HOT PROPERTY SECTOR UPDATE - Sunteck Realty
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India Equity Research Real Estate January 11, 2021 HOT PROPERTY SECTOR UPDATE Rising like a phoenix CY20 was a roller coaster year for India’s property space--while demand collapsed in Q2CY20 due to the pandemic, the sector ended Q4CY20 on a high note with a sharp 72% QoQ recovery in housing sales and 52% QoQ improvement in office leasing. Industry consolidation continued, aided by funding constraints for tier 2/3 developers. In our view, the buoyancy will sustain in the near term, leading to continued strength in realty stocks. Hence, we revise up our sales assumptions and reduce NAV discount/WACC for our coverage stocks. Our top picks are DLF and Brigade Enterprises (both ‘BUY’); we downgrade Godrej Properties to ‘HOLD’ due to rich valuations. Housing space in CY20: Making sense of an unreal year The pandemic singed the housing space in Q2CY20 with across-the-board demand destruction. However, a combination of rising affordability (due to decade low mortgage rates, stamp duty cut, price rationalisation by developers) and covid-19- induced factors (demand for bigger units/luxury homes) led to absorption reviving sharply in Q4CY20 (up 72% QoQ); MMR, in fact, clocked highest-ever property registrations in December 2020. Changing consumer preferences and funding constraints for tier 2/3 developers (loan sanctions down 35% YoY in 9mCY20) meant that market share of listed developers surged to the highest since FY15. Annuity space: Some recovery, but still some distance to cover Office space leasing too was hit hard by covid-19; while demand showed signs of recovery (up 52% QoQ in Q4CY20), it was still down 44% YoY compared to the CY19 peak. The looming shadow of ‘work from home’ means that a return to the halcyon days of CY19 is sometime way. We believe a full-fledged demand recovery will have to wait till CY22. Consumption in malls has been picking up and we believe the trend will gather traction going ahead; this space is ripe for consolidation due to funding constraints of weaker players. Outlook: Hope beckons As argued in our comprehensive sector report, Real Estate - The Charge of the Consolidating Brigade, consolidation is the driving feature of India’s property space and covid-19 has only accelerated the process. We believe housing demand will remain robust in the near term, aided by improving affordability. Office space absorption will recover fully only in CY22 with full-fledged return of employees to offices still some time away. Funding crunch for tier 2/3 developers means that market share gains for organised developers will continue. This, along with benign interest rates, means that realty stocks will continue to perform well. We believe the potential for re-rating is higher among developers with strong rental portfolios and hence prefer DLF (BUY) and Brigade Enterprises (BUY). We downgrade Godrej Properties to ‘HOLD’ from ‘BUY’ due to rich valuations. Parvez Qazi Akash Damani +91 (22) 4063 5405 +91 (22) 4063 5456 Parvez.Qazi@edelweissfin.com Akash.Damani@edelweissfin.com Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited
HOT PROPERTY Contents Housing space: Blockbuster end to the year… ……………………………………......................3 Why such a sharp revival in housing demand?……………………………..……………………….5 Covid-19 forces a change in consumer behaviour….………………………….…………………..8 ….and further strengthens the trend of industry consolidation ……………..……………..10 Office space: Leasing picks up in Q4CY20….………………………………………………………….11 Retail space: Recovering fast after a hard knock …………………………………………………...14 Funding scenario too aiding consolidation ……………………………………………………………16 Benign interest rates’ helping valuations ………………………………………………………………18 Outlook: A lot to look forward to in CY21……………………………………………………………….19 2 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited
HOT PROPERTY Housing space: Blockbuster end to an year… The housing space witnessed both ‘famine’ and ‘feast’ in CY20. The pandemic led to demand and supply crashing in Q2CY20. Activity slowly picked up in Q3CY20 and the segment eventually ended the year on a bright note with the festive season witnessing good pick-up in absorption across the board. Demand: As per Anarock, housing sales in Q4CY20 rose 72% QoQ to 50,900 units compared with 29,520 units in the previous quarter. YoY, demand was down mere ~14% YoY. Demand and supply rocketed in Q4CY20 90,000 72,000 54,000 (Units) 36,000 18,000 0 Q1CY18 Q2CY18 Q3CY18 Q4CY18 Q1CY19 Q2CY19 Q3CY19 Q4CY19 Q1CY20 Q2CY20 Q3CY20 Q4CY20 Supply Demand Source: Anarock, Edelweiss Research With a share of 53% in sales, MMR and Pune spearheaded housing demand during the quarter. This was largely due to Maharashtra government’s decision in August 2020 to cut stamp duty rates. Property registration volumes surged in Maharashtra 300,000 240,000 180,000 (Units) 120,000 60,000 0 Jun-17 Apr-16 Jun-16 Apr-17 Apr-18 Jun-18 Apr-19 Jun-19 Apr-20 Jun-20 Dec-19 Feb-16 Aug-16 Dec-16 Feb-17 Aug-17 Dec-17 Feb-18 Aug-18 Dec-18 Feb-19 Aug-19 Feb-20 Aug-20 Dec-20 Oct-16 Oct-17 Oct-18 Oct-19 Oct-20 Number of registrations Source: Government documents, Edelweiss Research Mumbai property registrations, in fact, went through the roof during Q4CY20-- registration of ~19,600 units in December 2020--highest ever. Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 3
HOT PROPERTY Impact of stamp duty cut - Mumbai property registrations at all-time high in December 25,000 20,000 15,000 (Units) 10,000 5,000 0 Apr-16 Jun-16 Apr-17 Jun-17 Apr-18 Jun-18 Apr-19 Jun-19 Apr-20 Jun-20 Dec-18 Feb-16 Aug-16 Dec-16 Feb-17 Aug-17 Oct-17 Dec-17 Feb-18 Aug-18 Feb-19 Aug-19 Dec-19 Feb-20 Aug-20 Dec-20 Oct-16 Oct-18 Oct-19 Oct-20 Number of registrations Source: Government documents, Edelweiss Research Mumbai property sale value in Q4CY20 was 50% higher than that in 9mCY20 350 30 Average ticket size (INR mn) 280 24 Property sale value (INR bn) 210 18 140 12 70 6 0 0 Apr-16 Jun-16 Apr-17 Jun-17 Apr-18 Jun-18 Jun-19 Feb-19 Apr-19 Apr-20 Jun-20 Feb-16 Aug-16 Dec-16 Feb-17 Aug-17 Dec-17 Feb-18 Aug-18 Dec-18 Aug-19 Dec-19 Feb-20 Aug-20 Dec-20 Oct-16 Oct-17 Oct-18 Oct-19 Derived sales value (INR bn) Avg. ticket size (INR mn) (LHS) Oct-20 Source: Government documents, Edelweiss Research Sales in major South India cities, which are dominated by the technology industry, also gained momentum. For e.g. Sobha posted its best-ever quarterly sales in Q3FY21 (refer to, Sobha - Sharp recovery in pre-sales), that too without any major launches; Bengaluru was a key component of the company’s robust performance. Launches: Launches also perked up during Q4CY20 after remaining muted during Q2-Q3CY20. Supply came in at 52,820 units in Q4CY20, up 2% YoY and 62% QoQ. Mumbai and Pune contributed ~44% to the launches during the quarter. 4 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited
HOT PROPERTY Unsold inventory continued its downwards trend in CY20 800,000 640,000 480,000 (Units) 320,000 160,000 0 Q1CY18 Q2CY18 Q3CY18 Q4CY18 Q1CY19 Q2CY19 Q3CY19 Q4CY19 Q1CY20 Q2CY20 Q3CY20 Q4CY20 NCR MMR Bengaluru Pune Hyderabad Chennai Kolkata Source: Anarock, Edelweiss Research Unsold inventory declined 2% YoY to ~638k units (flat QoQ). ….which was a difficult one, to say the least While the strong finish to the year did provide succour to developers, the impact of a brutal couple of quarters during the middle of the year could not be washed away completely. Pandemic lent a heavy blow to the housing sector in CY20 300,000 750,000 240,000 660,000 180,000 570,000 (Units) (Units) 120,000 480,000 60,000 390,000 0 300,000 CY17 CY18 CY19 CY20 Supply Demand Unsold inventory Source: Anarock, Edelweiss Research On annual basis, demand declined 47% YoY in CY20 to ~138k units. Supply, on the other hand, fell 46% YoY to ~128k units. Consequently, unsold inventory declined by ~10k units YoY to ~638k units. Nevertheless, we believe CY21 is going to be a much better year for the housing segment due to demand recovery (reasons discussed in detail below). We believe absorption will continue to outstrip demand, leading to correction in unsold inventory levels. Why such a sharp revival in housing demand? Only a brave few who looked at the housing sales data in Q2CY20 (a virtual washout) could have predicted such a sharp recovery by the end of the year. The pace of pick- Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 5
HOT PROPERTY up in housing sales has taken almost everyone by surprise. We attribute the sharp up move in sales to the following: Low mortgage rates: The current mortgage rate at ~7% is amongst the lowest in the past decade. This has boosted housing demand significantly as the gap between EMIs and rents has shrunk considerably. This has led to many fence sitters taking the plunge. SBI Home loan rate 15.0 13.0 11.0 (%) 9.0 7.0 5.0 Jan-07 Jan-18 Jan-05 Jan-06 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16 Jan-17 Jan-19 Jan-20 Jan-21 SBI Home loan rate Source: SBI, Edelweiss Research A combination of lower mortgage rates and stagnant house prices has meant significantly improved house affordability. There has been a sizeable improvement in affordability since 2013. Improving house affordability 7.0 6.0 Declining affordability House price to income ratio (x) Steady improvement 5.0 in affordability 4.0 3.0 2.0 1.0 0.0 1999 2017 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2018 2019 2020 House affordability Source: HDFC, Edelweiss Research Note: Affordability equals property price divided by annual income based on customer data of a large metro city The pattern has played out across all cities uniformly. A recent report by Knight Frank, which tracks affordability (defined as ratio of EMI to income), indicates that all major cities have witnessed significant improvement in affordability over the past decade. 6 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited
HOT PROPERTY Affordability has improved significantly over the past decade 100 93 EMI to income ratio (%) 80 61 60 53 51 48 47 45 46 38 39 40 31 30 28 26 26 24 20 0 Mumbai NCR Bengaluru Pune Chennai Hyderabad Kolkata Ahmedabad 2010 2015 2020 Source: Knight Frank, Edelweiss Research As per Knight Frank, an EMI/income ratio over 50% makes it difficult to secure home loans from banks and housing finance companies, making it unaffordable to purchase a house. Going by this yardstick, Mumbai remains the only major city where houses are still relatively ‘unaffordable’. In fact, except Mumbai and NCR, the ratio in all other cities is ~25-30% currently (compared to 40-50% a decade earlier), indicating the rising attractiveness for home buyers. Pent-up demand: Pent-up demand from H1 of the year has materialised now. Covid-19-induced factors: The pandemic accompanied by work-from-home (WFH) has led to consumers realising the importance of owning a house rather than renting one. Stamp duty cut: One of the biggest reasons behind the surge in sales in Mumbai and Pune is the decision of the Maharashtra government to reduce stamp duty from 5% to 2% in these cities till end December 2020; rates will be at 3% from January-March 2021. The state government had already reduced stamp duty from 6% to 5% for two years in Mumbai, MMR, Pune, Pimpri-Chinchwad and Nagpur. This means that consumers booking houses in Q4CY20 were paying just 2% stamp duty compared to 6% in Q4CY19. This was a significant sales driver. In fact, now the state government has slashed construction premiums related to on-going and new projects by 50% up to December 31, 2021 (refer to, Hot Property - Cut in premium: Bonanza for developers). We believe this will further boost housing sales. Price correction/attractive payment schemes: Spooked by covid-19 and the resultant crash in sales, many developers finally faced the situation and cut prices, especially in the luxury segment where unsold inventory levels were high. In addition, attractive payment schemes like deferred payment plans, subvention plans, etc., were offered to consumers. This also induced many homebuyers to take the plunge. Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 7
HOT PROPERTY Covid-19 forces a change in consumer behaviour…. By forcing consumers to remain cooped up inside their homes for months, the pandemic gave a ‘shock therapy’ to many people. This, coupled with WFH led to people looking at their housing needs in a totally new way. Suddenly, the need to have a bigger house with a designated ‘work area’, a balcony to unwind and the need to be around nature started dominating consumer lexicon. This has led to emergence of the following trends over the past few quarters: Preference for higher unit sizes: With many couples forced to WFH, the need for a bigger house was felt acutely. This led to demand for higher ticket sizes. Multiple reports have confirmed this trend: o As per Anarock, over the past few months, inquiries for larger homes in Bengaluru have increased up to 40% with consumers predominantly scouting for 3BHKs (average 1,800sft built-up area) against the previously- preferred 2BHKs. Similarly, in Noida and Ghaziabad, buyers are now looking for 3 or 4BHKs as opposed to the previously preferred 2BHKs. Those with lower budgets look for 2BHK + study (2.5) of around 1,200 sft of built-up area. o Data from PropEquity indicates that the share of houses with lower ticket sizes (as % of overall sales) has fallen in the current year compared to CY19; conversely, a higher proportion of larger ticket size houses are being sold. Higher ticket sizes preferred post covid-19 24.5 Proportion of overall sales (%) 23.1 21.7 20.3 18.9 17.5
HOT PROPERTY Consumers looking at higher ticket sizes post covid-19 100 Proportion of overall sales (%) 80 57 60 51 49 43 40 20 0 < INR 5 mn > INR 5 mn H2CY19 H2CY20 Source: PropEquity, Edelweiss Research A Magicbricks report indicated that searches for 4BHK properties doubled due to the pandemic and WFH. On a micro-level, Gurugram witnessed almost 73% individuals seeking properties that were 3BHKs or more. Luxury sales: Not only has the pandemic led to demand for bigger houses, consumers want more amenities too if they have to spend more time at home. This has led to higher demand for luxury homes, a segment which has been in the doldrums for the past few years. Since the segment was struggling with high unsold inventory, many developers finally took the plunge and cut prices post covid-19; this also boosted sales of luxury homes. Luxury unit sales have jumped post the pandemic 10.0 9.0 Proportion of overall sales (%) 8.0 7.0 6.0 5.0 INR 15-30 mn > INR 30 mn CY19 Jan-Oct 2020 Source: PropEquity, Edelweiss Research o Anarock indicated that luxury homes worth INR5bn were sold in October 2020 (up 230% YoY) in South-Central Mumbai. o Sunteck Realty’s sales in the Signia High project in Q2FY21 almost matched the cumulative sales in the project over FY15-20. o News reports also indicate that Oberoi Realty sold homes worth INR2.3bn in the last week of December 2020 (stamp duty rates were set to increase by 1% from January 2021) in the Worli project. As a matter of comparison, total bookings in the project in FY20 were of a similar amount. Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 9
HOT PROPERTY o The phenomena is not restricted to Mumbai. Media articles indicate that developers in Bengaluru and in NCR (DLF, Supertech, Central Park and M3M) have also witnessed greater demand for luxury products. DLF, in fact, has sold independent floors worth over INR3bn in Gurugram during the festive season. It had launched 88 residences in the form of premium independent floors (at a price point of INR37.5-42.5mn each), spread across 22 plots, in the DLF City Phase 3 in Gurugram and managed to sell them in a short time. Shift towards suburbs: While most wanted a home closer to office earlier, the growing prevalence of WFH and budgetary concerns (due to need for bigger homes) has led to many consumers being OK at looking houses in the suburbs. In some way, covid-19 has upended the trend towards reduction in apartment size and tepid sales in the luxury real estate segment, which was being witnessed for the past few years. It yet remains to be seen whether these changes are permanent in nature or will be forgotten once normalcy resumes. ….and further strengthens trend of industry consolidation Once the pandemic flexed its muscle and lockdown started, most developers were left scrambling to manage their cash flow situation. While smaller developers found it difficult to weather the ill effects of the pandemic, strong balance sheets enabled tier-1 developers to still achieve construction finance and launch projects. This led to strengthening of the trend of industry consolidation, which has been going on for the past few years. Share of organised developers in launches skyrocketed post covid-19 Share of top 10 developers in launches 100 89 80 71 69 60 (%) 44 38 40 31 28 26 16 18 20 13 12 9 6 0 MMR NCR Bengaluru Hyderabad Chennai Pune Kolkata CY11 CY19 CY20* Source: PropEquity, Edelweiss Research Note: * CY20 refers to January-October 2020 period The share of top-10 developers in launches in January-October 2020 was much higher compared to CY19. In fact, in NCR, Chennai and Kolkata, more than two-thirds of the overall launches were from top-10 developers. Something similar happened on the demand front as well. Concerns about survival of tier 2/3 players and funding availability meant that consumers flocked to tier 1/organised developers while buying houses. 10 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited
HOT PROPERTY Organised developers increased their share in demand in CY20 50 47 Share of top 10 developers in 38 39 40 37 absorption (%) 29 30 27 27 22 22 21 20 20 17 17 14 10 0 MMR NCR Bengaluru Hyderabad Chennai Pune Kolkata CY11 CY19 CY20* Source: PropEquity, Edelweiss Research Note: * CY20 refers to January-October 2020 period As a result, the share of organised developers in demand, which had already been increasing for the past few years, further rose in the current year. Market share of nine listed companies highest since FY14 700 18 Average ticket size (INR mn) Property sale value (INR bn) 560 15 420 12 280 9 140 6 0 3 1QFY13 2QFY13 3QFY13 4QFY13 1QFY14 2QFY14 3QFY14 4QFY14 1QFY15 2QFY15 3QFY15 4QFY15 1QFY16 2QFY16 3QFY16 4QFY16 1QFY17 2QFY17 3QFY17 4QFY17 1QFY18 2QFY18 3QFY18 4QFY18 1QFY19 2QFY19 3QFY19 4QFY19 1QFY20 2QFY20 3QFY20 4QFY20 1QFY21 2QFY21 Industry pre-sales Top 9 listed cos market share (RHS) Source: PropEquity, Company, Edelweiss Research While the share of nine listed companies in industry pre-sales rose to a high of ~18% in Q1FY21--highest since FY14—it declined to ~12% in Q2FY21--still second highest since FY14. Office space: Leasing picks up in Q4CY20… The covid-19 pandemic has led to significant uncertainty in the hitherto ‘stable’ office segment. The economic uncertainty due to the pandemic and WFH led to collapse in office space demand in Q2CY20. Since then, though leasing has been recovering, it remains far lower than the peak witnessed in CY19. As per JLL, office demand in Q4CY20 came in at 8.27msf, up 52% QoQ. Except Bengaluru, all other major cities witnessed improvement in net absorption during the quarter. While IT/ITeS continued to contribute a lion’s share of leasing, sectors such as e-commerce, healthcare and FMCG are also driving demand. Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 11
HOT PROPERTY Hyderabad topped the absorption charts during the quarter; the city, along with Bengaluru, accounted for more than half of the net absorption during the quarter. Despite the pick up in demand, leasing during the quarter was down 40% YoY. Office space demand and supply ramped up in Q4CY20 15 12 9 (msf) 6 3 0 Q1CY18 Q2CY18 Q3CY18 Q4CY18 Q1CY19 Q2CY19 Q3CY19 Q4CY19 Q1CY20 Q2CY20 Q3CY20 Q4CY20 Supply Demand Source: JLL, Edelweiss Research As far as supply is concerned, new completions during Q4CY20 came in at 12.8msf, up 39% QoQ. Tech-dominated cities of Hyderabad, Bengaluru and Chennai contributed more than 70% of the completions during the quarter. Like demand, supply too was down 18% YoY during the quarter. As always, technology sector contributed the largest quantum to office leasing. Despite headwinds, the co-working segment maintained its share in overall office leasing. Manufacturing’s share, on the other hand, rose YoY in H2CY20. H2CY19 demand break down H2CY20 absorption break down Other BFSI Other services 16% services 22% 18% BFSI 16% Co-working 10% Co-working 10% ITeS 40% Manufactur ing 12% Manufactur ITeS ing 41% 15% Source: Knight Frank, Edelweiss Research Source: Knight Frank, Edelweiss Research …however, much more is needed India’s office space witnessed leasing of ~26msf in CY20. While this was down 44% compared to the peak of 46msf in CY19, it was lower by just 19% compared to the average demand during CY16-18. Considering that Q2CY20 was a virtual washout, this is not too bad. 12 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited
HOT PROPERTY While pandemic landed a hard blow in CY20, not all is lost 55 20 44 16 33 12 Vacancy (%) (msf) 22 8 11 4 0 0 CY11 CY12 CY13 CY14 CY15 CY16 CY17 CY18 CY19 CY20 CY21E Supply Demand Vacancy levels (RHS) Source: JLL, Edelweiss Research As far as supply is concerned, CY20 chimed in with 36msf, down 30% YoY. This was about 9% higher than the average supply during the CY16-18, highlighting the disproportionate impact of covid-19 on demand compared to supply. With supply outstripping demand, vacancy levels rose for the first time since CY13; vacancies rose ~120bps YoY to 14% at CY20 end. The way ahead We believe office leasing will pick up gradually as employees return to office in a significant way (likely in H2CY21) and leasing decisions (which have been put on hold for the past few quarters) are revisited. The impact of WFH and the changed economic realities are some of the issues that office demand will have to contend with. Simultaneously, a part of the upcoming supply has also been deferred as some developers face funding crunch, while others have reworked their plans due to economic uncertainties. JLL estimates ~38-40msf supply and ~32-35msf demand in CY21. This will be at par or slightly higher than the average annual net absorption during C16-18. Thus, office supply will continue to eclipse demand in CY21, leading to increase in vacancies going ahead. The good thing is that the healthy performance during CY14-19 has ensured that vacancies still remain manageable, especially in tech-dominated cities. Bengaluru and Pune, for example, still enjoy single digit vacancy levels. Over the longer run, we believe the negative impact of WFH will be more than compensated by de-densification and higher demand from industries like technology, e-commerce, data centres, etc. This, coupled with the high degree of consolidation in the Indian office space, means that the end of the upcycle is still far away, in our view. Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 13
HOT PROPERTY Retail space: Recovering fast after a hard knock The retail space was the hardest hit due to covid-19. While office developers continue to get 95% plus rents despite WFH, closure of malls during the lockdown dealt a knock-out blow to retailers and retail realty developers alike. The Indian retail segment is estimated to have suffered a loss of INR900bn during April-June 2020, as per the Shopping Centres Association of India (SCAI). Mall developers too bore the brunt as they were forced to give rent waivers/deferments to retailers struggling to stay afloat. However, the past couple of months and especially the festive season have witnessed handsome recovery in consumption. Footfalls have increased significantly and conversion ratios have surged (90% post-covid-19 versus 20-40% pre-covid-19). For e.g., for Phoenix Mills (PML), consumption in malls in November 2020 was 65- 99% of the November 2019 figure. PML--Rising consumption trend a positive 100 80 60 (%) 40 20 0 HSP & PMC Bangalore PMC Pune PMC Mumbai PMC Chennai & Palladium Palladium Jun-20 Jul-20 Aug-20 Sep-20 Oct-20 Nov-20 Source: Company, Edelweiss Research Note: Consumption (%) in a particular month is reflected as a proportion of consumption in the corresponding month in 2019. Note: November 2020 data reflects first four weeks of the month. Note: HSP & Palladium were operational for 27 days in August 2020. PMC Bangalore was open for 23 days and 21 days in June 2020 and July 2020 respectively. PMC Pune was operational for 27 days in August 2020. Note: All data on like-to-like basis PML also reported that consumption across its retail portfolio in Q3FY21 was up 192% QoQ and ~66% YoY of Q3FY20 level. Consumption in December 2020 was flat MoM and ~70% of December 2019. We believe rising consumption is definitely a significant positive for retailers and will bring buoyancy back into the retail space soon. Pandemic hastens consolidation in retail space The pandemic has led to significant amount of pain for the retail realty sector as it has forced many retailers to shut shop. As per Anarock, vacancies at malls in NCR, Pune, Bengaluru, Chennai and Hyderabad have risen 50-530bps YoY (Mumbai is the only exception since it has seen malls vacancy decline by 390bps YoY). 14 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited
HOT PROPERTY This despite reduction in rentals by mall owners. While many mall developers expect vacancies to reach pre-covid-19 levels by March 2021, we have our doubts. With liquidity continuing to be a challenge for upcoming malls, we believe the retail realty space is set for a significant consolidation with weaker players likely to exit the market and stronger ones expanding their portfolio through acquisitions. We have already witnessed significant reduction in supply in the retail space. Prior to the covid-19-induced lockdown in March, Anarock had estimated addition of ~54 new malls in 2020 spread over nearly 22.2msf. Of this, while the top-7 cities were to see new supply of nearly 35 malls spread over ~14.6msf, tier 2/3 cities were to witness new supply of 19 new malls spanning 7.6msf. Mall completion timelines have been deferred post covid-19 16 13 10 (msf) 6 3 0 CY20E (pre- CY09 CY10 CY11 CY12 CY13 CY14 CY15 CY16 CY17 CY18 CY19 CY20 (post-covid) CY21E covid) New completions Net absorption Source: Anarock, Edelweiss Research Note: Data for top seven cities However, due to the pandemic, most new completions have been deferred (to 2021 and beyond) and leasing activity delayed by developers. Major Indian cities added just five new malls spanning 2.75msf in 2020 with malls becoming operational in Gurugram, Delhi, Lucknow and Bengaluru during the year. Anarock now expects 14 new malls spanning 5.9msf to be completed by CY21-end; fit-outs are underway in at least 10 of them. These will include: Mumbai: Six new malls spanning 1.65msf. Bengaluru: At least three new malls spanning over 1.4msf. Lucknow: Launch of two new malls spanning over 1.15msf. Hyderabad: One new mall covering more than 0.2msf. Thiruvananthapuram (Kerala): One new mall spread over 1.1msf. Rourkela (Odisha): One new mall covering almost 0.35msf. We believe funding constraints will mean that concerns about future supply will continue to linger. Also, loss of business due to the pandemic and the change in contractual agreements (with higher contribution from revenue share and less from minimum guaranteed revenues) mean that some of the existing mall owners will continue to face difficulties. Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 15
HOT PROPERTY In such a scenario, consolidation in the retail space will accelerate going ahead. Experienced players like PML are likely to use their strong financial position to take advantage of the acquisition opportunities available in a stressed environment. Funding scenario too aiding consolidation The volatility throughout the year brought a lot of challenges for lenders to realty developers. From worries about a new set of NPAs and loan moratorium due to the pandemic to price wars amongst lenders for home loans, 2020 saw it all. While the year witnessed a few developments that were positive for realty developers, other developments made their life tough. We take a look at major developments during the year: Positive developments: SBI launched a Residential Builder Finance with Buyer Guarantee (RBBG) scheme, which will issue a guarantee of completion for select residential projects to its home loan customers. Stressed realty fund brings certain projects to completion stage: The fund has cleared investments worth more than INR132bn for 136 projects, and has started deploying funds across 36 projects. As per news reports, two such projects are nearing completion, while seven are likely to reach the milestone in H2CY21. RBI permitted the extension of date of commencement of commercial operations (DCCO) of project loans for commercial real estate, delayed for reasons beyond promoters’ control, by another year. As per Propstack, this is likely to have benefited ~USD6bn (INR419bn) of loans whose moratorium period was coming to an end in 2020. To counter the ill effects of the pandemic, RBI allowed a moratorium of six months on payment of instalments in respect of all term loans outstanding as on March 1, 2020. The central bank also allowed banks to go for one-time restructuring of loans that were facing covid-19 stress without classifying them as NPAs. RBI rationalised risk weights on home loans and linked them to LTV ratios only for all new housing loans sanctioned up to March 31, 2022. It allowed banks to restructure loans to realty companies on the basis of the project and not the developer. Negative developments: Loan sanctions to realty developers continue to trend down: The number of loans sanctioned to realty developers has been declining continuously over the past few years. The trend continued in CY20 with the number of sanctions falling 35% YoY in 9mCY20. 16 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited
HOT PROPERTY Loan sanctions to RE developers have been falling 35% decline in loan sanctions in 9mCY20 1,700 225 1506 1470 196 198 1,360 180 170 1142 158 1043 1,020 135 117 (x) (x) 641 91 680 90 366 340 45 0 0 Q1 Q2 Q3 CY15 CY16 CY17 CY18 CY19 9mCY20 Number of loans sanctioned CY19 CY20 Source: Propstack, Edelweiss Research Source: Propstack, Edelweiss Research Lenders seek higher security, receivables cover for realty developers’ funding: Despite the positive developments listed above, fund availability to tier 2/3 developers remained tight largely due to the risk perception about the realty industry. A Propstack analysis indicated the divergence in treatment of tier 1 and tier 2/3 developers by lenders. For e.g., o The security cover for large loans (>INR5bn) is 1.48x, which is at a 20% discount to average security cover of INR0-500mn loans (which is at 1.79x). Large loans are typically taken by tier-1 developers and hence attract lower risk weight. Higher security cover asked in CY20 Higher security cover for smaller loans 2.0 2.0 1.79 1.8 1.71 1.8 1.63 1.62 1.66 1.6 1.61 1.62 1.48 1.58 1.55 (x) 1.6 1.4 (x) 1.2 1.4 1.0 INR 5 bn plus INR 0-500mn INR 500-1000 mn INR 1.0-2.5 bn INR 2.5-5.0bn 1.2 1.0 CY16 CY17 CY18 CY19 CY20 Security cover asked by lenders Security cover asked by lenders Source: Propstack, Edelweiss Research Source: Propstack, Edelweiss Research Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 17
HOT PROPERTY Higher security cover for loans with higher interest Higher security cover for smaller tenure loans 2.0 2.2 2.1 1.86 1.8 2.0 1.69 1.8 1.68 1.64 (x) (x) 1.6 1.5 1.44 1.6 1.55 1.4 1.4 1.2 1.2 > 60 months 15%), which are normally charged in the case of tier 2/3 developers, the security cover is 1.86x, which is at a premium of 30% plus over loans at interest rates of
HOT PROPERTY Overall interest declined by 60bps in CY20 Interest on term loans declined by 100bps in CY20 15 13.8 15 13 12.6 12.6 12.6 13 11.7 11.6 11.8 11.6 11.6 11.3 11.0 11.0 11 (%) (%) 11 10.3 9.7 10.2 9.2 9 9 7 7 5 All Term loan LRD Debenture 5 NBFC All Bank HFC CY19 CY20 CY19 CY20 Source: Propstack, Edelweiss Research Source: Propstack, Edelweiss Research Historically, P/E multiples of realty companies have had a negative correlation with interest rates. This is because declining interest rates are not only accompanied by an improvement in profitability, but also have the potential to fuel higher demand from end users. In addition, lower cost of capital boosts rental asset valuation. As a result, a lower interest rate regime historically led to outperformance of realty stocks. BSE realty index P/E trajectory with respect to RBI repo rate 50 10.0 40 8.0 30 6.0 (x) (%) 20 4.0 10 2.0 0 0.0 Jul-20 Jul-08 Jul-09 Jul-10 Jul-11 Jul-12 Jul-13 Jul-14 Jul-15 Jul-16 Jul-17 Jul-18 Jul-19 Jan-13 Jan-08 Jan-09 Jan-10 Jan-11 Jan-12 Jan-14 Jan-15 Jan-16 Jan-17 Jan-18 Jan-19 Jan-20 Jan-21 BSE Realty Index P/E Repo Rate (RHS) Source: Bloomberg, Edelweiss Research With interest rates likely to remain soft in the near term, we believe support to valuations of realty companies will continue. CY21 outlook: A lot to look forward to We believe CY21 will a year of growth and gradual improvement for companies in our coverage. While the housing segment will continue to clock good volumes, commercial and retail segments will continue to recover and likely reach normalcy by the year end. We foresee consolidation in the realty space in favour of organised developers to gather pace; rising capital intensity of the business, credit crunch and focus on execution are likely to aid developers with strong balance sheets and established Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited 19
HOT PROPERTY brands. Developers with robust balance sheets will also benefit from attractive business development opportunities. Overall, we expect stronger players to gain market share going ahead. Resumption of normalcy leads to revision in target prices Keeping in mind the anticipated recovery in CY21, we are increasing our pre-sales growth assumptions for our coverage companies. The overall risk-on in the market compels us to reduce NAV discount and WACC as well. We had already increased target price for Sobha when it reported its operational numbers for Q3FY21. The changes for the rest of the companies are given below: Target prices revised for coverage stocks Current valuation framework Proposed valuation framework TP Company RECO CMP (INR) Upside WACC (%) Discount to NAV (%) WACC (%) Discount to NAV (%) (INR) (%) DLF BUY 246 12.0 15 11.0 5 310 26.0 Godrej HOLD 1,472 11.0 0 10.0 0 1,500 1.9 Properties Oberoi Realty HOLD 585 12.0 15 11.0 5 639 9.2 Sunteck Realty BUY 370 12.0 10 11.0 0 463 24.9 Brigade BUY 269 12.0 20 12.0 15 355 32.1 Source: Edelweiss Research While the entire realty pack has witnessed a sharp price uptick over the past quarter, we still believe realty stocks are attractive from a medium-term perspective considering rising consolidation. With investors getting increasingly confident about housing sales trajectory, we believe the next leg of re-rating can come when leasing and consumption normalise in the office and retail space, respectively. Hence, we prefer DLF and Brigade Enterprises. We downgrade Godrej Properties from ‘BUY’ to ‘HOLD’ primarily because of its rich valuations. We continue to like the company’s operating model and believe it will be amongst the biggest beneficiaries of industry consolidation. Indeed the company has performed exceedingly well as far as geographical diversification, market share gains and sales growth are concerned. We believe its success story will continue and expect healthy pre-sales growth going ahead. However, the recent run-up in the stock price leaves little on the table as an upside. 20 Edelweiss Research is also available on www.edelweissresearch.com, Bloomberg - EDEL, Thomson Reuters, and Factset Edelweiss Securities Limited
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