Shareholders of real-estate developer Sobha Developers can hold the stock. The company has shown a visible improvement in its sales and earnings growth in the last two quarters of March and June 2012, compared with their year ago numbers.

Its established market presence in Bangalore, besides reasonably successful entry into the new market of Gurgaon have aided growth. Still, at 14 times its expected consolidated per share earnings for FY-13, the valuation is demanding, given that peers trade at low-single digits.

Significant scale-up in revenue in FY-13 and higher volume from real-estate development rather than land sales will be key to improved earnings and reasonable valuations. The company’s sales at Rs 1,408 crore in FY-12 are still marginally lower than its peak sales of Rs 1,431 crore in FY-08.

Net profit at Rs 210 crore is also 9 per cent lower than in FY-08. Revenue booked in FY-13 may be a tad low as the company is moving to a changed revenue recognition policy. It will now recognise revenue on 25 per cent completion of projects from 20 per cent earlier.

Land sale helps

While many listed realty players continue to languish in terms of sales and profit growth, Sobha Developers witnessed robust growth in the last two quarters. In the latest ended June quarter, its consolidated sales expanded by a sharp 56 per cent over a year ago, while net profits surged 73 per cent. But a fifth of the Rs 432 crore of sales in the quarter came from land sales.

Adjusting for land sale, earnings and profits expanded by 21 per cent and 35 per cent respectively.

Revenue from sale of properties will be crucial if the company has to achieve its FY-13 guidance of Rs 2,000 crore of sales, from selling 3.75 million sq. ft of developed space. The company has to achieve roughly 1 million sq. ft of sales in each of the next three quarters to meet its guidance.

Like many other realty players, Sobha Developers has been resorting to land sales to keep its cash flows coming. But land sales resulted in lower margins. EBITDA margins at 28 per cent in the June quarter is a good 10 percentage points lower compared with FY-12.

Improvements

But Sobha Developers has made improvements on many counts. One, the company has made successful inroads into new regions such as Gurgaon.

A good 15 per cent of the 0.84 million sq. ft. of sales in the June quarter came from this region. Also, better pricing in Gurgaon resulted in overall realisation increasing by a good 26 per cent over a year ago to Rs 5,737 a sq ft.

Two, its development sales-to-contract sales ratio improved to 77:23 in the June quarter from 65:35 in the last couple of quarters. Steady improvement in this ratio may help prop profit margins.

Sobha’s contract business revenue expanded by a marginal 5 per cent over a year ago. But the company is executing 9.2 million sq. ft of space under contract work.

Unlike other large developers, Sobha Developers also builds properties for other developers/companies on contract, besides developing and selling properties. While contract work is not a high-margin business, steady execution of work helps supplement cash flows.

While contract work will help cash flow, launch of new projects is also essential to receiving cash in the form of advances.

Sobha did not do too well on this count in the June quarter, launching just one project of 1.5 lakh sq ft. in Coimbatore. But the company has a target of 4 million sq. ft. of launches for FY-13.

Sobha Developers saw a marginal increase in its debt to Rs 1180 crore, mainly on account of a buying equity stake from a partner in a project in Kerala. Debt-equity ratio at 0.58 times, though, is not alarming.

But given that the cost of borrowing stood at an average 13.7 per cent, the company would do well to reduce debt.

It plans to bring down its gearing to 0.5 times by FY-13. Interest cost more than doubled in the June quarter over a year ago.

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