Maintain BUY on Sobha - A smooth ride with few bumps - HDFC Securities

Mr. Parikshit D Kandpal, Institutional Research Analyst, HDFC Securities.

(TP Rs 348, CMP Rs 218, MCap Rs 21bn)

Sobha Developers Limited's (SDL) FY20 annual report is more an annual ritual with clear cut disclosures and conservative treatment of real estate sales. The pre-sales for FY20 remained flattish at 4.1mn sqft. A few yellow flags do require further clarity in (1) SEBI emails seeking clarifications on certain business transactions done in earlier years (SDL has mentioned no adverse financial impact of it) and (2) related party dealings with promoter entity Sobha Projects and Trade Pvt Ltd. SDL, with a strong brand positioning, robust unused bank limits (Rs 15bn), and premium positioning in the residential segment, is well-placed to ride the COVID headwinds. We maintain BUY with a target price of Rs 348/sh.

Land capex worsened an already-negative FCF: Sobha incurred Rs 2,913mn on capex, a large part of which (Rs 1,900mn) went towards acquiring land and building in Bengaluru for future expansion. This is a one-off investment. Of the balance, Rs 420mn was employed for St. Marks property (property completed now with no more capex) and Rs 600mn towards plant machinery and scaffolding. Besides this, the outgo on dividend stood at Rs 800mn. The total outgo on capex and dividend of Rs 3.8bn was part-funded by a debt increase of Rs 3.3bn. During FY21E, SDL may not incur a significant capex on land acquisitions.

Yellow flags on SEBI email and related party transactions with promoter entity: During FY19/20/21, SDL received emails from SEBI, enquiring about certain transactions entered into by the group in earlier years. The board had sought contracts and documents for verification on any possible irregularities in the business/accounting of these transactions. SDL has responded to SEBI promptly and is pursuing the recovery of receivables and balances from the parties involved. The company also believes it has not given any undue favour and does not expect any adverse financial impact of the same. Besides, SDL has a business dealing with promoter entity Sobha Project and Trade Pvt Ltd, which is into fire and safety equipment. The later executes fire safety/piping products/civil contracts for other developers, sometimes back-to-back subcontracted to SDL. SDL also purchases goods from Sobha Trade for own or other subcontracts. We need more clarity on how the two entities determine the pricing.

Focus on improving liquidity: Consolidated gross debt increased to Rs 31.1bn (vs Rs 26bn YoY), with Rs 0.9bn in cash. This resulted in net D/E increasing to 1.24x (vs. 1.1x YoY), falling short of the target of 1.2x at FY20 end. With no major capex anticipated on commercial assets build out or land acquisitions, SDL wants to reduce the net D/E ratio to 1.1x in FY21E. The company is likely to defer residual land payments to conserve cash.

Shares of Sobha Limited was last trading in BSE at Rs.215.65 as compared to the previous close of Rs. 210.55. The total number of shares traded during the day was 5027 in over 312 trades.

The stock hit an intraday high of Rs. 218.5 and intraday low of 211.1. The net turnover during the day was Rs. 1078702.

Source : Equity Bulls

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