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Real Estate/Property - India
Fallen Angels: bottom fish
selectively
�� Are stocks attractive? Only selectively
We believe correction in residential prices is inevitable based on our detailed analysis
of variables including affordability (income & price), absorption rates (demand) and
unsold inventory levels (supply). Given this view, we are only selectively bullish on
stocks in spite of their sharp under-performance. We like companies with exposure to
(a) real estate markets expected to witness minimal price correction (Gurgaon) and (b)
the commercial real estate space. BUY DLF and OBEROI. Unlike consensus we see
price and volume disappointment in Bangalore (Underperform rating on Sobha and
Puravankara) and Noida (Underperform rating on Jaypee).
Nearing inflection; Await volume recovery
The realty index has underperformed the broader market massively and has corrected
by 53% in the last one year. Stock valuations are looking attractive and a likely peak in
interest rates may prove a near term trigger. However, we think investors should await a
sharp volume pick up before over-weighting the sector (likely in Q1FY13). Meanwhile
stocks will face 2 headwinds: (a) a correction in residential prices and (b) global
uncertainty and risk aversion environment making high debt companies vulnerable.
Residential price correction: locational view anti-consensus
Our view on price trends in some key locations is anti-consensus:
1. We believe Gurgaon residential will fall by just 10% as unsold inventory buildup
(represented in # of quarters) fell from six in CY08 to three. DLF (39%
Gurgaon residential and 35% commercial).
2. We think Mumbai will correct 25% way ahead of consensus (d/grade HDIL).
3. Unlike consensus, we expect sluggish volumes and prices in Bangalore
(downgrade Sobha, Puravankara) and Noida (downgrade Jaypee).
Bullish on commercial – BUY Oberoi
Commercial real estate (office and retail) has been steady in terms of rentals and
leasing momentum. While the headwinds to commercial space demand in 2012
are increasing, we believe downside is well protected with rentals still at 2009
levels. Also the supply situation today is less worrisome than the previous cycle
given lack of new launches by developers. Oberoi (Rs15bn cash & 39%
commercial) with exposure to non IT office space in Mumbai is expected to see
continued strong demand and remains our top BUY.
15-30% downside risks on global recession
If the global economy plunges into recession, we expect further downside risk of
15-30% (based on trough P/B multiple) to realty stocks from the current levels.
Investment Thesis
We differ from consensus
We also believe residential price correction is inevitable. However, we differ in the
variables analyzed and physical property outlook. We analyzed variables
including affordability, absorption rates and unsold inventory levels. Contrary to
consensus, we believe Gurgaon residential will fall by just 10% as unsold
inventory build-up (represented in # of quarters) fell from six in CY08 to three
currently. Similarly, Bangalore and Noida will disappoint on both pricing and
volumes going forward while Mumbai will see sharper than expected correction in
residential prices of upto 25%.
Table 4: Where we differ from the market view on Physical property market outlook
BofAML View Consensus
Mumbai
Unsold inventory higher than 2008-09 City is supply constrained
Prices to correct by 25% Prices to correct by 10-15%
Gurgaon
Will continue to show strength Looks weak
Prices to correct by 10% Prices to correct by 20%
Bangalore
Volumes to remains sluggish Volumes to show good growth
Prices to correct by 5-10% Prices to remains flat
Noida
Ballooning inventory, will disappoint on volume and prices Noida is affordable and will continue to sell
Source: BofA Merrill Lynch Global Research
Relentless supply; absorption struggling to catch up
Absorption rate (sales / inventory) in most cities has fallen and has or is
approaching its previous lows in 2008. The exceptions are prime locations where
supply is constrained will only see single digit cosmetic correction. Prices have
increased 20-50% till date since their lows in 2009 despite continued pile-up of
unsold inventory. We believe it’s about time for a U-turn
Commercial to hold steady; Buy Oberoi
Commercial real estate (office and retail) has been steady in terms of rentals and
leasing momentum. While the headwinds to commercial space demand in 2012
are increasing, we believe downside is well protected with rentals still at 2009
levels. Also the supply situation today is less worrisome than the previous cycle
given lack of new launches by developers. Oberoi (Rs15bn cash & 39%
commercial) with exposure to non IT office space in Mumbai is expected to see
continued strong demand and remains our top BUY. All are Buy rated stocks
have 20-45% of NAV exposure from the commercial segment.
Gurgaon is our favorite; Buy DLF
Gurgaon is best placed to see a volume rebound post the expected price
correction as we believe most variables like unsold inventory, interest rates,
prices, and affordability will turn favorable next year. We see minimal correction of
10% in Gurgaon mostly limited to upcoming locations. Affordability (better than
CY08), unsold inventory (lower than CY08) and absolute absorption (2x of CY08)
demonstrates strength in the market. DLF with 39% NAV contribution from
Gurgaon/Delhi residential market will be the key beneficiary while Unitech will
struggle to improve volumes given uncertainty due to telecom probe and
execution challenges.
Mumbai to see highest price correction; HDIL U/p
While most regions have seen YoY growth in absorption in the past 3-4 years,
Mumbai continues to struggle. We believe this is primarily due to low affordability.
While general perception in the market and among developers is that the city is
supply constrained, our numbers suggest the contrary. We expect Mumbai
residential prices to crack by upto 25% given the unsold inventory have increased
to over 12 quarters of current absorption levels. Therefore we have an
underperform rating on HDIL which has highest contribution (71%) from Mumbai
residential segment among Mumbai developers.
Avoid developers with Bangalore / Noida exposure
Bangalore & Noida will struggle even after price correction. Noida volumes will
struggle to sustain past volumes due to falling investor interest clearly evident
from rising unsold inventory. We have downgraded Jaypee Infratech to
underperform.
Bangalore volumes will struggle as absorption has failed to match the growing
supply in last four quarters due to high correlation to interest rates, while global
uncertainty will likely further hit the demand for housing over next 6 months. In the
last cycle, we have seen Bangalore volumes recovered with a lag of 6 months
compared to other markets. Therefore we are looking at volume recovery only by
4QCY12. We have underperform on Sobha and PVKP with over 60% NAV
contribution from Bangalore residential
Stocks to avoid (Underperforms)
We would like to avoid stocks which have high exposure to markets where we
expect either the price correction will be severe - Mumbai (higher than what
market is building currently) or the price correction will not lead to strong recovery
in volume – Bangalore and Noida.
Sobha Developers – headwinds getting chillier
We have downgraded Sobha to underperform with PO of Rs190 based on 20%
discount to our NAV. We expect Bangalore prices to correct by 5-10% over next 6
months while the volume recovery is still atleast 12 months away. Sobha with
over 58% exposure to Bangalore will disappoint on both volume and cash flows.
We expect the reduction in debt to be lower than Rs1bn in FY12 against company
guidance of Rs3bn due to slower volume in Bangalore and Gurgaon project.
HDIL – regulatory and pricing woes
We downgrade HDIL to Underperform with PO of Rs85 based on 25% discount to
our NAV. We expect that HDIL will continue to underperform till its key project –
Airport rehab is approved while sharper than expected correction in Mumbai
residential (71% of its NAV) prices will surprise market on the downside. The
regulatory approvals will continue to delay other projects as well given
government’s policy of go slow. Also given our view on Mumbai prices, we
believe HDIL’s planned FSI sale may be further delayed or the cash flow from the
deal may be staggered over next 12-18months.
Other Underperforms – Jaypee Infratech (83% exposure to Noida residential)
and Puravankara (over 60% exposure to Bangalore residential)
Valuation basis for developers
We have valued the developers on NAV basis which we believe is the best
methodology currently given lack of trading history (most developers got listed in
late 2007), volatility in earnings, and differences in revenue-recognition method
across developers. We have also compared our price objectives with the
price/book multiples over the past 3-year trading history to provide robustness to
the valuation. At our price objectives, the stocks, for which we see only
headwinds from slowing volumes, will be trading at 3-year average P/B multiples
while others facing debt or approval/litigation issues will be trading close to one
standard deviation lower than 3-year average P/B multiple, which we believe
should adequately compensate for the risks.
Discussion on NAV
Our NAV assumptions include the following:
�� Our NAV includes only those projects (on development basis) that we believe
developers could launch for sale/development in the next 5 years
�� Rest of the land bank valued conservatively at cost or 5-10% discount to
market values
�� Inflation on both sale price and cost of construction is 5%
�� We have incorporated our view on pricing and volume on various markets for
each of the developers as discussed in the “Physical property market”
section”. So we have built in a price correction of 5-25% across regions and
slowdown in volume for the next 6-9 months.
�� WACC used is 14-15%
Discount to NAVs to determine our POs
As our NAV estimate factors in most of the downside (from lower prices and
volume) and the market is also nearing the end of NAV downgrade cycle, the
discount to NAV will not likely widen from here. As the trading history is not long
enough to determine the average NAV discount, we have based our discounts on
the following factors:
1. Visibility on NAV – We have measured NAV visibility as proportion of NAV
generated from projects to be launched in the next 5 years and currently
leased assets. Higher the NAV visibility, lower the volatility in NAV, and thus
the developer should attract lower discount to its NAV.
2. Debt/Leverage – The high debt levels continue to be a sore area for the
sector. Even though most of the developers have recapitalized post the last
down-cycle, the debt levels continue to be high and remain a cause of worry
for the sector, given the earnings and cash flows continue to remain under
pressure. So, if the volumes dry up like in 2008-09, many of the developers
would be staring at similar liquidity problem. Debt repayment and servicing
obligation against expected cash flows and the ability of the developer to
raise funds through sale of assets/land will determine the discount.
3. Regulatory risk to FSI and land bank – The sector remains highly
regulated with approvals and land acquisition remaining a grey area. Also,
local governments have consistently been changing regulations on FSI
(recent changes proposed in Mumbai) and land acquisition (recent problems
in Noida). The risk remains high for NCR and Mumbai developers while low
for Bangalore-based developers.
4. Earnings momentum – The earnings and margin remain critical for stock
performance even though developers follow different accounting policies. We
believe if the strong reported volumes don’t translate into corresponding
earnings over the 12-24 months, the stocks are likely to disappoint. We
expect most developers to disappoint on earnings growth in FY12 while
FY13 earnings will be largely dependent on a rebound in sales volume. If
developers continue to hold prices, then we may see a disappointing FY13
as well. For determining the earnings momentum we have used the earnings
CAGR during FY10-13.
5. Our view on the physical market – Our view of the physical property
market in the home city/town across segments over next 12 months will also
play key role in determining the discount to NAV. Our views on the physical
market are discussed in detail earlier in the report. ON this basis we have
assigned attractive, neutral or unattractive rating to the stocks.
��
6. Size of developers and brand premium in home markets – The size
and brand name of the developers allow them to get a premium vs. their
competitors leading to higher margin, and giving better access to capital
(both equity and debt).
M ethod for assigning Discount
�� We have assigned equal weights to each of the above six factors and
assigned a score of 3 to a developer that looks attractive on a particular
factor, 2 for neutral and a score of 1 for an unattractive developer to
determine the discount.
�� The aggregate relative score showed in the table 8 corresponds to average
score across the above six parameters.
�� Based on the relative score we have assigned the discount to each of the
developers.
�� Oberoi Realty clearly sets the benchmark, and we believe it should trade at
NAV given the expected increase in NAV from acquisition of new projects in
near future. The others follow through with every lower score attracting
higher discount.
NAV visibility
This is another critical factor in determining the discount factor. We have
measured NAV visibility as proportion of NAV generated from projects that we
expect the developer can launch in the next 5 years and the currently leased
assets. We believe a developer whose large portion of NAV comes from projects
it can develop/monetize over the next 5 years is less prone to volatility in NAVs.
Moreover, leased assets and cash further fortify the balance sheet and NAV
robustness.
To increase the robustness of our NAV, we have valued the projects/land bank
that are unlikely to be launched/developed over the next 5 years on land values.
Is the market penalizing such by valuing remaining land parcels at market values
and not giving the development upside? We don’t believe it is the case. Given the
developers’ recent execution capability and volume that can be absorbed in the
market we believe many developers are carrying large land banks which they
may not be able to develop even in the next 10 years. Some of these land parcels
have been bought in 2006-08 period when land prices were very high and are in
locations which may not be attractive in foreseeable future for development. We
believe the best valuation matrix for such land parcels are the current market
value.
Mumbai
Oberoi Realty, due to the limited size of its land bank, leased assets, and high
proportion of cash balance, scores very high on NAV visibility. It derives 37% of
its NAV from leased assets and cash balances, which are expected to increase
further over the next two years as more office projects come operational.
IBREL and HDIL didn’t score high on the above count. While HDIL holds large
land parcels in remote locations, large part of IBREL’s NAV comes from its
investment in power assets which are longer term plays.
NCR
DLF and Anant Raj score high on NAV visibility among the NCR peers due to
substantial leased assets. But due to their large land holding, substantial land
bank will be brought under development only after 5 years. However, we expect
certain critical projects to be launched over the next 2-3 years.
Unitech and Jaypee Infratech are primarily residential developers with large land
banks and no leased assets. Thus, over 35% of their NAVs accrue from projects
which are expected to be launched only after 5 years.
Bangalore
Brigade scores high due to substantial NAV contribution from market-ready
commercial assets. We have also conservatively valued only those projects in
which we have visibility of launch over the next 12 months, given its poor track
record on execution/new launches. Also, the land bank is limited vs its peers.
Instead of investing huge amount of capital in land assets, Brigade has invested
most of the capital in development of commercial assets.
Sobha and Puravankara own substantial land bank mainly for residential
development. Given their historical and current residential sales run rate, we
expect their launch pipeline to remain narrow. Since this land bank which is
unlikely to be launched over the next 5 years contributes to over 40% of their
NAVs, both the developers score low on their NAV visibility. As they are
generating 25-35% margin from their development business, we believe their land
banks have not seen any material increase. Also, given stable markets in South
India, we don’t expect above-inflation increase in land prices in near future.
Regulatory risks to remain high
We think that regulatory risks related to FSI regulations (particularly in Mumbai)
and land acquisitions have increased substantially in last 12-18months. The
changes whether initiated by the government or due to litigations have led to
substantial reduction in NAV across developers. We don’t expect any let up in
near future on regulatory environment due to intense scrutiny of government
actions by media as well as people at large. While the Bangalore developers
have least risk to their land bank or projects due to change in regulations, the
Mumbai developers are at the highest risk particularly HDIL and IBREL.
The developers vulnerable to regulatory/ policy changes of the government or
facing litigation in key projects -
Mumbai
The government has been going slow on real estate project approvals and is
relooking into most of the development control provisions which allow
concessional FSI to developers. While this will help create a level-playing field, it
could lead to lower FSI/cancellation of projects for some of the developers. HDIL
will be most hit while Oberoi the least. Our initial estimates suggest if the
proposals are implemented, it could impact FSI by 10% of Oberoi’s Mulund
project, while for HDIL the risk could be higher given many of the projects have
not yet received approvals.
HDIL – The nature of the projects undertaken by HDIL is open to high
government intervention. We have already seen its key project – Mumbai Airport
redevelopment – getting delayed for over two years with no future visibility due to
lack of government approvals. Also many of its redevelopment projects are facing
litigation and may face delays or cancelation.
IBREL – It has managed to get approval for higher FSI (than otherwise allowed
under the current regulations) for its Mumbai projects. The new regulations could
impact its FSI for the new land bought at Worli, though we have valued only the
FSI that it should manage to get under the new rules.
NCR
Most of the regulatory risks in NCR arise from the controversies related to land
acquisitions and compensation, given that the FSI regulations are governed by
the ‘master’ plans and cannot be changed for any particular project/micro-market.
Unitech – Its investment in telecom licenses remain a key overhang and unlikely
to be resolved in a hurry.
Anant Raj – Its key projects in Delhi have been delayed due to lack of approvals
and litigation. Moreover, the new land acquired in Gurgaon is also facing
controversy related to government approvals and could face delays.
DLF – The launch of some of its key projects such as Chanakyapuri in Delhi and
Lower Parel in Mumbai remain uncertain due to litigations and changes in FSI
regulations. The recent CCI issue, which we believe is likely to drag for some
time, is also negative. But we still believe that DLF is relatively less risky in terms
of regulations vs its other listed peers.
Jaypee Infratech - Its project has all the approvals in place but the recent land
acquisition controversy in Noida/Greater Noida might lead to making higher
payment to the government for the land. The state elections in 2012 and any
change in the current government could also lead to delays and litigation
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Real Estate/Property - India
Fallen Angels: bottom fish
selectively
�� Are stocks attractive? Only selectively
We believe correction in residential prices is inevitable based on our detailed analysis
of variables including affordability (income & price), absorption rates (demand) and
unsold inventory levels (supply). Given this view, we are only selectively bullish on
stocks in spite of their sharp under-performance. We like companies with exposure to
(a) real estate markets expected to witness minimal price correction (Gurgaon) and (b)
the commercial real estate space. BUY DLF and OBEROI. Unlike consensus we see
price and volume disappointment in Bangalore (Underperform rating on Sobha and
Puravankara) and Noida (Underperform rating on Jaypee).
Nearing inflection; Await volume recovery
The realty index has underperformed the broader market massively and has corrected
by 53% in the last one year. Stock valuations are looking attractive and a likely peak in
interest rates may prove a near term trigger. However, we think investors should await a
sharp volume pick up before over-weighting the sector (likely in Q1FY13). Meanwhile
stocks will face 2 headwinds: (a) a correction in residential prices and (b) global
uncertainty and risk aversion environment making high debt companies vulnerable.
Residential price correction: locational view anti-consensus
Our view on price trends in some key locations is anti-consensus:
1. We believe Gurgaon residential will fall by just 10% as unsold inventory buildup
(represented in # of quarters) fell from six in CY08 to three. DLF (39%
Gurgaon residential and 35% commercial).
2. We think Mumbai will correct 25% way ahead of consensus (d/grade HDIL).
3. Unlike consensus, we expect sluggish volumes and prices in Bangalore
(downgrade Sobha, Puravankara) and Noida (downgrade Jaypee).
Bullish on commercial – BUY Oberoi
Commercial real estate (office and retail) has been steady in terms of rentals and
leasing momentum. While the headwinds to commercial space demand in 2012
are increasing, we believe downside is well protected with rentals still at 2009
levels. Also the supply situation today is less worrisome than the previous cycle
given lack of new launches by developers. Oberoi (Rs15bn cash & 39%
commercial) with exposure to non IT office space in Mumbai is expected to see
continued strong demand and remains our top BUY.
15-30% downside risks on global recession
If the global economy plunges into recession, we expect further downside risk of
15-30% (based on trough P/B multiple) to realty stocks from the current levels.
DLF Limited Taking right steps in difficult times; reinstate with Buy
Oberoi Realty - Hedge against Mumbai correction; reinstate with Buy Indiabulls Real Estate - Backed by some quality assets; reinstate at Buy
Anant Raj Industries - Gurgaon township launch remains key trigger; keep Buy
Brigade Enterprises -Rising earnings profile on new launches, rental visibility; Buy
Unitech- Execution & telecom the key overhangs; reinstate Neutral
Jaypee Infratech- Excess supply in Noida; downgrade to Underperform
HDIL: Sharp correction ahead; downgrade to Underperform
Puravankara Projects Ltd High debt with falling volumes; downgrade to Underperform
Investment Thesis
We differ from consensus
We also believe residential price correction is inevitable. However, we differ in the
variables analyzed and physical property outlook. We analyzed variables
including affordability, absorption rates and unsold inventory levels. Contrary to
consensus, we believe Gurgaon residential will fall by just 10% as unsold
inventory build-up (represented in # of quarters) fell from six in CY08 to three
currently. Similarly, Bangalore and Noida will disappoint on both pricing and
volumes going forward while Mumbai will see sharper than expected correction in
residential prices of upto 25%.
Table 4: Where we differ from the market view on Physical property market outlook
BofAML View Consensus
Mumbai
Unsold inventory higher than 2008-09 City is supply constrained
Prices to correct by 25% Prices to correct by 10-15%
Gurgaon
Will continue to show strength Looks weak
Prices to correct by 10% Prices to correct by 20%
Bangalore
Volumes to remains sluggish Volumes to show good growth
Prices to correct by 5-10% Prices to remains flat
Noida
Ballooning inventory, will disappoint on volume and prices Noida is affordable and will continue to sell
Source: BofA Merrill Lynch Global Research
Relentless supply; absorption struggling to catch up
Absorption rate (sales / inventory) in most cities has fallen and has or is
approaching its previous lows in 2008. The exceptions are prime locations where
supply is constrained will only see single digit cosmetic correction. Prices have
increased 20-50% till date since their lows in 2009 despite continued pile-up of
unsold inventory. We believe it’s about time for a U-turn
Commercial to hold steady; Buy Oberoi
Commercial real estate (office and retail) has been steady in terms of rentals and
leasing momentum. While the headwinds to commercial space demand in 2012
are increasing, we believe downside is well protected with rentals still at 2009
levels. Also the supply situation today is less worrisome than the previous cycle
given lack of new launches by developers. Oberoi (Rs15bn cash & 39%
commercial) with exposure to non IT office space in Mumbai is expected to see
continued strong demand and remains our top BUY. All are Buy rated stocks
have 20-45% of NAV exposure from the commercial segment.
Gurgaon is our favorite; Buy DLF
Gurgaon is best placed to see a volume rebound post the expected price
correction as we believe most variables like unsold inventory, interest rates,
prices, and affordability will turn favorable next year. We see minimal correction of
10% in Gurgaon mostly limited to upcoming locations. Affordability (better than
CY08), unsold inventory (lower than CY08) and absolute absorption (2x of CY08)
demonstrates strength in the market. DLF with 39% NAV contribution from
Gurgaon/Delhi residential market will be the key beneficiary while Unitech will
struggle to improve volumes given uncertainty due to telecom probe and
execution challenges.
Mumbai to see highest price correction; HDIL U/p
While most regions have seen YoY growth in absorption in the past 3-4 years,
Mumbai continues to struggle. We believe this is primarily due to low affordability.
While general perception in the market and among developers is that the city is
supply constrained, our numbers suggest the contrary. We expect Mumbai
residential prices to crack by upto 25% given the unsold inventory have increased
to over 12 quarters of current absorption levels. Therefore we have an
underperform rating on HDIL which has highest contribution (71%) from Mumbai
residential segment among Mumbai developers.
Avoid developers with Bangalore / Noida exposure
Bangalore & Noida will struggle even after price correction. Noida volumes will
struggle to sustain past volumes due to falling investor interest clearly evident
from rising unsold inventory. We have downgraded Jaypee Infratech to
underperform.
Bangalore volumes will struggle as absorption has failed to match the growing
supply in last four quarters due to high correlation to interest rates, while global
uncertainty will likely further hit the demand for housing over next 6 months. In the
last cycle, we have seen Bangalore volumes recovered with a lag of 6 months
compared to other markets. Therefore we are looking at volume recovery only by
4QCY12. We have underperform on Sobha and PVKP with over 60% NAV
contribution from Bangalore residential
Stocks to avoid (Underperforms)
We would like to avoid stocks which have high exposure to markets where we
expect either the price correction will be severe - Mumbai (higher than what
market is building currently) or the price correction will not lead to strong recovery
in volume – Bangalore and Noida.
Sobha Developers – headwinds getting chillier
We have downgraded Sobha to underperform with PO of Rs190 based on 20%
discount to our NAV. We expect Bangalore prices to correct by 5-10% over next 6
months while the volume recovery is still atleast 12 months away. Sobha with
over 58% exposure to Bangalore will disappoint on both volume and cash flows.
We expect the reduction in debt to be lower than Rs1bn in FY12 against company
guidance of Rs3bn due to slower volume in Bangalore and Gurgaon project.
HDIL – regulatory and pricing woes
We downgrade HDIL to Underperform with PO of Rs85 based on 25% discount to
our NAV. We expect that HDIL will continue to underperform till its key project –
Airport rehab is approved while sharper than expected correction in Mumbai
residential (71% of its NAV) prices will surprise market on the downside. The
regulatory approvals will continue to delay other projects as well given
government’s policy of go slow. Also given our view on Mumbai prices, we
believe HDIL’s planned FSI sale may be further delayed or the cash flow from the
deal may be staggered over next 12-18months.
Other Underperforms – Jaypee Infratech (83% exposure to Noida residential)
and Puravankara (over 60% exposure to Bangalore residential)
Valuation basis for developers
We have valued the developers on NAV basis which we believe is the best
methodology currently given lack of trading history (most developers got listed in
late 2007), volatility in earnings, and differences in revenue-recognition method
across developers. We have also compared our price objectives with the
price/book multiples over the past 3-year trading history to provide robustness to
the valuation. At our price objectives, the stocks, for which we see only
headwinds from slowing volumes, will be trading at 3-year average P/B multiples
while others facing debt or approval/litigation issues will be trading close to one
standard deviation lower than 3-year average P/B multiple, which we believe
should adequately compensate for the risks.
Discussion on NAV
Our NAV assumptions include the following:
�� Our NAV includes only those projects (on development basis) that we believe
developers could launch for sale/development in the next 5 years
�� Rest of the land bank valued conservatively at cost or 5-10% discount to
market values
�� Inflation on both sale price and cost of construction is 5%
�� We have incorporated our view on pricing and volume on various markets for
each of the developers as discussed in the “Physical property market”
section”. So we have built in a price correction of 5-25% across regions and
slowdown in volume for the next 6-9 months.
�� WACC used is 14-15%
Discount to NAVs to determine our POs
As our NAV estimate factors in most of the downside (from lower prices and
volume) and the market is also nearing the end of NAV downgrade cycle, the
discount to NAV will not likely widen from here. As the trading history is not long
enough to determine the average NAV discount, we have based our discounts on
the following factors:
1. Visibility on NAV – We have measured NAV visibility as proportion of NAV
generated from projects to be launched in the next 5 years and currently
leased assets. Higher the NAV visibility, lower the volatility in NAV, and thus
the developer should attract lower discount to its NAV.
2. Debt/Leverage – The high debt levels continue to be a sore area for the
sector. Even though most of the developers have recapitalized post the last
down-cycle, the debt levels continue to be high and remain a cause of worry
for the sector, given the earnings and cash flows continue to remain under
pressure. So, if the volumes dry up like in 2008-09, many of the developers
would be staring at similar liquidity problem. Debt repayment and servicing
obligation against expected cash flows and the ability of the developer to
raise funds through sale of assets/land will determine the discount.
3. Regulatory risk to FSI and land bank – The sector remains highly
regulated with approvals and land acquisition remaining a grey area. Also,
local governments have consistently been changing regulations on FSI
(recent changes proposed in Mumbai) and land acquisition (recent problems
in Noida). The risk remains high for NCR and Mumbai developers while low
for Bangalore-based developers.
4. Earnings momentum – The earnings and margin remain critical for stock
performance even though developers follow different accounting policies. We
believe if the strong reported volumes don’t translate into corresponding
earnings over the 12-24 months, the stocks are likely to disappoint. We
expect most developers to disappoint on earnings growth in FY12 while
FY13 earnings will be largely dependent on a rebound in sales volume. If
developers continue to hold prices, then we may see a disappointing FY13
as well. For determining the earnings momentum we have used the earnings
CAGR during FY10-13.
5. Our view on the physical market – Our view of the physical property
market in the home city/town across segments over next 12 months will also
play key role in determining the discount to NAV. Our views on the physical
market are discussed in detail earlier in the report. ON this basis we have
assigned attractive, neutral or unattractive rating to the stocks.
��
6. Size of developers and brand premium in home markets – The size
and brand name of the developers allow them to get a premium vs. their
competitors leading to higher margin, and giving better access to capital
(both equity and debt).
M ethod for assigning Discount
�� We have assigned equal weights to each of the above six factors and
assigned a score of 3 to a developer that looks attractive on a particular
factor, 2 for neutral and a score of 1 for an unattractive developer to
determine the discount.
�� The aggregate relative score showed in the table 8 corresponds to average
score across the above six parameters.
�� Based on the relative score we have assigned the discount to each of the
developers.
�� Oberoi Realty clearly sets the benchmark, and we believe it should trade at
NAV given the expected increase in NAV from acquisition of new projects in
near future. The others follow through with every lower score attracting
higher discount.
NAV visibility
This is another critical factor in determining the discount factor. We have
measured NAV visibility as proportion of NAV generated from projects that we
expect the developer can launch in the next 5 years and the currently leased
assets. We believe a developer whose large portion of NAV comes from projects
it can develop/monetize over the next 5 years is less prone to volatility in NAVs.
Moreover, leased assets and cash further fortify the balance sheet and NAV
robustness.
To increase the robustness of our NAV, we have valued the projects/land bank
that are unlikely to be launched/developed over the next 5 years on land values.
Is the market penalizing such by valuing remaining land parcels at market values
and not giving the development upside? We don’t believe it is the case. Given the
developers’ recent execution capability and volume that can be absorbed in the
market we believe many developers are carrying large land banks which they
may not be able to develop even in the next 10 years. Some of these land parcels
have been bought in 2006-08 period when land prices were very high and are in
locations which may not be attractive in foreseeable future for development. We
believe the best valuation matrix for such land parcels are the current market
value.
Mumbai
Oberoi Realty, due to the limited size of its land bank, leased assets, and high
proportion of cash balance, scores very high on NAV visibility. It derives 37% of
its NAV from leased assets and cash balances, which are expected to increase
further over the next two years as more office projects come operational.
IBREL and HDIL didn’t score high on the above count. While HDIL holds large
land parcels in remote locations, large part of IBREL’s NAV comes from its
investment in power assets which are longer term plays.
NCR
DLF and Anant Raj score high on NAV visibility among the NCR peers due to
substantial leased assets. But due to their large land holding, substantial land
bank will be brought under development only after 5 years. However, we expect
certain critical projects to be launched over the next 2-3 years.
Unitech and Jaypee Infratech are primarily residential developers with large land
banks and no leased assets. Thus, over 35% of their NAVs accrue from projects
which are expected to be launched only after 5 years.
Bangalore
Brigade scores high due to substantial NAV contribution from market-ready
commercial assets. We have also conservatively valued only those projects in
which we have visibility of launch over the next 12 months, given its poor track
record on execution/new launches. Also, the land bank is limited vs its peers.
Instead of investing huge amount of capital in land assets, Brigade has invested
most of the capital in development of commercial assets.
Sobha and Puravankara own substantial land bank mainly for residential
development. Given their historical and current residential sales run rate, we
expect their launch pipeline to remain narrow. Since this land bank which is
unlikely to be launched over the next 5 years contributes to over 40% of their
NAVs, both the developers score low on their NAV visibility. As they are
generating 25-35% margin from their development business, we believe their land
banks have not seen any material increase. Also, given stable markets in South
India, we don’t expect above-inflation increase in land prices in near future.
Regulatory risks to remain high
We think that regulatory risks related to FSI regulations (particularly in Mumbai)
and land acquisitions have increased substantially in last 12-18months. The
changes whether initiated by the government or due to litigations have led to
substantial reduction in NAV across developers. We don’t expect any let up in
near future on regulatory environment due to intense scrutiny of government
actions by media as well as people at large. While the Bangalore developers
have least risk to their land bank or projects due to change in regulations, the
Mumbai developers are at the highest risk particularly HDIL and IBREL.
The developers vulnerable to regulatory/ policy changes of the government or
facing litigation in key projects -
Mumbai
The government has been going slow on real estate project approvals and is
relooking into most of the development control provisions which allow
concessional FSI to developers. While this will help create a level-playing field, it
could lead to lower FSI/cancellation of projects for some of the developers. HDIL
will be most hit while Oberoi the least. Our initial estimates suggest if the
proposals are implemented, it could impact FSI by 10% of Oberoi’s Mulund
project, while for HDIL the risk could be higher given many of the projects have
not yet received approvals.
HDIL – The nature of the projects undertaken by HDIL is open to high
government intervention. We have already seen its key project – Mumbai Airport
redevelopment – getting delayed for over two years with no future visibility due to
lack of government approvals. Also many of its redevelopment projects are facing
litigation and may face delays or cancelation.
IBREL – It has managed to get approval for higher FSI (than otherwise allowed
under the current regulations) for its Mumbai projects. The new regulations could
impact its FSI for the new land bought at Worli, though we have valued only the
FSI that it should manage to get under the new rules.
NCR
Most of the regulatory risks in NCR arise from the controversies related to land
acquisitions and compensation, given that the FSI regulations are governed by
the ‘master’ plans and cannot be changed for any particular project/micro-market.
Unitech – Its investment in telecom licenses remain a key overhang and unlikely
to be resolved in a hurry.
Anant Raj – Its key projects in Delhi have been delayed due to lack of approvals
and litigation. Moreover, the new land acquired in Gurgaon is also facing
controversy related to government approvals and could face delays.
DLF – The launch of some of its key projects such as Chanakyapuri in Delhi and
Lower Parel in Mumbai remain uncertain due to litigations and changes in FSI
regulations. The recent CCI issue, which we believe is likely to drag for some
time, is also negative. But we still believe that DLF is relatively less risky in terms
of regulations vs its other listed peers.
Jaypee Infratech - Its project has all the approvals in place but the recent land
acquisition controversy in Noida/Greater Noida might lead to making higher
payment to the government for the land. The state elections in 2012 and any
change in the current government could also lead to delays and litigation
Real estate prices are infalting far beyond the reach of common man, because of high expectations, artificially created for the value of property in future. People don't even know to evaluate the cost for property and on what basis they are charged, such huge price for the purchase.
ReplyDeleteTwo beneficieries of this game are, Real estate developers (thats why n number of companies are getting populated like mushrooms in this business - HUGE profits in SHORT time) & BANKS (they cant keep thier money ideal without financing, as they too have high targets for loan disbursement every year. Sales pressure again on them too!!)
Poor victims are people who have fat salary packages, and doesnt even know whether the money they spend (even several lakhs to a crore) are worth buying it. Mainly for tax saving purpose, & for investment they are ready to spare huge amount of EMI's to be paid almost through out their life. Anytime, if recession hits and their fat salary job will be under problem, then they will feel the real heat on them and the stress on their economics. Guys! particularly salaried ppl, pls think twice or thrice and plan for your investments, so that your hard earned money need not get trapped into hands of real estate inflation!!
Nice article about Indian real estate.I hope this is the correct blog to share my knowledge on real estate business in Bangalore.NRI's prefer premium real estate developers like LGCL or Real estate Companies, who offer luxurious properties like premium homes in Bangalore, luxury houses in Bangalore, residential villas in Bangalore and Villas plots in Bangalore.
ReplyDeletePremium homes in Bangalore
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