Monica Ellena in Tbilisi -

A funicular ride up Mtatsminda, Tbilisi's most famous hill, says it all. Cranes hover above low-rise buildings in the Old Town, craters dot the expensive neighbourhoods, and lofty apartment blocks tower over the horizon. This is a city in the making.

Official statistics confirm the building frenzy. According to official data, in 2012 the turnover of the construction sector jumped to GEL4.4bn ($2.5bn) from GEL3.3bn in 2011. Political uncertainty slowed down various economic activities, including construction, but analysts confirm the buzz is back. “Construction is on the rise,” says Tengiz Lomitashvili, partner at the Tbilsii-based TSBC Consulting. “There is a lack of supply at residential, office and hospitality level. But investors need to study carefully market, locations, and target to avoid losses.”

The Georgian capital is not new to a building boom. Between 2004 and 2007, pent-up demand, strong economic growth, relative political stability and incentives for investors drove the sector to dizzying heights. But in 2008 construction activity juddered to a halt as first the financial crisis struck and then a war with Russia over South Ossetia, one of Georgia’s breakaway regions, froze the little activity that had remained.

Now the signing of the free trade and association deal with the EU in June is seen positively impacting the sector and the economy as a whole. “The economic development of countries like Slovakia, the Czech Republic or Bulgaria can be used to look at Georgia’s current situation and future potential,” points out Martijn Kanters, a Tbilisi-based real estate specialist with over 15 years of experience in Central and Eastern Europe.

The Dutch national, an associate at TSBC, explains that usually the EU deal marks a boom in investments in real estate. “Plus, Georgia has a comparative advantage in lower level of corruption, more transparent institutions, and lower taxes,” he adds.

Kanters does not think that the country’s more volatile geopolitical location and delicate relationship with Russia will have a negative impact, as “Russia’s current state of the economy is a more worrying factor for the Kremlin than a small country on its south border.”

Hotel buzz

The key driver so far has been the hotel sector. In September, Rooms opened its second 4-star hotel in Georgia, adding 150 beds to the roughly 7,000 that already existed in the capital. And over the next two years, five major chains – Rixos, Millennium Hotel, Park Inn, Hilton Garden Inn, and Intercontinental Tbilisi – are planning to add about 1,000 more rooms. “It is golden time for the hotel business, tourists are on the rise, and occupancy is constantly around 85%,” says Lomitashvili.

Last year Georgia received over 5m tourists, a 22% increase from 2012 – the highest rate of growth in Europe. For 2014, the Georgian National Tourism Agency forecasts additional growth of 18%. As the 4/5-star hotel segment is gradually becoming saturated, the highest potential is in the mid-range and economy segment of 2/3-star hotels.

Both the Partnership Fund, the state-owned investment fund, and the Georgian Co- Investment Fund, a $6bn private equity fund, are investing in the hospitality sector, both in the capital and in the regions.

The GMT Group, a leading private investor in Georgia with over $80m invested in capital across a portfolio that includes hotels and real estate, is moving towards budget hotels and is primed to open in 2016 Tbilisi Moxy, a new concept hotel developed by Marriot and Ikea. “Compared to 12 years ago when we developed the 5-star luxury Marriot hotel, the market conditions have changed considerably, tourists have increased and their profile is now more diversified,” explains Irakli Baidashvili, GMT’s executive vice-president. “Moxy targets the generation-Y, techy, well-traveled who are on a budget, but still want good quality services. In addition to Tbilisi, we have plans to develop Moxy in three locations across Georgia.”

Quest for Western-styled flats

While hotel deals have grabbed the headlines, residential projects are now catching up. Currently, in Tbilisi the majority of houses are old or obsolete – 17% were built before the 1941, 32% before 1960. Some 0.5% of the current stock, about 88,000 square metres (sqm), becomes useless every year, according to Lomitashvili.

At 16 sqm per person, Georgia has Europe’s lowest average space per person, but larger families – 3.5 members versus less than 2 in EU countries, according to Lomitashvili. And as the traditional Georgian extended family wanes, smaller households create a new trend. “Demand for apartments in Tbilisi is very strong,” says Irakli Burdiladze, chairman of the Supervisory Board at m2, the Bank of Georgia’s real estate arm. “This is driven by a number of factors: household size, the need to replace amortized housing stock, economic growth translated into increasing household income. Clients are mostly interested in mid- and small sized apartments. We are very successful in selling turn-key one- and two-bedroom apartments.”

For the Azerbaijani AS Group Investment, interest from buyers has been steadily increasing since the holding started developing Dirsi, labeled the Caucasus largest residential complex. Spanning over 46 hectares of land on the outskirts of the capital, the first phase of the multifunctional conglomerate is due to open in November with 2,614 apartments ready to move in. The entire complex with its 4,898 flats should be completed by the end of 2016. “Dirsi is a mini-city,” explains Keti Adeishvili, head of sale and marketing. “It is in line with the new trend in the international real estate market to develop large-scale projects in order to create new meaning of life, environment, quality and urban space. “

Yet still-unfinished construction sites are a common sight. “In most cases, mismanagement is the reason,” says Burdiladze of m2, which has 3% of the real estate market in its portfolio. To handle the risks, the “cash flow of each project has to be ring-fenced and only excess liquidity used for the purpose of new acquisitions or inception of new projects,” a practice widely underestimated in the previous construction boom according to Burdiladze.

Overbuilding though is not the only risk. “The main issue is how potential owners will pay as the purchasing power of the majority of Georgians remain low,” says Lomitashvili. “Remittances help, but potential buyers need affordable mortgages or new and flexible payment forms.”