Looking Good - DB Realty

2010 will be best remembered in financial circles as the year of multiple scams. On the one hand, there was former telecom minister A. Raja who was accused of doling out bandwidth to telecom companies at dirt cheap rates somewhere in the past and on the other, were officials of a financial institution from the government stable that rather rudely shook the confidence of the market towards the end of the year. We are referring to the LIC Housing Finance cash-for-loan scam which hit the real estate sector rather badly. Companies were accused of bribing officials at LICHFL in exchange for loans. The problem was that the biggest of players from the sector were named as possible beneficiaries in the case. One such company is Mumbai-based DB Realty. What really needs to be highlighted here is the fact that this company was rumoured to be involved in both, the 2G (although indirectly) as well as the cash-for-loan scams.

DB Realty (DBR), which got listed barely 10 months ago, is Mumbai’s biggest real estate developer in the residential space. It has seen a sharp drop in its number of shareholders from a little more than 22,000 at the time of listing to just around 5,000 at the end of September 30, 2010. But this is not the only factor where the company has witnessed a decline. Recently, its share price too saw a drastic reduction. The stock never reached its issue price of Rs 468 and saw a 55 per cent decline since its name surfaced in the 2G scam (though indirectly). Later, the company’s name even appeared in the bribe-for-loan scandal that completely broke its back. This might be the reason why the stock is hammered out of shape in the last couple of months. Even the market has not done well during the same period.

The Sensex was down seven per cent and the BSE Realty Index also declined 31 per cent. Of course, these figures are nowhere near the 55 per cent decline of the DBR share. The management tried to clear the air regarding its involvement in the bribery case and said that they had not paid any bribes to the person named by the CBI. They added that the loan of Rs 188 crore from the LIC Housing Finance was a secured one taken at a market rate of 13.5 per cent. Nonetheless, the market thought otherwise and the stock tanked. The reason for such a fall may be partially attributed to the increased cost of raising funds, whether it is the realty sector as a whole or the company in particular. The effect is likely to be felt on the discount rates used to calculate the NAV of projects. With huge capex plans unfolding in the next five to six years, such events have the potential of increasing the complexity and the cost of raising funds.[PAGE BREAK]

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We asked N. Sridhar, Group Director, (Strategy & Finance), DB Realty exactly how all this will affect their borrowing programmes. “Though PSBs might be reluctant to lend, there are private sector banks and private equity firms along with NBFCs that are willing. Therefore, though debts are becoming expensive there are other avenues opening,” he explained. However, the second scam where the company’s name has cropped up has larger financial implications. The promoters of DBR own around 45 per cent in Etisalat DB and DBR as such did not have any direct or indirect shareholding in Etisalat DB Telecom (originally Swan Telecom). But what might hurt the company’s financials is the corporate guarantee for the Rs 800 crore loan taken by a shareholder of Etisalat DB. When asked about the financial implications of such a guarantee, Shridhar explained that, “To my mind it is nothing. Promoters have also given their personal guarantee and net worth to the banks for the loans that they have taken. Even the balance sheet of Etisalat DB has Rs 1500 crore as cash and promoters have 40 per cent stake in the company.” Therefore, he did not see any major financial repercussions.

This brought us to the next logical question of whether the CMP of Rs 190 provides the right opportunity to enter the scrip. Will it provide investors alpha return from the current level or will some fundamental change take the stock price further downwards? DBR is a Mumbai-based real estate company with a development pipeline of 61.1 million square feet as on end of Q2FY10. This is spread across 25 projects in the island city and Mumbai suburbs. Of the total 61.1 million square feet, approximately 19.3 million square feet of the projects are currently under construction. In addition to this, in the last quarter, the company bagged its biggest project in Bandra wherein it will develop 8 million square feet of property in next six years that is valued around Rs 6,000 crore.

DBR’s core area of expertise is execution of large scale redevelopment projects in the south and central part of Mumbai. The company is among the biggest players in this business with most of its project portfolio undertaken in joint ventures under the urban redevelopment schemes notified by the BMC. It helps the firm build a portfolio of developable land in the island city where land is scarce. At the same time, to quote Sridhar, “It keeps land costs under control as they are generally 10-15 per cent of the total project cost.” For many developers, this number can go as high as 40 per cent of the total project cost. Currently, the majority of the company’s portfolio in terms of value is spread in these prime locations. But what seems to be the firm’s strength also acts as its Achilles heel as the redevelopment business takes a longer time to negotiate between tenants and the developer. In addition to this, it also requires interaction and approval of multiple government agencies often delaying the off take of the project. Even Sridhar admits, “Generally, it takes six to 18 months depending upon the size of the project and in some cases even two years.” This becomes clear when one sees that out of the 12 forthcoming projects, eight are delayed though not all for the same reasons. Moreover, the company has an in-house project management and execution team that works with third party contractors like L&T, Man Infra, Unity Infrastructure etc. to ensure timely execution of the project. L&T and Man Infra construction are key contractors of the company.[PAGE BREAK]

Financials and Valuation
Last fiscal or in FY10, the company posted sales of Rs 980 crore on a consolidated basis - an increase of 108 per cent over the corresponding period. This was primarily due to the launch of a new project, Orchid Ozone and sales pick up in other projects. During the same time, profit has increased by 78 per cent to Rs 251 crore in FY10. Going forward, the company expects to post sales of Rs 3300 - 3600 crore in FY11. For the first half of FY11, DBR sold 1.9 million square feet. And going by the current rate, we expect the company to attain its target. The company expects its sales to accelerate in the future with more projects like Orchid Turf View, Woods, Ozone, etc. crossing the threshold limit of 30 per cent of the total project cost excluding land cost (required to be recognised as revenue). On the valuation front, the stock currently trades at a price to book value of 1.4 times compared to 0.81 times of HDIL which looks expensive. But if we take the NAV of the ongoing projects of DBR it comes close to Rs 360. Add to it a TDR of 2 mn sq ft at the current rate which comes to around Rs 500 crore or Rs 20 per share and the total comes to around Rs 380. The NAV, vis-a-vis the current market price, offers a buying opportunity for those willing to take some amount of risk on the possibility of property prices moderating. The results of the ongoing projects will be reflected in the company’s financials over a longer period of time (over the next two to three years) and hence one should consider taking exposure only with a long term perspective.