The easing liquidity situation is a big plus for the realty sector, but the recent run-up in stock prices is ahead of fundamentals, making valuations expensive.
The worst performing sector of 2008, the realty sector, has seen renewed investor interest in recent weeks. A stable government at the centre, the successful raising of funds through equity and asset sale routes and increased systemic liquidity helped the BSE Realty index notch up gains of 60 per cent in the past month.
While the new government improved market sentiment, it was the investment of over Rs 8,000 crore by financial institutions in the past two months that was seen as the first step towards a possible turnaround in the fortunes of the sector.
However, some analysts such as Chetan Majithia, head, Crisil Research, believe that nothing much has changed for realty companies at the ground level and fundamental outlook for realty companies is still bleak. So, what prompted the investments and what is outlook for the sector?
Distress valuations?
Analysts believe that the sharp decline in prices, in some cases up to 90 per cent off their highs, meant that almost the entire sector was available at distress valuations.
More From This Section
Consider Unitech: its share price had dropped 92 per cent from its highs last year to Rs 22 in March 2009. The valuations at the time of its qualified institutional placement (QIP) in April (price fixed at Rs 38.5) were considered so attractive that the company received bids totalling Rs 3,500 crore. The land bank also helped.
Says an analyst, “For a real estate company, land bank is the key asset and when the market cap is lower than the discounted cost of acquiring this asset, as was the case with larger companies, it is an indication that valuations are cheap.”
Debt’s still high
Investors deserted the realty space over the last one year due to the problem of poor demand and a tight credit market. For developers, short term repayments were the biggest headaches and the RBI’s policy of allowing banks to reschedule realty loans up to June 2009, without having to classify them as NPAs, helped them to restructure part of their short term loan portfolio into long term debt.
RBI data shows that there was a 61 per cent growth in fresh bank loans to the real estate sector for the eleven months ended February 2009. This means that most major developers have managed to restructure their loan book.
While the reduction of interest rates, restructuring of short term debt and equity infusion has helped ease the credit situation, there is still a large amount of debt to be cleared before companies can consider aggressive expansions.
After the QIP, asset sale and equity sales which netted them Rs 5,000 crore, India’s biggest realty companies, DLF and Unitech still have about Rs 20,000 crore of debt on their books.
Analysts believe that for most realty companies, it will take a year before they can bring down their debt to manageable levels, on the back of improved cash flows, primarily by selling core and non-core assets, raising money from capital markets and tweaking their business model to suit the need for budget-friendly homes.
“The priority for realty companies”, says Mridul Upreti, joint managing director, capital market, Jones Lang LaSalle Meghraj, “will be to retire debt, followed by completion of existing projects and, finally, launch of new projects.”
Green shoots or a mirage?
From a tough period between October 2008 and February 2009 and when sales per month had dropped to single digits for most developers, new projects especially those launched at a discounted rate to market prices are finding takers in large numbers. While these signs are encouraging, demand triggers, be it registration or sale of units, are still half those recorded in April 2008. Similarly, despite the up to 30 per cent reduction in property prices over the past year and reduction in interest rates in recent months, RBI data shows that home loan growth for Q4 FY09 has been only 8 per cent y-o-y compared to 16 per cent growth a year ago.
With buyers are in a wait-and-watch mode, developers could be forced to reduce prices further. Analysts are, however, cautious and there is no unanimity on the price movement.
Says Majithia, “We expect the prices to dip further in residential and commercial segment over the next three to four quarters. We expect the sector to start stabilising from middle of FY11 onwards.” Upreti is more optimistic and believes that prices have bottomed out in most locations; the scope for significant downward movement is limited.
Experts believe that prices in the commercial and retail sector too could see some correction. While for commercial real estate, the downturn in IT/ITES and part of the financial services sector is a major negative, the retail segment is grappling with oversupply and poor demand.
Given the high leverage, interest costs, demand slump and illiquid land assets, Chirag Negandhi of Enam Securities in a report, believes that a recovery will take 18-24 months. Another indicator is the affordability factor. Unlike in 2008 when income levels were rising, the current trend indicates muted growth in salaries. Given that property prices have tended to remain high, affordability can only improve meaningfully if there is a substantial correction.
Outlook
Despite the stock price increases should investors look at the realty sector now and will realty companies be able to improve their performance in the next few quarters? While some analysts say that even at these levels valuations are still 30-50 per cent off peak levels and the recent funds infusion should improve their performance going forward, others think the recent gains in stock prices have made valuations stiff.
Says Majithia, “Expect earnings decline of 40-50 per cent in FY10 for the real estate sector. The run-up in the stock prices has made valuations of most of these players expensive.” While the long term story, thanks to demographics of rising incomes and nuclear families, remains irrefutably strong, the short term is still an uphill task for real estate players.
We look at the prospects of the four largest realty players by market capitalisation--DLF, Unitech, HDIL and Indiabulls Real Estate.
| EXPENSIVE ASSETS | |||||||||
| in Rs crore | Net Sales | Op Profit | Net Profit | Debt | Debt- Eq (x) | EPS (Rs) | 52-wk H/L (Rs) | CMP (Rs) | P/E (x) |
| DLF | 10,044.00 | 5,488.00 | 4,629.00 | 10,000.00 | 0.70 | 13.73 | 611/124 | 372.00 | 27.10 |
| HDIL | 1,728.00 | 1,316.00 | 786.00 | 4,143.00 | 0.94 | 24.00 | 768/62 | 275.00 | 11.50 |
| Indiabulls REL* | 183.00 | 24.00 | 53.00 | - | - | 8.50 | 498/81 | 225.00 | 26.50 |
| Unitech* | 4,643.00 | 2,010.00 | 1,276.00 | 8,700.00 | 1.82 | 3.97 | 254/21 | 76.00 | 19.20 |
| Source: Analyst reports, Financials for FY09, P/E for estimated FY10 EPS, * FY09 financials are estimates | |||||||||
DLF
In May 2009, the promoters of DLF raised Rs 3,860 crore by selling 9.9 per cent of their personal stake in the company to investors. While Rs 2,000 crore will be used to buy out D E Shaw’s stake in promoter-owned company, DLF Assets (DAL), the rest of the money will be used to pay a part of DAL’s liabilities (about Rs 5,000 crore) to DLF.
Also, analysts believe that DLF may restructure its relationship with DAL by buying a stake in the latter. With the market seeing a turnaround, the promoters may list DAL at a later date. However, clarity is awaited on the DAL-DLF arrangement.
Meanwhile, DLF plans to sell some of its commercial and non-core assets like wind power business to half its Rs 14,000 crore debt over the next one year. While DLF has been able to sell part of its recent launches in Delhi, Hyderabad and Bangalore in the affordable segment category, it has been exiting capital intensive segments such as SEZs and commercial properties such as the convention centre at Dwarka.
Overall, with receivables from DAL seen coming down and its restructuring exercise helping improve cash flows, DLF should be in a relatively comfortable position than its peers on both counts of balance sheet strength and asset size. Considering these factors, most analysts peg its 12-month target between Rs 240-Rs 300. At Rs 372, the stock is trading at an expensive 27 times its FY10 earnings estimate.
HDIL
HDIL plans to reduce its debt of about Rs 4,000 crore by raising Rs 3,000 crore through the QIP route, which should bring down its debt to equity ratio to a manageable 0.25 times.
According to the company, its attractive pricing has helped to sell more than three quarters of the two million sq ft of residential projects launched since March 2009 in Mumbai. The company had managed to sell 2.5 million sq ft of transferable development rights (TDR) in FY09 from its Mumbai international airport project for Rs 530 crore. It plans to sell about 4-5 million sq ft in FY10 and hopes to benefit from rising TDR prices, which are likely to be better than the Rs 1,000 per sq ft it received in FY09.
While HDIL’s strategy of refinancing its near-term debt, hopes of higher revenues from TDR and pre-selling of its residential projects are positives, it will have to grapple with high interest and construction costs till these plans materialise. The stock trades at a reasonable 11 times its FY10 earnings estimates.
Indiabulls Real Estate
Indiabulls Real Estate (IBREL) has zero debt on its books, and had estimated cash of Rs 1,550 crore as on March 31, 2009. In May 2009, it raised Rs 2,656 crore from a QIP placement at Rs 185 per share and will use the money to fund its real estate and power projects. The company will invest money in setting up two power plants in Maharashtra and Chhattisgarh of its 71 per cent-owned power subsidiary, which will however contribute to revenues a few years down the line.
In April, IBREL sold 15,730 sq ft of office space at Lower Parel in central Mumbai for Rs 30 crore and signed lease agreements with corporates for rents between Rs 175 to Rs 225 per square feet. While this is a trickle, it comes on the back of a struggling commercial realty market.
IBREL’s 45 per cent owned Singapore-listed entity, Indiabulls Property Investment Trust, owns the two prime properties of Lower Parel and Elphinstone Mills. Excluding its retail and SEZ businesses, Enam Securities values IBREL’s residential and commercial assets and cash at Rs 166 per share. The stock, however, has run up considerably and is trading at an expensive 26 times its FY10 earnings estimate.
Unitech
The funding problems for Unitech started when it had to repay short term debt that it had taken to finance projects lasting between three to five years. After getting Rs 1,535 crore from the QIP placement made in April 2009, Unitech has sold its Saket corporate office (Rs 500 crore) and an under construction hotel at Gurgaon (Rs 235 crore).
Considering that the company is planning to issue warrants to its promoters totalling Rs 1,135 crore in June, its debt is likely to come down to about Rs 6,500 levels (debt to equity to fall to around 1) by the end of FY10. While the strengthening of the balance sheet is a positive, the current fiscal, believes a Morgan Stanley report, does not have any major revenue upsides as Unitech has completed 80 per cent of its ongoing projects. It will have to depend on faster completion of new projects for its cash flows.
For now, considering the 75 per cent jump in the stock price over the past month and high debt, the upsides seen to have been factored in, and the scope for appreciation looks limited.