Awaiting Approvals

Though Mahindra Lifespace Developers' valuation is attractive, you should wait for more project approvals to come through

Mahindra Lifespace Developers Ltd. (MLDL) is the real estate and infrastructure development arm of the Mahindra group. The company was constituted by the merger of Great Eastern Shipping Company Limited and Mahindra Realty & Infrastructure Developers Limited. The company currently focuses on developing residential projects and large-format, integrated infrastructure developments such as business cities, industrial parks and special economic zones (SEZ).

Sectoral outlook
With the Reserve Bank of India (RBI) hiking interest rates 13 times since March 2010, mortgage rates have also climbed over this period. High home loan rates have now become a deterrent for investors. High property prices and the cap of 80 per cent on loan-to-value ratio imposed by the central bank have also added to buyers’ woes.
Higher interest rates within the economy have also translated into higher borrowing costs for developers. With risk perceptions about the real estate sector rising, banks have also gone slow on providing funds to the sector.
The BSE Realty index has tumbled around 48 per cent over the past one year, underperforming the Sensex by 26 percentage points. According to a report by Edelweiss Securities (October 2011), while rising mortgage rates have undoubtedly singed the sector, another key factor responsible for its underperformance over the past 12 months has been political and regulatory risks. Issues ranged from disputes over compensation for the acquisition of agricultural land in Noida, delays in project approvals in Mumbai and its suburbs, and change of political leadership in Tamil Nadu.
However, a number of recent policy initiatives at the central and state level indicate that policy bottlenecks may ease gradually over the next 12 months as key decisions are taken, according to analysts at Edelweiss Securities.
In its mid-term monetary policy review of December 16, 2011, RBI signalled the end of the rate hike cycle by leaving key policy rates untouched. Economists now believe that interest rate cuts may begin anytime between January and June 2012, in view of the economy’s rapidly deteriorating growth prospects. Declining interest rates will have a positive impact on a rate-sensitive sector such as real estate. Both mortgage rates and developers’ interest cost should decline next year.
Further, improved pace of approvals, expected in markets such as Mumbai and Chennai in the second half of FY12, should enable developers to launch new projects.

First-mover advantage. Mahindra Lifespace is the first private-sector company in India to have developed an integrated business city — Mahindra World City, Chennai. This is also the first SEZ to have been developed by the private sector. Besides, the company has another ongoing project in this segment in Rajasthan — Mahindra World City, Jaipur.
Healthy financials. Over the last five years, the company’s total income has grown at a compounded annual growth rate (CAGR) of 23.2 per cent. Its profit after tax registered a five-year CAGR of 45.9 per cent.
Over these years, it showed a decent improvement in its profitability numbers too (except FY09). Its return on capital employed (RoCE) has improved by 4 percentage points while return on net worth (RoNW) has improved by 7 percentage points during this span. The magnitude of these ratios, however, is not very attractive. The company has delivered a five-year average RoCE of 9.4 per cent and a five-year average RoNW of 8.1 per cent.
The company enjoys sound margins. Over a period of five years, its operating profit margin has always come in above 20 per cent. Its average for these years is 33 per cent. Further, its average net profit margin over the last five years stands at a healthy 18.01 per cent.
In FY11, the company’s cash and bank balance stood at Rs 239.8 crore, which amounts to a growth of 80.3 per cent over the corresponding figure in FY10.
Low leverage. In a sector where excessive debt burden is more the norm than the exception, this company has maintained a low debt-to-equity ratio over the last five years. Its debt-to-equity ratio has never exceeded one over these years and stood at 0.51 times in FY11.

Peer comparison
If one were to compare MLDL with other BSE Realty stocks, the company has a low revenue share of 2.6 per cent compared to the total income of that basket. However, in terms of profitability it scores over industry giants. DLF, which has a lion’s share of 42 per cent (out of the total income of the basket), had an RoCE and RoNW of 7.3 per cent and 6.7 per cent respectively compared to MLDL which had an RoCE of 11.5 per cent and RoNW of 11.1 per cent in FY11. Unitech, which is five times the size of MLDL in terms of revenue, has a meagre RoCE of 5.2 per cent and RoNW of 5.3 per cent.

Delays in approvals. Pending approvals, especially for Mumbai projects, continue to hamper the company’s plans to launch new projects. MLDL had planned to launch seven to eight projects across locations, including later phases of development in Pune, NCR and Chennai, and new projects in Ghatkopar (Mumbai), Hyderabad and Nagpur. However, it launched only one project (as against the planned four) in the first half of FY12.
Concerns regarding SEZ policy. There are some concerns regarding the SEZ policy. In the union budget of 2011-12, provision of minimum alternate tax (MAT) and dividend distribution tax (DDT) were made applicable both on developers of SEZs and units operating within the SEZs. Moreover, the revised direct tax code (DTC) bill, in its current form, limits the applicability of tax incentive schemes for SEZ developers to SEZs notified before 31st March, 2012. Similarly, the tax incentives available to units within SEZs have also been limited to those which become operational before 31st March, 2014. These changes may impact profitability and affect the attractiveness of SEZs and investments in such projects both by developers and companies.

The company has two key ongoing SEZ projects at Chennai and Jaipur. The Chennai SEZ is in an advanced phase of monetisation, with the focus now being on selling the residential and institutional areas. The Jaipur SEZ is in the early phase of monetisation, with the processing area being sold currently.
It has four more SEZ projects, aggregating around 6,500 acres, at different stages of land acquisition. According to a report by Motilal Oswal Securities, the company has acquired 40 per cent of the North Chennai project (where the targeted area is 1,000 acres) and 15-20 per cent in Pune (where the targeted area is 2,000 acres). It expects to commence activities in Chennai SEZ in the first half of FY13. This could be a key trigger for this stock.

The stock is currently trading at a price-to-earnings (P/E) ratio of 8.9. It is thus currently trading at a discount to its five-year median P/E of 23.1. Over a period of five years, the trailing twelve month earnings per share (EPS) of the company has grown at a CAGR of 46.7 per cent. This gives it a price-to-earnings to growth (PEG) ratio of 0.2 times. The stock has corrected 36.9 per cent over a year and is currently trading at Rs 245. MLDL is currently trading at a discount to its book value per share, which is equal to Rs 260.69.
The company has a healthy balance sheet and is fairly valued. However, the lack of new launches and lower inventory in ongoing projects led to a sharp decline in its sales volume in Q2FY12. Factor in these concerns before deciding to invest in the stock.

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