Unitech: Sell

Shareholders can exit the stock of real estate developer Unitech. While most players in the realty space have struggled to expand sales and profits since the 2008 slowdown, Unitech's journey was hampered by other factors as well.

Its pan-India approach of entering less tapped markets, avoidable diversions in the form of a telecom foray and a planned infrastructure arm have hurt the realty major. Slowing execution and resultant cash flow issues have also fed into each other.

At the current market price of Rs 29, the stock trades at 18 times its trailing consolidated earnings. The company has struggled to expand its profits for over eight quarters now. It may be a while before it delivers earnings growth that current valuations demand. Investors can use the recent market rally to cut losses on the stock. The stock has rallied 50 per cent since January 2012.

Bounce back but….

Unitech bounced back in style after the 2008 slowdown with two quick preferential equity offerings in 2009. It also monetised some of its assets to raise funds for projects.

While the company had already launched 22 million sq ft. of projects before FY-09, it added another 22 million sq ft within the next 18 months. It delivered a good chunk in the first half of FY-10, but execution slackened in pace since then, with only 13 million sq ft delivered post FY-09 till September 2011. In fact, in recent quarters, realty space delivered has been on a declining trend, with the September quarter seeing a dip below the average 1 million sq. ft a quarter managed earlier.

Slower execution means slower sales as revenue is recognised in proportion to project completion. Sales for FY-11 stood at Rs 3187 crore, over 20 per cent lower than peak sales in FY-08.

While Unitech expanded its sales marginally in the last two fiscals (profits declined over these periods), at the current run rate, it may a tough job to repeat such performance in FY-12.

Slower execution, besides sluggish sales, inflicts further damage in the form of cash crunch as payments from clients are also mostly linked to construction work. Dues from debtors were outstanding for close to 200 days in FY-11, far higher than most peers. DLF's debtor days, for instance, was about 65. Unitech's dues as of September 2011, too, suggest little improvement. Slower cash flow only accentuates execution delays thus forming a chain.

While Unitech's debt-equity ratio at a little less than 0.5 times, is not alarming, it cannot risk further leveraging, given the high interest cost servicing commitments.

Sluggish sales apart, a number of projects launched in the mid-sized segment, together with weak price trends in some markets, dented Unitech's EBITDA margins in the last few years.

From over 60 per cent margins even during the crisis of FY-09, EBITDA margins have steadily dwindled to less than 30 per cent. Margins of this level may per se not be bad, if accompanied by healthy sales volumes. However, sluggish sales, poor profitability and higher interest bill, all ate into net profits, which halved to Rs 584 crore in FY-11, from the crisis year of FY-09.

Lack of focus

Unitech began to lose focus in its core residential realty business in 2010, after it announced that it would hive off its infrastructure assets (including telecom) into a new business and possibly even list it.

Again, to improve its numbers, Unitech offered to buy the London AIM-listed leased assets holder, Unitech Corporate Parks (UCP), in which it has a total of 40 per cent holding through individual projects.

The offer price for the latter, though, was rejected by UCP's board. The company also recently announced that it has put its infrastructure plans on hold. It has thus been diversifying in the last two years without reaping much benefit from such plans. But failures on these fronts may have been a blessing in disguise, given the uncertainties in the telecom business and poor demand for leased space.

Now, the recent cancellation of 2G licences and refusal to subscribe to a proposed rights issue by its telecom partner, Telenor, are Unitech's new worries.

Telenor has announced a write-off of $721 million in its books for the goodwill and capitalised value of the licences that were cancelled, although it appears keen to continue business in India.

With over a third of stake in the telecom venture, what Unitech intends to do about its share of licence value is unclear. Given the uncertainties, we have not assigned value to this investment

These near-term worries and the slow progress of Unitech in getting its sales act right, may mean a long wait for investors. The market, meanwhile, may provide better and less risky opportunities.

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