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Post a short-lived recovery in 2009-10, volumes have again dried up for the Indian real estate sector in the wake of sharpprice escalations as also an adverse regulatory environment (high interest rates, approval delays). Though solvencyconcerns similar to 2008 are unlikely given the relatively strong balance sheets this time, cashflow/ profitability pressuresare visible for most players. These pressures will likely force developers to blink and undertake price cuts (10-25%) in thenear term. Further, with an expected reversal of interest cycle by early-FY13 and given the robust underlying demand forresidential property, we anticipate an uptick in sales volumes/ cashflows for developers in the next 6-12 months. This, inturn, could lead to a cyclical rebound in stocks. However, we believe persistent structural issues poor corporategovernance, patchy execution, inconsistent accounting policies, etc will continue to cap any broad-based re-ratingacross the sector. We see the sector increasingly becoming a stock-specific play with the possibility of significant valuecreation in select stocks. Oberoi Realty (ORL), Sobha Developers and Jaypee Infratech (JIL) are our top picks in the space.Developers in a tight spot, yet again: RBIs tightening regime, coupled with banks reluctance to lend to the sector, hasmagnified the pain emanating from a sharp slowdown in absorptions. Sluggish new product launches due to increasingly
stringent approval processes and a sharp rise in input costs (steel, cement, sand and labor) have added to the woes. BSE
Realty index has underperformed the broader index by 36% in the past 12 months and ~ 63% since March 2009.
Expect cyclical rebound in the near term; structural re-rating unlikely: We see a 10-25% drop in property prices over thenext 6-12 months as developers seek to regenerate the sales momentum. Along with the likely reversal of the interest rate
cycle by early-FY13, this could spur a sharp bounce-back in stock prices, though a further slowdown in the economy andhardening of interest rates are key risks to this thesis. However, this likely recovery will not address the structural issues that
have led to investor disenchantment with the broader space and the consequent de-rating.
Increasingly a stock-specific play; only a few winners likely: Given the diversity in business models and governancestandards as also an increasingly tough macro environment, we expect divergent stock performances with only a few clear
winners. We prefer ORL, Sobha and JIL which possess most of the winning traits: Balance sheet strength, strong
cashflows, proven execution capabilities, land bank focused on tier I/II cities and high corporate governance.
Comparative valuations (FY13E)
Price Mkt Cap Rating Target Upside NAV EPS CAGR P/E P/B RoE Gearing
Company (Rs) (Rs m) pri ce (Rs) potential (%) FY13E Prem/ (Disc) FY11-13E (%) (x) (x) (%) FY12E (x)
DLF 231 391,589 N 222 (4) 247 (7) 11 20.7 1.3 6.5 0.8
Jaypee Infratech 60 83,614 OP 84 39 105 (42) (36) 12.4 1.2 10.0 1.2
Oberoi Realty 234 76,872 OP 328 40 298 (21) 17 12.4 1.7 15.0 (0.4)
Godrej Properties 661 46,153 N 694 5 631 5 17 25.7 3.9 16.2 1.2
HDIL 94 39,344 N 99 6 142 (34) 2 4.7 0.4 8.3 0.3
Sobha Developers 230 22,555 OP 314 36 392 (41) 10 10.3 1.0 10.2 0.6
Sunteck Realty 352 22,152 OP 431 23 539 (35) 1,311 4.1 1.8 54.9 0.6
APIL 36 5,674 OP 66 83 94 (62) 25 3.3 0.2 7.1 0.6
Source: Bloomberg, IDFC Securities Research
Nitin [email protected] 2568
For Private Circulation only.Important disclosures appear at the back of this report
SEBI Registration Nos.: INB23 12914 37, INF23 12914 37, INB01 12914 33, INF01 12914 33.
Vneet [email protected] 2579
Real EstateOn shaky ground!
INSTITUTIONAL SECURITIES
INDIA RESEARCH REAL ESTATE BSE SENSEX: 16937 20 OCTOBER 2011SECTOR UPDATE
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2 | OCOTBER 2011 IDFC SECURITIES
Content
Investment Argument ..............................................................................................................3Indian Real Estate: back in the woods! ...................................................................................9
The going has become toughAGAIN! ...............................................................................9
Multiple headwinds buffeting the sector .............................................................................12
Regional diversities: Market no longer homogenous .........................................................18
Commercial outlook healthy; only a few listed players.......................................................22
The good news: A business revival may be nigh ..................................................................24Long-term demand drivers intact........................................................................................24
Healthier solvency will prevent another 2008......................................................................25
Price and interest rate decline would boost absorption .....................................................28
Cyclical rebound to drive a spike in stock prices................................................................31
Key risks to near-term recovery .......................................................................................... 32
The bad news: Valuations will continue to lag.......................................................................34Structural issues continue to plague the sector..................................................................34
Market fragmentation adds to the challenges.................................................................37
Valuations will not attain even 2HFY10 levels .....................................................................39
How to play the sector ..........................................................................................................42Multiplicty of business models/ geographical focus ....................................................... 42
impels a bottom-up approach.........................................................................................43
Identifying the winners.........................................................................................................47
Companies ........................................................................................................................... 49Ansal Properties ................................................................................................................... 51
DLF....................................................................................................................................... 53
Godrej Properties ................................................................................................................. 55
HDIL...................................................................................................................................... 57
Jaypee Infratech................................................................................................................... 59
Oberoi Realty........................................................................................................................ 61
Sobha Developers................................................................................................................ 63
Sunteck Realty...................................................................................................................... 65
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3|
OCTOBER 2011 IDFC SECURITIES
INVESTMENT ARGUMENT
Challenges besetting the Indian real estate space reflected in the underperformanceof stocks over the past few quarters
While there are no solvency issues like in 2008, significant operational cashflowpressures have emerged again due to slump in sales
Unless global macro issues and sharp economic slowdown play spoilsport, weanticipate a near-term revival in the sector catalyzed by price cuts
However, we expect stock performances to increasingly diverge going forward andnot move in a herd as seen in the past
Quality of business models will differentiate the men from the boys; we see only afew winners
The going has become toughAGAIN!The Indian real estate sector, yet to fully recover from the 2008 meltdown, has hit
another rough patch in the past few quarters. Sales volumes have slowed considerably,
led by historically high residential prices and stringent approval processes delaying new
launches. Operational margins are stretched due to sharp inflation in input costs, with
higher interest cost denting profitability. Debt levels, though off the peaks of 2008, are
still high for most developers. Given a tough lending environment, operational cashflows
will increasingly be insufficient to meet repayment obligations.
Exhibit 1: Current st ate of real estate
Source: Company, IDFC Securities Research
Weak sales, tougherregulations and sharprise in input costsbuffeting the sector
Falling sales volumes
Historically high prices impacting
affordability
Purchase decisions delayed in
anticipation of price correctionFa
llingsalesvolumes
Declinin
g
margins
/pro
fitabili
ty
Regulatory logjam
Inadequateoperational
cashflowsFundin
gsour
ces
capp
ed
Depre
ssed
valu
ati
ons
The BIG Question
Will developers blink?
Real estate not in a good shape
Declining margins/profitability
Sharp inflation in input costs
Higher interest rates increasing interest
burden
Inadequate operational cashflows
Slower new launches limiting cashflow
generation
Operational cashflows insufficient to
meet debt repayment requirements
Regulatory logjam
Increasing diligence in approval
processes
Delays due to policy inactions
Funding sources capped
Debt becoming more expensive and
selective
PE funding increasingly difficult
Depressed valuations
Real estate stocks trading at historical
lows
Discounts to NAV widening
Falling sales volumes
Historically high prices impacting
affordability
Purchase decisions delayed in
anticipation of price correctionFa
llingsalesvolumes
Fallingsalesvolumes
Declinin
g
margins
/pro
fitabili
ty
Declinin
g
margins
/pro
fitabili
ty
Regulatory logjamRegulatory logjam
Inadequateoperational
cashflows
Inadequateoperational
cashflowsFundin
gsour
ces
capp
ed
Fundin
gsour
ces
capp
ed
Depre
ssed
valu
ati
ons
Depre
ssed
valu
ati
ons
The BIG Question
Will developers blink?
Real estate not in a good shape
Declining margins/profitability
Sharp inflation in input costs
Higher interest rates increasing interest
burden
Inadequate operational cashflows
Slower new launches limiting cashflow
generation
Operational cashflows insufficient to
meet debt repayment requirements
Regulatory logjam
Increasing diligence in approval
processes
Delays due to policy inactions
Funding sources capped
Debt becoming more expensive and
selective
PE funding increasingly difficult
Depressed valuations
Real estate stocks trading at historical
lows
Discounts to NAV widening
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4 | OCOTBER 2011 IDFC SECURITIES
clearly reflected in the BSE Realty performance (down 54% since Oct-10)Since the bribery-for-loan scam broke out in October 2010, BSE Realty has significantly
underperformed the broader indices. The index is down 54% in the past one year and
has underperformed the Sensex by a wide margin (36%).
Exhibit 2: BSE Realty index has signifi cantly underperf ormed Sensex since Oct-10
20
40
60
80
100
120
Oct-10
Nov-10
Dec-10
Jan-11
Feb-11
Mar-11
Apr-11
May-11
Jun-11
Jul-11
Aug-11
Sep-11
Oct-11
Sensex BSE Realty
Source: Bloomberg
Broad-based solvency concerns of the 2008 kind unlikleyThe macro drivers of real estate demand a young population, rising urbanization,
higher disposable household incomes and growing nuclear families are still in place.
Also, developers are far better placed compared to 2008 as positive operational cash
flows, manageable gearing levels and limited investment in land in the past two years
mitigate solvency concerns this time. Further, unlike the fairly homegenous trends
witnessed in the real estate industry across different regions around 2008, there is
increasing diversity across various markets in terms of pricing trends and absorptions.
Probable business recovery from the lows in the near term...Huge unmet demand for housing and continued strong growth in the economy are the
key demand drivers of residential real estate. We expect improvement in supply-side
dynamics in the form of a 10-25% price correction in the next 6-12 months in most
markets (especially Mumbai and Gurgaon). A reversal of the interest rate cycle
(expected by early-FY13) would provide another positive trigger. Emergence of these
two positive factors, supported by a high savings rate (23%) and largely unleveraged
balance sheets of Indian households, will drive a near-term turnaround in the sector and
thereby a cyclical rebound in stock prices..
Index has plunged by54% in the past year,underperformingthe Sensex by 36%
Positive operationalcashflows, lower gearingand limited investment inland to prevent another2008
Supply-side dynamicsto improve after alikely correction inthe next 6-12 months
BSE Realty down 54%vs. ~ 18% for Sensex
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5|
OCTOBER 2011 IDFC SECURITIES
Exhibit 3: A repeat of the 2009 post-down turn rebound likely
10-30% correcti on in property prices boosted volumes further aided by rate cuts by the RBI
leading to a cycli cal rebound in real estate stocks
-
100
200
300
400
6-M
ar-0
9
15
-Mar-0
9
24
-Mar-0
9
2-A
pr-0
9
11
-Apr-0
9
20
-Apr-0
9
29
-Apr-0
9
8-M
ay
-09
17
-May
-09
26
-May
-09
4-J
un
-09
13
-Jun
-09
22
-Jun
-09
1-J
ul-09
10
-Ju
l-09
19
-Ju
l-09
28
-Ju
l-09
6-A
ug
-09
15
-Aug
-09
24
-Aug
-09
2-S
ep
-09
11
-Sep
-09
20
-Sep
-09
29
-Sep
-09
8-O
ct-0
9
17
-Oc
t-0
9
Sensex BSE Realty
Source: Bloomberg
but structural issues will continue to plague sector valuationsWhile macroeconomic concerns (high interest rates, inflation, etc) may start to ease by
early-FY13, we believe structural issues that plague the sector/ listed stocks will persist.
We reckon that a lot remains to be achieved in terms of transparency and disclosures,
consistency of accounting policies, timely execution, land bank visibility, and discipline
in maintaining conservative balance sheets. We do not see these issues dissipating,
until the sector gets a regulator and a comprehensive regulation act. Until then, a re-
rating of the sector is unlikely.
-
3,500
7,000
10,500
14,000
Sep-07
Nov-07
Jan-08
Mar-08
May-08
Jul-08
Sep-08
Nov-08
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
Mumbai Thane Gurgaon
4.0
5.5
7.0
8.5
10.0
Oct-08
Oct-08
Oct-08
Nov-08
Nov-08
Dec-08
Dec-08
Jan-09
Jan-09
Feb-09
Feb-09
Mar-09
Mar-09
Apr-09
Apr-09
Apr-09
Repo rate (%)
Repo rate cut by 425bpsover 6-month period
Concerns on balancesheet health, accountingmethodologies andgovernance persist
BSE Realty outperformedSensex by 121% in Mar-
May 2009
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6 | OCOTBER 2011 IDFC SECURITIES
Exhibit 4: Too many issues to gr apple with before arriving at a fair valuation
Source: IDFC Securities Research
and prevent stocks from attaining valuation levels of H2FY10We believe the sector will remain unattractive to long-term investors until the structural
issues are significantly resolved. Most investors had burnt their fingers after the 2006-07
boom and again in FY10 (QIPs, stake sale, IPOs), resulting in total lack of confidence in
real estate valuations. Also, with developers failing to sustain FY10 sales volumes and
sharp inflation in input costs (especially labour) as well as rising interest cost eroding
operational margins, we believe growth as well as profitability profile of most developers
have significantly contracted in the last 12-18 months. We also do not see structural
issues being addressed at least in the next 2-3 years. We, therefore, do not expectvaluations to return even to H2FY10 levels, which were also too expensive to provide
any meaningful returns. We believe while investors might look for trading gains in the
sector, any short-term bounce would be used as an exit opportunity.
Indian real estate a highly fragmented market, with regional dynamicsReal estate is one of the most fragmented sectors in India, with listed players
accounting for only a minority of the overall market. The sector is also highly
unorganized with a large number of small/ medium players and just a handful of large
names. As a result, the broader real estate market, in most cases, is governed more by
Limited
operational
disclosures
Land bank remains
a black box
Patchy execution
Current state
No operational details provided till 2008
Post downturn, many companies have started sharing
information on quarterly basis; extent of information stillremains limited
Information missing in most cases
Segmental and geographical break-up of sales
Detailed land bank and cashflow information
Extent of revenue/cost recognized from projects
Execution status of projects
Most information required to make reasonable valuation
assumptions for land bank remain absent
Limited information on total area and key land parcels
available while contribution to Gross NAV remains quitesignificant
Details required include geographic and segmental break-
up, companys stake, acquisition cost, amount paid and
payable, land status (agri, residential, industrial etc)
Most companies have failed to scale-up execution post a
bumper sales in FY10 resulting in delays across projects
Limited project management bandwidth and high input
cost inflation have added to the woes
Companies that stand out
Oberoi Realty Sobha Developers
Prestige Estates
Godrej Properties
Oberoi Realty
Prestige Estates
Sobha Developers
Godrej Properties
Oberoi Realty
Sobha Developers
Lack of regulatory
body
Sector currently lacks a regulatory body to oversee
operation and ensure accountability
Real estate regulation act remains in draft mode; final billstill 12-24 months away
Inconsistent
accounting
policies
Multiple methods of revenue recognition makes it difficultto compare companies financials
IFRS accounting also modified to include percentage
completion methodology
Companies following IFRS standards of accounting:
HDIL
Sunteck Realty
Limited
operational
disclosures
Land bank remains
a black box
Patchy execution
Current state
No operational details provided till 2008
Post downturn, many companies have started sharing
information on quarterly basis; extent of information stillremains limited
Information missing in most cases
Segmental and geographical break-up of sales
Detailed land bank and cashflow information
Extent of revenue/cost recognized from projects
Execution status of projects
Most information required to make reasonable valuation
assumptions for land bank remain absent
Limited information on total area and key land parcels
available while contribution to Gross NAV remains quitesignificant
Details required include geographic and segmental break-
up, companys stake, acquisition cost, amount paid and
payable, land status (agri, residential, industrial etc)
Most companies have failed to scale-up execution post a
bumper sales in FY10 resulting in delays across projects
Limited project management bandwidth and high input
cost inflation have added to the woes
Companies that stand out
Oberoi Realty Sobha Developers
Prestige Estates
Godrej Properties
Oberoi Realty
Prestige Estates
Sobha Developers
Godrej Properties
Oberoi Realty
Sobha Developers
Lack of regulatory
body
Sector currently lacks a regulatory body to oversee
operation and ensure accountability
Real estate regulation act remains in draft mode; final billstill 12-24 months away
Inconsistent
accounting
policies
Multiple methods of revenue recognition makes it difficultto compare companies financials
IFRS accounting also modified to include percentage
completion methodology
Companies following IFRS standards of accounting:
HDIL
Sunteck Realty
Growth and profitabilityprofiles of most playershave been dented in thepast 12-18 months
Sector dynamicsdominated by the largenumber of unlisted players
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7|
OCTOBER 2011 IDFC SECURITIES
the actions of unlisted players than of listed ones. Also, high dependence on the project
location (different micro-markets display divergent trends) and business models (owned
land, joint development agreement, re-development, slum rehabilitation, etc), we
believe, make companies difficult to compare.
Exhibit 5: Projects of li sted players accounted for 5% of the total in FY11Ongoing projects i n FY11
Cities By listed players PropE coverage % by listed players
Bengaluru 58 623 9
Chennai 14 460 3
Greater Noida 17 138 12
Gurgaon 34 176 19
Hyderabad 3 444 1
Mumbai 55 956 6
Navi Mumbai 4 692 1
New Delhi 7 15 47
Noida 26 141 18
Pune 26 675 4Thane 9 422 2
All India 330 6,547 5
Source: PropEquity
We prefer a bottom-up approach to invest in the sectorGiven high dependence on location and business model, we believe the sector is
increasingly a play on individual companies. As a result, we do not expect all stocks to
move in a pack even when optimism returns to the sector. We believe the next 1-2 years
could see significantly divergent trends in terms of stock performance. The key
challenge, therefore, is to tap the right business model with presence in right markets
and asset classes, and wait for a recovery. We expect select stocks, depending on the
macro (regional presence, asset class and corporate governance) and micro factors(diversified business model, low leverage, higher cashflows in the near term, quality
land bank, and execution scalability) to do well in the next 1-2 years, while others may
continue to trade at discounted valuations.Exhibit 6: Key parameters to identify winners
Source: IDFC Securities Research
We look for a favorableblend of regionalpresence, asset class,business model
and visibility ofcashflows in the nearterm, besides quality landbank and execution
Oberoi Realty, SobhaDevelopers and JaypeeInfratech satisfy most ofthe winning criteria
Key to success
Low gearing
Visibility on near-term cashflows
Execution capabilities and track record
Quality and quantity of land bank
Levels of corporate disclosures
Key to success
Low gearing
Visibility on near-term cashflows
Execution capabilities and track record
Quality and quantity of land bank
Levels of corporate disclosures
Low gearing
Visibility on near-term cashflows
Execution capabilities and track record
Quality and quantity of land bank
Levels of corporate disclosures
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8 | OCOTBER 2011 IDFC SECURITIES
Oberoi Realty, Sobha Developers and Jaypee Infratech stand out on most parametersand, therefore, are our top picks in the sector. We maintain Outperformer on AnsalProperties and Sunteck Realty given the sharp correction in stock prices and attractivevaluations at current levels. We maintain Neutral on Godrej Properties and HDIL, anddowngrade DLF to Neutral as current valuations offer limited upside.
Exhibit 7: Ranking coverage companies on key to suc cess parameters
Source: IDFC Securities Research
Exhibit 8: Comparative valuations (FY13E)
Target Upside NAV EPS CAGR P/E P/B RoE Gearing
Company Price Mkt Cap Rating pric e poten tial FY13E Prem./(Disc) FY11-13E (x) (x) (%) FY12E (x)
DLF 231 391,589 N 222 (4) 247 (7) 11 20.7 1.3 6.5 0.8
Oberoi Realty 234 76,872 OP 328 40 298 (21) 17 12.4 1.8 15.0 (0.4)
Jaypee Infratech 60 83,614 OP 84 39 105 (42) (36) 12.4 1.2 10.0 1.2Godrej Properties 661 46,153 N 694 5 631 5 17 25.6 3.9 16.2 1.2
HDIL 94 39,344 N 99 6 142 (34) 2 4.7 0.4 8.3 0.3
Sobha Developers 230 22,555 OP 314 36 392 (41) 10 10.3 1.0 10.2 0.6
Sunteck Realty 352 22,152 OP 431 23 539 (35) 1311 4.1 1.8 54.9 0.6
APIL 36 5,674 OP 66 83 94 (62) 25 3.3 0.2 7.1 0.6
Source: Bloomberg, IDFC Securities Research
APIL, Sobha,JIL
Valuation upside -discount to NAV
ORL, Sobha,GPL
Transparency /disclosures
ORL, Sobha,JIL
Execution trackrecord
JIL, Sobha,DLF
Quantity/Qualityof land bank
ORL, SRL Visibility on near-term cashflows
ORL Low Gearing
Best placedRLobhaRLILDILPLLFPIL
APIL, Sobha,JIL
Valuation upside -discount to NAV
ORL, Sobha,GPL
Transparency /disclosures
ORL, Sobha,JIL
Execution trackrecord
JIL, Sobha,DLF
Quantity/Qualityof land bank
ORL, SRL Visibility on near-term cashflows
ORL Low Gearing
Best placedRLobhaRLILDILPLLFPIL
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OCTOBER 2011 IDFC SECURITIES
INDIAN REAL ESTATE: BACK IN THE WOODS!
Post a short-lived recovery, the Indian real estate sector is again beset withproblems
Sales volumes have nosedived due to steep price escalation, while inflationary costpressures have mounted squeezing cashflows
An unfavorable macro-environment in the form of delays in approvals and a highinterest rate regime have added to the woes
Widely varying dynamics across regional markets; e.g. Bangalore has been stabledue to reasonable price hikes, Mumbai reels under sharp price escalation
The going has become tough AGAIN!
The Indian real estate sector, yet to fully recover from the impact of the 2008 meltdown,
has hit another rough patch in the past few quarters. Sales volumes have slowed with
prices of residential apartments at historical highs, profitability is under stress because
of a sharp inflation in input costs, and operational margins have been hit by higherinterest cost. Debt levels, though off the peaks of 2008, are still stretched. Given the
tough lending environment, operational cashflows, though positive, are insufficient to
meet repayment obligations.
Slowdown in volumesSales volumes of most listed players have stagnated or have started declining over the
past few quarters. While historically high prices and a slowdown in approvals have hit
sales in Mumbai, the NCR market (especially Noida and Greater Noida) is under
pressure due to increasing concerns over land acquisition. Bangalore players, though,
have been reporting strong sales.
Exhibit 9: Quarterly sales of most list ed developers have declined over the past 3-5 quarters
Source: Company, IDFC Securities Research
Profitability under pressureDespite improving realizations in the past few quarters, margins of most developers
have stagnated. While EBITDA margins have declined on higher construction cost and
rising SG&A expenses, PAT margins have fallen due to the higher cost of debt and
lower other income. To curb margin erosion, players like DLF have shown a marked
shift in strategy to launching plotted developments.
(msf)
0.0
1.0
2.0
3.0
4.0
Q1FY10
Q2FY10
Q3FY10
Q4FY10
Q1FY11
Q2FY11
Q3FY11
Q4FY11
Q1FY12
DLF(msf)
0.0
1.0
2.0
3.0
4.0
5.0
Q1FY10
Q2FY10
Q3FY10
Q4FY10
Q1FY11
Q2FY11
Q3FY11
Q4FY11
Q1FY12
Unitech(msf)
0.0
1.5
3.0
4.5
6.0
Q1FY10
Q2FY10
Q3FY10
Q4FY10
Q1FY11
Q2FY11
Q3FY11
Q4FY11
Q1FY12
Jaypee Infratech
Margins and debt levelsof developers are understress, but not as gloomyas in 2008
High prices and slowapprovals have hit sales inmost markets; Bangaloreis an exception
High cost of debt, lowerother income and steepconstruction costs haveshaved off margins
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10 | OCOTBER 2011 IDFC SECURITIES
Exhibit 10: Margins of r eal estate companies on a decline
Margins falling consistently Quarterly EBITDA margins and PAT margins witness gradual decline
Source: Company, IDFC Securities Research
Operating cashflows remain stagnantCashflows of most developers have been strained, with operating cashflows (before
working capital changes) having grown only modestly in the past 3-5 quarters. We see
the following reasons for the same:
Customer inflows are declining, led by slowdown in new launches and sales.
Increased construction cost of ongoing projects and higher interest burden have
squeezed liquidity.
Substantial debt repayment obligations and the difficult funding/ refinancing
environment have forced developers to look for alternative funding options (PE
investment, land sale, non-core asset sale, etc).
Exhibit 11: Operational cashflows yet to witness any significant improvement
Operational cashflows stagnant in last few Qs FY11 operational cashflows fail to show any substantial growth despite strong FY10 sales
Source: Company, IDFC Securities Research
0
17
34
51
68
(%)
FY07 FY08 FY09 FY10 FY11
Coverage EBITDA margin ex-JIL
Coverage PAT margin ex-JIL
0
20
40
60
80
(%)
Q1FY10
Q2FY10
Q3FY10
Q4FY10
Q1FY11
Q2FY11
Q3FY11
Q4FY11
Q1FY12
DLF Unitech
Sobha Developers HDIL
0
15
30
45
60
(%)
Q1FY10
Q2FY10
Q3FY10
Q4FY10
Q1FY11
Q2FY11
Q3FY11
Q4FY11
Q1FY12
DLF UnitechSobha Developers HDIL
Operational cashflows before WC changes(Rsm)
-
3,500
7,000
10,500
14,000
Q1FY10
Q2FY10
Q3FY10
Q4FY10
Q1FY11
Q2FY11
Q3FY11
Q4FY11
Q1FY12
DLF HDIL
-
6,000
FY08 FY09 FY10 FY11
12,000
18,000
24,000
Unitech HDIL
Ansal API Sobha Developers
-
25,000
FY08 FY09 FY10 FY11
50,000
75,000
100,000DLF
Steep construction costand high debt havesqueezed liquidity
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OCTOBER 2011 IDFC SECURITIES
Debt levels high despite capital-raising and limited land acquisitionGearing levels have declined from the highs of 2008, but gross debt of real estate
companies has not seen any significant reduction despite capital-raising by most
companies during FY10-11 and limited investment into land acquisitions. While DLFs
debt escalated due to consolidation of DLF Assets (DAL) in Q4FY10, gross debt of
most other companies has failed to come down substantially.
Exhibit 12: Gross debt levels have not f allen in the past year
Source: Company, IDFC Securities Research
BSE Realty crumbling under the pressureThe impact of the aforementioned headwinds is clearly reflected in the BSE Realty
index, which has tumbled by 54% in the past 12 months, underperforming the broader
market by ~ 36%.
Exhibit 13: BSE Realty index signifi cantly underperformed the Sensex since Oct-10
20
40
60
80
100
120
Oct-10
Nov-10
Dec-10
Jan-11
Feb-11
Mar-11
Apr-11
May-11
Jun-11
Jul-11
Aug-11
Sep-11
Oct-11
Sensex BSE Realty
Source: Bloomberg
1.93
0.88 0.87
0.65 0.68
-
100,000
200,000
300,000
400,000
FY07 FY08 FY09 FY10 FY11-
0.60
1.20
1.80
2.40
Coverage Gross Debt ex-JIL (Rs m) Coverage gearing ex-JIL (Rs m)
100,000
140,000
180,000
220,000
260,000
Q
1FY10
Q
2FY10
Q
3FY10
Q
4FY10
Q
1FY11
Q
2FY11
Q
3FY11
Q
4FY11
Q
1FY12
DLF
-
21,000
42,000
63,000
84,000
Q
1FY10
Q
2FY10
Q
3FY10
Q
4FY10
Q
1FY11
Q
2FY11
Q
3FY11
Q
4FY11
Q
1FY12
Unitech HDIL Sobha Developers
Gearing levels have fallen,but the gross debt profilehas been stubborn
The realty index has fallenby 54% in the past 12months
BSE Realty down 54%vs. ~ 18% for Sensex
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12 | OCOTBER 2011 IDFC SECURITIES
Multiple headwinds buffeting the sector
The sharp rise in property prices, a series of monetary tightening measures by the RBI,
and developers insistence on keeping prices high have led to significant slowdown in
volumes across markets in the country. Also, availability of debt has become extremely
difficult for the sector after the bribery-for-loan scam was exposed in November 2010.
Approval processes have become more stringent due to the irregularities in Adarsh
Housing Society (Mumbai). To add to these woes, higher commodity prices and acute
labor shortage have dented profitability and led to slower execution.
Exhibit 14: Current state of real estate
Source: IDFC Securities Research
High prices keep both genuine buyers and investors awayWhile sales volumes have taken a hit with both genuine buyers and investors sitting on
the sidelines in anticipation of a significant price correction, banks have significantly
tightened lending norms for real estate developers. The problems have been
aggravated by developers keeping property prices elevated driven by the expectation of
a quick turnaround in fortunes.
Sharp escalation in prices across key citiesPrices have risen sharply almost across the country from the lows of 2009 when
developers had to significantly cut prices to spur demand. The pace of escalation was
unexpected, especially given the depressed dynamics not too long in the past. While
prices have trended up in most markets, the pace has been higher in Mumbai (up 37%
in two years), Gurgaon (34%) and Thane (45%). Prices have already surpassed previoushighs in some of these markets.
Banks
Reduced lending to Real Estate
Developers
Investors
Not investing at current levels as returns
are no longer attractive
Genuine Buyer
Adopt wait and watch strategy inanticipation of price correction
Developers
Hold on to their prices in the midst ofcredit crunch and demand slowdown.
Rising interest burden and reduced
availability of finance impacts cash flows ofprojects
Real Estate
Banks
Reduced lending to Real Estate
Developers
Investors
Not investing at current levels as returns
are no longer attractive
Genuine Buyer
Adopt wait and watch strategy inanticipation of price correction
Developers
Hold on to their prices in the midst ofcredit crunch and demand slowdown.
Rising interest burden and reduced
availability of finance impacts cash flows ofprojects
Banks
Reduced lending to Real Estate
Developers
Investors
Not investing at current levels as returns
are no longer attractive
Genuine Buyer
Adopt wait and watch strategy inanticipation of price correction
Developers
Hold on to their prices in the midst ofcredit crunch and demand slowdown.
Rising interest burden and reduced
availability of finance impacts cash flows ofprojects
Real Estate
High commodity pricesand labour shortage havedented profitability
The rise in prices hasbeen the sharpestin Mumbai, Gurgaonand Thane
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OCTOBER 2011 IDFC SECURITIES
Exhibit 15: Sharp rise in prices in the past two years
Source: IDFC Securities Research
and falling affordabilityThe sharp rise in property prices as also developers preference for high-margin luxury
residential projects have increased the average ticket size (apartment value) by 30-45%
across most markets in the past two years. With income growth not commensurate tothe rise in prices, affordability - and thereby absorptions - have seen a gradual decline.
70
95
120
145
170
Jul-07
Oct-07
Jan-08
Apr-08
Jul-08
Oct-08
Jan-09
Apr-09
Jul-09
Oct-09
Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
South Mumbai Central Suburb Western Suburb
Thane west Navi Mumbai - Airoli
60
115
170
225
280
Jul-07
Sep-07
Nov-07
Jan-08
Mar-08
May-08
Jul-08
Sep-08
Nov-08
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
May-10
Jul-10
Sep-10
Nov-10
Jan-11
Mar-11
May-11
Jul-11
Gurgaon - Sohna Road Gurgaon - new sectors
Noida - Sec 92-96 Noida - Expressway
Greater Noida - sector Omnicom
70
85
100
115
130
Jul-07
Oct-07
Jan-08
Apr-08
Jul-08
Oct-08
Jan-09
Apr-09
Jul-09
Oct-09
Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
Tumkur road Hosur road Mysore road
60
85
110
135
160
Jul-07
Oct-07
Jan-08
Apr-08
Jul-08
Oct-08
Jan-09
Apr-09
Jul-09
Oct-09
Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
Chennai - north west Chennai - south east
Hyderabad - south west
MMR NCR
Bangalore Chennai
The average ticket size offlats has risen 30-45% inthe past two years
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14 | OCOTBER 2011 IDFC SECURITIES
Exhibit 16: Average ticket size up by 30-45% across markets in t he past two years
(Rs m) South Mumbai Thane Gurgaon Noida Greater Bangalore
Mumbai western suburbs Noida
Avg. ticket size of apts sold in FY09 (Rs m) 41.8 10.0 3.9 6.1 9.6 6.5 5.2
Change from FY09 to FY10
% increase in prices (10) 2 15 2 (34) (20) 7
% increase in avg. unit size 25 12 (15) (16) (25) (34) (5)
Cumulative impact (%) 15 15 0 (14) (59) (54) 2
Avg. ticket size of apts sold in FY10 (Rs m) 46.9 11.5 3.9 5.2 4.7 3.5 5.2
Change from FY10 to FY11
% increase in prices 0 17 33 37 26 (1) 20
% increase in avg. unit size 20 12 (2) 11 (19) 9 (1)
Cumulative impact (%) 20 29 31 49 7 8 19
Ticket size as of Mar-11 56.2 14.8 4.9 7.7 5.0 3.7 6.2
Increase in ticket size from FY09-11 (%) 35 43 31 34 (53) (46) 20
Source: PropEquity, IDFC Securities Research
have impacted absorptionsThe sharp rise in property prices in certain pockets (NCR, MMR), combined with
developers unwillingness to cut prices, have squeezed volumes in these regions. While
end-user demand has been impacted by falling affordability and expectations of a price
reduction, investor interest has also fallen as prices are unlikely to appreciate
considerably from current levels. As a result, absorptions in these markets have
declined by 40-55% yoy in the past 3 quarters. However, absorptions in South Indian
markets (Bangalore and Chennai) have remained stable and not witnessed any
downward trend.
Exhibit 17: NCR and MMR absorptions decline 40-55% yoy; South Indian markets buck the trend
NCR and MMR have witnessed maximum decline in absorptions Bangalore and Chennai absorptions have remained stable
Source: PropEquity
The volume squeeze is most evident in Mumbai, where monthly property registrations
have been constantly declining for the past few quarters. Average registrations have
fallen below 5,000/month from the Nov-Dec 2009 peak of 7,500/month.
-
125
250
375
500
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
May-10
Jul-10
Sep-10
Nov-10
Jan-11
Mar-11
May-11
Jul-11
NCR MMR
-
75
150
225
300
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
May-10
Jul-10
Sep-10
Nov-10
Jan-11
Mar-11
May-11
Jul-11
Bangalore Chennai
Absorptions have plunged40-55% in the past threequarters
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OCTOBER 2011 IDFC SECURITIES
Exhibit 18: Monthly sale registrations in Mumbai indicate a clear downward trend
3,000
4,000
5,000
6,000
7,000
8,000
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
May-10
Jul-10
Sep-10
Nov-10
Jan-11
Mar-11
May-11
Jul-11
Mumbai sale registrations (3-mth avg)
Source: PropEquity, IDFC Securities Research
Unfavourable macro environment rising inflation and interest costsThe Indian economy is currently characterized by inflationary trends - similar to that of
2008, though the increase in interest rates has been gradual this time. In the past 15
months, RBI has raised interest rates by 325bp, leading to an increase in funding costs
for both developers and consumers. For instance, SBI PLR has crossed its 2008 peak
reached levels not seen since 2005.
Exhibit 19: Macro-economi c environment 2008 vs. 2011
Source: RBI
Banks averse to lending to developersBanks, especially PSU banks, have become averse to lending to the sector after the
bribery-for-loan scam broke out in November 2010. So, not only have fresh loans
become hard to come by, refinancing of existing debt has also become difficult. This
has put pressure on companies to generate sufficient cashflows for repayment and to
avoid a debt trap. Interest rates have risen by 200-300bp in the past six months, putting
further pressure on profitability and stunting expansion plans.
New sale registrationsdown 34% from the peak
of Dec-09
(3.0)
-
3.0
6.0
9.0
12.0
Oct-05
Feb-06
Jun-06
Oct-06
Feb-07
Jun-07
Oct-07
Feb-08
Jun-08
Oct-08
Feb-09
Jun-09
Oct-09
Feb-10
Jun-10
Oct-10
Feb-11
Jun-11
WPI (%chg yoy)
4.0
7.0
10.0
13.0
16.0
(%)
Oct-05
Feb-06
Jun-06
Oct-06
Feb-07
Jun-07
Oct-07
Feb-08
Jun-08
Oct-08
Feb-09
Jun-09
Oct-09
Feb-10
Jun-10
Oct-10
Feb-11
Jun-11
Oct-11
Repo rate SBI PLR
RBIs monetary tighteninghas increased fundingcosts for both buyers anddevelopers
Refinancing and freshloans have becomedifficult after thebribery-for-loan scam
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16 | OCOTBER 2011 IDFC SECURITIES
Slowdown in approval processIrregularities in the approval and construction of Adarsh Housing Society (Mumbai) and
involvement of various approval authorities in the imbroglio led to serious doubts on the
authenticity of approvals, virtually holding up all new project approvals in Mumbai in
2HFY11. It has also had a cascading effect, with the diligence process becoming more
stringent in other cities too. Land acquisition troubles in the northern India have affectedsignificant number of real estate projects (especially in Noida and Greater Noida). Policy
inaction (lack of clarity on new CRZ policy, parking FSI, new development regulations
etc) has further added to the woes. As a result, multiple projects across cities have
been stuck awaiting approvals.
Exhibit 20: Many projects delayed/ stuck pending approvals
Company Projects Comments
DLF Indore, Gurgaon, Panchkula Planned launches in FY11 postponed to FY12 due to approval delays
DLF NTC Mills, Mumbai Awaiting approvals since 2009; lack of clarity on parking FSI policy
Sobha Gurgaon Villas Approvals received after more than a year wait
Sobha Chennai launch Approvals delayed due to change in government
Sunteck Realty Goregaon Launch delayed by 6 months due to delay in NOC
Sunteck Realty Mulund Awaiting environmental clearance since last 1 year
Oberoi Realty Mulund Awaiting environmental clearance since last 1 year
Oberoi Realty Worli Approvals recently received after more than 6 months delay
DB Realty Orchid Crown Stop work order since Jan-11 for lack of environmental clearance
IBREL Sky residential projects Stop work order since Jun-11 for lack of environmental clearance
HDIL Mumbai Airport Rehabilitation Awaiting clarity on rehabilitation eligibility criteria
Ackruti City Worli, Bandra projects Awaiting clarity on CRZ policy
Source: Company, Newspaper reports, IDFC Securities Research
Also visible from the trend in new launches (especially in MMR and NCR), which clearly
shows a constant month on month decline since Oct-10.
Exhibit 21: New launches (msf) witnessing a decline in t he past year
-
3.5
7.0
10.5
14.0
Jun-10
Jul-10
Aug-10
Sep-10
Oct-10
Nov-10
Dec-10
Jan-11
Feb-11
Mar-11
Apr-11
May-11
Jun-11
Jul-11
Mumbai Thane Gurgaon Noida
Source: PropEquity, IDFC Securities Research
Land acquisition issueshave hit a large number ofprojects in North India
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OCTOBER 2011 IDFC SECURITIES
60
75
90
105
120
135
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
May-10
Jul-10
Sep-10
Nov-10
Jan-11
Mar-11
NCR Mumbai Chennai Bangalore
80
95
110
125
140
Jan-08
Mar-08
May-08
Jul-08
Sep-08
Nov-08
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
May-10
Jul-10
Sep-10
Nov-10
Jan-11
Mar-11
May-11
Jul-11
Sep-11
Rebars domestic price (Rs/ton)
Input cost inflation profitability under stressRaw materials, including steel, cement, sand, bricks, etc, have seen significant price
escalation (20-50%) over the past few quarters. The sharp inflation in input costs has
severely impacted profitability across projects, with developers specializing in low/ mid-
income projects bearing the brunt.
The price of steel has appreciated by > 25% in the past year, with iron ore prices
having risen globally. Cement prices have increased from ~ Rs200/bag to Rs270-
280/bag (+ 30-40%) in the same period due to declining cement production.
The price of sand has more than doubled in the last one year owing to supply
constraints due to ban on sand mining in several states. Brick prices have also
increased from Rs12,500 to Rs24,000 /3000 units (31% hike).
Labor has become a huge constraint. Rural laborers are increasingly opting for the
Mahatma Gandhi National Rural Employment Guarantee (NREGA) scheme, which
guarantees 100 days of wage employment a year to a rural household whose adult
members volunteer for unskilled manual work.
While skilled labor is already in short supply, NREGA has led to shortage of
unskilled labor too, causing a sharp rise in labor cost (up from Rs250/day to
Rs325/day for unskilled labor).
Exhibit 22: Input costs have risen sharply i n the past year
While cement prices have risen due to declining production higher raw material prices have led to rise in steel prices
Source: IDFC Securities Research
New land acquisition bill to increase cost of land as wellThe Cabinet has approved the Draft Land Acquisition Bill & the Relief and Rehabilitation
Bill (R&R) and the bill is likely to be tabled in Parliament in the winter session. The bill,
once passed, will increase the cost of acquisition significantly. This, in turn, would also
increase the overall prices of land across the country. While companies with large land
bank acquired and under possession will stand to benefit, we believe the new bill will
reaffirm developer confidence in buying and holding large land parcels and might entice
developers to increase investments in buying land parcels.
Developers of low-incomeprojects have been theworst hit by the rise ininput costs
Steel and cement priceshave risen by > 25% and30-40% in the past year
The NREGA scheme hasreduced availability oflaborers for construction
The Bill expected to betabled in Parliament in thewinter session
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18 | OCOTBER 2011 IDFC SECURITIES
Regional diversities: Market no longer homogenous
Indias leading real estate markets include Mumbai Metropolitan Region (Mumbai,
Thane and Navi Mumbai), National Capital Region (New Delhi, Gurgaon, Noida, Greater
Noida and others) and South India (Bangalore, Chennai and Hyderabad). All these
markets have evolved over the last 6-8 years into much larger markets and are, now,
governed by their own set of dynamics which vary significantly across markets. Land
laws, being regulated by the respective states, are also diverse across regions. As a
result, analysing regional markets has become far more pertinent than evaluating pan-
India trends. Also, given the tedious approval process and dependence on local
authorities, developers have chosen to focus on regional markets than aiming for a pan-
India presence. Most listed players, save a few like DLF and Godrej Properties, have
presence in regional markets and have not shown an inclination to expand to other
regions.
MMR: Witnessed highest price increase; dull near-term outlookMumbai Metropolitan Region (MMR) contributes > 20% to Indias GDP and has the
highest per capita income (3x the countrys average). It enjoys the highest property
prices in India (~ 3x compared to other tier-I cities) as it remains sea-locked, with high
population density driving demand.
Key trends Property prices have risen to historical highs in the past two years. This has led to
~ 30% drop in sales volumes (3-mth average) in the past 12 months. Mumbai
sales registrations have also fallen 34% from Dec-10 highs.
Approval processes have slowed significantly in the past 2-3 quarters as a result
of the Adarsh scam and the Brihanmumbai Municipal Corporation (BMC)
proposing drastic amendments in approval guidelines to block loopholes (see our
report titled New building approval guidelines for Mumbai; negative for city
players, 25 July 2011).
Absorptions are shifting towards extended Mumbai (Thane and Navi Mumbai), led
by lower affordability levels in the city and growing supply in the former areas.
Outlook We believe a near-term price correction (10-25%) is likely in Mumbai city given the
~ 30% drop in volumes and increasing liquidity pressure on developers holding on
to inventory. We believe a price correction will unlock the strong latent demand
and drive absorptions.
However, if the deadlock over new construction guidelines continues, new
launches will be delayed and limit any significant price correction.
Most listed players have aregional focus and are notpushing for wider base
Volumes and registrationshave fallen by 30% and34% respectively in thepast two years
Absorptions are shifting tothe suburbs due to betteraffordability and supply
MMR enjoys the highestprices in the country
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OCTOBER 2011 IDFC SECURITIES
Exhibit 23: Prices continue to rise in MMR; absorptions s how clear shift to Thane and Navi Mumbai
Source: PropEquity, IDFC Securities Research
0
10
20
30
40
Jul-07
Oct-07
Jan-08
Apr-08
Jul-08
Oct-08
Jan-09
Apr-09
Jul-09
Oct-09
Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
0
30
60
90
120Total absorptions (LHS) Availability (RHS)(msf) (Absorptions/qtr - msf)
-
10
20
30
40
Sep-07
Dec-07
Mar-08
Jun-08
Sep-08
Dec-08
Mar-09
Jun-09
Sep-09
Dec-09
Mar-10
Jun-10
Sep-10
Dec-10
Mar-11
Jun-11
Mumbai Thane + Navi Mumbai MMR
(units absorbed - %mix)
61 57
43 38
2423
3435
1520 23 26
0
25
50
75
100
FY08* FY09 FY10 FY11
Mumbai Thane Navi Mumbai (msf absorbed - %mix)
61 5948 45
22 22
3030
17 19 22 25
0
25
50
75
100
FY08* FY09 FY10 FY11
Mumbai Thane Navi Mumbai
2,400
7,400
12,400
17,400
22,400
27,400
Jul-07
Sep
-07
No
v-07
Jan
-08
Ma
r-08
May-08
Jul-08
Sep
-08
No
v-08
Jan
-09
Ma
r-09
May-09
Jul-09
Sep
-09
No
v-09
Jan
-10
Ma
r-10
May-10
Jul-10
Sep
-10
No
v-10
Jan
-11
Ma
r-11
May-11
Jul-11
South Mumbai Central Suburb Mumbai Harbour Western Suburb Thane Navi Mumbai(Rs psf)
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NCR: Investor-driven market; stable medium-term outlookOver the past few years, the NCR has grown to become the largest real estate market in
India. With almost negligible new supply in New Delhi, extended suburbs like Gurgaon,
Noida, Greater Noida, Faridabad and Ghaziabad have become large micro-markets,
with Gurgaon being the most preferred suburb. NCR is an investor-driven market, with
almost half the new supply being absorbed by investors. Also, supply is not a constraintgiven significant land available in these suburbs.
Key trends and outlook Gurgaon has seen sharpest price increase in the NCR (up 34% in past two years).
However, the market is showing initial signs of a slowdown, with investor interest
waning due to the high prices. We expect prices to correct by 10-20% in FY12. Prices in Noida and Greater Noida have not risen much due to significant new
supply in the past two years. Also, given the current farmer agitation over low
compensation for land, demand in the region has witnessed a sharp decline in the
past 1-2 quarters. We expect prices in Noida and Greater Noida to remain undersome pressure in the near term and be stable in the medium term.
Exhibit 24: Key tr ends in t he NCR market
Source: IDFC Securities Research
0
10
20
30
40
(msf)
Jul-07
Oct-07
Jan-08
Apr-08
Jul-08
Oct-08
Jan-09
Apr-09
Jul-09
Oct-09
Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
0
50
100
150
200Total absorpt ions (LHS) Availability (RHS)
169
117
137
139
168
0
75
150
225
300
FY08 FY09 FY10 FY11 4MFY12
0
45
90
135
180
(msf) (msf)New launches (LHS) Absorpt ions (LHS) Availability (RHS)
2,000
2,700
3,400
4,100
4,800
5,500
Jul-07
Sep-07
Nov-07
Jan-08
Mar-08
May-08
Jul-08
Sep-08
Nov-08
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
May-10
Jul-10
Sep-10
Nov-10
Jan-11
Mar-11
May-11
Jul-11
Gurgaon Noida G.Noida Faridabad Ghaziabad
NCR has grown to be thelargest real estatemarket
with a large number ofsatellite micro-markets likeGurgaon and Faridabad
Gurgaon and Noida markets have seen the sharpest price rise in last one year
(Rs psf)
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OCTOBER 2011 IDFC SECURITIES
Bangalore: The most sane market; steady growth outlookIn the past two years, Bangalore has remained the most sane markets in India. Being
the Information Technology (IT) hub of the country, real estate demand in Bangalore in
largely driven by the IT/ITeS sector which has seen strong growth post the economic
downturn.
Key trends and outlook Residential absorptions grew strongly by 36% in FY11 to 47msf.
Price appreciation was also steady (average of 7% yoy), keeping pace with
increase in income levels. Property values have, therefore, remained affordable.
Easy availability of land has kept supply flowing, limiting price appreciation
Demand has been led by strong traction in the IT/ ITeS sector after the end of the
last economic downturn. Most IT/ ITeS companies have strong hiring plans, with
Bangalore remaining the preferred destination.
While we expect prices and absorption to remain steady, any significant slowdown
in the IT/ ITeS sector (led by global slowdown and thereby cut in IT spending) will
negatively impact demand.
Exhibit 25: Key trends i n the Bangalore market
Source: IDFC Securities Research
-
2
4
6
8
(msf)
Jul-07
Oct-07
Jan-08
Apr-08
Jul-08
Oct-08
Jan-09
Apr-09
Jul-09
Oct-09
Jan-10
Apr-10
Jul-10
Oct-10
Jan-11
Apr-11
Jul-11
-
22
44
66
88Total absorptions (LHS) Availability (RHS)
7470
62
52
66
-
17
34
51
68
FY08 FY09 FY10 FY11 4MFY12-
20
40
60
80New launches (msf) Absorptions (msf) Availability (msf)
2,400
2,800
3,200
3,600
4,000
Jul-07
Sep-0
7
Nov-0
7
Jan-0
8
Mar-08
May-0
8
Jul-08
Sep-0
8
Nov-0
8
Jan-0
9
Mar-09
May-0
9
Jul-09
Sep-0
9
Nov-0
9
Jan-1
0
Mar-10
May-1
0
Jul-10
Sep-1
0
Nov-1
0
Jan-1
1
Mar-11
May-1
1
Jul-11
NorthEast Region NorthW est Region SouthEast Region SouthW est Region
Demand largely driven bythe IT bounceback afterthe last downturn
We expect both pricesand absorptions to remainsteady in Bangalore
(Rs psf)
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Commercial outlook healthy; only a few listed players
Huge investments limit number of playersGiven the substantial investment required upfront, only a few listed players (DLF,
Phoenix Mills, Anant Raj, Indiabulls Real Estate, Oberoi Realty, Prestige Estates) have
ventured into the leasing space. Most other companies still continue to focus on the
residential space.
Exhibit 26: Very few listed players have relevant share of revenues from lease income
9
11
13
18
18
80
0 30 60 90
Peninsula Land
Prestige
DLF
Oberoi Realty
Anant Raj
Phoenix Mills
Lease rentals - %of FY11 revenues
(%)
Source: Company
Experts believe leasing momentum will sustainMost property experts (JLL, Cusman & Wakefield, Colliers) believe that commercial
demand will remain healthy, led by a growing economy and stable environment for the
IT/ITeS sector (~ 50% of the total office demand). According to JLL estimates
(December 2010), office space absorption is expected to grow at a CAGR of 14.6%from CY10-13 (from 30.5msf in CY10 to 45.9m in CY13).
Exhibit 27: Absoprtions* to pick up both in office and retail segments
Source: JLL as of Jul-11; * across top 7 cities of India
Office space absorptions to grow at ~ 16% CAGR over 2010-13 with most markets moving into rent rising quadrant
JLL expects rentals torise in Mumbai,
Bangalore & Delhi-NCR
Office space absorptionto grow by 14.6% CAGRover CY10-13
Need for huge upfrontinvestments have keptmost players away fromthis segment
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OCTOBER 2011 IDFC SECURITIES
Rentals, though, expected to remain stable as vacancy remains highRentals have not appreciated in CY10 in most markets, but are expected to improve as
excess supply gradually gets absorbed. In the past nine months, rentals for Grade A
office space in Gurgaon have been stable at ~ Rs60psf pm. Rentals in Chennai and
Hyderabad were also largely stable in FY11. JLL expects rents to increase in the
Mumbai, Bangalore and NCR markets while remaining stable in other tier-1 cities.
Exhibit 28: Rental outlook f or Mumbai and Bangalore stable in CY11E
Mumbai Bangalore
Source: JLL as of Jul-11
Rentals are expected to risein Mumbai, Bangalore andNCR and remain stable inother tier-1 cities
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THE GOOD NEWS:A BUSINESS REVIVAL MAY BE NIGH
Long-term demand drivers are intact despite recent upheavals Unlike in 2008, developers are not fighting solvency battles and are much better
placed to find solutions A 10-25% cut in real estate prices, along with a rate cycle reversal, will be the magicpotion to nurse the sector back to health We believe a 10-25% cut in prices is inevitable and very likely in the near term Any recovery in business sentiment would drive a cyclical rebound in real estate
stocks; but we remain wary of the sustainability of this bounce
Long-term demand drivers intact
While multiple issues beset the sector, long-term macro demand drivers strong GDP
growth expectations and favorable demographics still favor developers promising
strong and sustained demand. An increasingly young population, rising urbanization,
higher disposable household incomes due to the rise in working population, and agrowing number of nuclear families have been increasing the number of those able to
afford a house.
Exhibit 29: Positive change in demographics to drive demand for housing
Source: CRISIL Research, McKinsey Research (2005), United Nations World Urbanization Prospects 2009
Approx. 50% of Indias population under 25 years of age Largest growth in working age population (1564 years) by 2020
One of the lowest urbanized developing economies and increasing nuclearisation of Indian families
(years)
25
3437 38
45
27
36 3739
47
28
37 3840
49
-
15
30
45
60
India China USA Russia Japan
2010 2015 2020
Urban population (% of total)
27 29
40
48
65 6669
81
0
22
44
66
88
Vietnam India China Indonesia Malaysia Japan US Korea
Change in working age population by 2020 (m)
495
294
159 130
34 30 16 14 11
-8 -10 -25
-150
0
World Asia Africa India South
America
North
America
Brazil China USA Japan Russia Europe
150
300
450
600
5.7
5.5 5.5
5.3
4.8
4.2
4.6
5.0
5.4
5.8
1971 1981 1991 2001 2006
Average household size
Increase in workingpopulation and growingnuclearisation bodewell for demand
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OCTOBER 2011 IDFC SECURITIES
Healthier solvency will prevent another 2008
Volumes have suffered due to high property prices, cashflows stressed due to sharp
rise in interest burden, raw material and manpower costs, and the lending environment
tough; but we do not see the risk of another 2008-like collapse. We believe the
economy is stable (cautious but positive global outlook, GDP growth forecast of > 7%,
and a stable job environment) and developers are in much better shape (positive
operational cashflows, lower gearing levels compared to 2008 slowdown, and limited
investment in land in the past two years), which could buffer any demand erosion and
thereby prevent solvency concerns.
Global economic conditions uncertain, but not as bad as in 2008Disappointing economic data from the US (0.9% GDP growth in H1CY11, vs. 3.1% in
CY10) and a sovereign crisis in Europe in the past few quarters have raised concerns
over another recession in these markets and a slowdown in global GDP growth.
However, with a stronger financial system, improved balance sheets of banks,
corporates as well as households, we believe a freeze of the entire financial system as
seen in 2008 is unlikely.
Exhibit 30: GDP growth in developed markets USA UK, Euro zone and Japan
Source: Bloomberg, US Bureau of Economic Analysis, UK Office for National Statistics, Government of Japan
Indian economy much better placedWhile we are staring at slower GDP growth in FY12 (7.6%, vs. earlier estimate of 8.5%),
we see no threat of a financial meltdown or mass layoffs and salary cuts. The domestic
consumption story is intact, led by strong growth in the rural economy. Also, the job
environment is fairly optimistic, with relatively stable hiring plans across sectors,
including IT/ ITeS, financials and manufacturing.
-10
-6
-2
2
6
(%)
1QCY04 1QCY05 1QCY06 1QCY07 1QCY08 1QCY09 1QCY10 1QCY11
-6
-4
-2
0
2
4
1QCY04 1QCY05 1QCY06 1QCY07 1QCY08 1QCY09 1QCY10 1QCY11
UK Euro zone Japan(%)
High GDP growth rates andhealthier balance sheetsshould buffer impactof demand erosion
Stricter regulation, strongbalance sheets of banks,corporates and householdswill prevent another 2008
Indian consumption story isintact, helped by stronggrowth in rural economy androbust hiring across sectors
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Exhibit 31: Improving empl oyment outl ook and stable hiring p lans of Top 4 IT companies
Source: Manpower Research, IDFC Securities Research
GDP growth, despite some slowdown, remains strongThe ongoing monetary tightening to control inflation could result in some growth
slowdown, but we believe the impact will not be as significant to dampen the strongmacro outlook of the country. In 2008, while GDP growth had plummeted to ~ 6% for
three consecutive quarters, the current forecast is still a healthy 7.6% (revised
downwards from 8% earlier).
Exhibit 32: GDP growth has not f allen below 6% like in H2FY09
GDP growth had plummeted to ~6% for three quarters in FY09 GDP growth still healthy at >7%; only the pace has tempered
Source: IDFC Securities Research
GDP (yoy %)
8.07.8
5.6
6.46.3
4.0
5.1
6.2
7.3
8.4
Q1FY09 Q2FY09 Q3FY09 Q4FY09 Q1FY10
GDP (yoy %)
9.4 9.38.9
8.3
7.8
7.4
4.0
5.5
7.0
8.5
10.0
Q4FY10 Q1FY11 Q2FY11 Q3FY11 Q4FY11 Q1FY12
-
22,500
45,000
67,500
90,000
FY11 FY12E FY13E
TCS Infosys Wipro HCL Tech
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OCTOBER 2011 IDFC SECURITIES
Exhibit 33: We expect GDP growth to remain above 7% in FY12
0.0
4.0
8.0
12.0
16.0
Q1FY06
Q3FY06
Q1FY07
Q3FY07
Q1FY08
Q3FY08
Q1FY09
Q3FY09
Q1FY10
Q3FY10
Q1FY11
Q3FY11
Q1FY12
Construct ion GDP growth (%) Overall GDP growth (%)
Source: IDFC Securities Research
Developers not as leveraged or distressed as in 2008An asset-liability mismatch led to serious solvency concerns for real estate players in
2008, when land costs were funded through short-term liabilities. In the past two years,
however, there has been no large-scale diversion of project inflows to land payments.
Also, most companies have raised fresh equity (QIP, warrants, etc) and used the
proceeds to bring down debt to reasonable levels from the peaks of 2008. Therefore,
we believe the developers ability to survive and compete for projects is not in question
in the current environment.
Exhibit 34: Gearing levels have fallen sharply
0.89
0.50
0.46
0.68
0.93
0.86
0.84
-
0.66
1.73
0.94
1.74
1.01
0.60
2.09
0.01
- 0.50 1.00 1.50 2.00 2.50
DLF
Unitech
HDIL
Sobha
APIL
Sunteck
GPL
Oberoi
Gearing - FY11 Gearing - FY09
Source: IDFC Securities Research
Investments in land bank have been limitedMost developers, in the past two years, have been selling part of their land parcels
(mostly non-core; with limited development visibility) and using the cash to retire debt.
Total land area of most players (including DLF, Unitech, Sobha) have come down
substantially from 2007 highs through either partial sale or complete exit from various
projects. Also, new investments have been restricted to a) consolidation of existing
under-development parcels or b) acquisition of land with near-term development
visibility.
FY12 GDP growthexpected at 7.6%
Most developers have beenprudent buyers of land sincethe last downturn
and have limitedinvestments to land withnear-term developmentvisibility
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with focus shifting to expanding regional presenceDuring the economic boom of 2004-06, most developers aimed for a pan-India
presence to expand their operations and minimize concentration risk. This led to
rampant land acquisition (and higher debt) by players across the board - led by DLF
and Unitech. However, with land regulations subject to state laws and approval
processes driven by political influence, most developers either failed to launch projectsoutside their domicile or were stuck for various approvals. However, after the economic
downturn, most developers have been trying to exit or rationalize their land banks and
have increasingly focused on their home turfs for expansion. Among the listed real
estate players, only a few have a pan-India presence (DLF, Unitech and Godrej
Properties); but even for these developers, the domicile markets continue to account for
a substantial share of their total sales volume.
and reducing debt through higher realizations from non-core asset saleWith internal accruals failing to bring down gearing levels, developers including DLF,
Unitech, HDIL, Ansal Properties etc are actively looking to monetize non-core land
parcels/ built assets and utilize the proceeds to reduce overall debt levels. With high
interest cost hurting cashflows as well as profitability, developers are increasing
evaluating opportunities to exit investments with either long gestation period or limited
development visibility. While asset sales during the economic downturn found few
takers due to developer reluctance on cutting valuations, they are more flexible this time
and are willing to negotiate and close the deal rather than adopting a wait and watch
strategy.
Exhibit 35: Non-core asset sale plans of key real estate players
Companies Assets on the block
DLF Mumbai NTC Mill Land
Land parcels in Gurgaon, Chennai
Pune SEZ Noida IT Park
Aman Resorts chain
Life Insurance business
Unitech Land parcel in Thiruvanathapuram
SEZs and IT Park
HDIL Sold FSI in Andheri East, Goregaon (Mumbai) for >Rs10bn
To sell FSI in Vasai-Virar region
AnsalProperties To exit from two projects worth Rs3-4bn
Source: News reports, Company, IDFC Securities Research
Price and interest rate decline would boost absorption
Given the slowdown in absorptions, lack of funding alternatives available to developers,
and liquidity constraints, a reduction in prices seems to be the only option to maintain
business momentum and avoid a cash crunch. We believe a 10-25% price correction is
likely in the next 6-12 months in most markets. A reversal of the interest rate cycle would
be another key positive trigger. These factors, supported by the almost unleveraged
balance sheets and high savings rate (23%) of Indian households, will drive a near-term
turnaround in the sector.
Domicile markets stillcontribute the largest shareof sales of most developers
High interest costs haveforced builders to exit assetswith long gestation andlimited development visibility
We believe driving up saleswith price cuts is the onlyoption given low absorptionand liquidity constraints
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OCTOBER 2011 IDFC SECURITIES
A 10-25% cut on the cardsProperty price hikes have clearly stopped and there are signs that developers are willing
to negotiate and offer discounts to buyers. Also, lower sales volumes are further hurting
liquidity of cash-strained players. We believe developers will be looking to tap seasonal
demand in the second half of the fiscal (festive season, bonus/ promotion cycles, etc)
and will likely reduce prices soon. We expect price cuts across avenues available tobuilders:
Reduction in prices at existing projects.
Launch of new projects at prices lower than those of existing projects.
Launch of new projects with smaller units, i.e, reducing ticket sizes to increase
affordability.
The lessons of 2008-09We take comfort in the real industrys response to the demand slump in 2008, which
forced real estate players to rationalize pricing across markets. Our analysis indicates
that in 1H09 most developers in Mumbai, Thane and Gurgaon cut prices by 15-40%,
which led to a sharp rebound (60-200%) in quarterly sales volumes from Dec-08 quarter
lows. Focus was on launch of new projects at lower prices as well as reduced unit sizes,
which led to a significant reduction in total cost of ownership. This stimulated demand
across markets and effectively marked the revival of the real estate industry after the
2008 slowdown.
Exhibit 36: Price corrections in 2009 resulted in a sharp jump in absorptions
Existing New
Region Location Type price price Correction Month Comments
Unitech
Woodstock Floors Gurgaon Sector 50 Floors 4,485 3,776 -16 May-09
Uniworld Resorts Gurgaon Sohna Road Villas 7,000 4,900 -30 Jun-09
Grande Noida Sector 96 Apartments 7,600 5,000 -34 Jul-09
DLF
The Magnolias Gurgaon DLF Ph V Apartments 10,500 8,000 -24 May-09
Capital Greens Ph I (NL) New Delhi Shivagi Marg Apartments 11,000 4,500 - Apr-09 1400 apartments
sold within a mth
Capital Greens Ph II New Delhi Shivagi Marg Apartments 4,500 6,750 50 Sep-09 1300 apartments
sold within a mth
Mumbai
Kalpataru Estates Mumbai Jogeshwari Apartments 10,000 8,000 -20 Mar-09
Oberoi Splendour Mumbai Jogeshwari Apartments 11,000 7,200 -35 Jun-09
Premier Residences (HDIL) Mumbai Kurla Apartments 8,400 5,750 -32 Mar-09 Launched at sharp
disc.to market price
Zenith (Gundecha) Mumbai Mulund Apartments 8,755 4,999 -43 Mar-09
RNA Auroville Mumbai Santacruz Apartments 25,700 16,000 -38 Aug-09
Dosti Acres Mumbai Wadala Apartments 11,600 8,291 -29 Mar-09
Raheja Acropolis Mumbai Chembur Apartments 8,850 7,400 -16 Jun-09
Source: PropEquity, IDFC Securities Research
The sharp recovery in volumes in the markets that followed the price cuts is indicative of
the kind of demand elasticity that exists in the system for housing across the country.
Developers seem to beamenable to negotiation toexploit the festive season
15-40% cut in prices acrossMumbai, Thaneand Gurgaon led tosharp rebound in sales
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Exhibit 37: Increase in absorption (units per quarter) in Mumbai, Thane and Gurgaon in 1H09
-
3,500
7,000
10,500
14,000
Sep-07
Nov-07
Jan-08
Mar-08
May-08
Jul-08
Sep-08
Nov-08
Jan-09
Mar-09
May-09
Jul-09
Sep-09
Nov-09
Jan-10
Mar-10
Mumbai Thane Gurgaon
Source: PropEquity
We strongly believe that given the mounting cashflow challenges, a 10-25% cut inprices is on the cards over the next few quarters. We believe this will lead to a spurt innew launches and accelerate sales given strong latent demand at lower prices.
However, a reversal of the interest rate cycle, unaccompanied by a sharp reduction inreal estate prices, is unlikely to trigger a demand revival.Interest rates to peak by early-FY13Our strategy team believes that inflation will start to cool down from Nov-11 onwards as
a) high base effect kicks in (brent crude rose sharply in Oct-Nov 2010 from $80 to $95)
and b) adequate rainfall (monsoon 2% above normal) result in higher crop output and
thereby drop