REITs and InvITs are quite new investment vehicles in India, but they are very popular in the global market.
REITs – Real Estate Investment Trusts are investment trusts that work with similar concepts like mutual funds, it collects money from investors to offer them a liquid way of entering the real estate market and earn rental income plus long-term capital appreciation. It will invest only in commercial real estate projects. The returns generated on these real estate schemes are distributed to the unit holder through dividends.
InvIT – Infrastructure Investment Trusts also work with a similar concept of mutual funds that collects money from investors and invests in infrastructure assets. Therefore, a significant road project, highway plan, pipelines, warehouses, power plants, etc. can attract InvITs for investments. The returns generated by infrastructure projects are distributed to InvITs investors through dividends.
REITs, InvITs facilitate investments into the real estate sector and Infrastructure sector respectively. Here, you can buy and sell units rather than assets (Real estate Properties/Infra projects), to diversify your investments and make a profit from that. They earn income from their holdings which is passed on to investors. It has to distribute 90% of its distributable cash flows to investors. This structure is governed by SEBI, which offers a framework on registration and regulation of REITs and InvITs in India. The government has permitted banks and mutual funds to invest in these instruments with some limitations. Fund house infused Rs 3,972 crore in REIT in 2020 from Rs 670 crore in 2019
How they work
REITs earn secured and regular income through long leases, offer liquidity in comparison with direct investment in real estate properties. Income is typically generated from REITs in the form of rent, this revenue is regarded as a guaranteed income. InvITs generate cash flow from infrastructure projects. You can purchase REITs and InvITs just like you do shares in the stock market without the hassle of purchasing actual property or the complications of legalities.
The minimum investment amount in REIT and InvITs is Rs. 10 – 15k, It will enable greater retail participation in such instruments. The minimum number of unit holders, other than sponsor, its related parties and its associates shall be five together holding not less than 25 per cent of the total unit capital.
Here, we will discuss the structure.
A sponsor sets up the REIT/InvIT, and collects funds from the investors. The sponsor appoints a trustee, whose role is to oversee the functions of the REIT/InvIT. The Sponsor and trustee appoints an investment manager, whose function is to identify and recommend investment opportunities and to manage investments. These investment trusts can invest directly by acquiring real estate / infrastructure properties or through an SPV.
Each sponsor shall hold not less than 5% of the number of units of the REIT on post IPO, the Sponsors on collective basis shall have net worth of not less than INR 1,000 Mn provided each sponsor’s net worth is not less than INR 200 million. Minimum 80% of the value of REIT assets shall be invested in completed and revenue generating properties.
Risk factors
Cash flow deviation due to the longer project, greater the risk of deviation in projections compared to the actual cash flow. Fluctuations in rental yields due to situations like Covid crisis etc. Low liquidity on secondary market, political and legal issues and risk of over valuation of assets.
Valuation methods
Income Approach – Estimates value based on the present value of future earnings or cash flow. If 80% investments of Investment trust is into operating assets, discounted cash flow method under income approach is widely used for valuation of underlying operating assets of the trust.
Market Approach – Measuring the relative value of the underlying assets of the trust based on comparable companies. Relative multiples like Price/SF/Unit, implied cap rate and EV/EBITDA etc. can be used to estimate the value of underlying assets of the investment trust.
Example:
Embassy Office Parks portfolio comprises 8 office parks and 4 city-center office buildings totaling 42 msf (million square feet) of total area. They provide strategic amenities, including 2 completed and 4 under-construction hotels. Their Portfolio is strategically located in India’s four key office markets of Bengaluru, Pune, Mumbai and Noida. Their Occupancy is at 89% with weighted average lease expiry of 7 years. They have 195 tenants comprising a mix of blue-chip multinational and Indian corporates and more than 50% of Gross Rentals are derived from tenants in the technology sector.
Units of Embassy REIT have outperformed the benchmark NIFTY Realty Index since its listing in April 2019. EMBASSY REIT has distributed INR 22 per unit during FY 2020-21.
Conclusion
There are a lot of factors which affect the REIT and InvIT investment vehicles. Operational difficulties affect the timelines and financing activities of various real estate and infra projects. The demand has reduced for office and commercial spaces since companies have extended work from home, Especially IT companies are planning to continue permanent work from home. For infrastructure assets such as roads, toll collections dropped down in pandemic, the road ministry has suspended toll collection at all toll plazas during the lockdown. Consider all these factors, understand how they perform during different economic cycles and do proper research before making a decision.
