CMP: Rs. 98.65              Recommendation: Sell

Background

Unitech, country’s second-largest listed developer has presence in major cities across the National Capital Region (NCR) , Mumbai, Chennai and Kolkata  with a diversified land bank at a low cost.  This has enabled the company to offer a wide variety of products such as plots and a range of low cost to luxury housing. However, the company’s primarily focusing on the affordable housing segment in the backdrop of a recessionary trend.

The company was recently in the news as the government approved Telenor's  (Norwegian Telecom Company) proposal to increase its stake in the joint venture, Unitech Wireless to 74 per cent.

Analyst’s Note

Of the total 30 million square feet (msf) of ongoing projects to be delivered by the company over the next 3 years, its past projects account for 73 per cent  or over 22.3 msf. The company has already delivered almost 5 msf  by September 2009 and is now focusing on  delivering the balance  (past projects) by FY11.

Further, in the commercial segment, the company plans to focus on a sales model rather than a lease model.

However one would do well to note that the demand for commercial as well as residential property has still not picked up as anticipated. Further the expectation that property prices could fall as low cost projects are on its way have also led the buyers to defer their investments.  Moreover, despite sharp correction in the property prices, it still remains significantly higher.

Further there is high execution risk attached as there has already been a delay in the number of project initiated by the company. The development at new projects is yet to commence for which the company is known to have already taken advances in the range of 5 – 10 per cent from the perspective buyers.  With input costs steadily rising, large scale delays can affect overall profitability. Notably there is not enough clarity on the new project developments and as a result, the risk of cancellation is aggravated.

The total outstanding debt increased from Rs 85,500 million as on March 2008 to Rs  90,558 million as on 31 March 2009. However the company paid off part of its debt by funding the same from the QIP issue and sale of assets. The company had raised over Rs 45,000 million from the QIP issue but only utilized less than half of the amount towards the repayment of loans. The balance is supposed to be utilized to meet the working capital requirement. 

Gross debt now aggregates to ~ Rs 68,500 million and the debt to equity ratio stands at 0.45 x. The quantum of debt on the books, its interest burden and the equity dilution due to the QIP issue may continue to suppress the Earnings per Share.

Overall, though most real estate companies have witnessed an uptick in sales and volumes, much of it can be attributed to demand from low cost housing projects as well as fall in the property prices. Going forwards, most realty companies are expected to register a satisfactory topline growth but the bottomline may not witness as sharper jump as margins are likely to come down offsetting the gains from the reduced interest cost on account of repayment of bulk loans.

Lastly, real estate management have shown lack of transparency by using dubious accounting practices which continues to act as an overhang across the sector stocks.

Investment Argument

The share price of the company has gained more than 400 per cent as it rose from the low of  Rs  22  to above Rs 100 in less than a year. At the current market price, the stock trades at a P/E of 22 times  and a Price to Book Value of  almost 4 times. The valuations if not stretched appears to be rich. One would thus do well to exit on sharp upmoves as for now, a significant upside seems capped.