As expected, the Indian Commercial Real Estate (CRE) office market recorded a 32% year-on-year decline in net absorption S1CY21 (Jan-Jun 21) to 7.2 msf. As green shoots emerged on January 21 with a resumption in leasing applications and large pre-lease transactions, the second wave of Covid in India could lead to a delayed recovery in the office market. We anticipate a resumption of leasing towards the end of September 21 thanks to the improved pace of vaccinations, with some companies recalling their employees to their offices while the current trend of downsizing and postponing new leasing decisions could continue in the short term. However, we remain positive about the long-term resilience of the Indian office market, with a limited number of 8-10 large Pan-Indian office developers, with India having affordable rents of less than USD 1 / psf / month. and an abundance of STEM talent. We remain bullish on office asset developers and reiterate our positive stance on DLF, Embassy REIT, Brookfield India REIT and Brigade Enterprises.

– Lease expires controllable key in FY22E: After the start of the first wave of Covid in India from March 20 (Q1CY20), Pan-Indian Category A vacancy levels in the 7 major Indian cities increased further from 300 basis points until June 21 (Q2CY21) to 16.6%. In line with industry trends, portfolio vacancy levels increased 4-6% on a comparable basis for Embassy REIT, Mindspace REIT and DLF during FY21, while Brookfield REIT maintained stable occupancy levels at S2FY21. This is explained by tenant exits for scheduled deadlines and early exits as well. As FY22E approaches, the second wave of Covid could lead to a further increase in vacancy levels by 200-300 basis points in S1FY22. However, we would expect this trend to reverse from H2FY22E assuming vaccinations resume with a gradual return to offices and possible resumption on international travel.

– REITs offer attractive returns of 6-8% on FY22-23E: we have taken into account a decrease in occupancy rates of 2-3% for REITs in S1FY22E, but we expect the same thing is reversed from S2FY22E and up to FY23E. We expect the three REITs to offer distribution returns of 6-8% in FY22-23 and capital appreciation of 12-16% based on current target prices. While a rise in global interest rates is the main risk, the potential cumulative returns of 18-24% are, in our view, an adequate valuation cushion. We are reassured that Indian REITs saw strong rent collections of over 99% in FY21 and were able to achieve double-digit relocation spreads as well as contract escalations.

– Listed annuity players expected to weather the storm: We expect annuity asset players to weather the storm even in an environment of delayed rental decisions and 5-10% rent correction. We continue to reiterate our positive stance on players with a large office portfolio such as DLF (we model for DCCDL rental EBITDA of 35.6 billion rupees in fiscal year 22E and 40.7 billion rupees. Rupees in FY23E and possible REIT listing) and Brigade Enterprises (Leasing NOI is expected to grow at CAGR by 28% in FY21-23E to Rs 4.8 billion through leasing in projects Chennai / Bengaluru offices).

– India’s long-term benefits remain a hub of high-quality office space: although the short-term information flow may be negative, we believe the Indian office market retains many positive points such as: 1) A limited number of 8-10 Pan-Indian developers capable of building quality rental assets; 2) India remains one of the most affordable office markets in the world, with average rents for Category A office markets in peripheral / suburban micro-markets hovering around 1 USD / psf / month or Rs70 -75 / psf / month; 3) India is the leading STEM (Science, Technology, Engineering, Mathematics) talent for technology assignments with over 2 million students graduating each year.


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