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Valuation concerns

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While the move to integrate and Caraf may eliminate the conflict of interest between promoters and DLF, the deal lacks transparency.

In a bid to consolidate the DLF group’s lease-rental business under a single entity, last Tuesday, DLF approved the integration of DLF Cyber City (DCCD) and Caraf Builders & Constructions. The move, which is also aimed at eliminating the perceived conflict of interest between promoter companies and DLF, didn’t seem to have gone down well with the markets. The DLF stock was down by 6.4 per cent as against the BSE Realty’s dip of 5.5 per cent and Sensex’s 2.2 per cent. Analysts were divided over the deal’s valuation, while complaining about lack of complete transparency. For now, most analysts have a ‘sell’ rating on the stock as valuations are not cheap.

The deal

DLF own a 100 per cent stake in DCCD, while promoters of DLF own a 100 per cent in Caraf, which in turn owns almost 96 per cent of DLF Assets (DAL). Post this deal, DLF will hold 60 per cent in the merged entity (DCCD), while promoters will hold the rest 40 per cent; all assets of Caraf will come under DCCD. Besides, the move will also provide stable rental income to DLF Cyber City, while creating a rental conglomerate with over 16 million square feet (msf) of leased portfolio spread across commercial, retail, SEZs and IT parks in India’s top cities.
 

REVIVAL IN SIGHT
in Rs crore FY09 FY10E FY11E 
Revenue 10,044 8,444 10,735
EBITDA 5,488 4,413 4,682
Net profit 4,671 2,633 3,160
Diluted EPS (Rs) 27.4 15.5 17.0
Diluted P/E (x) 13.1 23.1 21.1
 E: Estimates                         Source: Edelweiss Securities, BSE

Key concerns

Although some analysts opine that the deal has been fairly valued, others believe that it is being done at the cost of DLF’s minority shareholders. Since the absolute numbers have not been provided by the company, different assumptions have been used to arrive at the valuation of the assets of the two entities. These assumptions include estimated rentals based on the locations and type of assets.

Analysts at Edelweiss Securities have given an equity value of Rs 3,073 crore to and Rs 1,827 to Caraf (consolidated), which works out to a ratio of 63:37. Likewise, Emkay’s analyst has arrived at a ratio of 67:33, whereas the same is at 57:43 as per Alchemy’s analyst. Last year (2008-09), DLF Cyber City had reported revenues of Rs 1,443 crore and profit before tax of Rs 1,195 crore, which gives a gross PBT margin of 83 per cent.

Thereafter the liabilities of the company have increased by about Rs 1,500 crore to Rs 4,140 crore. A Mumbai-based analyst says, “This increase in liabilities is quite likely towards creation of new assets. In this context, it is difficult to digest that the company has an annualised net property income of only Rs 416 crore; even if that is the case, there is no details about the other source of income and how they manage to earn such high margins. So, there is clearly more than what meets the eye.” While there is no doubt about the lack of complete transparency in the deal, which has left the Street making different assumption, SP Tulsiyan, investment analyst, sptulsiyan.com believes that the deal is favourable to the promoters who stand to benefit by about Rs 3,300 crore—in other words, an equivalent loss for DLF, leave aside the loan repayment liabilities that DLF will now have to shoulder.

Among other issues that come to the fore is that DLF Cyber City has a very lucrative asset profile. Of its 6.73 msf operational leased assets, 5.8 msf is office space based in Gurgaon with the balance being retail malls in Delhi. More so, the potential developable area of 11.8 msf is equally divided between office and retail space. Of this, 5.8 msf of office space is based in Gurgaon and 3 msf each of retail space in Mumbai and Gurgaon. While rentals are relatively higher in the case of such assets, there is usually no dearth of customers for such assets. However, it will be between 3-5 years before this 11.8 msf area becomes operations. Apart from the above, DCCD also has notified SEZ land of 18 acres and interests in facilities and utility management.

On the other hand, Caraf’s 9.65 msf is spread across IT parks in Kolkata and Chandigarh and two commercial properties in Gurgaon. Besides, it owns a 96 per cent economic interest in DAL, which owns 6.4 msf of IT SEZ space. Tulsiyan says, “The asset profile of DCCD is better and even if there has been a fall in rentals (due to market conditions), it would have been more in the case of SEZs (which are owned by Caraf).”
 

HOW THEY COMPARE
in million sq ft DCCDL** CARAF 
Total ready assets 6.73 9.65
Additional development 11.83  Nil 
Potential - -
TOTAL 18.56 9.65
in Rs crore   DCCDL $   CARAF # 
Rental income* 416 555
Net Current Assets 715 2,192
Net Debt 4,140 2,460
** Apart from the above development potential, DCCDL has notified
SEZ land of approx 18 acres
$ Aggregated nos from Pro forma Balance Sheets for DCCDL
and its retail subsidiaries
# Aggregated nos from Pro forma Balance Sheets for Caraf,
IT Parks in Chandigarh & Kolkata and DAL
* Annualised net property income (post tax)        
Source: Company

Conclusion

With the company not having provided complete details, including the actual valuation figures, it has left some questions unanswered like those pertaining to DLF’s receivables from DAL. Also, there is no clarity on how much stake SC Asia will own in up on conversion of the Rs 2,725 crore worth of compulsorily convertible preference shares (CCPS) issued to SC Asia (or how the company would fund its buyback using the call option it has). Among other issues in the immediate term is that DLF’s debt burden will rise by Rs 2,460 crore due to Caraf’s debt. While Caraf has taken a loan against the lease income of some of its assets, the lease income it earns will be used to repay this debt (over 7-9 years). However, it also means that such lease rental will not accrue to DCCD.

Analysts though believe that DLF Cyber City should gain from the expected listing of DAL on the Singapore exchange, which is likely to happen post March 2010. Nevertheless, considering the overall environment in the real estate space, a majority of analysts feel the stock is not cheap at current valuations.

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