Company Name – Sobha Limited (Sobha) Current Share Price – INR 456 (April 24, 2022) Market Cap – INR 4,324 cr |
1. What is interesting about the stock?
Bangalore, the Silicon Valley of India, is the 2nd fastest growing metropolis in India. It was also named the most livable metro city in India in 2020. The city alone accounts for 38% of India’s IT exports, making it the land of aspirations for the vast number of engineering graduates churned out each year by the Indian educational system.
It is also the startup hub that has seen the rise to prominence of many famous start-ups like Swiggy, Ola, Redbus, etc. Many MNCs also have their offices and manufacturing plants in and near the city including Bosch, Mercedes Benz, Volvo, GM, L&T, Honda, ABB, HAL, Dell, Nokia, Wistron, and many others.
All this translates to a massive population influx into the city, giving rise to many big real estate companies in Bangalore including Brigade Enterprises, Prestige Estates, Sobha, and others.
Sobha Limited is one of the largest real estate developers based out of Bangalore. The Company has developed projects and real estate totaling 124 million sq feet as of December 2022. It has expanded its presence to 27 cities in 14 states including Kozhikode, Chennai, Cochin, Coimbatore, Gurugram, Mysuru, Pune, and Thrissur.
But unlike other real estate developers in the country, Sobha also boasts of a very strong project execution capability and enviable track record which has also seen the company develop over 160 real estate projects and many landmark external projects including the corporate houses of Infosys, WIPRO, HCL, Dell, Bosch, Biocon, Taj Group of Hotels and ITC Hotels.
So, what is it that sets Sobha apart from the rest of the pack and has so many big brand names trust this developer with the monumental project of making their headquarters?
The X Factor for Sobha lies in their backward integration model. This was also the subject of a famous Harvard Business School case study which was dedicated to its success.
This business model not only helps the company save on costs and procurement but also helps ensure the quality of all the products that it uses in its projects. Starting from design, architecture, concrete blocks, woodwork, or metal works, all elements are done using products made by Sobha itself.
The Company has 2 main revenue divisions which are:
Real Estate: Including sales of housing and leasing of commercial property (81% of 9MFY23 revenues)
Contract manufacturing and project execution: Development of external projects and the making of products for interiors, glazing and metal works, and concrete products (19% of 9MFY23 revenues)
Sobha has an inventory visibility of 23.3 million sq ft.
Strong demand for Company's homes led to incremental price hikes. Bengaluru and NCR market has seen significant buyer interest over the last year. The average price realization for 9M-FY23 is INR 8,951 per sq ft, up by 16% over the comparable period.
Industry Overview
The real estate sector in India is expected to grow 5 times in the coming decade from a market size of USD 200 billion in 2021 to USD 1 trillion by 2030 according to IBEF. The sector is expected to contribute 13% of the total GDP of India by 2025.
Several factors are expected to facilitate the rise of the industry including:
Rising income and favorable demographics
Rapid urbanization
Affordable housing policies by the Govt
Access to easy financing
Rising investments from both domestic and foreign investors in the sector
The 2 direct competitors of Sobha with a major presence in Bangalore are:
Prestige Estates
Brigade Enterprises
Key MOATs
The biggest advantage for Sobha is its backward integrated business model which provides it with many advantages like control over the quality of products, minimizing procurement risks, and enabling them to act as a one-stop solution for developing real estate projects. This strength was demonstrated very well during the pandemic when supply crunches had rocked the industry, but Sobha was faring much better than its competitors as it had direct access to all the building materials it required to complete its projects. This has also resulted in them being a preferred choice for contract development of real estate for many companies in Bangalore.
The 2nd big advantage of the company is that around 75% of its customers are salaried professionals which is a massive advantage in terms of collections. Most of these professionals are from the IT sector and thus the demand for Sobha’s homes is somewhat shielded from the impact of the traditional real estate cycles due to constant and rising demand from this demographic.
The Company’s manufacturing business also provides it with a separate revenue source reducing its dependence on selling its real estate units which take a long time to generate a return on investment.
2. Key Historical Financials
In terms of historic performance, the company has seen a 4% sales CAGR in the past 5 years while growing PAT at a -10% CAGR in the same period. The Company has seen a sharp EBITDA margin drop in 9MFY23 due to contractual projects where they were not able to pass the increase in cost due to COVID-19. Management expects this to continue in Q4FY23 and reversion to higher margins in FY24.
3. What is my view on company valuation?
Sobha's share price has fallen ~15% over the last 5 years vs a 35% increase in the NSE Realty Index over the same period. This shows that the company has underperformed.
But its direct rivals Brigade Enterprises and Prestige Estates have shown good performance in the same period with Brigade registering a growth of ~160% and ~60% respectively in the last 5 years.
Based on Ind accounting standard 115, the Company is passing notional interest on the customer advances as part of the interest cost leading to depressed earnings and hence higher P/E multiples. Thus using PE to judge valuations of real estate players who are doing the above is not justifiable.
In terms of EV/EBITDA, Sobha is trading at close to 11.1x vs. 15.2x of Brigade, & 11.5x of Prestige.
The Company’s growth is expected to come slowly and steadily as the real estate sector comes back to pre-covid levels. But given the strong demand for homes in the markets that the company operates in especially Bangalore, & the policy support and easy financing for the housing sector, Sobha can be expected to maintain a decent growth rate of 12-15% CAGR near the projected industry CAGR of 15-17% projected by IEBF.
Sobha looks interesting for the long term and investors could evaluate investing in the stock.
4. What are the risks to the investment analysis?
Risks to the analysis are:
The Company’s operations are largely concentrated around Bangalore where ~80% of their revenues come from. Thus, the company is vulnerable to any local-level disruption risks arising from political disruptions, natural disasters, and real estate cycles in the area.
The continued rise of Bangalore’s economy and real estate market has attracted a lot of competition for Sobha with all national real estates players like DLF, Oberoi, Godrej Properties, and others expanding their Bangalore operations to get a slice of this steadily expanding pie.
The real estate industry has a big payback period and thus large amounts of capital are always stuck in projects for long amounts of time. Any external delays and disruptions can increase the payback period, putting additional strain on the company’s capital.
About the Author
I am a lifelong learner and relish the chance to always learn something new.
Disclosure
I have had no stock, option, or similar derivative position in any of the companies mentioned in the last 30 days, and shall not initiate any such positions within the next 5 days. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from SocInvest). I have no business relationship with any company whose stock is mentioned in this article.
I am not a SEBI registered advisor. This article is purely for educational purposes and is not to be construed as investment advice. Please consult your financial advisor before acting on it.
I have used publicly available information while writing this article.