Sri Lanka ranked 69th out of 109 countries included in Jones Lang LaSalle (JLL) real estate transparency index for its high quality real estate developments, but will require policy consistency and scale to move up the rankings. The JLL real estate transparency index is a global benchmark often used by foreign direct investors and institutional funds seeking opportunities in the sector and foreign firms looking for office space to set up in Sri Lanka.
Anuj Puri, Chairman and Country Head of JLL India says the business environment is more conducive for foreign investors coming in to the sector. However, to attract institutional investment, office and retail real estate projects must achieve scale and government policy be consistent, he says. Excerpts of an interview…
Put the transparency index in context; what does it say to us?
Anuj Puri: There are three groups we target.
The first is institutional investors. These could be sovereign funds, pension funds, private equity funds or long-term institutional funds. They like to see where countries rank in the JLL transparency index. It’s like a country’s rating for real estate. It has 139 ingredients put into it to decide the transparency rating.
For example, Australia and the UK have always been among the top five. So they get a lot of capital, but more importantly, cheaper capital; because it’s considered more transparent and therefore less of a risk. The higher the risk, the lower the capital, and the higher the return expectation.
The second corporate occupiers. While they are looking at business expansion through the economic development and local demand lens, they are also looking at it from the real estate perspective; because every corporate occupier has a requirement for real estate. They want to know how real estate is going to pan out for them. Real estate has a huge bearing in countries where there are a lot of banking, financial and IT services.
Third is the government. It looks at our report to see how it can make the real estate sector more attractive for investment. So the Japanese and Korean governments, for example, look at the index very carefully. They want to move their country higher in the index to attract more capital.
[pullquote]For stakeholders, factors can be as basic as: “If I am a foreign investor can I take out money I have invested?” and the risks involved. It can also be, how is the title? Is it easy to get a clean, marketable title in property? How is the registration process?[/pullquote]
For stakeholders, factors can be as basic as: “If I am a foreign investor can I take out money I have invested?” and the risks involved. It can also be, how is the title? Is it easy to get a clean, marketable title in property? How is the registration process? What are the charges on stamp duty? What are the title insurances that are available? Is there a real estate regulation act which puts the onus on the developers to deliver on time and to the promised specifications? Is there enough of a listed real estate developer community in the stock market? What is the profile of the developers? Those are the things that goes into the listing. It also looks at the overall ease of doing business.
So, this is like the World Bank’s Ease of Doing Business index or Transparency International’s Corruption Perception Index?
Yes, it’s a part of that. Especially in real estate, it is a very significant part for institutional investors only playing in real estate. It’s equally important for someone who is setting up a manufacturing plant or a large services business, because real estate is a requirement. They would look at what the real estate index is saying about a specific country.
We did not cover Sri Lanka before; this is the first time. We do this once in two years, so the next one will be out in 2018. It’s a very big exercise that covers 109 countries.
Sri Lanka’s ranking surprised us. We thought that because it’s just entering the index it will rank in the 90s to 100s range, but it came in at 69. That genuinely surprised me. We have taken 11 new countries on this year, many in Africa, also Sri Lanka and Vietnam. Sri Lanka has come in 69 and it has crossed a lot of countries we have been tracking for a while. When we include a new country it usually ranks in the lower end, not at the middle of the index.
What else have you observed about Sri Lanka?
Three or four things went in favour of the country. First, the quality of developers, quality of development and delivery on time came pretty high. Second, the foreign direct investment (FDI) in real estate: many countries are closed while Sri Lanka is not so closed. Shangri-La and Taj would be allowed in many countries, but not on real estate like developing offices, residential properties or projects like the port city. Not many countries will allow that. Third was the environment on registration, stamp duty and title; that also went in favour of Sri Lanka.
A few things must occur in Sri Lanka to establish depth in the market. You still don’t have the volume. There are also not many listed real estate developer companies. Those are the two things we believe will happen as the market matures. With economic development you will see greater real estate volumes. Once these are built, developers might want to get listed.
I am just observing India’s rise in the rankings. It’s now in the semi-transparent state. But we have this perception that India is a bureaucratic place. Can you explain India’s rise?
We started tracking India in 2006. Interestingly, if you look at 2008, it was in the 50s, then moved up to the 40s in 2010. In 2012 during the dark days of the Congress government which came up with retrospective tax laws it fell. These taxes had nothing to do with real estate specifically. What it meant was that companies operating in India were made responsible for retrospective tax. Nobody likes that. To ask for retrospective tax after we have done all the accounting is not good, and it led to a decline in the index ranking.
After the Modi government was voted in, we have seen a reduction of red tape and the economy is more open to FDI into real estate development. Modi has liberalized real estate FDI completely since. There were lots of restrictions before. For example, you could only take up a 25-acre area or one million square-feet in an IT park. Modi wiped out huge sections of regulations in a stroke. He said there is only one restriction: you have to be locked in for three years. You can come and buy an apartment. Buy the full building, you can buy residential or retail. You can buy offices – no restrictions other than the three year lock in period. He then also opened the REIT (Real Estate Investment Trust) and that’s when it started to move up the index again. Interestingly, India is ranked 138 and Sri Lanka is ranked 90 in the World Bank’s Ease of Doing Business index. You sitting in Sri Lanka would definitely say India is more bureaucratic. The reduction in red tape has helped India but more than that, the change Modi made in the real estate sector has improved transparency.
Sri Lanka has in the past had a strategy of targeting improvements in the Ease of Doing Business ranking. Can this be done with the real estate transparency index too?
Absolutely. A lot of governments would like to target aspects that will make things more transparent. Has the Indian government specifically gone and targeted that? Not really. They have visibility on what the transparency and index movements have been. Some governments like Japan and Korea proactively try to raised issues addressed by the index and the World Bank Ease of Doing Business index specifically. India hasn’t done that.
One of the things you address is the depth of the market. Is Sri Lanka ready for REITs? What are the next few big steps Sri Lanka’s real estate market can take?
In terms of the quality of developments-in comparison to many markets like India-is far superior. The quality of new developments, certainly on the residential side, are value for money and superior. So clearly, developers have got that right. They understand how to make a good product. They are price sensitive, but deliver a very good product for that price so I would say it’s a big tick.
The second is on the office side: I think there is a greater requirement for new office spaces. Grade-A quality office spaces need to be built. Perhaps not strata titles sold as multiple units to many investors, but held by the developer or held by one institution, like a pension fund. I think that requires to be done. Today, the benchmark of office space is the World Trade Center. WTC was built in the 90s so there has to be more significant focus on office development. I see that as a big opportunity.
On the residential side it’s fantastic. Fantastic on the price, on the quality of the product, on the timelines and on the way it’s being sold. Because, I think, selling is being done ethically. It shows there is a lot more maturity within the developer community. I think a lot of Western best-practices have come here. Developers don’t siphon off money from buyers. Small things like when the developer sells here they sell on useable carpet area, not on built-up areas, not on super built-up areas. That is the way it should be. Whatever I am going to occupy is what you sell me. Don’t charge me for thin air, don’t charge me for super areas and other things. So I think on the residential side – great products, great prices, and great ethics.
I think on the office side new supply needs to come in. There is demand, there is latent demand and new demand from overseas. Latent demand in Sri Lanka is companies occupying residential houses, all scattered because they have not been able to get space in one large A-grade building. It’s a big opportunity. The developers have a mindset to deliver quality, they should have a mindset now to move away from residential and build these towers and not do strata title sales in those buildings.
[pullquote]On the residential side-it’s fantastic. Fantastic on the price, on the quality of the product, on the timelines and on the way it’s being sold. Because, I think, selling is being done ethically. It shows there is a lot more maturity within the developer community. I think a lot of Western best practices have come here[/pullquote]
One more product that can come here is retail. It’s getting built but there is still more need for organized retail, like malls. You can do two or three malls of half a million square feet each with a multiplex, food court, fine dining, entertainment, etc. I think the city can accommodate that.
There is enough wealth in Sri Lanka. There is enough tourism. There is enough depth in retail. Enough brands are already in Sri Lanka and many want to enter. What you don’t have here at the moment is the space. Just like office, retail is a good opportunity for the developer community. Residential will continue to boom; 75% is residential, 25% is what we believe should be retail and office. There is demand for that.
When planned-for retail is launched, it will be significant. It will be good for a while but there is a lot of opportunity. With Shangri-La, Cinnamon Life and the Odel expansion, there is some amount coming.
Do you think the sector has what it takes to attract big name private equity?
I will tell you what private equity looks at. They look at great infrastructure – within Colombo city you have decent infrastructure. They look at availability of land parcels within that city – there are still available land parcels and you can go reclaim the sea, like with Colombo Port City. They look at whether there is inherent demand within the economy. Again on the retail side and offices you have inherent demand. Fourth, they look at regulations, whether they can invest and then take out the money.
What attracts them most is a good quality developer embarking on a good quality development. What they don’t get excited about are schemes on paper. They want to see emerging markets where the project has kicked off. Approval takes a long time – plan sanctioning and mobilizing also are time consuming. They want all that so they know it’s a real project. I think Sri Lanka is in that space at the moment.
The last thing they look at is volume. Sri Lanka has to build that volume, build that critical mass. Private equity for hospitality can come in today because there has been enough that has been built and enough that is getting built. In retail and office you need to build up that mass. In retail there is planning but nothing on office space. They are not into residential as much because developers sell off-plan. The developer sells it to you, and you pay in instalments and they use the money to build. Residential developers say they don’t even take debt let alone private equity, which is more expensive than debt.
Is private equity interest lighting up for Sri Lanka?
Yes, this new government also wants business. I think there was a period when the business community was nervous because of a new government. But the new government is looking for foreign investment. What is lacking is volume, and clarity on the rules. Initially, foreigners were not allowed to invest, then strategic investments were allowed and now they say they are going to open it. But there is no clarity on the rules. For private equity to come, they want clarity.
There is a perception that Sri Lanka’s construction costs are too high. Is this the case?
Construction costs are comparatively higher, especially compared to India. But for BOI projects things are better because of duty concessions and other benefits. They are covering the costs when pricing. Even if you have no duties it’s not that material is moving only a few hundred kilometres. It’s got to come from somewhere overseas because it’s not manufactured here.
[pullquote]Construction costs are comparatively higher, especially compared to India. But for BOI projects things are better because of duty concessions and other benefits. They are covering the costs when pricing. Even if you have no duties it’s not that material is moving only a few hundred kilometres. It’s got to come from somewhere overseas because it’s not manufactured here[/pullquote]
There is some apprehension on residential that we will see a bubble. What’s your view?
I think on mid-level residential, the prices are right. There is demand. There is probably more potential there in the mid-level. At the lower end there is infinite demand. The trouble is in the luxury space. It appears there is more being built than demanded at this moment of time. In many markets the water finds its own course over a period of time. Three or four things happen. The apartment sizes become smaller. So overall the ticket prices are smaller. Some developments get delayed. Somewhere, prices will have to be brought down to make it more palatable.
Colombo, in the luxury side at this moment, appears on paper to have more supply than demand. My guess is that these three or four factors will play and the water will find its own course.
In the long run they will not be selling at the same pace as earlier. Earlier, when the building was completed there was 10% left to sell; now it might be 25% but it will sell over time.
Sri Lanka is a market, like India, where people like to own their property. It’s a big milestone in life. So you will continue to find the young population getting employed, generating wealth and wanting to own their own residence.