Oberoi Realty-Risk reward ratio turns favorable; We Upgrade To Buy : Nirmal Bang,

Risk reward ratio turns favorable; We Upgrade To Buy We had a meeting with the management of Oberoi Realty (ORL) to get the latest business update. We upgrade the stock to Buy from Hold after recent underperformance of 16% vis-a-vis Sensex over last one month. We believe the stock price factors delay in new launches and slowdown in office leasing. The management is confident of launching its Oasis (Worli) project and Exotica (Mulund) in FY13 which should drive pre-sales. Further recent clarity on Development Control Regulations (DCR) will fasten up execution in Esquire project. We have factored Worli launch in FY13, conservatively factored Mulund launch in FY14 and revenue booking from Esquire project from 3QFY12. There was no meaningful land acquisition activity in FY12, but the management stated that due to macro-economic uncertainty the sellers’ price expectations have come down, which would lead to more land deals going forward.

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Launch of new projects to drive cash flow: The clarity in DCR rules will fasten up approval process and allay investor concerns regarding delay in new launches, which we believe was single most concern resulting in recent underperformance. The management has short-listed the final bidder out of four bidders for its hotel project Oasis, for which the non-disclosure agreement and term sheet have been duly signed and is awaiting completion of final due diligence by the short-listed bidder. Further, it expects the clearance from the Ministry of Environment and Forests (MoEF) for its Exotica project by the end of 3QFY13. Consequently, we expect 30% pre-sales CAGR on account of new launches over FY12-14E which will lead to 88% increase in operating cash flow over the same period. Office space leasing in Mumbai to be challenging in the near term: The occupancy rate at Commerz I (Goregaon) was flat YoY at 76% in FY12. In addition, ORL has three commercial projects i.e. Prisma (0.7mn sq ft), Commerz II (0.7mn sq ft) and Oasis (0.24mn sq ft) at the construction stage. The management sounded cautious on incremental leasing, given the uncertain macro-environment and higher vacancy levels in the Mumbai office market. However, as per Cushman & Wakefield, the Mumbai commercial office market regained its momentum in 1QCY12, registering an absorption of 1.4mn sq ft (up 30%QoQ). We have factored in 21% lower rentals (than that of Commerz I), at Rs100/sq ft, for Commerz II, which would be ready for fit-outs by 3QFY13 and occupancy rate of 25% for FY14E. Valuation: We have revised our earnings estimates downwards by 6.1%/5.5% in FY13E/FY14E to factor in lower rental/sales income from office space. However NAV remains unchanged as we fine tune our cash flow assumptions to factor in likely recovery of loans and advances to JV/subsidiaries resulting in higher net cash balance. At the CMP, ORL is trading at 1.6x P/BV and at a 19% discount to our one-year forward NAV. We expect the stock to trade at our one-year forward NAV, unlike its peers, given strong operating cash flow, front ended NAV and net cash of Rs13bn. We upgrade ORL to Buy with a TP of Rs298, implying 23% upside from current levels