I never thought that I my first stock story would be a real estate stock. But here goes:
Oberoi Realty: A relatively simple real estate story, restricted to the Mumbai market. This is part of the reason to recommend. It has only a few properties, the disclosure level of the company is high, and the Mumbai new launch market is all white, which is a comfort for a non-promoter investor.
Company has been around since around 15-20 years, known in Mumbai for high quality construction. Went public in 2010 at a price around 30-40% higher than today. CMP is 190, Market Cap: Around Rs. 6000 Crores. Dividend Yield of 1.05%. Stated aim to distribute 20% of the profits.
In Fy 2012-13, the company recorded a revenue of around 1150 crores, and PAT of Rs. 500 Crore. Earnings per share was 15+, which translates to a PE around 12-13.
The company has a strong balance sheet, which cash of around 500 crores, and no debt.
The business of the company is two fold. One is that it creates investment properties which it rents out (the most famous of these is the Oberoi Mall, which has had a good uptake). The other is that it buys land, builds residential buildings, and sells these.
The last 2 quarters have seen earnings and sales slowing. Sales are around 25% down, and profits are around 35-40% down. So why I am invested in this stock?
Let us first example the value of the company (by adding up the value of what it owns. Here, I am including some of the properties which are still to be developed. The company owns the FSI, and thus, that itself has a value). I am putting the current values of its investment properties, and the developed value of its development properties, less what it will cost to develop these. Finance cost is not material, since all development properties are paid for by customer advances.
The company owns 3 complete properties, the Oberoi Mall, the Westin Hotel, and a office complex Commerz-I. Commerz-II is almost ready. All these properties are a total of around1.5-1.6 million sq. ft, located in the Western Suburbs. The current market value of these 4 properties is Rs. 3000 crores, at around 18000-20000 Rs. per sq. ft in Goregaon. In addition, the company Is developing in a joint venture, a property called Oasis in Worli. This will be an iconic property, one of the tallest in the city, in a really unique style. While this is primarily residential (1.8 million sq. ft), there will be 300000 sq.ft. in a hotel property. The company will get 50% of the cash flows from the hotel, as part of its joint venture. The operator will be a high end hotel chain, Ritz-Carlton is the rumor. In any case, the value of the hotel (the company’s share) is likely to be Rs. 600 crores. Of course, this building isnot complete, but the company has already spent around Rs. 500 crores in developing it. So the total value of theinvestment properties is Rs. 3600 crores.
In addition, the company has several development properties.
In a property called Exquisite, which is 1.5 million square feet, the company has almost completed the project. However, nearly 250 flats (at around 4.5-5 crores per flat), are in inventory. The company’s expectation is that these flats will only be sold once the building is completely ready.(More on that later). This amounts to Rs. 1100 crores of inventory, with practically no construction cost remaining (and that will come from the customers who have purchased the other 500 flats).
In a property called Esquire, which is again 1.5 million sq. ft., the company had suspended the project, pending the new development rules coming into force. Now, that there is clarity on this, the company has capped the development here to around 30 floors, preferring to use the FSI more efficiently in subsequent projects on the same land. In esquire the company already has bookings worth Rs. 1250 crores, of which it has received Rs. 450 crores. To date, the company has not recognized any of this income. Nevertheless, 800 crores are due from customers who have booked properties, but paid only partially. In addition, the company has free inventory. If one takes the value of the free inventory, and subtract from it the 400-500 crores it will cost to develop the property, one is left with an inventory of Rs. 500 crores.
Therefore, the inventory and money due from these two ongoing projects (where work is apace, and all permissions are in place), is 2400 Crores. Discounting this, we assume a value of Rs. 2000 crores.
In addition, the company will launch in Q4 the remaining 2.2 million sq. ft. in Oberoi Garden City, Goregaon, where the above two projects are located. Current cost of construction is around Rs. 3000/sq.ft, while current prices are Rs. 20000/- psft. Discounting this by around 20%, we get a value of these 2.2 million sq. ft. at Rs. 3000 crores.
In addition, the company is currently developing the Oasis property in Worli. In this case, the arrangement with the JV partners is that they will spend around Rs. 1250 crores to develop the property (of which Rs. 500 crores is spent), and they have also given around 300 crores to the JV partner as an interestfreedeposit. When they sell properties, Oberoi will first get back its construction cost, then its deposit, and then they will get around 30-40% of the remaining, depending on the price at which sales get done. Current sales have been done at 43000 Rs. psft, but after the hotel operator is finalized, and the building starts taking shape, it is expected to sell around 50000 Rs.psft. I have assumed a sales price of Rs. 40000/-. I have estimated the value (less construction cost) of Rs 2000 Crores.
The company has another property called splendour Grande, on which the company has recently paid Rs. 26 crores for fungible FSI, and they will use this to develop a property to be launched in Q4 called splendour prisma. I estimate the value of this to be Rs. 300 crores.
Thus, the total value of the investment properties and the development properties (after taking into account construction costs and discounting for time to sell and to develop-though hopefully, the prices will go in the meantime, which would then negate any need for discounting- to development is around Rs. 10800 crores. As against this the company is available for Rs. 6200 Crores. Reasonable margin of safety. The margin of safety will get greatly enhanced by Mulund (see below).
In case you are wondering about the fixed costs of the company, they are around Rs. 100 crores per annum, which are easily paid by the annuity income.
Now, let us look at the income side:
The company currently has an Annuity PAT Rs. 120 crores, or around 3 Rs. EPS. They are having difficulty in letting out Commerz II, but hopefully, they can let it out to 75-80% in a couple of years time. In addition, the hotel at Oasis should be operational in 3 years. After 3 years, the annuity EBITDA will be Rs. 250 Crores p.a., which translates to a PAT of Rs. 170 crores a year, which is around5 Rs. EPS.
Now comes the kicker. Typically, when buildings get made, a majority of the bookings happen at the beginning or till the building is around 30-40% complete. Inventory which gets left out by the time the building is 75-80% complete, remains unsold till the building gets its OC. This is because, under CLP, the buyer at 80% completion has to pay almost the entire cost upfront, but still can’t occupy. Typically, these people hope to sell their old house for part payment of the new one. So they can only buy once the building is ready for occupation. This is what the company expects will happen with Exquisite. They expect to sell the Exquisite inventory in the first two quarters of FY15. This is 1100 crores of inventory.
In addition, as mentioned earlier, Esquire has bookings of 1200 crores, none of which is recognized (The AS says that you can only recognize once you have 25% sales, and 25% work completed). Esquire revenue will start getting recognized in Q4 FY14, and the majority will get recognized in FY15, and partly in FY16. Assume 800 crores for FY15.
Similarly Oasis revenue is not recognized, even though there is no formal launch, they do have a few bookings, some from an older project which was substituted by this one. This revenue will also get recognized in FY15 and FY16 primarily. Splendour Prisma sales will probably get recognized only in the last quarter of FY15, and otherwise in FY16.
The second phase of Esquire, which is due for launch later this year, or maybe next year, will take at least 3 years for completion.
So the company will, in 3 years, recognize revenue of all these projects. I expect EBITDA of Rs.1500 crores a year from these projects. After tax profits should be in the range of Rs. 1000 crores. In addition, the annuity projects will yield around Rs. 175 crores PAT. So PAT will be around 1100-1200 Crores, or120% of the last years PAT, and double of this years PAT. EPS will be around 35. This is starting in 2014-2015.
The company has a large property in Mulund. In Mulund, the land was bought from Borroughs-Wellcome, which had a factory there. However, it has now been classified as forest land, preventing any construction. The company is not the only affected party. Thousands of flats exist in this so called forest. A single bench of the SC gave a favourable (?) judgement, and the same is now being reviewed by a 3 judge bench, The case is up for final hearing after Diwali. The company seems quite confident of the outcome, and has kept everything ready for development, including plans and permissions. if this comes through, it will mean around 6000 crores of additional income over 3-5 years. In such a case, the EPS will go upto at least 50.
The company has paid 20% of the agreed price of Juhu Centaur to Cox and Kings. Now the seller has reneged on the agreement. The company has apparently won in a lower court, but the cases drag on in higher courts. If this comes through, it will mean another 1000-2000 crores for the company.
The biggest negative for the company is that it has no land bank, beyond Mulund. If Mulund case goes against them, they will be under a lot of pressure to purchase land, otherwise, incomes would sharply decline after 3 years, to the annuity income. The company has the balance sheet space to buy large amounts of land. But they seem to be quite conservative with regard to land pricing.
The second negative is also that they are present only in Mumbai, and that too in only 2-3 micromarkets. If there is a sharp downturn in the Mumbai realty market, or too much building in an individual micro market, then all the above revenue projections would get postponed. They are looking at other markets, but nothing there to write about at the moment.
All told, the company is clearly available at a discount to its fair value. It seems that after a bad year in FY14, FY15 onwards, they will increase profits sharply, for at least 2-3 years. There isa high potential upside embedded in a court case which is near finalization. There are other suchpossibilities like NESCO, which have high embeddedvalue. However, the disclosures are notthat great, dividend is poor, and the company does not articulate its plans and difficulties, whichmakes it all rather opaque for the external investor.At least with Oberoi Realty, they seem to be more open.
I invite feedback and criticism from all of you on different possibilities than the ones I have outlined.
Disc: I am invested in this stock (about 2.5% of my portfolio), with my average purchase price of Rs. 165, all purchased in the last quarter.