J.P. Morgan - Phoenix Mills

Phoenix Mills (PHNX IN) Annuity income build-out has been impressive		Neutral Price Target: Rs245.00 PT End Date: 31 Mar 2015

PML’s consolidated EBITDA (Rs6.8B) and earnings (Rs1.3B) were up by 160%/53% Y/Y, aided by strong growth in rental income from market city projects, steady HSP performance and higher contribution from “for sale” projects. Overall rental income for the company has increased to ~Rs4B (PML stake) in FY14. We expect this to increase further going into FY15, primarily driven by occupancy increases in market city projects and impending renewals at HSP (Lower Parel). This coupled with new residential/ office launches in the pipeline should drive strong earnings growth over FY15/16. Debt levels for the co. (attributable Rs20.7B) also seem to have peaked and should trend down as cash flows from “for sale” residential/ office launches kick in.

· HSP mall continues to register healthy growth. Upcoming renewals to provide further upside – HSP mall (Lower Parel) generated EBITDA of Rs1.9B, +8% Y/Y despite one-time rent reversals (Rs20-30MM) and high property tax on a retroactive basis. Adjusted for these one-offs, average rentals for HSP are at ~Rs230psf (up 15%+ Y/Y) with marginal rentals at Rs400psf+. Going into FY15, the company has 0.3msf of area coming up for renewals, which should provide further 10% upside to the HSP rentals.

· Strong annuity income growth from market city projects – Overall market city malls generated rental income of Rs3.4B in FY14 (PML stake ~60%), which is up 60% from last year levels. This was primarily driven by increase in occupancy levels (currently at 80-87% levels) across malls. Going into FY15, rental income from these malls should see a further 15%+ increase as occupancies further catch up to the pre-lease commitments (90%+ levels) and also given increasing footfall/ consumption trends (+20-30% Y/Y). Newly opened market city malls have now stabilized and are generating cash surplus.

· New residential projects in the pipeline should aid cash flows and earnings over FY15/16 – Company has recently launched a residential project in Pune (0.35msf, 10% sold) and has additional new launches in Bangalore / Mumbai in the pipeline over the next two quarters. Pricing across its “for sale” residential/ office projects have seen significant appreciation and contribution from new phase launches should yield better margins ahead. Pricing for its Bangalore project has increased to Rs10K+ psf (vs. Rs6-7K at launch) and Kurla (Mumbai) has increased to Rs12K psf (vs. 7-8K psf at initial launch).

· Palladium hotel tie up expected in next few months – Occupancy / ARRs for the Palladium hotel at 46%/ Rs8100 remain fairly muted. The hotel generated a cash loss in FY14 (Rs0.7B, JPMe). Co expects tie up with global hospitality player to be announced over the next two months. This should help improve the hotel performance. Co is targeting a cash breakeven for the hotel in FY15.

Table 1: PHNX – Standalone earnings

Rs MM	4Q FY13	3Q FY14	4Q FY14	% ch Q/Q	% ch Y/Y	FY13	FY14	% ch Y/Y
Sales	722	756	787	4%	9%	2,706	2,948	9%
EBITDA	479	497	480	-3%	0%	1,786	1,931	8%
EBITDA margin	66%	66%	61%	-5%	-5%	66%	66%	0%
Depreciation	(71)	(59)	(65)	11%	-8%	(275)	(254)	-8%
Other Income	140	197	216	10%	53%	565	800	41%
Interest	(66)	(146)	(129)	-12%	97%	(265)	(445)	68%
PBT	483	489	501	2%	4%	1,810	2,032	12%
Tax	(122)	(111)	(137)	24%	13%	(472)	(507)	8%
Tax rate	25%	23%	27%	21%	9%	26%	25%	-1%
PAT	361	378	364	-4%	1%	1,339	1,525	14%

Source: Company

Table 2: Phoenix – FY14 consolidated financials

Rs MM	FY13	FY14	% ch Y/Y
Sales	4,699	14,485	208%
EBITDA	2,632	6,784	158%
EBITDA Margin	56%	47%
Depreciation	(474)	(1,055)	122%
EBIT	2,157	5,729	166%
EBIT Margin	46%	40%
Financial expenses	(1,430)	(3,451)	141%
Other income	521	391	-25%
PBT	1,247	2,669	114%
Total Tax	(428)	(909)	112%
Tax Rate	34%	34%
Share of profit/loss in associates	11	(28.8)
Minority interest	17.0	(531)
Profit after tax post minority	842	1,285	53%

Source: Company

Investment Thesis

Phoenix is the only listed retail real estate play in India. Execution and leasing risks in case of Phoenix have largely been taken out as the new malls are now operational and footfalls /consumption trends have been reasonably good. Debt levels have peaked with capex now behind and should come down from next year on the back of cash flows from the “for sale” projects. Response to the initial "for sale” projects has been good. We expect earnings growth to be strong over the next 1-2 years on contribution from "for sale" projects, stabilization of new malls and upcoming rent renewals at HSP.

 

Valuation

Maintain Neutral with SOTP-based Mar-15 price target of Rs245. We use a 14% WACC and 11% cap rate to value the company’s retail portfolio. We factor in a delay in cash breakeven for Palladium.

Phoenix SOTP

	Rs in MM	Per share
High Street Phoenix	24,224	168
Palladium Hotel	2,532	18
Market cities Rental portfolio	21,568	150
Sale Portfolio	8,851	61
Attributable Debt (for PML stake)	(21,900)	(152)
Net Present Value	35,276	245
Target Price	245

Source: J.P. Morgan estimates

Risks to Rating and Price Target

Key downside risk in our view pertains to PML’s minority stakes in SPV’s developing market city projects. This could raise concerns on exits required by private investor once assets become operational (though still some time away).

Key upside risks - a) Better-than-expected progress on debt reduction on the back of cash flows from project sales; b) Higher-than-expected rentals on renewals of Palladium (HSP, Lower Parel).

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