India office boom becomes glut as vacancies hit 20%

Staff Writer
Columbus CEO

(c) 2013, Bloomberg News.

SINGAPORE — India's slowing economy has left its big cities with a glut of office space, pushing up vacancy rates, freezing development and prompting some builders to convert commercial projects into housing.

Vacancy rates in the financial center of Mumbai and capital New Delhi topped 20 percent in the third quarter, the highest in Asia after Chengdu, China, where 32 percent of offices are empty, according to broker Cushman & Wakefield Inc. Six Indian cities are among the 10 office markets with the worst vacancies in the region, according to Cushman.

Demand for offices in India has been declining as Asia's third-largest economy — labeled a "dream market" by Warren Buffett two years ago — faces the slowest expansion in 11 years, the fastest inflation rate among large emerging markets, and the risk of its debt ratings being cut to junk. New supply in the country's seven major office markets, including Mumbai, Hyderabad and Bangalore, fell to the lowest in almost two years in the three months to Sept. 30, broker CBRE Group Inc. said.

"India is faced with an intimidating macro-economic landscape," said Anshuman Magazine, chairman of CBRE South Asia Pvt, in New Delhi. "Companies remained cautious, a trend which continued to inhibit office leasing activity across the country."

India's economic growth probably held below 5 percent for a fourth straight quarter, the longest stretch in data going back to 2005, according to a Bloomberg News survey.

Until two years ago, India was a darling of global investors with the economy expanding more than 9 percent in the year ended March 2011. That spurred 55 million square feet (5.1 million square meters) of new office space across the country's key cities in 2010, according to CBRE, which began compiling the data that year. That compares with 29 million square feet in 2011 and 30 million square feet in 2012. For the first nine months of this year, 23 million square feet were added.

The building boom ended as economic growth fell by 50 percent and companies and investors showed little confidence in a government battling corruption scandals. ArcelorMittal and Posco scrapped plans for $12 billion of investments, while global funds pulled $12.3 billion from Indian bonds in the five months to October. Buffett's Berkshire Hathaway Inc. exited an insurance distribution venture this year.

"Developers have been delaying their projects to keep pace with the reduced demand," Sanjay Dutt, executive managing director for South Asia at Cushman in Mumbai, said. "The economic conditions have forced fresh demand to be even more subdued than expected by most."

The increase in empty office space has made rents in New Delhi and its surrounding areas, known as the National Capital Region, and Mumbai less costly. Mumbai was ranked sixth and New Delhi 13th for the cheapest rents in business districts in Asia- Pacific cities, according to a report from Chicago-based Jones Lang LaSalle Inc. in August.

Average prime office rents in Mumbai's Bandra Kurla, a business area north of the city that is home to UBS AG and Citigroup Inc., were $581 per square meter a year, while rents in Delhi were $374 per square meter, the Jones Lang LaSalle data showed. Rents in Hong Kong were the highest at $1,486 followed by Beijing at $1,004. A square meter is almost 11 square feet.

Average rents in Mumbai rose 0.5 percent in the second quarter from the previous one, while they were unchanged in New Delhi, according to Jones Lang LaSalle.

"Indian cities have not recovered from the rental and price correction of between 20 percent and 40 percent from the peak in the third quarter of 2008, while other business districts in Asia-Pacific have performed better," said Ashutosh Limaye, Mumbai-based head of research at Jones Lang LaSalle India. "The oversupply created in Indian cities kept rents and prices in check."

Bangalore, the south-Indian city that has established itself as a technology hub, has the largest office market in India with about 100 million square feet, according to CBRE. The city, the National Capital Region and Mumbai account for about 65 percent of the office real estate market, according to the broker.

Bangalore — home to Texas Instruments, the largest analog chipmaker, and Qualcomm, the world's largest maker of chips used in mobile phones — posted the steepest decline in office space added to the market, falling by about 90 percent in the September quarter from the previous three months, CBRE said. The National Capital Region had an 80 percent slide, while new office supply in Mumbai dropped by more than half, it said.

Rising vacancies and declining rents are prompting developers to put off projects. DLF Ltd., India's biggest publicly listed builder, is holding off building new office towers until it sees a recovery in demand, Ashok Tyagi, group chief financial officer of the Mumbai-based company, said on a conference call with analysts on Oct. 31.

"The uptake of leasing is slow," Tyagi said on the call. "We have enough capacity for the next 18 to 24 months, if not longer. We have land for further construction, but we need to see how demand shapes up."

DLF shares have declined 35 percent this year compared with the 39 percent drop by the CNX Realty Index, which tracks 10 real estate companies. DLF's second-quarter net income dropped 28 percent to 1 billion rupees ($16 million) as higher construction and interest costs crimped profitability.

To counter the decline in demand, some developers, such as Oberoi Realty Ltd., India's second-largest by market value, are considering converting plans to build offices into residential buildings.

"Commercial assets are struggling," said Chairman Vikas Oberoi.

Many developers have converted their commercial projects into residential because they provide positive cash flows upfront, Oberoi said. The company will explore the option "where it's structurally possible for us to do so," he said.

"The change from commercial to residential is happening across India," said Magazine at CBRE. "As a lot of people overestimated the demand in commercial, in some places they will find it easier to convert to residential and get their cash flows going."

DLF switched to plans for housing from office for a 17.5- acre (7-hectare) plot in central Mumbai before deciding to sell it to the Lodha Group last year, according to Cushman. The conglomerate Adani Group's project in Mumbai and developer VRaheja Construction's redevelopment of a slum in Mumbai's north also are among those shifting from offices to residential, the broker said.

Not all are refraining from adding supply. RMZ Corp., the largest office developer in south India, is building offices outside of the central business district in Bangalore, catering to the information technology industry and tenants looking for cheaper offices, said Raj Menda, managing director at RMZ.

RMZ, which received $300 million of investment from Qatar's sovereign wealth fund this year, has 98 percent of its office assets in secondary business locations, Menda said.

"We are on a terrific acquisition spree," Menda said in a phone interview. RMZ, based in Bangalore, is buying office buildings in cities including Bangalore, Chennai, Pune, Hyderabad and the National Capital Region, he said.

Bangalore is also home to Goldman Sachs' third- largest office globally. Nissan and Renault local units have their offices in Chennai.

Private-equity funds are favoring India's office market because of attractive yields and an anticipated pickup in demand as the economy shows signs of stabilizing. The rupee has gained 9.5 percent from a record-low Aug. 28, while overseas investors returned to buy $17 billion of stocks this year.

GIC Pte, Singapore's sovereign wealth fund, and Ascendas Pte said Nov. 19 they plan to invest as much as S$600 million ($483 million) in Indian commercial property.

Blackstone Group LP and HDFC Property Ventures Ltd., the private-equity unit of India's largest mortgage lender, made a $367 million investment in Bangalore-based Embassy Group in February, according to data from Venture Intelligence, a research firm that tracks private-equity investments in India.

A pickup in demand enough to relieve some of the office glut may be slow in coming. Annual supply this year is estimated at about 40 million square feet, while demand will be for about 25 million square feet, according to data from Cushman.

"Every year progressively, office absorption has been declining since 2011," Magazine at CBRE said. "The current office supply may take about two years to get occupied."

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