real estate encyclopedia

1.1Basic Concepts of Assets and InvestmentsThe real estate sector has to be at the forefront of Indias development agenda on account of its obvious potential to propel economic growth. The importance of this sector is that, it is the second largest employer next only to agriculture and supports nearly 250 ancillary industries such as cement, steel, brick, which are some of the supporting services. Real estate development market in India is around $12 billion, growing annually at 30 per cent. The sector has of late witnessed a spurt in the demand of not just residential property but also commercial property. Indian cities have found a place for themselves on the world map as attractive investment destinations for international real estate players. Growth in retail, entertainment and information technology (IT) enabled the growth in service sectors which have increased the demand for shopping malls, multiplexes, food outlets, office spaces, convention and business centers and this demand has been met to a large extent by increased private sector participation in this sector. India is poised for rapid urbanization, which will lead to major developments in the real estate sector. Development of new towns3

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and cities requires huge amount of investments for which not just private domestic investment but also foreign investments are required. We see the role of the government primarily as a facilitator with the private sector participation bringing in capital, technical and managerial expertise in formulating and delivering good quality mass housing and commercial projects. Globally, the public/private partnership model is being driven by demand for better quality services. Public/private partnerships can increase not only the number of affordable homes, but the quality of housing through fiscal, regulatory and other incentives. The Indian government has allowed 100% FDI for development of townships that includes housing and associated urban infrastructure. However, not many investment proposals have come. The Government must allow 100% FDI in all sectors of real estate development without restriction as this sector generate intensive employments for locals. Before delving further into the nuances of real estate sector, let us first understand what an asset is, what is an investment, how investment in property is treated in the accounting world, etc.

What is an asset?Asset can be anything of material value or utility, the entire property of a person, association, corporation, or estate applicable or subject to the payment of debts. We can also say that asset is anything which the business owns or has title to, in short, have ownership of. The future economic benefit embodied in an asset is the potential to contribute, directly or indirectly, to the flow of cash and cash equivalents to the enterprise. The potential may be a productive one that is part of the operating activities of the enterprise. It may also take the form of convertibility into cash or cash equivalents or a capability to reduce cash outflows, such as when an alternative manufacturing process lowers the costs of production.

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An enterprise usually employs its assets to produce goods or services capable of satisfying the wants or needs of customers; because these goods or services can satisfy these wants or needs, customers are prepared to pay for them and hence contribute to the cash flow of the enterprise. Cash itself renders a service to the enterprise because of its command over other resources. The future economic benefits embodied in an asset may flow to the enterprise in a number of ways. For example, an asset may be Used singly or in combination with other assets in the production of goods or services by the enterprise; Exchanged for other assets; Used to settle a liability; or Distributed to the owners of the enterprise. Many assets, for example, Property, Plant and Machinery, etc have a physical form. However, physical form is not essential to the existence of an asset. Patents and Copyrights, for example, are assets if future economic benefits are expected to flow from them to the enterprise and if they are controlled by the enterprise. Many assets, for example, receivables and property, are associated with legal rights, including the right of ownership. In determining the existence of an asset, the right of ownership is not essential. For example, property held on a lease is an asset if the enterprise controls the benefits which are expected to flow from the property. Although the capacity of an enterprise to control benefits is usually the result of legal rights, an item may nonetheless satisfy the definition of an asset even when there is no legal control. For example, know-how obtained from a development activity may meet the definition of an asset when, by keeping that know-how a secret, an enterprise controls the benefits that are expected to flow from it. The assets of an enterprise result from past transactions or other past events. Enterprises normally obtain assets by purchasing or producing them, but other transactions or events

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may generate assets. Some examples include property received by an enterprise from government as part of a program to encourage economic growth in an area and the discovery of mineral deposits. Transactions or events expected to occur in the future do not in themselves give rise to assets. An intention to purchase inventory does not, by itself, meet the definition of an asset. There is a close association between incurring expenditure and generating assets but the two do not necessarily coincide. Hence, when an enterprise incurs expenditure, this may provide evidence that future economic benefits were sought but is not conclusive proof that an item satisfying the definition of an asset has been obtained. Similarly the absence of a related expenditure does not preclude an item from satisfying the definition of an asset and thus becoming a candidate for recognition in the balance sheet. For example, items that have been donated to the enterprise may satisfy the definition of an asset. Assets are divided into two categories.

1.

Current Assets

A balance sheet account that represents the value of all assets that are reasonably expected to be converted into cash within one year in the normal course of business can be termed as a current asset. Current assets include cash, accounts receivable, inventory, marketable securities, prepaid expenses and other liquid assets that can be readily converted into cash. In personal finance, current assets are all assets that a person can readily convert to cash to pay outstanding debts and cover liabilities without having to sell fixed assets. Current assets are important to business because they are the assets that are used to fund day-to-day operations and pay ongoing expenses. Depending on the nature of the business, current assets can range from barrels of crude oil, to baked goods, to foreign currency. Current assets include cash in hand and in the bank, and marketable securities that are not tied up in long-

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term investments. In other words, current assets are anything of value that is highly liquid. Current assets are therefore assets that can be quickly realized and change frequently. The main current assets are stock, debtors and cash.

2.

Fixed Assets

A long-term tangible piece of property that a firm owns and uses in the production of its income and is not expected to be consumed or converted into cash any sooner than at least one years time. Buildings, real estate, equipment and furniture are good examples of fixed assets. Generally intangible long-term assets, such as trademarks and patents, are not categorized as fixed assets but more specifically referred to as fixed intangible assets. Fixed assets are items that are for long-term use, generally five years or more. They are not bought and sold in the normal course of business operation. Fixed assets include vehicles, land, buildings, leasehold improvements, machinery and equipment. In an accrual system of accounting, fixed assets are not recorded when they are purchased, but rather they are expensed over a period of time that coincides with the useful life (the amount of time the asset is expected to last) of the item. This process is known as depreciation. So we can say that, fixed assets are the non-liquid assets that are required for the companys dayto-day operations. They include facilities, equipment, and real property. Any business may have fixed assets which are longterm assetsplant, machinery and equipment, but they will also have assets which can be realized (cashed-in) in the short-term. This is generally taken in accounting terms to be less than a year.

Fixed assets as investmentsMoney invested in fixed assets or as per the Income Tax Act, Capital assets attract the provisions of the Income Tax Act, 1961, in various ways, such as, Capital Gains, Income from House Property, Income from Business and profession, etc.

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As per Section 2(14) of the Income Tax Act 1961 Capital asset means property of any kind held by an assessee, whether or not connected with his business or profession, but does not include any stock-in-trade, consumable stores or raw materials held for the purposes of his business or profession; personal effects, that is to say, movable property (including wearing apparel and furniture, but excluding jewellery) held for personal use by the assessee or any member of his family dependent on him, and agricultural land in India. i. Long term investments As per Section 2(29A) of the Income Tax Act 1961, long-term Capital Asset means a Capital Asset which is not a short-term Capital Asset As per Section 2(29B) of the Income Tax Act 1961 long-term Capital gain mean Capital gains arising from the transfer of a long-term capital asset. Hence we can say that the long term investments which are not in the nature of stock in trade or personal effects attract the provisions of Capital Gains. ii. Short term investments As per Section 2(42A) of the Income Tax act 1961, short-term Capital asset means a Capital asset held by an assessee for not more than thirty-six months immediately preceding the date of its transfer. Section 2 (42B) of The Income Tax act 1961 defines short-term capital gains as the Capital gains arising from the transfer of a short term capital asset. Hence we can say that the short term investments which are not in the nature of stock in trade or personal effects attract the provisions of Capital Gains.

Fixed assets as Stock-in-tradeAs defined in Section 2 (14) of the Income Tax Act 1961, an asset held as stock in trade does not get covered in the definition of a Capital Asset hence the capital gains provision does not apply to them. Any transfer of Stock-in-trade is covered under the profits and gains of from Business or Profession.

What is an Asset?

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Fixed assets held as immovable propertyRent from any buildings and lands appurtenant thereto is chargeable to income tax under the head Income from house property. As per Section 22 of the Income Tax Act 1961, The annual value of property consisting of any buildings or lands appurtenant thereto of which the assessee is the owner, other than such portions of such property as he may occupy for the purposes of any business or profession carried on by him, the profits of which are chargeable to income-tax, shall be chargeable to income-tax under the head Income from house property. Rent from any land is chargeable under the head Income from other sources. There are certain formalities, which are to be complied with for purchase of immovable property. A few of these formalities with regard to property are as follows: i) The buyer and the seller need to arrive at a bargain price by mutual discussion. ii) The price should be based on the market assessment of the property value. Assistance can be taken from a professional value especially with regard to ready-tomove-in and old constructions. iii) Then the title with regard to the property has to be verified which is the most important aspect in the process of acquisition of property. The purchaser should verify the title of the seller to see whether the vendor is the original owner of the property. Any defect in the title of the seller can make the entire transaction of sale or purchase void. The purchaser should look at the original documents of title to the property i.e., the sale deeds, the conveyance deeds, allotment letters etc. iv) The chain of past ownership of the property should also be looked into and a close scrutiny of documents of title produced by the seller is essential. It is pertinent that one takes help from a legal expert who is well versed

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with the legal requirements and the local laws. It is important to verify the validity of title. The seller must have a clear, valid and marketable title over the immovable property, which is the subject matter of the transaction. v) Further, it is also required to check the encumbrance status of the property, i.e. whether the property is encumbered or not. The purchaser should seek a noencumbrance certificate. The encumbrance certificate can be taken from the municipality within which the property falls. This would ensure that there is no outstanding mortgage against the property. The certificate elaborates the history of the property. It further helps to ensure that the title of property belongs to the rightful owner. vi) Execution of agreement to sell: The buyer and the seller may execute an agreement to sell once the contract for purchase of immovable property has been finalized. A simple way for sellers to sell their property is to advertise their real estate and meet potential buyers. The purchase and sale of real estate is a complicated matter that is often governed by local laws and laws in the country where the property is located. Hence, it is always better to seek the help of a licensed real estate agent and/or a solicitor to help a person for the negotiation and sale of any real estate. At the close of the auction, the seller has to contact the highest bidder to discuss entering into a contract for the real property. However, neither party is obliged to complete the real estate transaction.

1.2What is the Meaning of the Term Real Estate?The term real estate refers to land as well as building. The word land includes the air above and the ground below and any buildings or structures on it. It covers residential houses, commercial offices, trading spaces such as theatres, hotels and restaurants, retail outlets, industrial buildings, factories and also government buildings. The transaction includes: 1. Purchase, 2. Sale, and 3. Development of land (both residential and non-residential buildings). The main players in the real estate market include the following: 1. The landlords. 2. The builders. 3. The developers. 4. Real estate agents. 5. Tenants. 6. Buyers.11

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Real estate is artificially delineated space referenced to a fixed point on the surface of the earth with a fourth dimension of time. It is built to house an economic activity that is subject to cultural preferences and restricted by the public infrastructure. Real estate is a space-time product, that is, it generates income over time in exchange for the use of space. Examples: apartments, stadiums, party halls, residential units, commercial complex, etc. Thus the term real estate connotes immovable property which can be either land or building or both. Now let us see the definition of the term immovable property under various Acts.

Transfer of Property Act, 1882According to (Sec 3), Immovable Property does not include standing timber, growing crops or grass. Thus, immovable property constitute of Building and Machinery if embedded in the building for the beneficial use thereof. Then it must be deemed to be a part of the building and the land on which the building is situated.

General Clauses Act, 1897As per Section 3(26), immovable property shall include land, benefits to arise out of land and things attached to the earth, or permanently fastened to any thing attached to the earth. This definition of immovable property is also not exhaustive.

The Registration Act 1908The definition of the term Immovable Property under the Registration Act 1908, which extends to the whole of India, except the State of Jammu and Kashmir, is comprehensive. Section 2(6) defines Immovable Property as under:

The Registration Act 1908

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Immovable Property includes land, building, hereditary allowances, rights to ways, lights, ferries, fisheries or any other benefit to arise out of land, and things attached to the earth or permanently fastened to any thing which is attached to the earth but not standing timber, growing crops nor grass.

1.3Why Real Estate has Become Buzzword? The US$ 50b Indian real estate market is booming and expected to grow at 25 per cent annually. The boom owing to the consumption powered growth of the countrys economy has seen investors planning nearly 250 new shopping malls by 2008, as against just three that existed till 2002. The central government adopted a regulation in 2005 allowing foreigners to bid for Indian construction projects with local partners and also reducing their minimum land holding limit from 100 acres to 25 acres. Enthused by the liberalized investment guidelines, a slew of foreign builders are rushing to launch projects in Asias third largest economy. Expected annual shortfall of 20 m housing units by 2011. Mumbai alone would need more than 180,000 housing units. An opportunity for developing large-scale commercial and residential townships in six citiesKolkata, Bangalore, Mumbai, Chennai, Hyderabad and New Delhi.14

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These are just a few of those statements that you might have read in your local newspaper. India is witnessing a remarkable boom in the real estate sector. There are varied reasons for this maddening rush to invest in real estate. The year 2006 started on a promising note when the Government of India opened the construction and development sector in February 2006, and allowed 100 per cent foreign direct investment (FDI) under the automatic route in order to spur investment in the vital infrastructure sector. The reasons for this boom could be the decline in bank interest rates, fixed deposit rotations in stock markets and receding returns on debt mutual funds, real estate investment is in the headlines again. Investors who deserted the property market option in the late 1990s are back, with a resounding leasing market for grade A commercial property in metros providing a rental yield of 1112 per cent per annum.

1.4Contribution of Real Estate Activity to Indias GDPReal Estate Sector in India is the second largest employment generator next only to agriculture. About 250 ancillary industries directly or indirectly depend on real estate activity. It is difficult to estimate the exact contribution of the real estate sector to gross domestic product (GDP) as it appears in a disaggregated and dispersed form in the National Accounts Statistics. Residential housing and real estate services (activities of all types of dealers such as operators, developers and agents connected with real estate) is covered under the category real estate, ownership of dwellings, business and legal services. The gross value added in the ownership of dwellings is equivalent to gross rental of the residential dwellings less cost of repairs and maintenance. Gross rental is estimated as a product of average gross rental per dwelling and the number of census dwellings and includes imputed rent of owner-occupied houses. The rentals of the industrial/trading establishments are deductible expenses from the profits of these establishments but appear as profits of the business or company renting out the premises. Similarly, implicit rents on self-owned real estate is accrued as profits from business and is difficult to separate from non-real16

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estate profits. The addition to the stock of real assets with these businesses appears in the business accounts as capital addition. In the national accounts it would appear under the head gross fixed capital formationconstruction. Value of construction output is the additions made to the stock of real estate assets in the public, private and household sectors. The contribution of construction to GDP is the estimate of value added derived from the corresponding estimates of this value of construction output. Further, current data on the sectors such as ownership of dwellings, real estate services, construction are mostly not available and estimates for the benchmark year is prepared on the basis of base year data and projected for other years with the help of relevant indicators. The contribution to GDP by this sector at current prices is estimated to be about 6.5%, which in value terms is around Rs 1,37,000 crore or 30 billion US Dollars. However, we do have a proper estimate of contribution of construction industry to our countrys GDP. The following table illustrates the contribution of construction activity to Indias GDP.Estimates of GDP at Factor Cost by Economic Activity (At current prices) (Source: Press Note of GOI on 31st May 2006)200405 (Quick Estimate) 5,56,146 75,179 4,53,666 60,719 1,86,392 6,99,762 4,05,801 4,06,232 28,43,897 200506 (Revised Estimate) 6,08,681 84,713 5,09,845 66,508 2,18,131 7,99,842 4,64,453 4,57,223 32,09,397 Rs. Crore Percentage change over previous year 200405 200506 4.0 13.7 16.2 7.7 16.9 15.0 9.8 13.3 11.8 9.4 12.7 12.4 9.5 17.0 14.3 14.5 12.6 12.9

Industry Agriculture, forestry & fishing Mining & quarrying Manufacturing Electricity, gas & water supply Construction Trade, hotels, transport and communication Financing, insurance, real estate & business services Community, social & personal services GDP at factor cost

200304 5,34,689 66,101 3,90,470 56,365 1,59,415 6,08,330 3,69,456 3,58,570 25,43,396

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What is the meaning of the Term Real Estate?s

[Chap. 2]

1.5Future of Real Estate Sector in IndiaThe future of the real estate sector in India is going to be guided by some important factors viz., suitable amendments to the Foreign Direct Investment guidelines in the townships, housing built-up infrastructure and the construction development projects as well as the abolition of service tax on the construction industry especially the housing sector. Conversely, if the abolition per-se is not possible then drastic changes/ modifications in the service tax norms are the need of the hour. This sector is already overburdened with taxes; any further imposition of taxes in any form would adversely affect the growth of this sector and also the whole economy as such. Real estate sector is the second largest employer in India after Agriculture According to a recent study by PHDCCI (PHD Chamber of Commerce Industry) study; the Indian construction industry is all set to become $180 billion sector by 2020 from its present size of 50 billion dollars. 6.5% of countrys GDP contributed by this sector. It has Linkages with several other sectors and industry and over 250 associated industries like steel cement etc. An investment of Re 1 in this sector adds about 7580 paisa to the GDP. Investment has a multiplier effect. The Finance Minister in his budget speech indicated commitment to take India along a 10%18

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growth path. If the economy grows at the rate of 10%, the housing sector has the potential to grow at 14% and generate 3.2 million new jobs over a decade. The Tenth Five-Year Plan had estimated a shortage of 22.4 million dwelling units. Thus, over the next 10 to 15 years, 80 to 90 million housing dwelling units will have to be constructed with a majority of them catering to middle and lower income groups. The investment required for constructing the houses and related infrastructure in this period would, thus, be to the order of US$ 666 billion at roughly US$ 33 billion to US$ 44 billion per year. A study by PHDCCI also pointed out that India needed an investment of 35 billion dollars for road development in the next eight years, which had already received a boost due to jobgenerating Golden Quadrilateral projects, 55 billion dollars to install new telecom networks in the next 12 years and eight billion dollars to modernize ports. At the same time, new opportunities were arising for the construction industry in the aviation sector as air passenger traffic was expected to double by 2006 and an investment of three billion would be needed in the next decade. In early 2005, the government had opened up the construction sector and allowed 100 per cent FDI in it. This has given a tremendous boost to the construction sector. With the foreign players coming in, the interests of the property buyers would also be well met. Passing of the SEZ Act in February 2006 has also attracted more FDIs in the sector. Construction of residential complexes having more than 12 houses was brought under the Service Tax net. Construction of commercial property is already taxable since 2004. Budget 2006 07 has increased service tax to 12% from 10%. Last years budget had allocated Rs 5,500 crore towards an urban renewal package for seven mega cities with a population over one million. The major growth in real estate has been observed in the retail sector. The global real-estate consulting group Knight Frank has ranked India 5th in the list of 30 emerging retail markets and


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predicted an impressive 20 per cent growth rate for the organized retail segment by 2010. The organized segment is expected to grow from a mere 2 per cent to 20 per cent by the end of the decade, it said. Investment in the retail real estate segment yields 1316 per cent return which is quite high when compared to the returns from the residential and office segments. According to a survey by real estate consulting firm CB Richard Ellis (CBRE), office space in Mumbai is more expensive than Manhattan. The CBRE survey, called Global Market Rents, has ranked Mumbai as the worlds 15th most expensive place, Manhattan, the 20th, while Delhi stands at the 32nd position. The boom is also attracting interest from foreign players. Vancouver-based Royal Indian Raj International Corporation (RIRIC) will invest a staggering $2.9 billion in a single real-estate project named Royal Garden City in Bangalore over a period of 10 years. The retail value of the project is estimated at $8.9 billion (Rs 41,000 crore). Over 200 malls with a combined retail space of 2.5 crore square feet are sprouting across the country at an investment of Rs 12,500 crore across 25 cities in India. According to an ICICI study, malls are estimated to become a Rs 38,447-crore ($8.3 billion) sector by 2010.

Extracts from the Economic Survey 200506 concerning real estateConstruction growth has been in double digits in each of the last three years. Substantive commercial bank credit flows to the housing and real estate and retail sectors continue to provide support to the boom in construction and consumer durables. Bank credit disbursal during 200405 was well diversified across different sectors of the economy, with flows to housing and retail sector particularly strong.

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Cement, buoyed by the resurgence in construction activity in the economy, grew by 10.9 per cent in AprilDecember 2005, up from 6.9 per cent in the corresponding previous period. FDI up to 100 per cent under the automatic route is now permitted for development of township, housing, built-up infrastructure and construction development projects. The minimum area requirement has been reduced to 10 hectares for serviced housing plots and 50,000 square meters built up area for construction-development projects. Cement prices rose by 12.7 per cent with higher demand from construction boom in the country. Housing and real estate sector constitutes not only a major proportion of national wealth but also an important fast expanding service sector in the economy. Because both lenders and borrowers may have large real estate/housing exposures (direct as well indirect), financial balance sheets may be affected by any large volatility of prices in this sector. Thus, it is desirable to monitor housing and real estate pricesan important segment of asset pricesfor formulation of appropriate monetary and fiscal measures. The National Housing Bank (NHB) has set up a Technical Advisory Group (TAG) to explore the possibility of constructing a real estate price index.

Housing price indices: international best practices and an operational housing price index for IndiaThere are various concepts of housing price indices, and many sources and ways for compiling price data, both private and public. The methodology for construction of indices differs from country to country depending on the use and purpose of such indices and the availability of data. With an Adviser, Ministry of Finance as the Chairman, the TAG comprises technical experts and members from NHB, CSO, RBI, Labour Bureau, HDFC, HUDCO, LIC Housing Finance Ltd., Dewan Housing Finance Corporation Ltd., and the Society for Development Studies.


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After reviewing international best practices and the methodology, sampling techniques, collection of price data for construction of real estate price indices in USA (index developed by the Office of Federal Housing Enterprise Oversight), Canada (New Housing Price Index) and UK (Halifax index), the TAG has suggested a methodology for India. The TAG decided to conduct a pilot study for Delhi and to use both the (a) hedonic regression model and (b) the basic Laspeyres weighted index for constructing an HPI for Delhi. The residential colonies in Delhi have been categorized as one of the 8 tax zones (A to H) as decided by the Municipal Corporation of Delhi (MCD) under the Unit Area Method for property tax assessment. The classification of the colonies is largely based on the level of services and the capital value of housing units. 30 colonies in different tax zones have been selected on the basis of transactions for the collection of basic data. These colonies are spread over all parts of Delhi. The TAG has decided to take 2001 as the base year for the construction of HPI on a half yearly basis. The choice of base year for HPI is consistent with the base period of other indices, that is, 2001 for the revised CPI-IW series, 200001 for the revised WPI and 19992000 for the revised GDP series. For HPI, basic data are being collected for each year since 2001. For each selected colony and for each year, information is being collected for at least 20 transactions, which actually took place during the year. At the First Phase of the pilot study, only residential houses (both independent houses and flats, and both old and new for sale) in urban areas with basic amenities are being considered. At the second stage, commercial housing units will be considered and finally land may be included in order to make it a comprehensive real estate price index. It is well known that the registered prices of houses are grossly under-estimated due to very high registration fees and stamp duty. Due to same reasons and subsequent obligations for the payment of property tax, individual purchasers (except corporate bodies) do not reveal the exact purchase price of a house. Therefore, in addition to information from registration offices, basic data on value, plinth

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area, location, age and basic characteristics of houses are being collected from property dealers, Residential Welfare Associations (RWAs), Delhi Development Authority and the private builders.

I.Foreign Direct InvestmentTill recently, FDI in real estate was restricted to development of industrial parks, hotels, integrated townships and SEZs. On March 3, 2005, Government of India replaced the integrated township policy to permit FDI up to 100% in townships, housing, built-up infrastructure and construction development projects, under automatic route (Press Note 2 (2005 series)). As per a recent notification by Indias Ministry of Commerce, Foreign Direct Investment in the Indian real estate sector is now permitted through the automatic route, i.e., without requiring the additional approval of the Foreign Investment Promotion Board. This implies that the foreign investor may now by-pass some of the previously required approvals, making the investment process less cumbersome. Within the real estate sector, foreign investment in India is now permitted in construction and project development related to both residential and commercial development in (i) housing townships; (ii) commercial office space; (iii) hotels and resorts; (iv) hospitals; (v) educational institutions; (vi) recreational facilities; and (vii) city and state level infrastructure. FDI is now permitted in townships housing commercial premises hotels resorts hospitals industrial parks resorts


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hospitals educational institutions recreational facilities SEZs, etc. Certain guidelines exist within the reform measures.

Project conditions In residential development, the minimum land area must be 10 hectares (approximately 25 acres). In commercial development, the minimum land area must be 50,000 square meters (approximately 540,000 square feet). If the project combines residential and commercial development, either one of the above conditions may be satisfied. At least 50% of the project must be completed within five years from the date of obtaining all statutory clearances. The project must comply with all local land use guidelines. The sale of undeveloped land is not permitted, i.e. the developer may purchase undeveloped land but must develop the land before selling it further. In addition to the above project conditions, the following financial conditions must be satisfied:

Financial conditions Minimum capitalization requirement of US$ 10 million for wholly-owned subsidiaries of foreign companies and US$ 5 million for joint ventures with an Indian partner. Capital must be brought into India within six months of incorporation of the subsidiary or joint venture. Holding period of three years on repatriation of any of the initial investment unless with the prior approval of the Foreign Investment Promotion Board.

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II.Public Private PartnershipReal estate development in India is estimated to be in the region of USD 12 billion, growing at a pace of 30 per cent each year. Almost 80 per cent of real estate developed is residential space and the rest comprise office, shopping malls, hotels and hospitals. This double-digit growth is mainly attributed to the off-shoring business, including high-end technology consulting, call centres and programming houses which in 2003 is estimated to have accounted for 10 million square feet of real estate development. The sustained demand from the Information Technology sector certainly changed the urban landscape in India. It has been estimated that in India, there is a demand for 66 million square feet of IT space over the next five years. Take for instance the city in South India, Bangalore which since 1998 has been on a new trajectory. The more realistic land prices in Bangalore were some of the reasons why the larger metropolitan cities such as Mumbai or Delhi got bypassed. Bangalore soon gave up its title of the Garden City, formerly known for its greenery to become Indias own home grown Silicon Valley. Bangalore has positioned itself as the IT capital of India. Several multinational companies continue to move their operations to India to take advantage of lower costs. With human resources being the key element in this industry, the hiring and housing of people, both at their work place and home assume great importance and therefore the need to create space for people to work and live, which in turn triggers the development of other related infrastructure. The predominant trend has been to set up world-class business centres, often campus-style establishments, bearing a distinctive corporate stamp. So distinct are some of these locations that they are being termed as the temples of modern Indiajust an indication of the extent of real estate development taking place. However, the drawback was that while real estate development reached world-class standards, the urban infrastructure in the city could not keep pace. Issues like power shortages and lack of an effective public transport system became


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some of the key drawbacks. This led to the need to explore other alternative locations and thus began similar developments in cities such as Chennai and Hyderabad. But this served as a wake up call for authorities: real estate development and urban infrastructure are inextricably linked and development of one is closely dependent on the other. This also led to the setting up of the Bangalore Action Task Force (BAFT) a popular and successful public-private partnership project to transform Bangalore into a world-class city. Another example is Gurgaon, a suburb of New Delhi, which has seen a radical change in not just its skyline but also in its basic urban demographics. Gurgaon was once described as just a little town built on a cow pasture. But in the past three years, Gurgaon has sprouted six mallswith five more under construction and has a skyline of shiny new office buildings and call centres. Gurgaon is a shoppers paradise and the malls are vertical versions of their US counterparts: five story high bazaars, housing almost every international brand be it Nike, Nokia, Tommy Hilfiger, Levi, McDonalds along with multiplex cinemas, escalators and huge parking lots. The real estate market in India predominantly continues to remain unorganized, fairly fragmented, mostly characterized by small players with a local presence. Traditionally, developers were viewed with an element of skepticism. Developers were often identified with dealing with large amounts of unaccounted money, lacked transparency and would use unscrupulous means to obtain various regulatory approvals. Lending to developers was perceived as being risky as builders were known to borrow for one project and utilise it for another or overstretch their limits and not have sufficient funding to complete the building. But things have clearly changed today: for starters, developers have realized the merits of corporatising themselves and enhancing transparency in terms of their financials. While earlier even the reputed builders had difficulty accessing formal channels of credit, today almost every bank and housing finance company has relationship tie-ups with developers and are keen to lend to them

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at competitive rates. Lenders are also monitoring the projects more closely. For instance, lending to developers is often through an escrow mechanism which ensures that funds are utilised only for that particular designated project. Today specific projects of developers are also being rated. The objective of the ratings is to help the financers as well as the end users to take a decision while investing in a real estate project. The rating system also means a greater amount of transparency and disclosure on the part of the developers. In 2002, the Government of India permitted 100 per cent foreign direct investment (FDI) in housing through integrated township development. The merits of FDI are well knownit provides the much needed investment in the sector brings professional players equipped with real estate expertise and facilitates the introduction of new technology. However, the FDI rules in its current form are rather stringent, prior approval of the Foreign Investment Promotion Board is required which admittedly can be rather tedious and there is a lock-in for repatriation of original capital invested for a period of three years. What is rather self-defeating is the stipulation of a minimum land holding of 100 acres. Getting 100 acres of free land in an urban area is almost impossible and consequently barely a handful of projects have been approved. If the minimum area restriction is reduced at least by half and repatriation of profits after the construction period is completed is allowed, FDI in this sector will certainly pick up. The importance of the housing and real estate sector in India can be judged by the estimate that for every Indian rupee invested in the construction of houses, INR 0.78 is added to the gross domestic product of the country and the real estate sector is subservient to the development of over 250 other ancillary industries. After agriculture, the real estate sector is the second largest employment generator in India. However, mortgage penetration continues to be abysmally lowin India the mortgage to GDP ratio is about 2%. This compares to a mortgage to GDP ratio of over 51% in USA. However, even if one were to


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benchmark with more comparable counterparts, the ratio ranges between 1520% for South East Asian countries. Thus the penetration level of mortgages is miniscule when compared with the shortage of housing units.

a)What is PPP?A Public Private Partnership (PPP) is a partnership between the public and private sector for the purpose of delivering a project or service which was traditionally provided by the public sector. The PPP process recognises that both the public sector and the private sector have certain advantages relative to the other in the performance of specific tasks, and can enable public services and infrastructure to be provided in the most economically efficient manner by allowing each sector to do what it does best. Law, justice and order have been the traditional functions of the state. A welfare state has a much-expanded role ensuring its citizens public utilities like road, power and water supply. The state also provides merit goods such as education and health services that have positive externalities. Under the Constitution of India, it is the federal states that are called upon to shoulder most of these responsibilities. The Government of India has been supplementing the efforts of the State Governments in these welfare functions. Most of these services have been traditionally provided through in-house facilities of governments, financed and managed directly by them. Public-private- partnership (PPP), on the other hand, is an approach under which services are delivered by the private sector (non-profit/for-profit organizations) while the responsibility for providing the service rests with the government. This arrangement requires the government to either enter into a contract with the private partner or pay for the services (reimburse) rendered by the private sector. Contracting prompts a new activity, especially so, when neither the public sector nor the private sector existed to provide the service.

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Private sector innovation and technological, financial and management expertise can be gained through using a PPP approach to projects traditionally within the sphere of local authorities. PPP is another element in the general moves to modernise the public service and local government, providing greater efficiency and effectiveness and ultimately a better quality customer service. In the old days, not so long ago, government entities used powers of eminent domain, and general obligation bonds, to finance the development of public facilities and infrastructure. Projects such as airports, ship harbors, highways and bridges, utility systems, convention/civic centers, arenas/stadiums, public parking facilities, and selected public housing projects were traditionally completed by private developers under fee-based contracts with public agencies. Public-Private-Partnership (PPP) provides an opportunity for private sector participation in financing, designing, construction and operation and maintenance of public sector programs and projects. The time has come to forge a greater interface between the public and the private sector in a wide range of activities in the country. In todays public-private partnerships, a wide variety of public agencies (many more than the typical redevelopment agency including port authorities, prison systems, school districts, public assembly/convention services, military installations and housing agencies) are using creative, new, and sometimes complex methods to structure, finance, and engineer entertainment retail development and redevelopment deals. In these partnerships, the agency typically sponsors the project and provides some type of funding, as well as the necessary entitlements. The developer is expected to provide the required equity, as well as some portion of debt, and to manage the predevelopment and construction process. A third-party investor may also participate.


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In return for their capital, the developers and investors receive a share of the projects return. Both the public agency and the private partners may be able to securitize their portion of the projects cash flow to assist the financing process. There may be additional off-balance sheet financing to provide further leverage. Ownership of the project can range from 100 per cent public to 100 per cent private and anywhere in between. Its a question of using investment, development and operational incentives and balancing risk, responsibility, economic return, and level of control.

b)Benefits of public/private partnerships to the public sector Induces private development at strategic locations. Maximizes governmental investment, development and operational incentives. Maximizes use of funds in a special assessment district. Creates employment opportunities. Reduces traditional risks of real estate ownership, construction and operations. Reduces dependence on bond referendums and traditional tax-exempt bond financing. Creates new income streams. Reduces operating costs. Uses less public capital in developing facilities/ infrastructure. Improves performance of under-used assets.

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A public-private partnership represents advantages. i) Improved service quality. ii) Lower project costs. iii) Less risk. iv) Framework conducive to innovation. v) More rapid project execution. vi) Easier budget management. vii) Source of additional revenue.

considerable

i)Improved service qualityBy making use of specific expertise developed within the private sector, in some cases, it is possible to offer citizens better quality service. Subjecting delivery methods to competition also creates further incentive to improve quality.

ii)Lower project costsPPP projects generally involve a combination of design, execution and future operation activities for the project as a whole. Not dividing a project into numerous small contracts makes it possible to develop a better, integrated solution and promotes economies of scale. Experience elsewhere in the world shows that PPP projects may represent significant savings.


iii)Less risk

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PPP projects plan for risks to be managed by the party best placed to do so. Since PPP attribute greater responsibility for project design, execution, operation and financing to the private sector, there is a genuine risk transfer from the public sector to the private sector. This constitutes the main source of savings for the public sector. Moreover, for projects that are partially or fully funded by independent revenue sources such as highway tolls and charges or permit issuing transaction fees, the risk linked to the level of demand can be partially or fully borne by the private sector.

iv)Framework conducive to innovationThe combination of design/execution/operation activities, the larger scope resulting from projects that have not been divided up and the increased responsibility entrusted to the private sector encourage it to innovate. This is why the PPP agreement stipulates target objectives and allows the private partner to choose the means for attaining them.

v)More rapid project executionIn a PPP, the elements are grouped so as to constitute a largescale project, thereby generally shortening execution deadlines. Combining design and construction activities allows them to be undertaken concurrently rather than sequentially. The significant latitude granted to private partners for construction and operation setup generally allows projects to be completed more rapidly. However, since the PPP planning stage is more complex, it may require more time than a conventional project. However, as indicated above, that time is usually saved in project implementation.

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vi)Easier budget managementBy having the private sector responsible for project design, execution and future operation, the public sector ensures that the target objectives are met at the price agreed to when the PPP is signed. This reduces the possibility of major unforeseen cost increases, enabling the public sector to set long-term budgets with greater certainty.

vii)Source of additional revenueThe excess capacity of certain projects may result in marketing potential. It is easier for a private partner to fully use its employees and resources than for the public sector. In some cases, the infrastructure (physical or organizational) required to execute a project exceeds the capacity needed to meet immediate needs. By marketing this excess capacity, the private partner may earn additional revenue, thereby enabling the public sector to reduce its costs.

c)Checklist for public private partnershipsi)PPP presuppositions/requirementsWhen evaluating PPPs in respect to the consequences of the Directive we will keep a list of general PPP targets in mindthe private partners view, the public partners view, the original selection and acceptance criteria of a general PPP cooperation. We will also have a look if a list of benefits/disadvantages is influenced by the current discussion.

ii)The private viewProfitability: Optimization of capacity load/balance of company Positive cash flow: Long-term arrangements may lead to negative cash-flow in the beginning of partnership. The smaller the company the more private Partners need positive cash flows as soon as possible.

ERE-3


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Long-term arrangement: Private partners prefer investment costs to be covered from PPP (except optimization of capacity load). The shorter the arrangement or the duration of contract, the less is the probability of significant investments. The shorter the contract duration (contracting-out), the more the private partner needs exact calculation of single actions/contracts. Assurance of scope of work and quality: Assurance of scope of work and quality (minimizing dynamic). Precise offer, precise costs, calculable risk. Control of operation, book keeping and management: Private partner needs/usually get a free hand of industrial management. Commercialisation: Long-term importance of PPP given if new chances arise for further PPPs oder other kinds of public-private co-operation.

iii)The public viewCertainty of achievement of results: Certainty/reliability of achievements of results is very important for public services and political decision makers more than single activities. Risk transfer: Risk transfer is one of the reasons in favour of creating PPPs, but it is also a central problem of PPPs. Private motivation is evaluating risk versus profit. In order to prevent the risks of mis-investment a private partner the less likes to become owner of the values created the greater the volume of PPPs in relation to private capital basis. Role of financing institutions/banks. If contracting-out then private partnership is mostly opposing the public contracting-out conditions. PPP contracts (and prices) contain risks which are transferable from the public to the private partner by more exact specifications. If risk transfer fails within a PPP then the public partner usually is in a weaker position.

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Increasing performance: PPPs combine competence and resources in order to generate added values/innovations. Work on a problem with common understanding. Flexibility in scope of supply and quality: Political goals and regional problem situations are subjects to change PPPs who fail to follow these changes (because contract or costs cannot be renegotiated or partner insists on results originally defined, lose their existence). Change of service demands have to be considered in PPP contracts. Risk management is a value/reason of PPPs. Contributions to solutions: Common understanding of the problems. Contributions of each partner have to be clear. Public service has to communicate both premises. Cost reduction important but a minor public aspect for a PPP. There are other mechanisms for that. Flexibility in scope of performance and quality is a major issue for public administration and politics versus fix cost/effort calculations of private sector.

iv)Selection criteria for private partners in a PPPCompetence/incrementing expertise: Both side increase/add their competence/expertise, put competence together in order to solve big problems. Public Sector offers entrance to a new market by offering private partners the opportunity to study the public needs. Public sector learns professional service offering and production methods. Reference objects/efforts: Great complexity of PPP-projects, volume significant. Public sector needs good evaluation criteria for reference objects and delivery of services. Subcontracting and Service offers desired.


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Financial power/size of PPP: PPPs need good financing. Finance power has to be adjusted to the tasks of PPPs. Commercialisation: PPPs focus on profit interests for the private partner as well as fort he public sector, revenue as well as enabling innovations. Increase of competence and knowledge should not remain with one of the partners only. Public sector also needs the right to distribute knowledge, management experience or profit interests. Problem solutions, goal congruence: Private and public partner need similar/common goals, especially when public actions and politics are involved. Contributions to a political problem solution. Problem of financing is a minor goal. Improve quality of life. Local solutions. Employment. Corporate Social Responsibility Education Alternatives to public contracting out Market-based Best Value laws Private Finance Initiative

Acceptance of public-private partnershipsSuccess if both partners are enabled to develop their own goals as well as common goals. Transfer of competence. Acceptance of PPPs better than other co-operations if consumer of services (which are in public interest) can be offered exact and reliable, if the consumer owns clearly-defined rights and duties and is well informed about alternative solutions. It is not important which form/kind of service delivery is done by the city, government, PPP or by other players.

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Benefits/disadvantages against full privatising of public tasks and servicesFull privatising public tasks is reasonable if there is no public interest for a public control. PPPs are an alternative to full privatisation if services or goods are in the scope of public interest. PPPs are good if new competences can be generated for all partners which can not be gained by other means or with a lot of effort only. For the private Partner profitability is significant which can also mean to ensure market shares and use capacities in the full. For public partners financial power and market competence are of significance. Risk transfer is one of the major issues and problems for PPPs. General problem with PPPs is the commercialisation of the knowledge and competence gained in partnerships. Today commercialisation and exploitation is mainly done by the private side of the PPP. PPPs need a new quality of contracts between partners.

v)PPP at present (worldwide and India)At present PPP has entered its second phase. Till now there have been 236 projects in 60 countries worldwide. Asia tops the list with 74 projects followed by 58 in Africa, 43 in Latin America, 41 in East Europe and Balkans and 20 with rest of the world. India not only tops the list among Asian countries but also in whole of the world. In regard to India, it is worth mentioning that community support for government programs was sought during the First Five Year Plan for construction of irrigation canals. During the Seventh Plan, the Ministry of Rural Development set up CAPART for implementing rural development programs through non-profit agencies. The Ninth Five Year Plan explicitly recognized the role of NGOs/Voluntary Organizations for social


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development. Furthermore, the system of extending grants-in-aid to educational institutions by the Ministry of Human Resources Development (Government of India) has been a decade old practice. Public-Private-Partnership or PPP is a mode of implementing government programs/schemes in partnership with the private sector. The term private in PPP encompasses all non-government agencies such as the corporate sector, voluntary organizations, self-help groups, partnership firms, individuals and community based organizations, PPP, moreover, subsumes all the objectives of the service being provided earlier by the government, and is not intended to compromise on them. Essentially, the shift in emphasis is from delivering services directly, to service management and coordination. The roles and responsibilities of the partners may vary from sector to sector. While in some schemes/projects, the private provider may have significant involvement in regard to all aspects of implementation; in others s/he may have only a minor role.

vi)PPP and privatizationThe key differences between public-private-partnership and privatization may be summarized as follows: Responsibility: Under privatization the responsibility for delivery and funding a particular service rests with the private sector. PPP, on the other hand, involves full retention of responsibility by the government for providing the service. Ownership: While ownership rights under privatization are sold to the private sector along with associated benefits and costs, PPP may continue to retain the legal ownership of assets by the public sector. Nature of service: While nature and scope of service under privatization is determined by the private provider, under PPP the nature and scope of service is contractually determined between the two parties.

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Risk and reward: Under privatization all the risks inherent in the business rest with the private sector. Under PPP, risks and rewards are shared between the government (public) and the private sector. The potential benefits expected from PPP could be mentioned as below: Cost-effectiveness: Since selection of the developer/service provider depends on competition or some bench marking, the project is generally more cost effective than before. Higher productivity: By linking payments to performance, productivity gains may be expected within the program/project. Accelerated delivery: Since the contracts generally have incentive and penalty clauses vis--vis implementation of capital projects/programs this leads to accelerated delivery of projects. Clear Customer Focus: The shift in focus from service inputs to outputs create the scope for innovation in service delivery and enhances customer satisfaction. Enhanced Social Service: Social services to the mentally ill, disabled children and delinquents etc. require a great deal of commitment than sheer professionalism. In such cases it is Community/Voluntary Organizations (VOs) with dedicated volunteers who alone can provide the requisite relief. Recovery of User Charges: Innovative decisions can be taken with greater flexibility on account of decentralization. Wherever possibilities of recovering user charges exist, these can be imposed in harmony with local conditions.

Nature of collaborationThe government may collaborate with the private developer/service provider in any one of the following ways: 1. as a funding agency: providing grant/capital/asset support to the private sector engaged in provision of public service, on a contractual/non-contractual basis. 2. as a buyer: buying services on a long term basis.


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3. as a coordinator: specifying various sectors/forums in which participation by the private sector would be welcome. The funding pattern and collaboration between the public sector and the private sector could take any one of the following forms: 1. Public funding with private service delivery and private management. 2. Public as well as private funding with private service delivery and private management. 3. Public as well as private funding with public/private service delivery and public/private/joint management. 4. Private funding with private service delivery and private management. Categories (2), (3) and (4) have a special appeal as they promise to supplement government resources through private participation.

vii)Principles of PPPPPP involves a long-term relationship between the public sector and the private sector. While the collaboration between the two, may take various forms like buyer seller relationship, donorrecipient relationship, the most stable partnership is in the form of contract binding on both the parties. Following features broadly characterize public-private-partnership.

A.Contractual frameworkThe contract mirrors the basic objective of the program/project, the tenure of agreement, the funding pattern and of sharing of risks and responsibilities. The need to define the contract very precisely, therefore, becomes paramount under PPP. Projects/

Social services in Germany and the Netherlands are provided mostly through PPP, by non-profit agencies that have a monopoly in these services. The nonprofit agencies get paid for the services rendered in accordance to the prevailing law and policy.

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programs under PPP may, however, broadly be classified under three heads namely (i) service contract (ii) operations and maintenance (management) contract and (iii) capital projects, with operations and maintenance contract.

B.Selection of service providerTransparency in selection is an essential feature of PPP. Selection of the developer or the service provider may be done in any of the following three ways. 1. Competitive bidding This involves a well publicised and a well-designed bid process to ascertain financial, technical and managerial capabilities of the service provider or the developer. Either of the two formats for bidding, namely single round sealed bid auction or multiple round open-outcry (ascending) bid auction could be adopted. The appropriate bidding process depends on the nature of the valuation that the bidders place on the concession, that is, on the right to do the job. In some cases the valuation of the project depends on factors that are within the bidders control, such as construction and maintenance cost of a building or a road. These are also known as private value items. In other cases, the valuation does not depend just on the bidders own assessment, but also on certain unknown factors that need to be anticipated. These unknown factors are common to all bidders and each bidder may update his/her own assessment based on the assessment of other bidders. These are known as common value items and include factors such as the size of market, willingnessto-pay of consumers and future behaviour of regulators etc . For private value items, a single-round auction is appropriate since bidders do not need to learn from the revelation of information of other bidders and a sealed bid auction is preferable since that has the least potential for collusion. Concessions with common value characteristics, on the other hand, are best awarded through multiple round bids since this facilitates the process of value discovery by bidders, allowing bidders to observe and respond to


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quotations/prices as they emerge. Multiple-round bid can also be sealed-bid, but there is an opportunity to re-bid after the bids are opened. Moreover, wherever the bid process is characterized by a two-stage process involving, for instance, mega infrastructure projects, the bidders are required to obtain from their prospective lenders the financial terms, expectations regarding state support as well as their comments on the concession agreement etc. The final selection of the developer/service provider depends upon one or a combination of the following: (a) lowest capital cost of the project, (b) lowest operation and maintenance cost, (d) lowest bid in terms of the present value of user fees, (c) lowest present value of payment from government, (d) highest equity premium (e) highest upfront fee, (f ) highest revenue share to the government and or (g) shortest concession period. Under situations of only a sole bid being received, the authorities have the choice of either accepting or rejecting the sole bid. In the case of rejecting the sole bid, or when no bid is received, the project/program proposal itself may be modified and the bid process restarted. Alternatively, the selection of the developer/service provider is done through competitive negotiation with the private sector participants. 2. Swiss challenge approach The Swiss Challenge approach refers to suo-motu proposals being received from the private participant by the government. The private sector thus provides (a) all details regarding its technical, financial and managerial capabilities, (b) all details regarding technical, financial and commercial viability of the project/ program (c) all details regarding expectation of government support/concessions. The government may examine the proposal and if the proposal belongs to the declared policy of priorities, then it may invite competing counter proposals from others (in the spirit of Swiss Challenge approach) giving adequate notice. In the event of a

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better proposal being received, the original proponent is given the opportunity to modify the original proposal. Finally, the better of the two is awarded the project/program for execution. 3. Competitive negotiation Competitive negotiation (direct or indirect) is considered a variant of competitive bidding. The government thus specifies the service objective and invites proposals through advertisements. The government then negotiates/finalizes the contract with the selected bidders. The government agency (or the local authority) may select the service provider/ developer through competitive negotiation in the following cases: a) social sector projects and programs involving VOs/NGOs/Local Community; b) project involving proprietary technology or a franchise; c) linkage project related to a mega project or a major activity; d) projects and programs which failed to solicit any response to a bidding process; e) suo-motu proposal from a private participant. Negotiation may, however, be simple (direct) or complex (indirect). In the second case, the government negotiates through a master contractor/mother NGO. In other words, contracts for (public) services are contracted out and the master contractor handles all dealings with sub-contractors/franchisees. While the government reviews the works of the master contractor through its monitors (officials) who may visit the site of program implementation and meet the beneficiaries, the master contractor may monitor the program (run by sub-contractors) through collecting information from the beneficiaries selected randomly, based on questionnaires/interviews.

i)Advantage of master contractorSome of the advantages mentioned about master contracting are:


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(a) government has administrative convenience, and better control in dealing with less number of service providers, (b) funds can be raised from other public and private sources, other than the government (c) decisions can be taken more quickly, despite political pressures and (d) training programs can be organized for the subcontractors/ service provider/vendors by the master contractor, more innovatively. However, master contract is not always relevant and negotiation vis--vis the contract ought to be done directly with the community/beneficiaries, as for instance, in the case of wild life protection with the residents living in the vicinity of the forests. Competitive negotiations are, however, less transparent than competitive bidding. With a view to ensure fairness, nonetheless, it is recommended that the government auditor may audit such contracts.

ii)Payment mechanismPayment to the private sector could take the form of: (a) contractual payments (b) grants-in-aid and (c) right to levy user charges for the asset created/leased-in. Contractual payments may be in the form of advance payment, progress payment, final payment, annuities and guarantees for receivables etc. Annuities, in turn, could be with respect to recovering the fixed cost or for recovering both variable cost and the fixed cost of the project. In the former case, both the government and the private partner share the risk of running the project. Grants-in-aid, in turn, can take different forms such as a block grant, capital grant, matching grant, institutional support, etc. Lease agreement license, similarly, may allow the concessionaire to recover the cost of construction/operation and maintenance through levying user charges. Moreover, in the case of lease

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agreement, the asset reverts to the government after the expiry of the contract. The agreement ought to also provide for the condition of asset that would be returned at the end of the contract.

iii)Monitoring and evaluationIt is, quite often, thought that the job is over with the signing/ finalizing the contract. Payments have to be, however, linked to performance, which in turn requires monitoring. Performance measurement can be done with respect to measuring efficiency or measuring effectiveness. While measurement of efficiency entails comparing the unit cost of providing the service from amongst the various alternatives, measurement of effectiveness involves comparing the desired outcomes from amongst the various alternatives. Monitoring may be done in either of the following ways (i) by government departments authorized to do so, based on a standardized scale, (ii) by independent agencies/regulators based on a standardized scale. (iii) by the department or independent agencies, based on the simple criteria of pass and fail (iv) by the department or independent agencies, based on the feedback received from the beneficiaries. Involvement of third party/ independent agencies for monitoring appears to be preferable as they leave the government hassle free over the project and minimize government control. A certain percentage of the cost of the project needs to be, therefore, earmarked for contract management. The government and the developer/service provider could mutually decide the third party. The third party involvement could be further supplemented with provision for adjudication by the (higher) judiciary.

iv)Risk and revenue sharingPPP involves sharing of risk and reward between the partners. The risk involved in project implementation may be of the following types:


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1. Construction/implementation risk, arising from: (a) delay in project clearance; (b) contractor default; (c) environmental damage 2. Market risk, arising from: (a) insufficient demand; (b) impractical user levies. 3. Finance risk, arising from: (a) inflation; (b) change in interest rates; (c) increase in taxes (d) change in exchange rates. 4. Operation and maintenance risk, arising from: (a) termination of contract; (b) technology risk; (c) labour risk. 5. Legal risk, arising from: (a) changes in law; (b) changes in title/lease rights; (c) insolvency of developer/service provider; (d) change in security structure. It is essential that all the generic risks be identified before finalizing the contract. The assurance of the government to share the risks with the private partner is a significant confidence building measure. Quite similarly, if the actual output/returns exceed those contemplated at the start of the project, the windfall is to be shared (equally) between the public and the private sectors.

Local-self-governments and PPPPPP is a suitable method of delivering services commonly provided by local governments and are generally applicable to most components of service delivery. The types of services that

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could be provided through PPP will, however, vary from one local government to the other based on their needs and priorities. Local governments may consider partnerships with the private sector when any of the following circumstances exist: 1. if there are opportunities to foster economic development.; 2. if the involvement of a private partner would allow the service or project to be implemented sooner than if only the local government were involved; 3. if the project or service provides an opportunity for innovation. 4. if a private partner would enhance the quality or level of service from that which the local government could provide on its own; 5. if there is an opportunity for competition among prospective private partners; 6. if there is support from the users of the service for the involvement of a private partner; 7. if the output of the service can be measured and priced easily. 8. if the cost of the service or project can be recovered through the implementation of user fees; 9. if there is a track record of partnerships between local government and the private sector; 10. the service or project cannot be provided with the available financial resources or expertise of the local government.

Guidelines to PPP issued by Department of Economic Affairs, Finance Ministry1. Government of India recognizes that there are significant shortcomings in the availability of critical infrastructure in the country at central as well as state and local level and that this is hindering rapid economic development. In addition, the development of infrastructure requires very large investment that may not be possible out of the


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budgetary resources of government of India alone. In order to remove these shortcomings and to bring in private sector resource as well as techno-managerial efficiencies, the government is committed to promoting public private partnerships (PPPs) in infrastructure development. 2. It is also recognized that infrastructure projects have a long gestation period and may not all be fully financially viable on their own. On the other hand, financial viability can often be fully financially viable on mechanism that provides government support t reduce project costs. The government of India therefore proposes to set up a special facility to provide such support to PPP projects. This support is generically termed as viability gap funding throughout this document. This facility will be housed in the department of economic affairs (DEA). Suitable budgetary provisions will be made on a year basis. 3. In order to operationalise this facility to the following are now issued.

Criteria1. In order to be eligible for funding under this facility PPP project shall meet the following criteria: i. The project must be implemented, i.e., constructed, maintained and operated during the project term, by an entity with at least 40% private equity. ii. The project must belong to one of the following sector: a. Roads, railways, seaport, airport: b. Power c. Water supply, sewerage and solid waste disposal in urban areas and d. International convention centres: iii. The project should have been vetted/endorsed by the concerned line ministries in the government of India.

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iv. All central projects should have received requisite government approval at the appropriate level. v. The total government support required by the project, including support from the Government of India under this facility, or any other sources of the Government of India and its agencies, must not exceed twenty percent of the total project a cost as estimated in the preliminary project appraisal or the actual project cost, whichever is lower. 2. The implementing agency must be selected through a transparent and open competitive process. The main criterion for selection will be the extent of viability gap funding required by the private partner to successfully implement the project. The extent of viability gap funding shall be determined on the basis of the net present value of the actual viability gap funding required. For this purpose and for all calculations under these guidelines, the rate of discount shall be the rate of interested on10-year gilts on the date of submission of the bid.

Funding1. Viability gap funding can take various forms, including but not limited to, capital grant, subordinated loans, Operation and Management (O&M) support grant or interested subsidy. A mix of capital and revenue support may also be considered.ERE-4

2. The funding will be disbursed contingent on agreed milestones, preferably physical, and performance levels being achieved, as detailed in funding agreements. 3. The funding will be provided in installments, preferably in the form of annuities, and with at least 15% of the funding to be disbursed only after the project is fully functioning.


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4. In the first year of the facility, funding will be allocated to project on a first-come, first-served basis subject to meeting the eligibility criteria. In later years funding will be provided based on an appropriate formula that balance needs across sector.

Appraisal and approval procedures1. An empowered committee chaired the additional secretary (EA) and including financial adviser, minister of finance, joint secretary (PF-II), js (banking) and joint secretary of the concerned ministry, with joint secretary (FT), DEA as member secretary, will consider project proposal for viability gap funding. This committee will be authorized to sanction viability gap funding up to Rs 50 crore. Viability gap funding proposals beyond Rs 50 crore will be approved at the level of the finance minister. 2. Project proposals may be posed by either of the following: The concerned public agency, either a central minister or a government of India agency, or the concerned state government, or urban local body, which owns the underlying assets. A private party, with sponsorship from the central or state government agency. 3. Project proposal must be accompanied by a preliminary project appraisal, carried out by a public financial institution, as well as a commitment letter on behalf of the lending institutions that they agree to fund the project. The appraisal will cover the following: Techno-economic viability of the project; Financial appraisal and project financing arrangements and Extent and nature of viability gap funding that is proposed.

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4. Within 30 days of any project being submitted to the Government, the committee will inform the sponsor whether the project is qualified for funding under this scheme. 5. The project will then be put to bid by the concerned public agency through a transparent and open competitive process. The result of biding will indicate the extent of viability gap funding that is actually required. 6. The lead financial institution shall present its detailed appraisal of the technical and economic viability of the project as proposed by the successful bidder, for the consideration and approval of the Committee/Finance Ministry. 7. The transfer of the viability gap funds and the schedule of such transfers will be approved by the committee. 8. The lead financial institution will be responsible for regular monitoring and periodic evaluation of project compliance with agreed milestones and performance levels. 9. The lead financial institution will release the viability gap funding support to the project authorities when due and obtain reimbursement from DEA. Private participation in housing is giving way to the new mantra of public-private partnerships. Under this, the government acquires the land which is then developed for residential/commercial use by the private developer. One example is the Bengal Ambuja project in Kolkata, which is a joint venture between the West Bengal Housing Board and the Gujarat Ambuja Cement Group. The housing project caters to the housing needs of various income groups by building low density high rise buildings. Another example worth emulating is the HUDA model of the Haryana Urban Development Authority (HUDA) under which a number of integrated cities have been developed through publicprivate partnership. Gurgaon has emerged as the most successful of these, with the countrys largest private sector integrated township DLF City being established there. Development of


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integrated townships would mean development of residential, commercial, corporate and institutional complexes, besides provision of roads, power, water supply, waste management, storm water drainage as also social infrastructuremedical, community and education facilities. A certain percentage of housesaround 10 per centin these townships can be reserved for the economically weaker sections (EWS) and low-income groups (LIG) at affordable rates.

1.6Selection of Mode of Business for Conducting Real Estate or Construction BusinessThe various modes in which an enterprise can be started are as follows: A. Proprietorship B. Partnership C. (a) Private limited companies (b) Public limited companies D. HUF E. Trusts F. Co-operative societies Distinguishing characteristics of each of the above:

A.Proprietorship1. It is a single person operation. There is no difference between the owner and the company. 2. It is the easiest to set. 3. Profit of the company is the owners income.53

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4. Liability is unlimited, i.e., Losses may have to be made good out of the personal assets of the proprietor. 5. The greatest advantage of such an organization is that it requires minimal of legal documentation. There is no separate law on sole proprietorships.

B.Partnership1. Two or more persons can start a partnership. 2. The maximum number of partners which are permissible in a firm is 20 and in the case of banking firms it is 10. 3. A Partnership deed in writing paper must be made clearly specifying the name of the partnership firm, the names of the partners, the capital to be contributed by each partner, the profit or loss sharing ratio between partners, the business of the partnership, the duties, rights, powers and obligations of each partner and other relevant details. 4. It must be signed by all partners and witnessed by independent persons. 5. The partnership deed must clearly specify the duties and authorities of all partners. 6. Details of salary and other payments to partners must also be clearly specified in the partnership deed. 7. It is not compulsory for registration of partnership deeds; however, registration ensures certain legal rights to the firm and its partners. 8. The advantages of this form of set-up are that two or more people can come together and start a new business. The disadvantages of this set-up are more or less the same as that of a sole proprietorship concern. 9. The liability of partners in Indian partnerships is joint and several. 10. There is no minimum capital to be subscribed for a partnership.

What is an Asset?

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11. A partnership may be dissolved with the consent of all the partners or in accordance with the provisions in the partnership agreement. Partnerships are governed by Partnership Act, 1932.

C.Companies1. Company as a legal personcan borrow, lend, enter into contracts, can sign, can sue and be sued. 2. Has a life beyond the life of the promoters. 3. Can hold assets of its own. 4. Company seal acts as its signature. 5. Comes into existence through a formal and legal incorporation process. 6. Promoters, share holders are called members. 7. The liability of shareholders of a limited company is limited to the extent of unpaid share or to the tune of the unpaid amount guaranteed by the shareholder. 8. Memorandum and Articles of Association: The Memorandum of Association is the charter of the company and specifies the name of the company, the business and activities it can carry, its address, the capital of the company and details of the persons who have formed the company. 9. The Articles of Association of the company specify the rules and regulations of the company, the rights, duties and liabilities of the members and directors. 10. A memorandum of association and articles of association have to be filed with the Registrar of Companies in order to incorporate a company. In India, companies are broadly classified as Public Sector (Government owned) and Private Sector Companies. Private sector companies may further be classified as Private Limited and Public Limited Companies.

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(a)Private Limited companiesPrivate Limited company means a company formed with the word private in its name .A private limited company can be formed with a minimum of 2 members. The Articles of Association of such companies includes the following restrictions: articles of association restricts the right to transfer its shares; limitation to the number of shareholders to 50 (excluding employees and former employees); prohibition towards invitation to the public to subscribe to shares and debentures; shares of private limited companies may not be quoted in the stock exchange; The minimum paid up capital for a private company would be Rs. 100,000. Following are some of the privileges and exemptions of a private limited company: 1. Minimum number is members are 2 (7 in case of public companies). 2. Prohibition of allotment of the shares or debentures in certain cases unless statement in lieu of prospectus has been delivered to the Registrar of Companies does not apply. 3. Restriction contained in Section 81 related to the rights issues of share capital does not apply. A special resolution to issue shares to non-members is not required in case of a private company. 4. Restriction contained in Section 149 on commencement of business by a company does not apply. A private company does not need a separate certificate of commencement of business. 5. Provisions of Section 165 relating to statutory meeting and submission of statutory report do not apply.

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6. One (if 7 or fewer members are present) or two members (if more than 7 members are present) present in person at a meeting of the company can demand a poll. 7. In case of a private company which is not a subsidiary of a public limited company or in the case of a private company of which the entire paid up share capital is held by the one or more body corporate incorporated outside India, no person other than the member of the company concerned, shall be entitled to inspect or obtain the copies of profit and loss acco

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