HDIL: Q2 surprises positively; we retain positive outlook:: HSBC

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Housing Development (HDIL IN)
OW(V): Q2 surprises positively; we retain positive outlook
 Q2 earnings were 37% above our estimate, driven by high TDR
prices; unbooked FSI sales improve FY11 earnings visibility
 HDIL can benefit from new residential projects if it maintains
its competitive pricing strategy; however, looming concern on
FSI hike should restrict HDIL from trading at peak valuation
 Lower TP to INR357 from INR396 as we now factor in mid-cycle
valuation; retain our positive outlook and Overweight (V) rating

Q2 earnings were above our expectation; unbooked Floor Space Index (FSI) sales improve
earnings visibility. HDIL reported PAT of INR2.1bn, +44% y-o-y and 37% above our estimate,
driven primarily by healthy transfer of development rights (TDR) volumes (c1m sq ft) at sustained
high prices (INR3,000psf). This made up for the lower sales of INR3.7bn, +5% y-o-y, though 10%
below our estimate, as the EBITDA margin at 67.5% was higher than our estimate of 53%. Also,
management has indicated it has completed FSI sales of INR6.5bn, the majority of which are likely
to be booked in H2 FY11, there by improving our FY11 earnings visibility.

HDIL can attract demand by maintaining its competitive pricing strategy. Our ground-level
checks found residential demand has taken a hit from high property prices. But HDIL has succeeded
in attracting demand – it sold c3,500 residential units over the past18 months – by adopting a
competitive pricing strategy. We are optimistic that HDIL can continue to benefit from such a
strategy in its planned new launches of 8.8m sq ft in the Mumbai market over the next 12 months.

However, FSI hike concerns could restrict HDIL from trading at peak valuation. While
we remain optimistic about HDIL’s business outlook, we do not foresee HDIL trading at its
12-month peak valuation for two reasons. First, looming concern about an FSI increase in the
Mumbai suburbs to 1.33x from 1x (this can lower demand and pricing for TDR). Second, midcycle
valuation, as demand is driven by competitive pricing. Hence, we are lowering our
valuation multiple by increasing the target NAV discount to 20% from 10%.

Reiterating Overweight (V) rating, lowering target price to INR357 from INR396. HDIL
is trading at a 35% discount to its FY12e NAV and FY12e price-to-book of 1.1x. The stock in
the past 12 months has traded in a range of a 0-50% NAV discount. Our new target price
values HDIL at a 20% discount to its NAV, along with a terminal value of INR47, implying a
34.6% potential return. Risks include slum rehabilitation projects, lower TDR volumes, and an
FSI increase. Catalysts include successful new project launches over the next 12 months.