finance
billion in the year 2008 with an increased demand in higher
• Food processing sector, large studies • Shift in attitudes from rented
infrastructure and engineering • Moreover, Health care BPO is a to owned house concept
projects require logistics facilities growing segment • Need for development of world class
educational infrastructure • Housing shortage expected as
• Large warehouses occupy space. • Medical tourism growth is driven a result of migration of
The right kind of logistics is by low cost and high quality • Huge market with untapped potential working population from rural
re q u i re d t o o v e rc o m e t h e services areas to urban areas
shortage of space in towns
• Supply/Demand
Raw Land • Planning & zoning
• Population Growth
Apartments/Residential • Income Growth
• Commercial/Industrial Activity
Warehouses • Favourable Status
• Tenant Mix
VALUATION APPROACH
Valuation of Real Estate companies is unique in comparison to other sectors. In case of most sectors, the EBITDA multiple and revenue
multiple etc. are the key indicators used for deriving the fair value of the company under the Comparable Companies Multiple Method.
There are other approaches like Net Asset Value Method, Discounted Cash Flow Method, and Profit Earning Capacity Method for
deriving the fair value.
However in Real Estate, the valuations have been based on the projected profitability of the projects in development and also on the
land bank value.
Work in Process • The number of projects under construction and the estimated date of completion, reasons, if any, for delay in development,
increase in any liability due to delay, status of the project and any contingencies on its completion
• Revenue recognition in case of bookings made and any onus of interest or penalties payable due to delay of possession
• Liability in terms of increased committed costs
• Litigation pending against the property making the project dead
Agreements and • In case of projects which are developed by the entity but the land owned by other party, the agreements for terms and conditions
Important Documents with respect to development rights and revenue sharing or any other elements
• Status of Long-term Lease contracts and any onus on its expiry and the terms of renewal of same
• Long-term construction contracts entered into by the entity with the contractors/contractees and commitments thereof
• Title Certificate/Title card, Power of Attorney
• Alternatively Land Purchase Agreement and Non-Agricultural (NA) land permission
• Change of Land Use Permission, Environment Clearance, Pollution control board Clearance
• Fire, Water, Electricity NOC, Commencement Certificate
• The land is not in the area of high attention line
• Permissions and Certificate from Airport Authorities of India or Railway Authorities
• Land Allotment terms and issues as laid by conditions of the respective statutory body or the government
Loans • Status of Loans availed against specific projects along with its repayment terms If the loans are repayable within short term the
entity may face cash flow crisis due to non-completion of the project or slow moving/non-moving properties
• Rates of interest on the loans
• Any confiscation of pledged property due to non-repayment of loans in the past
Capital Structure • The capital structure of the entity in terms of over dependence on debt for financing the projects leading to high interest costs
• In case of overdependence on equity, whether the entity has failed to raised finance from other sources and the reasons thereof
Financial Impacts • The impact of defaults in the receipt of instalments on the cash flow of the entities
• The piling of non-moving inventories thus affecting recovery price and the cash flow
• Fixed commitments of the municipal taxation payable at a regular interval
• The change in valuations of the property due to litigations or otherwise affecting the net worth of the entity
• Any contingent liabilities against litigations and their probability of materialisation
• Financial impact due to non -adherence of various regulatory provisions
• Debt service coverage ratio/interest coverage ratio/ROCE of the entity
MERGER VALUATION
BANKING MEDIA & ENTERTAINMENT FMCG OTHERS
• Merger of Bank of Rajasthan with • Merger of AIMs listed company • Merger of Fem Care Ltd. with • Merger of Quippo Infrastructure
ICICI Bank with its parent company UTV Dabur India Limited Equipment Limited with SREI
• Merger of State Bank of Indore Software Communications Infrastructure Limited
with State Bank of India Limited
• Merger of US Subsidiary with the
listed Parent in India Crest
Animation Studios Limited
BRAND VALUATION
PHARMA IT SOFTWARE MANUFACTURING MEDIA & ENTERTAINMENT
• Brand Valuation of I-Pill brand • Valuation of intellectual property • Valuation of brands and related • Brand Valuation of Star Vijay
acquired by Piramal Healthcare rights of Tally transferred to Tally intangibles of Malibu Plastica Pvt. brand for the purpose of transfer
from Cipla Solutions Pvt. Ltd. Ltd. transferred to a Joint Venture of brand
between Bayer Material Science
and Malibu Plastica & Malibu-Tech
DUE DILIGENCE
REAL ESTATE HOSPITALITY ENGINEERING
• D u e D i l i g e n c e o f V i k h ro l i • DD of Asian Hotels Ltd. (West) • DD of Bharat Wire Ropes Limited
Corporate Park of HCC for and Aria Hotels & Consultancy for acquisition by Gaja Mercantile
investment by Milestone Capital Services Ltd. for investment by (Deal Value Rs 200 Cr)
Advisors (Deal value Rs. 775 Crs) IL &FS (Deal Value Rs 80 Cr)
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