Will India’s New Thrust on Financial Inclusion Pay off?

In reply to: http://knowledge.wharton.upenn.edu/article/will-indias-new-thrust-on-financial-inclusion-pay-off/

When Jan Dhan was launched there was a flurry of activity never seen or heard before in Indian Banking industry – more particularly in the Public Sector Banks. Financial Inclusion of the nature has been on the agenda ever since 1970s when the PSBs were directed to open accounts under Differential Interest Rate Scheme – a loan up to Rs.6000 per person at interest rate of 4%. The ticket size was increased to Rs.15000 and the scheme is still in the books of banks but not implemented. In 2005, the RBI found new fervour in financial inclusion and latter helped them with two new instruments – Business Correspondents and Business Facilitators. This scheme had moderate success because of low cost off-site mobilisation of deposits in areas where brick and mortar bank branches did not exist. All these resulted in opening barely 7mn accounts till August 2014. The same banks with the call of the Prime Minister opened Jan Dhan Accounts multiples of the figure and reported Rs.2200bn as deposits. The fact is that many existing accounts qualifying the definition have been shifted into the Jan Dhan Pool. This can be gauged by the accretion of new deposits into the PSBs in such group not matching with such claims. PSBs engaged in retail banking, sme lending, corporate finance, subject to Basel III norms and other RBi regulatory compliances and having to recover huge NPAs sans Bankruptcy Law, and with human resources heavily skewed to urban and metro banking cannot be expected to be the right bogey for financial inclusion efforts. There are post offices, cooperative societies – 93200 located right away in the villages but lacking good governance and good management and freedom to function apolitically, could have been the attention of the Government. Sadly, the Finance Ministry and the Ministry of Agriculture an Cooperation (since changed to Ministry of Farmer Welfare) do not open a dialogue in this direction. They became holy cows for the NDA government to touch.
Payment Banks, the new initiative and the MFis as also the Mudra Bank Ltd., a subsidiary of SIDBI supposedly dedicated to the cause of MSME sector, is the hope of the languishing poor.


Ultra Poor Graduation: The Strongest Case so Far for Why Financial Services Must Be a Part of the Solution to Extreme Poverty

The findings would depend upon the sample we choose for study although I am sure adequate care has been taken about this. Micro finance in India, at least, in Andhra Pradesh, has been accused of squeezing the poor showing them the heaven. The other window supported by the Government in the Self Help Group bank linkage program, the results have been mixed; there are several SHGs that have not created any durable assets and turned out to be money lenders with the help of subsidised financial assets.

Center for Financial Inclusion Blog

> Posted by Shameran Abed, Director, BRAC Microfinance Program

Shameran Abed, BRAC’s Director of Microfinance, joined the Microfinance CEO Working Group in January. He joins the Working Group’s efforts to support the positive development of the microfinance industry and brings tremendous insight into the discussion on pathways out of poverty.

This month, the results from six randomized control trials (RCTs), published in Science magazine highlighted a model of development that is an adaptable and exportable solution able to raise households from the worst forms of destitution and put them onto a pathway of self-reliance. The graduation approach – financial services integrated within a broader set of wrap-around services – is gaining steady recognition for its astonishing ability to transform the lives of the poorest.

These findings can be contrasted with the results of six RCTs published in January by the American Economic Journal: Applied Economics, which cited limited evidence of…

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An Open letter to Modi

An Open Letter to Modi


Prime Minister designate Narendra Modi inherits bad governance; almost empty treasury as the UPA-FM has drawn in advance all the dividends of the PSUs six months in advance (2014-15 first half) to arrive at the  magic figure of fiscal deficit of 4.5 percent promised by him; inflationary economy contributed by more the supply side factors; lowest growth of manufacturing sector continuing for the preceding two quarters; the burden of Food Security Act and the MNREGS to which the BJP is also a party; chaotic primary education to higher education; scamsters sitting right in front of him in the Parliament benches; election promises of the NDA partners hitting the roof and unnerving agriculture sector. At the moment, on the external front, the issues do not pose urgency.

Budget formulation in the wake of division of the State of Andhra Pradesh poses another major challenge. His hopes are in the youth that ascended him to power; women who have put tremendous faith in his promise of a safe walk in midnight even; and a corporate sector willing to lend him a helping hand. He has a strong central bank to lend support to sensible fiscal policies. Sixty eight laws waiting in the Parliament thus far, lapse. A new genre of economic and financial reforms requires to be put in place. Politically, the NDA partners would like accommodative policies. UPA still having its majority in the Upper House has potential to come in the way of speed of action. Fortunately, we are a nation with enormous intellect to find solutions to most of the ills plaguing the economy. Sorting out short term and long term issues and setting priorities in a chaos is difficult but has to be done. People who joined him with a hope to grab power and he knows who they are, should be kept at a distance through negotiation and tact that he has in abundance.

Priority obviously is governance and this starts with the fragile bureaucracy. Corruption has become a way of life and therefore difficult to tackle in one go. Nevertheless message has to go that it would not be tolerated. Rebuilding trust in honest and sincere bureaucrats would require insulating them for decisions taken in good faith and without negligence. Cleansing the corridors of power starts from the PMO, Ministries of Finance, Corporate Affairs and Industry and Commerce. It is advisable to set up an empowered Ethics Committee to take stock and act briskly. This should be chaired by the Union Minister of Home. Let the errand be punished first if the Ethics Committee finds immediate ground for action. If such persons would like to take the government to Courts, let the Government’s advocates take the cases forward.

Second in line is Education. Primary to higher secondary education has been experimented upon with no one to face the consequences of failure. The cultural fabric of the nation is on the brink of collapse. Universal primary education demands the Canadian model to be followed. According to this model, all the primary schools have to admit children within radius of 5km in different classes. All the students residing within 2km distance are not entitled to school bus. All those who opt for the school bus have to purchase the bus pass. All these schools have their own libraries and the students have to buy only work books. There is no distinction between the rich and the poor; nationality and religion. No donations and no public schools of the nature that we see in India exist. Whether Prime Minister’s son or peon’s son, he has to study in the same school if they are within the command area of the school. There shall be no primary or secondary school without a playground. The schools commence at 9a.m with a prayer and national anthem and end up at 3p.m. Once in a week the meal is provided by the school most hygienically prepared. Rest of the days the students get their packed food. There will be one break at 11.30 for 45minutes when they can play around in-door or out-door games depending on the weather. They will have a lunch break at 1.30p.m again for 45 minutes. The parents have to provide the standard note books and tools like the geometry box or calculators etc and should promptly respond to the call of the teacher whenever required to check the ward. The whole curriculum deals with the essentials – culture; history, geography, basic sciences and mathematics and sports. All the students are provided grades duly notified to the parents. All students would be subject to health check up regularly. There is no school fees or donation. Admission is accorded at the rate of 24 students in a section. The Student: Teacher ratio is 1:15-20 and the class teacher is held responsible for the performance of the students. Although primary education falls within the State domain, Union Government should take the initiative to usher in reforms in this area by opening a dialogue with the State Governments. This would lay a good foundation for the next generation.

The Higher Secondary Education should follow suit. There will be no policy of reservations in any school as the school education is universal. The Budget for education sector should be 6 percent of the total outlay for the next five years in each State that should go for bringing about improvement in the school buildings and environment. Several schools – 80 percent of them and more so in rural areas- do not have roof and where it existed it is with cracks and leaks profusely in rainy season. There are no clean toilets and well maintained play grounds. There are no benches, white panel boards and market pens. If all these exist by chance, there are no qualified teachers. Teacher posts should be filled by merit and not by caste reservations. Budgetary grants for schools should be released well in time so that the teachers’ salaries never, never get delayed. They should have proper social security when alone the teachers would be able to devote their energies towards building a new generation with good values and culture.

In line comes the farm sector. This is again a concurrent subject. The Union Government would do well to retain only Research and Development in its fold and leave the rest to the State Governments to handle. The State Governments on their part should devote their attention to extension, timely input supply and market support. Budget allocation for this sector should scale up from the current measly 2 percent or less to at least 4 percent of the total outlay. The target for the State Governments should be suicide-free farming sector. Crop planning, minimum support prices, crop and weather insurance should all move to the State Government domain. The Union Government should only be a coordination agency where required.

In view of the large number of rivers flowing across the States it is important that the Union Government should enact a suitable Law to protect the water rights and with the power of resolution resting with the Tribunals set up under such Law. Recourse to Courts shall be the last resort and in any case the State Governments should resist the temptation to be the petitioners. Arbitration mechanism should be fully explored for quick resolution of any disputes on such account.

In order that employment target of 10lakhs per annum is realised, it is important that the structural transformation of the rural economy should evolve without migration of labour to the urban areas. Each District should have a Rural Industrial Estate. The Industrial plots should be 1000-2000 sq.yds with water, power and drainage facilities fully provided. Since land prices have soared to unaffordable prices, such plots should be made available to the rural entrepreneurs on leasehold basis for ten years renewable for another ten years or outright sale in easy instalments with alienable leasehold rights in favour of financial institutions in order to access credit easily. These Rural Industrial Estates should have within a radial distance of 5km multi-storeyed residential complexes under PPP mode. There should be tripartite agreement between the owners of the rural industrial enterprises and the builders and workers for allotment of flats on lease basis for workers so that recovering rent would not pose problems. These RIEs would have testing laboratories, quality certification and packaging units, labelling and branding facilities within the easy reach of enterprises and they would be linked to the logistics hubs in the nearby urban and metro centres. Goods carriers and tempo operators would also be drawn from the rural work force.

Enactment of Bankruptcy Law and Exit policy do not brook any delay.

Critical Infrastructure being power, water and transport – road, rail, sea and air – has to be brought in with heavy infusion of capital from specific development finance institutions with participation from World Bank, ADB and the like. The commercial banks mobilising short term resources cannot afford the luxury of lending for long term projects if we were to go by their experience thus far and keep their hopes on government for refurbishing capital.

Urban and metro centres will have the logistic facilities and market facilitation centres for providing easy access to both domestic and international markets. The growth of service sector can peak to 60 percent and manufacturing sector can reach 25 percent in the next five years. The farm sector would retain its share of 15 percent. This facilitates the growth of the economy at a sustained rate of 9-10 percent within five years. If these happen people would be the winners and the vanquished without mending their ways would have to sigh in despair. Long live the Indian democracy.

Published in EENADU of 20.05.14



Witnessing growth turnpike in Indian economy: A Real Challenge

Witnessing Growth Turnpike a Challenge:

B. Yerram Raju

Fiscal Deficit at the end of November 2013.


April -Nov

Budgeted FY 2014


FY 14

FY 13


























Fiscal Deficit (% of Budgeted)




Source: http://www.moneylife.in, 03.1.2014

The rising fiscal deficit during the current year shown in the chart is a concern but the gloomy prospect of growth seems worse and needs a fresh look at the challenges in store. The figures clearly indicate that the plan expenditure is down by a near 10 percent while the non-plan expenditure is up by a solid 7 percent. There is a slow off take on the sanctioned projects while simultaneously pushing the salaries and bonanza to the government staff and interested parties moving on a big tea party.

When growth slows down there is bound to be a hit on the revenues and that is what we see here.  It is still possible to hit the revenue target if past dues and the backlog are recovered and the tax disputes for years end on some good compromises. But this would be no guarantee for bridging the revenue deficit in full. The Food Security Act 2013 is yet to roll out for implementation. If the efforts afoot are any indication, during the coming two months the transport costs on TPDS and the distribution costs are going to take the fiscal deficit to the roof, not to speak of the other items like oil and gas subsidy, MNREGS wage increases etc. Against the backdrop of these increases the inflation is bound to continue its double digit run. This would eventually force the liberal Rajan to take the interest rates northwards. Adding to all these would be the election expenditures that have cascading effect in 2014-15.

The fifteenth Finance Commission would come up with its Report immediately after the next Government takes the reins. It may bring forth fresh federal financial relationship to the table for greater decentralization to take effect. The euphoria of election wins would subside once the new government settles for serious business.

Post-liberalization trended towards a sustainable growth in the services sector while the country has to look for investors from developed countries for growth in infrastructure not supported by right policies.

Even to stay where we are in growth trajectory, we need multiple times of investments in school buildings (most public school buildings in villages and towns are in dilapidated state: some with collapsing roofs; some with no basic amenities like safe drinking water and wash rooms for children; no play grounds; no teaching aids etc.); primary health clinics; safe drinking water; drainage and sewerage systems; sanitation; highways – both central and state; repairs to rail tracks and replacement of train compartments at galloping speed to catch up with the new trains and emerging demands on rail traffic; goods transport coaches; airport maintenance etc., most of which are with the governments, State and Centre. The resources have to be found either through public borrowing or increase in taxes. If it has to borrow, it will be of long term nature as all such assets have no prospect of returning either the principal or interest. Its capacity to indulge in fiscal deficit is peaking. The virtuous moves of right to employment, right to education and food security have their loopholes in the systems that were created to result in their effectiveness.

Primary education has gone for a toss in the country and the foundations therefore have become weak. Now the effort should be to concentrate on building basic curriculum around culture, ethics, history and an orientation to understanding and respecting societal relationships. Our multi-religious and multi-cultural base has boundaries of tolerance and respect of each other in the society. This should be the base for free education up to the primary level. The rest of the edifice can easily be built thereafter.

The country’s natural resources are declining in productivity: rivers are silting more at the nose-end where they join the sea; minerals like coal to generate the thermal energy are inferior although the stocks are assured till 2050 but these are environmentally hostile; the country has very little natural gas, fossil fuels and has to depend on such of these depleting resources of the West and Middle East; soils are also depleting in energy with regeneration requiring huge organic resources; nuclear and solar energy are proving to be highly expensive.

Agriculture production though has potential still left in the virgin soils of Bihar and eastern UP on the Ganges plains, frequent flooding of rivers and mismanagement of rivers and riparian States on such count do not leave enough hope for sustainable growth here. Forest wealth is also degenerating. Animal and bird population to maintain ecological balance in the biosphere suffers from disease and malnutrition due to wanton neglect in most cases and in others due to the ravages of nature.

GDP does not distinguish between waste, luxury and satisfaction at fundamental levels and there is no accounting for the costs and benefits.GDP keeps growing with rich becoming richer taking for granted the reduction in the poor; the companies may invest and grow but the employment may go down with every unit of increase in production and the market index rises with no guarantee for equal share for their contribution. Happiness Index of Bhutan model could be a better index for growth but we have gaping statistical holes. Labour reforms are imminent.

Claims just keep growing while resources keep depleting – and real prices of energy and commodities have begun looking to north with little prospect of reversal. Financial inclusion needs a more vigorous pursuit with heart and soul and not sound and fury.

2014 therefore has a very long and enduring agenda waiting in corridors of power.

The Author is an economist and Risk Professional. Can be reached at yerramr@gmail.com

Valuation Risks cry for mitigation




Valuation Risks Cry For Mitigation

B. Yerram Raju*


The realty sector is the second biggest employer after agriculture in India. Twelfth Five Year Plan has on its huge investments in infrastructure giving the much needed push for the country’s growth to reverse the recent negativity in the next five years and in its wake accelerate a spurt in realty sector. Increasing urbanization, the huge opportunity in hospitality industry, accelerated investments in education and health sectors are going to be the drivers for the growth in real estate sector. Construction sector contributes 30-35 percent of the GDP and has as much potential to push growth or retard. There are enough numbers to support these drivers in several surveys of researchers, Census of India 2011 and the Business Analysts’ Reports that are all available at the click of the mouse.  Government incentives do not fall short either:

  • Housing finances feasible with the housing loan limit step up to US $52080 for priority sector lending.
  • US$ 625 million allocated for the Rural Housing Fund to provide homes to economically weaker sections.
  • FDI up to 100 per cent allowed with government permission for developing townships and settlements.
  • FDI up to 100 per cent in hotel and tourism sector through automatic route.


 What is most disturbing, however, is the spate of Court verdicts, public acrimony and declining stock prices of real estate sector threatening the upcoming properties in Chennai and Panvel: Hiranandini faces liquidation proceedings in a suit decreed on favour of Tata Capital; Raheja fined and penalized for defaulting its buyers in Delhi; Adarsh Housing Complex fraud facing the CBI probe; Campacola Compound 36 storied structure facing demolition in the wake of its blatant violation of the FSA norms; many more in the courts waiting for verdicts. This sector is invariably referred to as the black hole of the economy and the creator of the black money aided and abetted by the men in power and politics. There were suicides and murders and some are recorded and some recorded could not be traced to the offenders! 

Advanced economies like the US are fast changing the rules of the game: mortgage rules are being altered; guarantees are being redefined; credit rating agencies are ordained by law to be more transparent and valuers to fall in line. Governance is redefined with Volker’s Rule. 

Banks that got into the sector post liberalization have piled up no less than INR 16000croresas at the end of March 2013. Many rue that behind all this is the culpability of the valuation of the real estate and housing in retail, holding a huge risk for the envisaged growth of the sector. Enterprise Risk Management is totally absent in the sector. It is perhaps difficult to expect the valuers as a syndrome of virtue in an ocean of vice. But the time has come for thinking about the ethical practices in valuation of various types of properties including the intellectual property that asserts more as a right represented sometimes by brand or a logo. The intangible assets also are being sought to be valued. 

It should not be forgotten that the raison de ‘etre for the global recession rested in faulty credit ratings and valuation of properties that led to subprime lending and its consequences. Indian economy could not decouple from the effects of global economic recession. 

Where does the remedy lie? 

Values vary in nature and type within and across the sector and across the users: land; buildings, appurtenances; location – geographic, seismological, environmental, developmental; structural – engineering, design and component standards; housing; commercial complexes; hospitality industry; education and health sector etc. The types can be actual value, attributed or imputed value; Inherent value; apparent value; market value; registered value; admissible value; sale value; insurable value; declared value; market value and so on and some of these overlap. 

Banks, Courts, investors, insurance companies, estate buyers; home buyers, leaseholders etc broadly constitute the user groups. Some demands from these groups conflict or converge. Therefore, the purpose for which valuation is sought determines the risk dimensions. One may ask: when the user needs are met how does it matter which way they choose to adopt?   

In the emerging economic environment interlinked with global opportunities, standards dictate the future and systems and procedures define their presence. Data attributes define the analytics; but if the data is either not available or available in unreliable status it would be difficult to track and trace a default and this carries huge risk. 

Lately the Indian Banks Association (IBA) in association with the Institute of Valuers has developed a Hand Book on Valuation Standards for Banks and the forms of reporting by the valuers when an indent goes to them. These are still to be approved by the Banks’ Boards for adoption. The recent International Conference on ‘Global economy, Risk management in the field of International Valuation’ resolved to fight for their justifiable place in the regulatory regime of the SEBI that recently released draft regulations for the Real Estate Investment Trusts (REIT) as the Companies Act 2013 already recognized the chartered engineer valuers on par with the Chartered Accountants and Cost Accountants. It also resolved to develop standards in valuation and develop a code of ethics. While these are welcome initiatives, valuation risks require a deeper risk mitigation mechanism. 

Complexities in Businesses demand effective risk management of the enterprises and Enterprise Risk management centering on risk culture, risk identification, risk mitigation measures, and good governance accompanied by effective monitoring and evaluation of risk practices through risk audit holds the key for ensuring healthy growth of the sector. In Realty valuations play truant and therefore valuation risks’ assessment and management is extremely important component of Enterprise Risk Management. 

The broad concerns today are not just the traditional risk areas: There are certain risks peculiar to the enterprise itself – product risks, valuation risks, pricing risks, concentration risks, accompanying credit, market and operational risks; etc. But there are risks waiting outside our corridors to enter: capital markets, risks that might arise from multiple regulators (RBI,SEBI, IRDA, PFRA, MOF) – one solace is that there is an oversight of the impact of multiple regulators currently in vogue- a Financial Super Regulatory Board within the overarching power of the Ministry of Finance, GoI. 

However, the realty sector has no single regulator or a regulatory board providing an oversight of the sector. Multiple regulators have sometimes conflicting interests and provide leeway for the real estate to brazenly violate any and all regulations. Number of laws encircles the realty sector and each law has its own regulator. 

Complexity of business breeds an element of chaos and uncertainty as the organization is in a constant state of metamorphosis. While the organizations are dynamic the risks get distributed: Organizations have distributed operations complicated by a web of global supplier, agent, business partner, and client relationships. Traditional brick and mortar business is a thing of the past: physical buildings and conventional employees no longer define the organization. An interconnected mesh of relationships and transactions redefine business boundaries. Complexity grows as interconnected relationships, processes, and systems nest themselves in intricacy, such as deep, multi-layered supply chains. The challenge with extended enterprise relationships is that change is exponential. Not only is the organization dealing with constant change in its own operations, each individual relationship is dealing with change and continues downstream. This brings risk exposure to the organization that sits in the shoes of its extended relationships. 

The intersection of distributed and dynamic business brings disruption. Change combined with complexity in distributed operations/relationships means the organization is easily disrupted in the context of GRC. The explosion of data and transactions has brought on the era of “Big Data.” Organizations manage high volumes of structured and unstructured data across multiple systems, processes, and relationships as they attempt to unravel the entire picture of risk in the context of performance. Velocity, variety, and volume of data are overwhelming – disrupting the organization and slowing it down at a time when it needs to be agile. 

Data analytics have a scope to come to the rescue but the sector is not prepared it for it moves on kneejerk reactions than data on all the verticals both within and across the country and globe. The sector has to invest in systems; research and data warehousing.

Cash Flow Risks: 

There can be some ‘deadweight costs’. To illustrate, if a company expects operating cash flow of INR200 million for the year and instead reports a loss of INR50 million, a cash shortfall of this size can be far more costly to the firm than just the missing INR250 million. First of all, to the extent it affects the market’s expectation of future cash flows and earnings, such a shortfall will generally be associated with a reduction in firm value of much more than INR250 million—a reduction that reflects the market’s expectation of lower growth. And even if operating cash flow rebounds quickly, there could be other, longer-lasting effects. 

For example, assume the company has a number of strategic investment opportunities that require immediate funding. Unless the firm has considerable excess cash or unused debt capacity, it may be faced with the tough choice of cutting back on planned investments or raising equity in difficult circumstances and on expensive terms. If the cost of issuing equity is high enough, management may have little choice but to cut investment. And unlike the adjustment of market expectations in response to what proves to be a temporary cash shortfall, the loss in value from the firm having to pass up positive-NPV projects represents a permanent reduction in value. 

Some companies gainfully and strategically move to risk transfer markets. A company has real estate investments in Hyderabad, Bangalore, North East and infrastructure – road construction projects in Haryana and Rajasthan. The market is Hyderabad is in a flux due to political risks and in Bangalore, it is stuck due to saturation of investments in the real estate sector. North East has State funded projects and has the risk of delayed payments, whereas the projects in Haryana and Rajasthan are moving at fast pace. Deployment of resources strategically to the projects in Haryana and Rajasthan makes lot of sense for the firm presuming that it can transfer the risks. But the projects in Hyderabad and Bangalore are in mid-way and have commitments to the clientele for delivery at specific intervals. Financial risks have to be weighed against the other risks the firm carries before risk transfer markets are explored. The firm’s valuations would depend upon the extent to which the reputation risk is managed effectively. 

Infosys, Wipro, TCS, and a few other likes have been allotted prime land at nominal costs by the State Governments with the promise of huge employment opportunities in their locale. These properties unhesitatingly marked these properties to the market in their capex that led to bloated balance sheets and enhanced share values on the stock exchange in no time.  Risk transfer markets function differently for different sectors. 

The valuations risks are linked to the drivers of real estate: Consumption, investment, tax benefits, migrant remittances and speculation. 

The five different categories in my view have a different perspective on valuations. People wanting to consume a house relate it to rentals; investment motive relates to returns from other assets; tax issues are known; migrants may look at borrowing costs abroad and returns on their remittances and finally the speculators, their valuation is entirely on different parameters. Lease markets look for different sets of valuations. While the property valuations may be looking northwards, rental markets may be looking southwards. This could happen due to a variety of factors and the environment but it is the financing agency that gets the shock in non-payment of installments. In most cases the lender does not get the insurance for the full value of the loan. While the bank may grant a loan of Rs. 5crores, the insurance valuer of the same property may value only the insurable portion that may come to just Rs.2crores. In the event of recourse to the asset, the lender may actually be able to realize only Rs.1crore from the insurance and the forced sale may fetch under distress circumstances another 50lakh INR or even less. The balance may have to be written off. The valuation that determined the Rs.5crore loan would eventually come to serious questioning.                  


Building valuation is relatively easy to arrive at as the specifications can be verified and the quality of construction can also be checked reasonably. Materials used in construction will have a bearing on valuation, though high depreciation is applied for such materials such as high quality elegant marbles, granites, branded windows, costly and elegant glass panels, costly sanitary wares etc. If the old buildings are to be valued, the cost of current construction should be considered as replacement cost and the depreciated value is to be applied. 

Cost of the facilities has to be calculated and added to the total value, though such cost is highly depreciated substantially. Such facilities enhance the esteem value. Facilities such as swimming pool, club house, gym, community hall, games room, CCTV, Intercom, WIFI, Lifts, Generators, Garbage Chute, parking area, Security, Administration Office etc. are the factors that determine additional fancy valuation. 

Factory and stock valuations are entirely a different ballgame. Depending on the nature of the enterprise, the valuations are arrived at. 

As the technological advancements are visible these days, obsolescence is the main factor in valuation of such facilities. 

Fall in demand may be due to shift of location’s characteristics. announcement of the area falling under seismic zone, unauthorized occupation of slum dwellers nearby,  reputation loss of the builder due to the exposure of poor quality construction elsewhere. 

Natural calamity such as Tsunami has affected the value of the property which is in the coastal area.

Any announcement of zone classification restrictions by the authorities will also affect the value of the property. 

Acquisition notice issued for general purpose such as road expansion, new airport expansion, will reduce the value of the property substantially. 

Infrastructure development such as maintaining Good Park with a facility for morning walkers, opening of mall, good restaurants, hospitals, decent super markets in the vicinity, will enhance the value of the property.

A few live examples, which resulted in the change of valuation of properties would be in order:

  1. Value of properties across the coastal line reduced substantially after tsunami.
  2. Around the year 2000, Gachibowli, a village suburb on the periphery of Hyderabad but part of the then announced financial city, suddenly got inflated values when the ICICI Bank bought an acre of land at INR. 14lakhs against the then prevailing market rate of just around INR one lakh. There was no looking back on the land rates in the area thereafter.  Value of properties near I-T corridors increased multi fold in chennai (OMR). From a mere INR 5 lakhs per acre in 2005, the value in that area increased to INR 25 lakhs per acre immediately after the announcement in 2005. It further increased to INR One crore per axre after the allotment of land to i-t majors in 2006 and the value increased further to INR 5 crores per acre after the office space was occupied in 2009 and now there is no land available even for INR 10 crores per acre.
  3. Office space in OMR skyrocketed and the monthly rental value went up to INR 50 per sft, but the same got reduced to INR. 20 per sft., on its slowdown in USA.
  4. The announcement of new airport in Chennai has resulted in reduction of value in the areas affected by the expansion as people feared less compensation by the government on acquisition
  5. Better infrastructure facilities in tier ii cities resulted in increase in valuation of properties in such tier ii cities
  6. Easy and affordable finance by housing finance companies such as LIC housing, Canfin homes, HDFC has given better purchasing power in the hands of middle class to own their houses.
  7. Younger generation engineers with computer background were given jobs by it majors in a big way for offshore development due to outsourcing from US, has resulted in many of the youngsters going for owning properties with the financial assistance by banks and housing finance companies. This rush resulted in the increase in rate per sft. Of flats in major cities.

Ill-gotten money of corrupt politicians, bureaucrats and unaccounted money of businessmen have been invested in real estate, resulted in mush room growth of construction activities with no proper approvals. The innocent buyers of such properties have to face the severe action by the authorities such as demolition, which has resulted in losing the base value of such properties. 

Land Titles: Most land registries are disorganized and non-transparent in their dealings. The landed properties are most times locked up in legal disputes. Fixing ownership is many a time nightmare. The purchase price of land actually costs a fraction of the developed land for the intended purpose. The intermediary costs hide like a bikini suit. A significant number of plots may not have clear title where the possession is 90 percent ownership. Aggregation has its serious risks as most of the land is held by individuals/families. If any legal issue involved in the title of the property and if there is a possibility of any defect in the title, that will have an impact on the valuation. 

Caveat Emptor rules.[i] For example, in Hyderabad and Secunderabad and in most places in Telangana districts the erstwhile Nizam has passed on properties to his harem at free will and the title in several cases is not properly recorded. Still, land transactions did take place. It is not enough if one goes through the encumbrance certificate for the last 13 years as most purchasers do but the legal notices served on the title that get published in several prominent local dailies both in English and vernacular. Such notices are carefully scanned and documented by a software company and available at nominal price to the intending purchaser. The buyer can ask the seller to get vacation of this notice before the transaction could materialize. 

Regulatory complexities invariably end up in higher transaction costs. The regulations vary across States, cities and different types of local bodies. Land ceiling Act has its grinding teeth. The newly enacted Land Acquisition Act 2013 empowers the State for resuming land for public purposes or misclassified purposes earlier getting reclassified for such enablement. This Act poses new risks and challenges for the realtor. INR Stamp duty and capital gains tax add their own costs that have to be reckoned properly in valuations. Urban Land Ceiling legislation in some States has not been repealed and this adds to the costs for clearances. 

Agricultural lands are outside real estate definition as they yield corps, which has a separate value other than just land.  Similarly, mines are also excluded as they have additional value in the form of deposit of minerals and ores. 

Hospitals are part of the facilities of health care but have a separate real estate value with equipment permanently attached, such as oxygen pipe lines, super specialty operation theatre and state of the art emergency and casualty wards. 

SEZ land cannot be freely transferable. If the land is not used for the purpose, then that land has to be returned to the authorities as the allotment was made at concessional rate.

Posh area has fancy value as the owner pays extra for pride ownership. 

Low income group area will not have any big appreciation as there are certain restrictions with respect to ownership. Most of them are allotments by the authorities at a concessional rate or free allotments.

Apart from that, there is an apprehension that the quality of construction is poor and the general maintenance of the complex is far below normal. 

Guideline value is the benchmark value for the purpose of stamp duty by the government to restrict black money in Real Estate. The Income Tax Authorities take guideline value for capital gains purpose, if the value shown in the transaction is less than the guideline value. Further to that, penalty proceedings will also be initiated against the assessee. 

Infrastructure growth can be anticipated on the announcement of a new bus terminal nearby or metro rail station to be located nearby, closer to proposed IT corridors etc., 

Authorities might have stated certain areas as purely residential wherein conversion to commercial, which will fetch more value is not possible. This factor will have the bearing on land value. 

Development Control Rules of the authorities may specify conditions for more FSI such as road width, set back space, height of the building, plot coverage etc., Eg., Land with more frontage in a road width more than 60 feet in city like Chennai, will be eligible for more than 2.75 FSI whereas lesser size land will have maximum FSI of only 1.5 times of the land area. 

Formal funding mechanisms are scarce and most depend upon high cost informal costs that carry huge risks – one, in identifying these costs and two, in assimilating them into the cost structure for appropriate valuation. In fact, it is no exaggeration that there would be no real estate transaction without hidden costs being incurred by the buyer. This would mean that the recorded price is lower than the actual price. The financing institutions accommodate the hidden costs through equipments and internal structures when retail buyer seeks the loan. REITs are a significant capital and liquidity source for real estate industry globally and are making their entry, thanks to the SEBI’s recent draft proposal discussed earlier. 

Corporate Governance issues boil down basically to the following: 

Supervisory Board has to combat the challenge of high transaction costs, high informal funding costs leading to tax avoidance and large use of cash. Payments and settlement systems have not been integrated with the financial entities. Businesses need restructuring to enhance tax efficiency.

Complex regulatory regime coupled with unclear land titles would lead to power games. Political risks make the organizations less transparent than required. 

Well qualified independent Directors on Boards as required under the new Companies Act 2013 for which the rules are being released with reasonable speed are rare to come by. 

The Boards rarely know the information they have to seek from the CEOs and there are compromises on information sharing. 

All these translate to depressed valuations and poor ratings that would end up in the spiral of increasing interest rates from the financing institutions on the debt component. 

Bond markets have not yet matured enough to get into by the evolving realty sector.

When the realtor operates in debt markets and informal credit markets, the costs are going to be huge and they would be passed on to the buyer. Thus the pass-though mechanisms have some collusive retail financing permissiveness. Insurance costs are not properly structured with the result several risks in the property like poor construction quality, poor infrastructure, waste management, and embedded infrastructure of inferior nature devolve on the ultimate buyer. These many a time escape the valuations upfront. 

Risk Mitigation Measures

1. Risk culture needs to spread across all verticals in the sector by assiduously and consciously practicing it. Risk mitigation would start with an inclination to identify risks and actually identifying thereafter. The next step is educating the entire staff and administration as to where the risks are originating and fixing responsibilities and timelines to reduce or eliminate all together these risks. Therefore, fundamentally it devolves on sharing information across the organization.

2. We need a separate Regulator for the Realty sector that should be consisting of chartered engineers, experienced insurers and experienced financiers to put in place realistic regulations with implementation rigour.

3. Best practice manual for a variety of products where in the procedures and processes have to be clearly spelt out and the Builders’ Associations have to take on the responsibility.

4. Transparency in transfer pricing mechanisms.

5. Payment and settlement systems to integrate with the sector.

6. Defined products and processes matter most.

7. Corporate governance has to improve. McKinsey’s Global Institute in its latest study on the subject indicates that directors spend more time on strategy than any other area. 12 percent only is spent on risk management. The Study mentions that companies and boards are becoming more complacent about risks as the 2008 debacle becomes distant memory.[1]

Corporate social responsibility assumes importance to enhance green field investments in real estate maintenance.

8. User association responsibilities to upfront the valuation mechanisms.

9. Each Realtor shall have mechanisms to oversee good governance, risk and compliance with clear cut responsibility for the Chief Risk Officer who shall be put in place mandatorily and who should be responsible to the Board.

10. Builders’ Associations should engineer specific studies to highlight how much of a percentage growth in the sector contributes to the growth in manufacturing and more particularly the SME sector as a building has over hundred MSMEs as vendors. The Corporate Social Responsibility of the sector can be moulded to enhance value to the vendor organizations in meeting the emerging standards in the components.

Ethics in business matter most at this juncture when the industry is at cross roads fighting for visibility. 

It is the systems and standard operating manuals, effective governance practices and the detailed risk management that hold the key for the healthy growth of the sector and the economy as well in its wake. The Institution of Valuers at its recent Mysore Conference (23-24 November, 2013) resolved to fight for their justifiable space in the realty sector on interactive platforms of the Government, Institutes of Cost Accountants, Institute of Chartered Accountants and Institute of Company Secretaries and Centre for Corporate Governance. They would like to disseminate knowledge on valuations and their varying dimensions. They are keen on setting up knowledge platforms driven by business ethics. One should only wish them good luck.


[1] Madeleine, Dy. Program Specialist, Centre for Financial Inclusion.

*The Author is an economist and former Dean of Studies, Administrative Staff College of India and former Regional Director, PRMIA, Hyderabad Chapter. This is an abridged text of the presentation by the author at the recent International Conference on ‘
Global economy, Risk management, and International Valuations’, held under the auspices of Institute of Valuers, Mysore, India.

[i] caveat emptor (kah-vee-ott emptor) Latin for “let the buyer beware.” The basic premise that the buyer buys at his/her own risk and therefore should examine and test a product himself/herself for obvious defects and imperfections. Caveat emptor still applies even if the purchase is “as is” or when a defect is obvious upon reasonable inspection before purchase. Since implied warranties (assumed quality of goods) and consumer protections have come upon the legal landscape, the seller is held to a higher standard of disclosure than “buyer beware” and has responsibility for defects which could not be noted by casual inspection (particularly since modern devices cannot be tested except by use, and so many products are pre-packaged). (See: consumer protection laws) Source: http://legal-dictionary.thefreedictionary.com/caveat+emptor.