NAVANA REAL ESTATE LIMITED

An Assignment
On
Risk management of NAVANA REAL ESTATE LIMITED
Course Title: Real Estate Finance
Course Code: FIN-424
Submitted By
Takibul Hasan
ID: 18100042
Department of Business Administration
Submitted For
SM Akber
Lecturer
Department of Business Administration
Date of Submission
July 19, 2021
RANADA PRASAD SHAHA UNIVERSITY (RPSU)
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Contents
What is Real Estate?........................................................................................................................3
What is the Real Estate Market?......................................................................................................3
How does the Real Estate Industry Work?......................................................................................3
Eleven Types of Risk in Commercial Real Estate...........................................................................4
In my selected company have faced five types of risks Interest Rate Risk, Input price Risks,
Industry Risks, Market Risks, Operational risk...............................................................................6
If you are hired as a finance executive of that company what different strategies would you take
to deal with these risks?...................................................................................................................8
References:....................................................................................................................................10
NAVANA REAL ESTATE LIMITED

Solve the following problems:

Select a real estate company doing business in Bangladesh. Collect their annual report. Based on
your knowledge studied in real estate finance course identify different types of risks faced by
your selected company. How they deal with these risk? If you are hired as a finance executive of
that company what different strategies would you take to deal with these risks?

Answer: My selected company isNAVANA REAL ESTATE LIMITED.

What is Real Estate?

Real estate is property consisting of land, the buildings on it, and any natural resources within the
property boundaries, such as waters and crops. Real estate can be categorized into four types:
residential, commercial, industrial, and land.
Residential properties include structures for domestic residence such as single-family homes,
condominiums, townhouses, mobile homes, and vacation rentals.
Commercial properties include structures used to produce income such as offices, stores, hotels,
services and other businesses.
Industrial properties include structures used manufacturing, such as factories, warehouses, and
research centers. Generally industrial is for the production of goods and commercial is for the
distribution of goods.
Land properties include few or no structures such as vacant land, farms, ranches, and reclaimed
sites.

What is the Real Estate Market?

The real estate market is all properties available for sale in a given area. Because of large
economic forces, there are times when these properties rise in value (or fall) at the same time.
This what people mean when they say the market is up (or down).
The housing market is a segment of the real estate market that consists of residential properties
only. Trends in the housing market are closely watched because they provide a measure of
general welfare.
Because many residential properties are owned by individual families, if the housing market is
doing well, we can assume that families are doing well because their net worth is increasing.

How does the Real Estate Industry Work?

The real estate industry works because the value of real estate tends to rise. As a result, people
are able to make a profit by buying and selling real estate. Agent and brokers capture a portion
of this profit by selling a service to those engaged in a real estate transaction.
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Eleven Types of Risk in Commercial Real Estate

Credit/Default Risk
Credit risk, or default risk, is the risk that someone will not be able to meet a financial obligation.
Lenders face default risk that a borrower will not be able to make a monthly loan payment on
time. Similarly, leased property includes a risk that tenants will not be able to make timely lease
payments as expected. Late payments can create cash flow problems for the property owner, but
the situation can be worse if the tenant goes out of business and moves out of the space. Then,
the property owner faces an unexpected shortfall in lease income along with additional costs to
get a new tenant in the space.

Inflation Risk
Inflation is the general increase in prices and decrease in purchasing power that happens over
time. In the United States, the inflation rate has been around 2% per year since the year 2000. So,
planning for 2% inflation each year would be a reasonable estimate in this market. Property
owners, therefore, can set lease rates that allow for this 2% annual growth in overall market
prices. Inflation risk, however, is the risk that this expectation is wrong. What if a tenant just
signed a 10-year lease with an expectation of 2% inflation, but one year into that lease inflation
goes up to 12% annually? The tenant ended up with a pretty great deal, but the property owner
may not be able to keep up with the rising cost of operating expenses if inflation rates are this
much higher than expected.

Macroeconomic Risk
Macroeconomic risk refers to how broad, national level economic activity impacts property cash
flows and valuation. For example, during a period of high growth in GDP, most businesses have
ample cash on hand and low unemployment. Property owners can increase rental rates and
expect low vacancy rates and collection loss. These factors also cause property valuation to
increase. On the other hand, businesses may struggle to stay in business during a recession, and
unemployment rates increase. Property owners may have a more difficult time collecting rent on
time from tenants, and in the worst case have tenants go out of business entirely. Vacancy rates
increase, and finding a new tenant is challenging. These factors all result in lower property
valuations.

Interest Rate Risk

The type of interest rate risk that most people worry about is the risk of increasing interest rates.
Borrowers holding a mortgage with a floating interest rate are negatively impacted by rising
interest rates. As interest rates increase, so do the monthly mortgage payments. Borrowers could
also be negatively impacted by higher rates when refinancing debt at the end of a loan term.
Rising interest rates also impact the net present value of investment cash flows. When market
interest rates increase, the required rate of return or discount rate also increases. This change
causes the present value of future cash flows to decrease. In some cases, this can result in the
cash flows no longer creating an acceptable return for an investor.
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Liquidity Risk

Real estate is a highly illiquid asset. A liquid asset is one that can be sold immediately at market
value. If an owner had to sell a piece of real estate by the end of the day, chances are that it
would be for a price far below market value. So, real estate is illiquid compared to most other
types of assets. The degree of illiquidity varies according to location, property type, and market
cycle.

Legislative/Regulatory Risk

Legislative or regulatory risk refers to any change in regulations or law that can impact real
estate owners or tenants. These changes may take place at the local level or the national level.
These may include direct risks such as zoning changes, building codes, or access to public goods
and utilities. More indirect risks could be changes to local or federal tax rates, mortgage
deductibility requirements, banking regulations, etc.
Increases in tax rates not only impact the property owner’s taxable income but also cash flow of
the tenants. Additional limitations on mortgage deductions on federal taxes reduce the property
owner’s after-tax income and the overall rate of return on the investment. Changes to bank
regulations could influence the cost of borrowing and ease of obtaining financing for a property
owner. Even if changes to laws and regulations do not directly impact real estate, they may
indirectly impact property investment through financing or business cash flows.

Location Risk

Real estate investment ultimately depends on having the right type of property in the right
location. Cities, however, act as dynamic and evolving organisms. What is a prime location for
office and retail space today may be empty 20 years from now. Location risk comes from the
external environment and the contribution that the neighborhood makes to a property’s value.
Changes in city growth or transportation patterns or reductions in public goods and services can
all negatively impact the desirability and value of a particular property.

Space Market Risk

Property owners purchase real estate with a specific expectation about market rental rates and the
demand for space over the investment holding period. Space market risk refers to the probability
that those expectations are incorrect. As an example, consider the potential impact of a global
pandemic on long-term corporate behavior with respect to remote working. If corporations
suddenly start allowing a large percentage of workers to engage in remote working contracts, the
market demand for office space will dramatically decrease from previous forecasts. This
unexpected change in demand conditions is space market risk and uniquely impacts real estate
assets.
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Construction Risk

Any time a property undergoes construction, there is an additional source of risk to the property
owner. Construction risk applies whether there is a new development or a significant renovation.
The construction project may take longer than expected and delay expected rental income, cost
more than the budget estimate, or expose previously unknown defects in the property that require
additional time and expense to remedy. All of these scenarios result in a reduction in expected
cash flow for the property owner.

Environmental Risk

Environmental risk can come from land use regulations and environmental protection concerns.
It can also come from the environmental conditions of a property. The first type of
environmental risk can be hard to anticipate and to mitigate. The second type of environmental
risk may be limited with a thorough inspection of the property and all historical records about the
prior use of the land. Specific environmental risks vary a bit with the region but may include
problems such as asbestos and lead-based paints, radon or other hazardous chemicals,
groundwater or soil contamination, wetlands, and protected wildlife. Environmental mitigation
can be extremely expensive, so property owners should take the time to do their due diligence
about potential sources of problems.

Management Risk

Even the nicest property in the best location can be an unprofitable investment without the right
management. Property managers establish relationships with tenants and make decisions about lease rates
and concessions as well as the operating budget. Poor management can result in high vacancy rates,
below market rental income, and high operating expenses. All of these factors reduce the property income
for the owner and the return on investment. Thus, knowledgeable and competent property management is
essential to success in real estate investment.

In my selected company have faced five types of risks Interest Rate

Risk, Input price Risks, Industry Risks, Market Risks, Operational risk.

Interest Rate Risk

Interest rate risk is borne by interest bearing assets of an organization. Changes in the
Government’s monetary policy along with increased demand for loans/investments tend to raise
interest rates. Such rises in interest rates mostly affect companies having floating rate loans or
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companies investing in long term debt securities. In the event of monetary policy tightening by
the Government to combat increased economic growth and inflation, the company will
require a prudent strategy to take the firm from incurring negative net cash flow from operations.

They deal for this risk how to control the risk. The management of NREL is aware of the
interest rates at which the debts of the company are being financed. Management intends to
finance long-term funds using fixed interest rate debt and finances short-term funds at reasonable
competitive rates. The company has been repaying borrowed funds on a continuous basis to
reduce such interest risk. The recent trend shows that, NREL funded ongoing projects by
advance against sales. Besides that, management also utilizes retained earnings and bank loan
to finance projects.

Input price Risks

Input price risk is the risk of businesses when procuring materials or commodities in high global
demand. Increasing demand and supply shortages create volatility in these commodity values
therefore the timing, quantity and price of purchase must be closely planned. Input price, such as
MS rod and cement, represent material direct costs in the industry.

They deal for this risk how to control the risk. Management of NREL would hedge their
exposure to input price volatility by purchases of such inputs at right price at the right time; and
by charging for contingency against such inputs in selling prices.

Industry Risks
Real Estate business, especially apartment projects started to flourish and showed robust growth
in the Dhaka City from the early 1980s. At present, more than 250 real estate and land
development companies are operating their business. Demands of flats and land are high and
thereof most of the developers of housing estate are concentrating in this segment of business
and make a competitive market.

They deal for this risk how to control the risk. Based on the number and size of projects
besides Brand strength in marketplace and upcoming project portfolio, NREL has a strong
position that is the key for success in real estate sector. The Company has established brand
name in real estate market with its asset quality and customer services. Diversification in
terms of location within Dhaka and Chittagong will assist them to capture different income
groups. Therefore, the Company targets prime locations as well as locations that will be
affordable by middle class income group people.

Market Risks

Market risk refers to the risk of adverse market conditions affecting the sales and profitability of
the company. Mostly, the risk arises from falling demand which would affect the
performance of the company.
NAVANA REAL ESTATE LIMITED

They deal for this risk how to control the risk. Management is fully aware of this market risk;
and has planned to act accordingly. On the other hand, strong marketing and brand management
would help the company increase their customer base.

Operational risk
The real estate industry has witnessed challenges such as earthquakes and floods. It stands as one
of the most challenging industries to operate in to date.

Management Perception Fortunately, the local industry does not have such a troubled backdrop
and has immense opportunities for growth.

If you are hired as a finance executive of that company what different

strategies would you take to deal with these risks?

If I am a finance executive of this company I would take these types of strategies:

For Interest rate risk
 Diversification: Among the different options that can be employed by an institution to
manage the interest rate risk associated with them, one of the most effective options is to
diversify their financial investments. For investors who invest in both equity and fixed
investment options, this is the best method to manage the risks associated with interest
rates.
 Safer investments: The safest option for investors who are trying to reduce the risks
associated with interest rates is to invest in bonds and certificates, which have short
maturity tenure. Securities with short maturity tenure are less susceptible to the
fluctuations in interest rate. This method for interest rate management reduces the chance
of being subjected to interest rate fluctuations since they have low maturity tenure.
 Hedging: Hedging is an option, which can be used successfully to reduce the risks
related to interest rates. Generally referring to the purchase of various types of derivatives
which are available, there are many ways of hedging. A few of the hedging strategies are
illustrated in the table below.

For Input price risk

Diversification to Minimize Price Risk

Unlike other types of risk, price risk can be reduced. The most common mitigation technique
is diversification.As a result, the competitor realizes a surge in business and its stock price. The
decline in the market price of one stock is compensated by the increase in the stock price of the
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other. To further lessen risk, an investor could purchase stocks of various companies within
different industries or in different geographical locations.

Futures and Options to Hedge Price Risk

Price risk can be hedged through the purchase of financial derivatives called futures and options.
A futures contract obligates a party to complete a transaction at a predetermined price and date.
The buyer of a contract must buy and the seller must sell the underlying asset at the set price,
regardless of any other factors. An option offers the buyer the opportunity to buy or sell the
security, depending on the contract, though they are not required to.

Short Selling to Hedge Price Risk

Price risk may be capitalized through the utilization of short selling. Short selling involves the
sale of stock in which the seller does not own the stock. The seller, anticipating a reduction in the
stock’s price due to price risk, plans to borrow, sell, buy, and return stock.

For Industry risk

Based on the number and size of projects besides Brand strength in marketplace and
upcoming project portfolio, NREL has a strong position that is the key for success in real estate
sector. The Company has established brand name in real estate market with its asset quality and
customer services. Diversification in terms of location within Dhaka and Chittagong will assist
them to capture different income groups. Therefore, the Company targets prime locations as well
as locations that will be affordable by middle class income group people.

For market risk

1. Sell individual stocks and equity funds.

2. Buy bond funds or ETFs.
3. Purchase real estate.
4. Open a self-directed IRA.
5. Build a municipal bond portfolio.
6. Buy a protective put option.
7. Lower risk with inverse ETFs.

For operational risk

1.Get the backing of the organization’s leadership.

2. Introduce risk accountability across the organization.
3. Agree to timely risk assessments.
4. Quantify and priorities risks.
5. Establish appropriate metrics and key performance indicators to monitor and assess
performance.
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References:
https://financedocbox.com/Tax_Planning/72551338-Navana-real-estate-limited.html