Stock markets have reached unprecedented heights. However, the Indian financial services sector, which has been facing its own level of stress even prior to the pandemic, including around the much talked about Non-Performing Assets, is yet to chart a path out of the issues. The pandemic may only increase the challenges, as and when the current tide of protection recedes. The banking sector is carrying its share of the pain, and within that, so are the Indian nationalized banks. Steps which go to mitigate those issues would be helpful in these times, to get the resources as well the confidence of funding restoration and growth, and in turn to work towards the INR 5 trillion dream.
In India, public sector banks own a significant amount of commercial real estate in the form of offices and branches for their own use. While in recent years the trend may have moved to taking real estate on rent, nationalised banks because of their lineage, appear to own a relatively higher amount of immovable property compared to private sector banks. A quick check of 5 large nationalized banks’ balance sheets reflects that immovable property constitutes around 0.70 per cent of their total assets, as compared to around 0.25 per cent for 5 large private sector banks, with this apparently small percentage difference converting to a number of around INR 34,000 crores.
India has successfully joined the select league of nations which have rolled out the REIT platform, and the idea to explore is to launch a Bank REIT in India, by transferring the immovable property held by nationalized banks from their respective balance sheets into the REIT, and then proceeding for a public listing and divestment of the REIT ownership.
A simplified structure diagram of the model is given below.
Increased liquidity: One obvious benefit of replacing fixed assets in the banks' balance sheets with cash would be the generation of liquidity with Banks. This will support Banks to lend in these times, and go to reduce their dependence on capitalization, either by the Government or otherwise, besides strengthening their financials and giving them the ability to focus on their core business assets.
Service industries typically see an unlocking of value when non-core assets are separated, thus freeing up capital for the core business.
Increased profitability: The Profit and Loss of Banks would indeed see an increased charge on rents paid to the REITs on these premises, but on the other hand, the capital generated by hiving off the real estate would be expected to generate returns higher than the rent paid, thus resulting in increased profitability to the Banks.
Flexibility on divestment amount: The REIT model gives the flexibility to the asset owners to divest an amount that they desire, with the regulations requiring a minimum divestment of only 25 per cent
For the markets and investors
Leveraging the capital surplus: Markets, both domestic and international, are experiencing an unprecedented wave of liquidity, with capital looking at newer and newer avenues to deploy. A REIT instrument of this type could leverage off the liquidity wave, presuming it continues for a bit. Given that a REIT unit is an asset backed security, it should typically enjoy a relatively high degree of confidence with investors.
Multi-tenant mix: From an investor perspective, a multi-tenant model diversifies risk, which is possible in this format if one brings in multiple banks, while the perception may yet continue that common ownership vests with the Government.
Government sponsored Management: The NIIF model has worked well on the infrastructure side, and having a similar Government sponsored professional team to manage the REIT will balance out investor objectives of a no-conflict perception on the one hand, and at the same time, given the criticality both of these assets and its present set of owners, have a governance and defense mechanism around avoiding any unintended consequences around ownership and management of these assets.
Given the minimum ticket size for investment in a REIT unit [INR 1 lac], besides tapping institutional excess capital, this would give opportunity to the Indian retail investor to invest in, and own, a share of the pie, thus also broad basing ownership of the asset.
Established model: The existing listed REITs have established benchmarks around valuation and rentals, though there may be tweaking to the valuations based on the perceived strength of the tenant mix.
Current times do require innovative approaches to mitigating the unprecedented issues on hand, and the above could be one of multiple ideas to explore, as the banking sector prepares itself to support the INR 5 trillion dream. Needless to add, while there are already reports of NHAI exploring the similar InvIT model to raise finances, the REIT and InvIT platform can be explored across various businesses owning immovable property and hard assets, whether in the Government or private space.
(Gautam Mehra is, Partner, Tax and Regulatory, at PwC India. The views expressed are personal.)