Investment risk scoring model for commercial properties in India
| Published date | 07 March 2016 |
| Date | 07 March 2016 |
| DOI | https://doi.org/10.1108/JPIF-05-2015-0031 |
| Pages | 156-171 |
| Author | Ashish Gupta,Piyush Tiwari |
| Subject Matter | Property management & built environment,Real estate & property,Property valuation & finance |
Investment risk scoring
model for commercial
properties in India
Ashish Gupta
RICS School of Built Environment, Amity University, Noida, India, and
Piyush Tiwari
Faculty of Architecture, Building and Planning,
University of Melbourne, Melbourne, Australia
Abstract
Purpose –There is significant research related to risk and uncertainty in valuation. Risk, in valuation,
is mostly communicated to investors in qualitative terms. There has been some research in developed
markets to communicate risk quantitatively to clients through property risk scores. However there is
paucity of research on communicating risk in emerging markets where the valuation profession is still
evolving. Indian property markets have emerged as one the fastest growing markets in the last five
years. With the growth in Indian economy and the emergence of indirect property investment market,
it is likely that domestic and international passive investors would play an important role in property
investment in India. Valuation of assets in portfolio and communication of risk in appropriate way
would gain utmost importance. The paper aims to discuss these issues.
Design/methodology/approach –This study uses analytical hierarchical process method to
quantitatively assess risk to value for office properties in India. This study focuses on identifying
principal elements of risk as perceived by key market players in an emerging economy like India.
It identifies fundamentals of market, property and lease to determine valuation risk. It may be
highlighted here that the risk that this paper is analysing is not the risk that is associated with the
valuation for valuer who is conducting valuation but systematic and non-systematic risk associated
with property. A two round of survey has been conducted to find various principal elements of
valuation risk and sub criteria’s through an online survey conducted through survey monkey.
Findings –The study found that in an emerging market like India there are limited exit option for
developers and investors due to absence of exit vehicle like REITs for office property. Principal element
of risk considered is the resale of property, i.e. exit from an investment, followed by tenant and lease
specific elements to be other principal elements of risk in the order tenant risk, lock-in duration,
functional obsolescence and lease duration. Other market risks like yield movement, rental movement,
occupier demand were not considered principal elements of risk.
Research limitations/implications –The study could be expanded further by increasing the
sample size and as this study demonstrates present market sentiments. Study needs to be updated
periodically to retain its practical importance and relevance to the industry.
Practical implications –Findings of this study could be used by valuers and investors investing in
office properties in India.
Originality/value –This is the first paper on risk scoring for commercial properties in the Indian
market.It has high importance as Indian marketfor office space will grow significantlywith introduction
of REITs.
Keywords India, AHP, Commercial property, Valuation, Investment, Risk scoring
Paper type Research paper
1. Introduction
Quantifying risk within the scope of property valuations is one of the key challenges
faced by valuers, impacting investment decision making. Royal Institution of Chartered
Surveyors (RICS) (2014) also emphasises that “The valuer should draw attention to, and
Journal of Property Investment &
Finance
Vol. 34 No. 2, 2016
pp. 156-171
©Emerald Group Publishing Limited
1463-578X
DOI 10.1108/JPIF-05-2015-0031
Received 11 May 2015
Revised 16 August 2015
12 October 2015
Accepted 1 December 2015
The current issue and full text archive of this journal is available on Emerald Insight at:
www.emeraldinsight.com/1463-578X.htm
156
JPIF
34,2
comment on, any issues affecting the certainty of the valuation”. This paper recommends
that a structured approach should be followed by valuers to provide explicit risk
communication to investors in form of quantifiable risk score. The problem, however, is
that RICS Red Book (RICS, 2014) provides guidelines for valuation but does not provide
guidance on how risk should be reported in comprehensive manner and the risk
reported in valuation remains the “judgement and experience”of individual valuer
(Lorenz et al., 2006). As highlighted by Lorenz et al. (2006) it’s not the valuation methods
that cause the problem but the “manner in which valuers express their assumptions,
account for risk […] and communicate the results of the estimation to end user”is at the
core of problem with over/under valuations.
Communication of risk in valuation assumes far more importance in emerging
markets where the data on comparable evidence for basing the valuation is sparsely
available and assumptions need to be clearly reported.
Risks reporting alongside property valuation assumes greater importance in the
background of recent sub-prime crises and banking sector getting strict with adherence
of Basel 3 requirements.
This study providesa risk scoring model for reportingrisk in valuation of investment
properties[1] within valuation reportsfrom the viewpoint of a valuer operating inIndian
context. By focusing on India, a fast growing property emerging market, the study
extends the work of Hutchison et al. (2005) who focused on UK, a mature market and
identifies risks that are relevant to valuation of properties in emerging markets. Indian
cities, as indicated in global real estate transparency index 2014, JLL (2014b) rank
between 42 and 50 andare classified as semi-transparentin the list of 102 global markets
studied for their transparency. Semi-transparent nature of Indian real estate markets
further shows importance of risk assessment and communication in valuationpractices,
which are in their nascent stages of development.
The study assumes global importance as with the opening of real estate sector to
foreign direct investment (FDI) in 2005 in India, about 6.2 billion USD of FDI have been
invested in office properties between 2005 and 2013 ( JLL, 2014c). Out of this about
4.6 billion USD of the investments came in 2007-2008 just before the global financial
crisis. The destination of most of these investment were development of Greenfield
assets, which since then have started attaining maturity. This is also evident from the
office transaction worth 2.5 billion USD that were announced in 2013 and 2014 (KPMG
and NAREDCO, 2014). All these transactions are sale or transfer of completed office
properties. Many large international investors like Blackstone, Brookfield, GIC, Qatar
Investment Authority, Ascendas and Canadian Pension funds are actively acquiring
completed office assets in India.
Indian real estate market is getting organised with FDI and institutional money
chasing income generating leased assets. This demand will further get augmented with
introduction of REITs in India. It is estimated that there is about 169 million sq. ft. of
office stockas of end 2013, which meets FDI investmentcriteria as per Press Note 2 and 3
issued by Department of Industrial Policy and Promotions, Government of India
mentioned by JLL (2014a). The role of risk communicationin valuation will only increase.
The study focuses on identifying principal elements of risk as perceived by key
market players in an emerging economy like India. It further identifies fundamentals of
market, property and lease to determine investment risk. The paper covers literatu re
study on risk assessment, management and communication (in Section 2), investment
risk scoring for office property (in Section 3), research methodology (in Section 4),
questionnaire survey and results (in Section 5) and conclusions (in Section 6).
157
Investment
risk scoring
model
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