Amidst the political, social and economic uncertainties of the Covid-19 pandemic, real estate and alternate real estate asset classes have been impacted to varying degrees, according to EY India.
One of the asset classes that has attracted significant investment in the last three years has been student housing, with about $600 million being committed.
Investment in this asset class was driven by market potential; approximately 40 million students and a demand supply gap – only 20% students getting a hostel bed in the university; relative stability of cash flows and higher yields. Student housing operators and aggregators tapped into this market and invested in setting up larger facilities with many amenities and varying degrees of technology intervention.
Rental yields (10-15% compared to 8-10% for commercial office assets) were also better than in other asset classes on a risk adjusted basis. Risks were lower since education was considered recession proof and low churn rates made for steady cash flows.
The current situation of Covid-19 has resulted in major changes affecting all four stakeholders — the colleges/educational institutions, students, asset owners and the student housing providers/managers.
The closure has happened at almost the point when students were scheduled to leave for vacations and therefore revenue impact is lower than had it happened earlier in the academic year. Nonetheless, operators in both important models (B2B / Education institution model and B2C / Student as consumer model) are impacted. Most of the operators operate an asset light model but about 70-80% of the total costs are fixed (rent, taxes, overheads etc.). Some of the operators have also claimed that they can target to break even for this quarter (April – June 2020).
Gaurav Karnik, Partner and National Leader – Real Estate, EY India, “The B2C model, where most students pay monthly, has seen a larger impact. Students who have left are less likely to pay their monthly rentals for remaining two months. But most operators have two months of refundable security deposit which may help them avoid revenue shortfall, though students may use force majeure as a reason to claim refunds.”
Given the current scenario of low occupancies and stressed revenues, student housing operators are actively pursuing cost optimization for both fixed and variable components. Firstly, rent is the largest cost component accounting for about 40-50% of total costs.
Sailesh Rao, Partner, Transaction Advisory Services – Real Estate, EY India, says, “This crisis has also upended many assumptions about the form, structure and depth of partnership between asset owners, operators and users. Most stakeholders have accepted the need for greater flexibility which will help put the sector on a sounder footing as we go beyond the pandemic.”
In case, the spread of Covid-19 continues for a longer time frame, the real estate prices, or rent for facilities, may undergo decline by 20-25% in next few months and operators with a longer-term view can look to lock in these rentals. The sector may consolidate in the next few months. Some operators are hoping for regulatory intervention that supports rental exemptions for tenants in such scenario. However, the regulation may also force the operators to pass on the savings to their students.
Moreover, the operators may lose out on three to four months of revenue due to the delay in commencement of the academic sessions. Assuming a 15-20% reduction in capacity, the effective loss in revenue for a 200-bed facility would be approximately Rs15 lakh per annum which results in about 40% reduction in margin. A part of this scan be recouped through higher fees.
Student housing rents have increased by 7-10% per annum in the last three years. Operators will have to take a pause on increase this year considering the situation. On the flip side the increase to their employee’s salaries and rent (which increase by 5-10% each year) can also be deferred. From a cost perspective, more cleaning and fumigation will be required. Facility management costs account for 10-15% of overall costs and this will go up marginally. A larger problem could arise if colleges decide to run the early part of the first semester or the first trimester through virtual classrooms to reduce the risks of infection. In such an event, the revenue loss could be close to four to five months. Impact is also likely to differ from city to city. Worst hit cities may see session starts with virtual classes resulting in a longer no-revenue period.