Challenges Facing The Egyptian Real-Estate Market And Possible Remedies
The Current Challenges
The decline of foreign currency reserves, coupled with the recent floatation of the Egyptian Pound have led to unprecedented levels of inflation, fluctuation of exchange rate, and consequent increase in the cost of doing business across all sectors. Many importers and producers have halted operations, and a general state of stagnation overshadows the current period.
While in some sectors organizations are able to cascade costs to the end user/customer, in others, such as the real estate sector, commitments between developers and buyers are of a long-term nature (often 3 to 7 years). The effect of such conditions presents developers with a new set of challenges and may prove detrimental to smaller players. While the latter may be advantageous to larger developers by clearing the market of smaller competitors, the challenges presented across the spectrum are nonetheless material and need to be addressed effectively and in a timely fashion.
The picture is not all bleak. There are many factors with a possible reverse effect on inflation: The preliminary estimate of revenue from the newly discovered “Al Zahr” Natural Gas deposit in the Mediterranean is approximately $12 Billion per annum, which, along with various other capital investments including the nuclear reactor, the new administrative capital, and various infrastructure projects are expected to increase yield over the next 3 to 5 years, and hence counter inflation.
The recent approval of the IMF loan, as well as the increase in ratings of the Egyptian Economy by Moody’s and Standard and Poor from ‘Negative’ to ‘Stable’ are expected to renew trust of global investors and fund managers, thereby renewing attraction of Foreign Direct investment (FDI) and reviving tourism. Assumptions need to remain conservative as pre-2011 levels of FDI and tourism remain far-fetched at this point in time.
Exchange Rate Volatility
Another factor to consider while studying current conditions is that the exchange rate has not reached its equilibrium and will continue to fluctuate given how recent the floatation is. When attempting to plan for the future, bankers are considering all possibilities, including the exchange rate of One United States Dollar to the Egyptian pound reaching 20 – 25 EGP on one end of the spectrum or 11 – 12 EGP on the other, and everything in between. The government is also trying to counter inflation on the short run - or at least keep it at bay - using multiple vehicles, including but not limited to CDs offering 16% and 20% return.
Reaching an equilibrium will take an average period of 12 months, depending on the following factors:
- Decisions made and executed by the government
- Market behavior
- The amount of USD revenue into the banking system
Inflation is a macroeconomic risk. Hence organizations have no control and can only take preventative measures and prepare for reactive ones in an attempt to minimize its impact on their operations and profitability. It is a known fact that Egypt will continue to experience inflation, however, the extent is unknown.
In conclusion, inflation is expected to continue to rise as a natural result of free market forces reaching a peak that is unknown at this time, and followed by deflation to an equilibrium that also cannot be predicted. While behavior is obviously predictable, the turbulent impact of such behavior cannot be anticipated, presenting all organizations with challenges that cannot be directly confronted, but rather addressed through mitigation.
Mitigating the Risk: Actions Available to Developers
In order to mitigate the risks associated with the floatation of the Egyptian Pound, the increase in fuel prices, and consequent rise in the prices of building materials, work must be done internally to reduce and minimize internal costs at the portfolio, program, and project management levels creating efficiencies where possible. Such efficiencies should also be established across the supply chain.
The actions available to organizations are bottom-up, addressing portfolio, program, and project management and related cost management practices, optimizing resource allocation, balancing resources across portfolio components to the greatest extent possible and optimizing supply chains while factoring the levels of uncertainty imposed by the market for the next 12 months, after which an equilibrium should be realized. The management of Portfolio, Program, and Project Risk should be applied extensively to the portfolio of the developer, rendering all possibilities, scenarios, and associated impact. The use of multiple practices including Monte Carlo analysis is instrumental to the success of these exercises to derive the optimum scenario(s).
How an organization does things, and how it has done them in the past, directly correlates to its vulnerability in the circumstance described above. In-depth analyses of current portfolio, program, and project management practices is necessary to mitigate the risks identified above. Such analyses will focus on identifying areas of resource optimization and balancing, as well as use scenario and alternatives planning to derive the most cost efficient means of delivering the current portfolio of programs and projects while mitigating the impact of inflation.
Terminology and Lexicon
The term “resources” is used in its global context, encompassing manpower, material, machinery, and of course, money. Similarly, the term ‘Portfolio’ is used to describe the entire portfolio of the developer, Sub-portfolio to Identify regional portfolios such as East Cairo, West Cairo, Giza, North Coast, and/or Red Sea, the term ‘Program’ to describe a specific compound, whether residential, commercial, or mixed use, while the term ‘Project’ is used to refer to a specific building or facility within such Program.
The application of international standards and global best practices may greatly assist in the optimization, balancing, and efficient allocation of resources as mentioned above, as well as creating efficiencies indirectly through optimization of project schedules, program master plans, roadmaps, risk and issues management, and dependencies management. The target is to minimize the portfolio expense base as much as possible with no adverse impact on delivery time and/or quality of delivery.
The various scenarios created as part of the analyses will indicate the percentage of decrease in expenses and the possible benefit to the developer from a conceptual standpoint. Introducing relevant information from the organization’s past performance and adjusting for inflation will lead to a better understanding of the percentage savings per scenario and enable the developer to confidently determine the way forward.
Each action recommended as a result of the assessment will be applicable to the portfolio and its component programs and projects regardless of inflation or any other current or future market forces. The drive to optimize portfolio, program, and project spending in Real Estate should not only influenced by the mitigation of macroeconomic threats, but also by the increase in profitability of the developer at large.
The Egyptian market offers financial instruments that may be used to hedge the cost of building materials including Treasury Bonds and Treasury Bills, the yield of some of which reaching 20-22%. Investing in T-bills and T-bonds coupled with the use of construction loans from local banks may lead to the hedging of a large portion of the impact of inflation.
By combining both solutions, it may very well be that the impact of inflation is fully mitigated, to the point of breakeven.
By: Emad E. Aziz, PfMP, PgMP, PMP, PRINCE2P, CSSGB and Hesham Ghoneim