Key Takeaways

Existing projects of Ashok Towers (Parel), Ashok Gardens (Sewree), Peninsula Technopak (Kurla) and Peninsula Business Park (Dawn Mills, Lower Parel) are on schedule.

Future projects include its 3 SEZ projects in Goa, 2 projects in Pune and 2 in Nashik, all expected to break ground by June 2008. Peninsula also plans to enter cities like Chennai, Coimbatore, Bangalore, Mysore, Hyderabad and Ahmedabad.

Peninsula shall continue to focus on an asset light business model, as is evident from its real estate fund plans. Peninsula shall co-invest (25%) along with the fund in all future projects, once the fund is closed (expected by March 2008).

Possible Dilution:

As per our calculations, Peninsula will need to raise approx Rs 5-7billion to co-invest with the fund, as well as for executing its larger SEZ and township projects.

Outlook

We believe the company is a high quality real estate player in Mumbai with a strong focus on the commercial segment. At CMP of Rs 587, the stock trades at a discount of approx 8% to our NAV of Rs 637*. We maintain a sector Outperformer rating and our sum-of-parts price target at Rs 719.

Real estate fund Fund size:

Domestic: Rs 3.5-4.0billion; Offshore: USD 325-350million

Investment strategy:

West & South India–projects with an IRR >25%

Alignment of interests with Peninsula:

Peninsula Land will not buy land independent of the fund. It will coinvest with the fund up to 25% Co-investment at the same time and at same terms and conditions No existing project of Peninsula to be transferred to the fund

Revenue streams for Peninsula

Fund to have a 2-20% (fee-carry) structure, with Peninsula having a 76% stake in the investment management company. Peninsula to provide project and facility management @approx 5-7% of revenue

Valuations Sum of parts approach:

We believe a sum-of-parts approach is most appropriate to valuing real estate in India currently. This approach gives due weightage to the execution ability of a company, a key factor in gauging the performance of developers. The key components of our methodology are:

1) Land bank value: Current market value on a post tax basis, after conversion to commercial use

2) Conversion margin: Margin enjoyed from undertaking the core activity of construction, development and selling (does not include land gains),

3) Leased income: Valued on a 9% rent capitalization basis.

The mortgage business still offers tremendous potential

• Mortgages remain under penetrated despite having moved up to 9% of GDP against approx 2%, five years back
• Banks have started going slow on the mortgage business, which will help HDFC
• Affordability far better – Average Cost of house to Annual Gross Income is at approx 5x against 15-20x, 10 years back

HDFC offers the best mix of growth, quality and returns

• CAGR in loan disbursements of 29% in the last ten years and 42% since inception
• Gross NPAs at approx 1% for last 10 years, net NPAs nil. Net Loan loan loss since inception at 5bps
• ROE almost doubled from 16% in FY97 to an estimated 31% in FY07

No pressure seen on growth or profitability, despite rising interest rates

• Asset-liability management among the best in the financial sector
• Spreads likely to be maintained at greater than 2%, incremental funding more benign now
• LTV of 63% and EMI to MGI of just 20-25%, makes HDFC less vulnerable against rising interest rates
• Post dilution, ROE will still be high at 25% in FY08 and 23% in FY09. FCCB likely to be converted only by 2010

Value of investments estimated at Rs 826 p/s

Life insurance business likely to grow at 55-60% for next 2 years, where HDFC has approx 82% stake (51% economic stake)

Value of Life Insurance business estimated at USD 3.3billion – Rs 311 p/s for HDFC

Net of the value of investments, HDFC quotes at 3.2x FY09E BV and 13.2x FY09E earnings

Maintaining sector Outperformer with a price target of Rs 2,406

On its plotted course

Sobha Developers Ltd (Sobha) declared revenues of Rs 2.7 billion (up 30% YoY), EBITDA of Rs 0.7 billion (up 90% YoY) and PAT of Rs 0.4 billion (up 141% YoY) for Q1FY08. Income from real estate (own development) was Rs 1.5 billion (up 48% YoY), while the company’s contractual business resulted in revenues of Rs 0.9 billion (up 25% YoY). Operating margins for the company stood at 25% as against 17% in Q1F07 due to a higher contribution from its real estate business. Sobha’s land reserves now stand at a total of 3,574 acres with an average land cost of Rs 142/ psf.

Q1FY07 Highlights:

During the quarter, 13 projects (incl. 2 projects of 0.36 million sq. ft. that crossed the 25% threshold this quarter) contributed to revenues. Further, Sobha also received approvals for 3 residential projects totaling 0.6 million sq. ft., which will be launched shortly.

Sobha currently has 10 projects (3.86mn sq. ft.) under construction, which shall cross the 25% threshold in FY08E.

During the quarter, Sobha also launched Phase I of its 1st integrated township in Thrissur, Kerala totaling 3.5 million sq. ft. (57 acres) with an estimated investment of Rs 8.5 billion.

Sobha currently has 34 ongoing contractual projects (of which 26 are for Infosys) totaling 8.69 million sq. ft. with a realizable value of Rs 8.2 billion; and has plans for an additional 16 projects (3.17 million) with an estimated realizable value of Rs 2.2 billion.

The company has also forayed into the home furnishing segment under the brand name “Sobha Lifestyle”, targeting a turnover of Rs 5 billion in 5 years.

Outlook

The real estate sector is fraught with lumpiness due to the percentage completion methodology adopted and hence quarterly results are not reflective of the full year revenues. Sobha intends to deliver and hand over 7 projects totaling 2 million sq. ft. by FY08. With 16 million sq. ft. (11 million real estate and 5 million contractual) under construction, we believe the company is on track to achieve our EPS of Rs 34.5 for FY08E. At CMP of Rs 797, the stock trades at a 15% discount to our NAV of Rs 935. We upgrade our rating to a sector Outperformer, while maintaining our sum-of-parts price target at Rs 907.

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