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Sobha (SOBHA)
Property
Favorable risk-reward. After the 13% correction over the past month in Sobha’s stock
price, we are upgrading the stock to a BUY with a target price of Rs408/share set at par
with our FY2012E NAV. We see three key positives (1) steady demand and pricing in
Sobha’s primary market, Bengaluru, (2) Sobha’s new launches in 3QFY11 validate sales
guidance of 3 mn sq. ft, and (3) current stock price implies steady-state real estate
development of only 1 mn sq. ft.
Bengaluru residential market continues to see steady sales and pricing
Absorption in the Bengaluru residential market (Sobha’s primary market) remains stable with
annual absorption of 36 mn sq. ft (versus all-time high of approx. 50 mn sq. ft). Most developers
are assuming steady market absorption which means probability of eventual distress sale of
inventory is low. Prices have also remained stable post a 10% increase over 1HFY11 but still
remain approximately 10% below peak prices. We expect Bengaluru demand to continue to
remain robust given (1) positive outlook on IT services demand and hence hiring trend is likely to
remain robust, and (2) there is no evidence of any significant speculative element built into either
volumes or prices.
Two launches in 3QFY11 validate sales guidance
In 3QFY11, Sobha has already launched (1) Sobha Forrest View at Banashankari Extension in South
Bengaluru which has 492 apartments for total area of approx. 900,000 sq. ft, and (2) Sobha Ivory
in Pune for an area of approximately 250,000 sq. ft. We believe that Sobha is well placed to
achieve its FY2011E target of 3 mn sq. ft sales as (1) Sobha has already sold 1.4 mn sq. ft in
1HFY11 and broad demand trends remain similar so achieving 10% higher sales in 2HFY11 is not
difficult, and (2) it has 2.65 mn sq. ft of inventory to sell from ongoing projects apart from the 1
mn sq. ft launched in 3QFY11 implying that the target can be achieved even without further
launches in 4QFY11E.
Upgrade to BUY with 28% potential return over next 12 months
We believe Sobha’s current stock price is factoring in only (1) present value of projects under
execution, (2) land valued at acquisition cost (no incremental development value post current
projects) and (3) execution of only 1 mn sq. ft per year on an ongoing basis versus Sobha’s
FY2011E target of 3 mn sq. ft and average of 2.2 mn sq. ft over FY2008-11E. Recent stock price
decline of 13% now provides a 28% upside to our target price and we are upgrading the stock to
BUY.
Sobha’s two new launches of around 1 mn sq. ft in 3QFY11
In 3QFY11, Sobha has already launched (1) Sobha Forrest View at Banashankari Extension in
South Bengaluru which has 492 apartments for total area of approx. 900,000 sq. ft and (2)
Sobha Ivory in Pune for an area of approx. 250,000 sq. ft. We believe that Sobha is well
placed to achieve its FY2011E target of 3 mn sq. ft sales as (1) Sobha has already sold 1.4
mn sq. ft in 1HFY11 and broad demand trends remain similar so achieving 10% higher sales
in 2HFY11 is not difficult, and (2) it has 2.65 mn sq. ft of inventory to sell from ongoing
projects apart from the 1 mn sq. ft launched in 3QFY11.
Current stock price factoring in only 1 mn sq. ft of development in steady state
Our calculation indicates that 82% of the current enterprise value is accounted for by
(1) cash flow from existing ongoing projects (present value assuming an incremental three
years and 14% cost of capital), (2) value of contractual business at 12x FY2012E estimated
earnings and (3) land holdings valued at historical cost. The current market price is factoring
in a steady-state development of 1 mn sq. ft (calculation below) which we think is low
considering the 3 mn sq. ft target in FY2011E and that Sobha achieved 0.9 mn sq. ft in
FY2009 which was the worst year in the previous real estate cycle.
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