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On the IT-ITES trail

Posted online: Friday, November 03, 2006 at 1243 hours IST
Updated: Friday, November 10, 2006 at 1301 hours IST

A year ago, following a tip from a real estate broker, Ajay Mathur, a Noida-based software professional, invested in a plot in Mohali. He made the classic mistake of buying high at a time when the real estate market in Mohali was in the throes of speculative excesses. In the correction that followed seven months ago, all his gains were wiped out. Says a rueful but wiser Mathur: “Today my investment is worth less than my purchase price of Rs 18,000 per sq yd.”


By chance rather than design, Mathur’s investment has one redeeming feature: the price might be wrong, but the place is right. Many software companies are entering the Chandigarh-Mohali region. By hanging on to his investment for the long term, say five years, Mathur could turn his losing hand into a winning one.


Like Mathur, you too could invest in a tier II or III city based on a hot tip, or by following the herd. However, an alternative, more systematic approach exists. It involves doing your homework meticulously. It lacks the excitement of an on-the-spur investment, but more often than not, it works. Here are some of the criteria you should look at before investing in a tier II or III city:




Understand what causes prices in tier II and tier III cities to appreciate. “Demand for real estate gets created and prices rise when new businesses are set up in a city,” says Veer Sardesai, CEO of Pune-based Sardesai Finance, a financial planning firm.


Unitech MD Sanjay Chandra too supports this view. He says, “Our company will go only into tier II cities with high employment generation potential, such as Kochi and Hyderabad.” Already, prices have risen very high in many tier II and III cities. “Prices have gone up even though there isn’t significant amount of economic activity in those cities to justify those prices,” says Chandra.


Adds Rajan Ahuja, director of Realty Verticals, a Gurgaon-based real estate advisory firm: “Towns like Rudrapur have come into being entirely because of the government’s initiatives and policies. Right now there is no economy and no employment there. As such it is a high risk-high reward investment.”




Companies move to cities that can support their activities with the right infrastructure, which includes adequate power, water, roads, and local transport network (for transporting employees from their house to the office and back). Availability of the right talent pool at the right cost also determines companies’ location decision. Also, look at whether land is available to support these new developments.


For many industries, say IT-ITES, proximity to a domestic and an international airport is also important, since either their employees are frequently flying out, or international clients are flying in. Check out also whether the city you plan to invest in can offer these infrastructure elements for a sustained period.




If the city you plan to invest in meets the above two criteria, then for your investments to fetch the right returns you need to invest in the right location. “Taking a close look at the masterplan will help the investor determine in which direction the city will grow. He can then invest in an appropriate area,” says Sardesai.




Having considered all these factors, you can’t breathe easy yet. Next, look at prices. Have they moved up already? If they have, there might not be scope for significant gains.


Sophisticated investors look at the affordability ratio, which is the ratio of average house price to average income level. If that is still low, the city remains an attractive investment destination.


Builder’s reputation


Finally, look at the reputation of the builder you are investing with. “Check the developer’s track record of deliveries,” says Anurag Gupta, MD, Majestic Properties, which is developing the 150-acre Melange City in Jaipur.


Adds S.K. Sayal, CEO, Alpha G:Corp, which is focused strongly on tier II and III cities such as Karnal, Amritsar and Ahmedabad: “Investing with a reputed developer provides safeguard, because quality developments always command better prices. When there is a downturn in the market, prices of good projects hold steady, or decline less than that of poor-quality projects. If the market declines by 20 per cent, quality developments decline by only 5 per cent.”


All the above requires rigorous study and analysis of a city’s potential. Here, then, is one tip designed to make your task of selecting the right city easier.


Follow the IT-ITES trail


In all tier I cities, land prices have moved very high, and opportunities for large-scale development have grown scarce. As Tushar Kumar, MD of GTM Builders and Promoters, which is developing high-end villas in Jaipur says: “If you want to develop a township, where is the land available in tier I cities? At the same time, strong demand for authorised and well-planned townships exists in tier II and III cities.”


As builders move out, investors too will have to move to tier II and III cities. But which ones? At present, the main components driving real estate growth are housing, technology (demand from IT-ITES sector), retailing, hospitality, and special economic zones. You could invest in any of them.


Housing shortage is prevalent all over the country, so that alone won’t help the investor determine which city to invest in. For your investments to fetch good returns, housing shortage must be combined with strong purchasing power. That’s available in cities where IT-ITES companies have forayed.
You can invest in other sub-sectors also, such as retailing, hospitality, and special economic zones, but most of these are in a nascent stage.


Strong potential


The IT-ITES sector, on the other hand, has a well-documented track record. According to Nasscom figures, both revenue and employment in this sector have grown at a compounded annual growth rate of 25-30 per cent for the last five years. Again, according to Nasscom projections, the sector is expected to maintain this growth rate till 2010.


Consider also that IT-ITES alone accounts for 75 per cent of total demand for office space in the country. This demand stood at 37.5 mn sq ft in 2005, and is estimated to grow to 200 mn sq ft by 2010.
A just-published India Infoline report (Indian Real Estate: Land Calling) states that the IT-ITES sector will account for housing demand of 30 mn sq ft annually till 2010 (See table: Annual housing demand from IT-ITES).


Given such high growth numbers for both commercial and residential space, hitching your investments to the IT-ITES bandwagon could prove to be just the winning edge you need.
Manufacturing does not result in similar high demand for office, housing and retail (malls) real estate because it employs many low-wage workers.


Moving to tier II and III


Besides real estate developers, IT-ITES companies too are moving to tier II and tier III cities. Jones Lang LaSalle’s report (Tier III Cities: The Next Offshoring locations) suggests that India could maintain its cost advantage in offshoring by shifting work to tier III cities.


According to this report, labour costs are rising in tier I and II cities. In Bangalore and Pune, they rose by up to 40 per cent in two years. High attrition levels (14-16 per cent annually in tier I and II cities) have added to companies’ worries. Even as costs rise, competition is driving billing rates lower. Meanwhile, the cost differential between tier I and II cities is eroding. Tier III cities, says the report, still offer a 15-30 per cent cost advantage over tier I and II cities. However, it also points out the risks attached to tier III cities availability of smaller labour pool and less real estate which could prevent companies from scaling up rapidly if and when they want to.


Tier II or III?


Citing the same reasons, the just-published India Infoline report (Land Calling) is more bullish on tier II cities over tier III cities. “If a number of large companies enter a tier III city, and they keep adding to their staff strength, the tier III city will not be able to meet this demand. High demand could also push up the cost of real estate,” says Ashutosh Narkar, analyst at India Infoline. He adds: “Tier II cities offer both cost advantages and scalability.”


Finally, whichever tier II or III city you choose to invest in, do the due diligence. Your decision to venture further afield should be based on concrete numbers, and not amount to a leap into the dark.



‘Businesses drive demand’


Veer Sardesai, CEO, Sardesai Finance, Pune



On factors that drive prices up
Demand for real estate gets created when new businesses are set up in a tier II or III city.


On infrastructure
Companies move to a city that can support their activities with the right infrastructure: electricity, water, roads, and local transport. They will also look for the right talent pool at the right price.


On location
Consulting the masterplan of the city will give you an idea of the direction in which the city is likely to grow.



‘Aspirations fuel demand’


Bappaditya Basu, Head, retail agency, Trammell Crow Meghraj, Mumbai



On rising aspiration levels
The upper and middle-class population is rising fast in non-metros. Aspiration for lifestyle products has risen, thanks to the media.


On costs for investors
is cheaper and is easily available compared to tier I cities. Tier II and III cities offer several attractive options to investors.


On success probability
Even though the percentage of affluent class is lower in non-metros, there is enough to sustain developments. Developers who strike first will strike gold.


‘Prices up in tier III cities’



Rajan Ahuja, Director, Realty Verticals, Gurgaon



On growth drivers
Economic growth, employment generation, spending power, infrastructure, and demographics all affect demand for real estate and prices.


On prices
Prices have moved up already in many tier III cities. Plots from good developers in Mohali are available for Rs 11,500-14,500 per sq yd, up from Rs 6,000 per sq yd two years ago.


On cultural orientation
Acceptance to new concepts in tier II and III cities takes time. A town like Chandigarh still prefers villas over apartments.



By vayaM CS