JP Morgan : DLF Limited (DLFU IN)
$300MM PE transaction to help debt reduction and enable unlocking of "land bank" value
Overweight
Price: Rs105.80
01 Sep 2015
Price Target: Rs210.00
PT End Date: 30 Mar 2016
In one of the largest residential PE transactions in India, DLF today signed a JV agreement with Govt Of Singapore which will enable GIC to invest in two of DLF’s residential projects in Delhi. GIC will invest Rs 19.9B (~US$300MM) as part of this transaction. With this DLF has achieved 90% of its asset sales guidance for the year (Rs 30B) and will end up cash neutral for the year. The company as part of its press release has stated that it will look to do more such transactions to reduce debt and unlock value from its residential portfolio. We expect the company to break into positive FCF zone from F17 onwards as cash flows from its Phase 5 residential projects pick up + old low margin projects deliver out.
· Asset sales should help reduce residential net debt of Rs 70B-DLF’s residential business has a net debt of ~Rs 70B and is currently running cash neutral given drag of old low margin book (sold at low prices). Asset sales for the year (Rs 26B) should enable the company to be largely cash neutral for the year. This as construction costs in the business will be elevated given planned 20msf deliveries of old low margin projects. Once cash flows from its new projects start building up from F17 onwards, we think DLF will break into positive FCF zone. We note that DLF’s ongoing residential projects embed Rs 150B of pre tax FCF, more than enough to fully reduce the residential debt on a 4 year view.
· Pick up in office / retail likely to enable rental business to grow 40% over next 3 years- Office leasing has picked up substantially in India and also in Gurgaon + cap rates in buyouts have been coming down in India (down from 10% a year back to ~9% levels now). Rental portfolio of the company in our view can grow 40% over the next 3 years on the back of new completions and rent escalations in the existing portfolio. Rents are 70% of DLF’s EBITDA and we think are on track to give 12-15% annualized growth medium term. A REIT listing (not factored into our model) if it comes through, could unlock value of this portfolio and also accelerate debt reduction both at the residential and rental portfolio.
Investment Thesis
DLF’s core business has been running FCF negative due to ongoing capex/land payments, while dev co cash flows are weak due to sluggish pre-sales performance. This is expected to reverse over the next year as: (1) capex moderates (once Mall of Noida is operational); (2) rental growth from new mall completions and office leasing improves; (3) interest costs trend down, given the achievement of debt reduction; and (4) residential sales pick up as improved sentiment translates into actual recovery. SAT’s decision on the SEBI ban will be a key stock catalyst over the next month, in our view.
Valuation
We have an Overweight rating on the stock with a Mar-16 PT of Rs210. Our PT is SOTP-based, valuing the dev co at 1x land cost and the rent co at 15x EBITDA.
Risks to Rating and Price Target
Key downside risks: (1) a delay in the new launches and sustained weakness in pre-sales trends; (2) an increase in debt levels; (3) a material de-rating of overall macro fundamentals in India.
Key upside risks: (1) higher-than-expected pre-sales/launch activity; (2) significant upward revisions to Cyber City rentals; and (3) a sharp cut in policy rates.
$300MM PE transaction to help debt reduction and enable unlocking of "land bank" value
Overweight
Price: Rs105.80
01 Sep 2015
Price Target: Rs210.00
PT End Date: 30 Mar 2016
In one of the largest residential PE transactions in India, DLF today signed a JV agreement with Govt Of Singapore which will enable GIC to invest in two of DLF’s residential projects in Delhi. GIC will invest Rs 19.9B (~US$300MM) as part of this transaction. With this DLF has achieved 90% of its asset sales guidance for the year (Rs 30B) and will end up cash neutral for the year. The company as part of its press release has stated that it will look to do more such transactions to reduce debt and unlock value from its residential portfolio. We expect the company to break into positive FCF zone from F17 onwards as cash flows from its Phase 5 residential projects pick up + old low margin projects deliver out.
· Asset sales should help reduce residential net debt of Rs 70B-DLF’s residential business has a net debt of ~Rs 70B and is currently running cash neutral given drag of old low margin book (sold at low prices). Asset sales for the year (Rs 26B) should enable the company to be largely cash neutral for the year. This as construction costs in the business will be elevated given planned 20msf deliveries of old low margin projects. Once cash flows from its new projects start building up from F17 onwards, we think DLF will break into positive FCF zone. We note that DLF’s ongoing residential projects embed Rs 150B of pre tax FCF, more than enough to fully reduce the residential debt on a 4 year view.
· Pick up in office / retail likely to enable rental business to grow 40% over next 3 years- Office leasing has picked up substantially in India and also in Gurgaon + cap rates in buyouts have been coming down in India (down from 10% a year back to ~9% levels now). Rental portfolio of the company in our view can grow 40% over the next 3 years on the back of new completions and rent escalations in the existing portfolio. Rents are 70% of DLF’s EBITDA and we think are on track to give 12-15% annualized growth medium term. A REIT listing (not factored into our model) if it comes through, could unlock value of this portfolio and also accelerate debt reduction both at the residential and rental portfolio.
Investment Thesis
DLF’s core business has been running FCF negative due to ongoing capex/land payments, while dev co cash flows are weak due to sluggish pre-sales performance. This is expected to reverse over the next year as: (1) capex moderates (once Mall of Noida is operational); (2) rental growth from new mall completions and office leasing improves; (3) interest costs trend down, given the achievement of debt reduction; and (4) residential sales pick up as improved sentiment translates into actual recovery. SAT’s decision on the SEBI ban will be a key stock catalyst over the next month, in our view.
Valuation
We have an Overweight rating on the stock with a Mar-16 PT of Rs210. Our PT is SOTP-based, valuing the dev co at 1x land cost and the rent co at 15x EBITDA.
Risks to Rating and Price Target
Key downside risks: (1) a delay in the new launches and sustained weakness in pre-sales trends; (2) an increase in debt levels; (3) a material de-rating of overall macro fundamentals in India.
Key upside risks: (1) higher-than-expected pre-sales/launch activity; (2) significant upward revisions to Cyber City rentals; and (3) a sharp cut in policy rates.
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