DLF’s shift to lower-margin mid-income housing from premium/luxury segment, and anticipated weakness in its commercial and retail portfolio (which constitute approximately 67% of FY09 sales) will lead to significant earnings erosion in FY10 and FY11.
We believe the company’s ability to drive residential volumes in the current environment will be limited because of declining investor demand and growing inventory of finished products.
We are reducing our volumes recognized by 30% and 43% for FY09 and FY10 respectively. Our EPS declines by 39% and 52% for FY09 and FY10.
Further, the company’s aggressive revenue recognition of DLF Assets’ sales leaves little room for earnings growth in FY10 and FY11. DLF has recognised approximately 70% of total potential sales of 19m sqft, but delivered only 5m sqft to date.
The company’s entry into power segment by setting up wind farm businesses appears to have been ill timed. So far, DLF has invested Rs20 billion in the power business (debt of Rs15 billion) and plans to invest an additional Rs20 billion.
Except for the potential tax breaks through accelerated depreciation, our capital goods analyst believes that the valuation upside from the wind farms is limited. DLF’s balance sheet also includes debt of Rs33 billion related to Aman Resorts acquisition. These non-core businesses account for 33% of the company’s total debt as of H1FY09.
We are anticipating the second half of FY09 to remain lackluster given the tough macro environment. However, with a better execution record and stronger brand name, we expect DLF to perform better than its peers. Potential for asset sales is also higher.
Cash flows are unlikely to ease until it finds a PE partner for DLF Assets or leverage DLF Assets’ portfolio (9.5 m sqft by March 2009), which could yield approx Rs32 billion.
We are revising our target price to Rs160 based on 5x (15x earlier) one-year forward P/E, and FY10E EPS of INR31.92 (down 52%). We have incorporated 10% y-o-y pricing correction between FY09-11. Our multiple is in-line with global trough multiples of property stocks in bear markets.