Emaar Economic City September 2013

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1 : or King Abdullah Economic City (KAEC) is one of the largest real estate development projects in Saudi Arabia. The city is located just 80km north of Jeddah and around 300Km from Medina. Covering an estimated area of 168mn sqm, roughly the size of Washington DC with a 35km shoreline. New recommendation Overweight 12-month price target; SAR13.07 Current Price: SAR Upside / (downside): 29.4% Industrial Valley to drive the economic growth: The industrial valley of KAEC is the cornerstone of the future economic development of the city and in macro view the Kingdom of Saudi Arabia. The industrial valley is being developed in 3 phases. Phase 1 planning is complete and construction is underway, with 17mn sqm earmarked for development. The industrial valley has so far been able to attract SAR9.1bn (SAR3.6bn binding) of investment by the local and the foreign companies, from wide source of industries like manufacturing, FMCG, Logistics, Industrial etc. Price Chart TASI - LHS Emaar (SAR) - RHS State-of-the-art Seaport integrated in the Industrial valley: King Abdullah seaport ultimately will be one of the largest seaport in the red sea region. The seaport traffic in the Red sea region has increased by at least 15% annually. The defining feature of the port is that it is embedded within the industrial zone, which will provide efficiencies in manufacturing and warehousing. The seaport will have an ultimate handling capacity of 20mn TEU (Twenty-foot equivalent unit ). Revenues to peak in 2015: The company s main source of revenue is its land sales from Industrial valley and residential and units sales. We believe in the next 4 years, the company is expected to see highest revenues in 2015, given that a multiple of residential project will be completed by the end of As revenue recognition is realized after 20% of the payment is made, we believe major chuck of residential units sales will be realized in Government Providing support: The government in order to diversify the economy has embarked on new projects that will help achieving a diversified profit pool. In order to achieve its target the government had lend SAR 5.0bn on soft terms to Emaar in Valuation: KAEC is strategically located in one of the strongest economies in the Middle East. It s location within Saudi Arabia near the Red sea gives it s a strategic importance which if utilized smartly can greatly enhance the value of the company we initiate our coverage on EEC with an Overweight stance with a 12-months price target of SAR13.07/share. Company Snapshot Jul Aug Sep Oct Nov Dec Jan-13 9-Feb Mar Apr May-13 9-Jun Jul-13 Key information Reuters code: 4220.SE Bloomberg code: EMAAR:AB Country: KSA Sector: Real Estate Development Primary Listing: Tadawul M-Cap: SAR 10,200 mn 52 Weeks H/L (SAR): / All figures in SAR mn F 2014F 2015F 2016F Revenue ,929 1,475 % Change in Revenues N/M * 34% 20% 47% 101% -24% Net income , % Change in Net income N/M * 129% -16% 125% 194% -17% ROE 1.1% 2.5% 2.1% 4.5% 11.6% 8.8% ROA 0.6% 1.4% 1.1% 2.4% 6.4% 5.5% PE PB EV/EBITDA Source: Company reports, Aljazira, * Not Meaningful 1 Senior Analyst Talha Nazar Analyst Jassim Al-Jubran

2 Valuations We have used the Discounted Cash Flow valuation to attain company s 12 month price target. Following are the key basic steps & assumptions we have assumed to value (EEC). 5-year forecasted cash flow Terminal value calculation based on Gordon Growth model Expected Terminal growth of 3% Using Capital Asset Pricing Model to calculate cost of equity. The calculation is based on the following variables Risk free rate of 2.7% based on 10 years US bond Yield of 2.0% + country risk premium of Saudi Arabia of 0.7% Equity Risk Premium of 10.45% Beta of 1.71 from Bloomberg We are using weighted Average Cost of Capital (WACC) for discounting the future FCF of the company, where the calculation of WACC is based on the following variables Cost of equity based on CAPM Cost of Debt at 3%, Contribution from equity and debt in EEC Capital structure is taken at 59% & 41%, respectively Using the above assumption, we arrived at DCF based value of SAR 13.07/share for the company. DCF APPROACH FCFF , ,487 Terminal Value (TV) 14,670 Discounted FCF , Discounted TV 8,406 FCF 11,780 Net Debt 670 FCFE 11,110 12months Price Target Sensitivity Analysis of DCF Growth WACC 11% 12% 13% 14% 15% 1.00% % % % %

3 Emaar-King Abdullah Economic City (KAEC) or King Abdullah Economic City (KAEC) is one of the largest real estate development project embarked by the government in order to broaden the scope of the Kingdom s economy. The city is located just 80km north of Jeddah and around 300Km from Medina. Covering an estimated area of 168mn sqm, roughly the size of Washington DC with a 35km shoreline, the city will feature a state of the art seaport with an estimated capacity of 20mn TEU (twenty-foot equivalent unit) annually. The city will feature a industrial valley covering 64.8mn sqm. MASTER PLAN OF ECC Industrial Zone The main features of KAEC include An industrial zone covering an area of 64.8mn sqm. The area will be able to accommodate around 2,500 manufacturers and logistic companies in a special economic zone A seaport covering an area of 14.0sqkm, with an ultimate handling capacity of 20mn TEU. The port aims be one of the top 20 container handling facilities in the world. A fully integrated 48sqkm residential zones, providing housing for all income groups. A 13.5sqkm central business district featuring high density living and commercial zone, featuring a financial island and a central park. A 27.0sqkm resorts area that will feature luxury villas, townhouses, seaside resorts & spa. A educational district covering an area of 5.0sqkm. Haramain Railway Speed Rail project, will connect KAEC with Jeddah, Makkah and Madina. MAJOR DEALS Company Name Etihad Etisalat (Mobily) Ministry of Petroleum SABIC Seaport Residential, Commercial, and Business Districts Details Source: SR600 million investment by Etihad Etisalat (Mobily) during the duration (8 year) of the contract to plan, deploy, maintain and operate the telecommunications network within KAEC Direct gas pipeline from Yanbu will be provided by the Ministry of Petroleum Sabic is looking to setup a steel factory in KAEC to produce 1mn tons of cold rolled steel and galvanised steel coils for use in the automotive, food and building materials industries as well as for household appliances. SABB Saudi Airlines Saudi Birtish Bank (SABB) will be the first bank to open a branch in KAEC. The Branch wil be operational in October The company has moved its data centre to KAEC The rationale behind economic city is fueled by the surging local population which has resulted in higher housing demand. Saudi Arabia currently has an housing shortfall of 1.2mn units, translating into 200,000 annual housing requirement. Along with that a median age of 26.7 in male populations sets up the kingdom in a situation where it has to cater to young family starters. KAEC sits perfectly in the kingdom s long term plan to diversify it economy as it tries to decrease it reliance on its natural resources. KAEC with its huge industrial and residential zone will not only provide the Kingdom with an opportunity to increase housing facilities and provide job opportunities, but it will also provide an opportunity to diversify its revenue resources. 3

4 Industrial Valley The industrial valley in KAEC is the cornerstone of the future economic development of the city and in macro view the Kingdom of Saudi Arabia. The industrial valley is being developed in 3 phases. Phase 1 planning is complete and construction is underway, with 17mn sqm earmarked for development. 90% of industrial land in phase 1a has been leased out. The tenants include 25 high profile companies like Sanofi, Pfizer, Almarai, Olayan, Johnson Controls, Panda, Abdul Latif Jameel etc. In Phase 2 KAEC will put up 12.76m sqm of land for lease. The phase has been already mastered planned and sales in well under way for 3m sqm of land, out of which 90% is already sold. According to the company more than 140 tenants have leased plots in the industrial valley to date. The industrial valley has so far been able to attract 9.1bn (SAR3.6bn binding) of investment by local and foreign companies, from wide source of industries like manufacturing, FMCG, Logistics, Industrial etc. We believe this investment will also help the Kingdom in alleviating the Kingdoms jobless rate, creating atleast 20,000 jobs in the first phase. The major attraction of the industrial Valley is its connection to the king Abdullah sea port and the km Haramain railway speed rail project which will make the Industrial valley land one of the most sought out property for future industrial development. Haramain Railway Speed Rail project The Harmain High Speed rail project is a 449.2km railways project that will connect the cities of Makkah, Madina, KAEC and Jeddah. The project is being developed at a cost of SAR 42bn. The project is land mark project, which shows the government s commitment to sustained economic growth. We believe the project will help KAEC in connecting to other regions of the kingdom, given that the government is looking to further expand its railway network, and the eventual plans of the connecting GCC through rail network will result in a wide market.as for now, the initial plans of connecting the holy cities with Jeddah and KAEC will not only help the pilgrim but it will also help in transporting cargo to these cities. King Abdullah Seaport KAEC King Abdullah seaport ultimately will be one of the biggest seaport in the Red Sea region. According to the company, the seaport traffic in the Red Sea region has increased by at least 15% annually. The current active seaport in Jeddah (Jeddah Islamic Port) is running above capacity which has resulted in long delays for the companies. Secondly due to over congestion in the Jeddah port the Kingdom is finding it difficult to capture new business. With King Abdullah Port in KAEC this can change as significant traffic from Source: Jeddah port will be moved towards K.A seaport. The defining feature of the port is that it is embedded within the industrial zone, which will provide efficiencies in manufacturing and warehousing. King Abdullah Seaport is expected to be fully completed by the end of It will be completed in 4 phases. The first phase has already been completed and the port has become operational. On completion the port will have a 20.0mn TEUs,10,000mn cargo terminal. EEC Timeline Construction work on Phase1 A&B of King Abdullah Seaport commences Phase 1 A to be completed by 4Q mn TEUs, 770mn Specifications: CONTAINER TERMINAL Quay & Yard: 10,270 metres / 5.4mnsqm Capacity: 20.0 million TEU p.a. Phase 1 B Additional berth,700mn container berth Phase 1C, 4.0mn TEUs, 700mn additional cargo terminal Phase 1D 10.0mn TEUs, 5000mn cargo terminals. RORO TERMINAL & HUB Quay & Yard: 1200 metres / 700,000sqm Capacity: 2 million vehicles p.a. Completion With full capcity of 20.0mn TEUs, 10,000 cargo terminals Source: We believe with a fully integrated seaport, the industrial zone will be able to attract investors towards the city. Given the inefficiencies of the Jeddah Islamic Port we believe that shipping companies will gradually switch towards the more up-to-date King Abdullah terminal in order to achieve better efficiencies. KAEC seaport is being developed by the Ports Development Company (PDC). PDC is a joint venture between Emaar, the Economic City (KAEC) and Saudi Bin Laden Group (SBG), commissioned to finance, develop, and operate KAEC seaport. 4

5 Residential Real Estate The 48 sqkm residential real estate area, will cater to population from all walks of life. Currently a total of 5000 housing units are under development by Emaar. Emaar is looking to sell or lease land or completely built housing units in the form of villas or apartments. Current projects Customer Segment Products Sales/Lease Saleable/leasable area Price range (SAR mn) Start Completion Beach Community Plot Sales 450, Q Q2-2014s Golf Community Unit Sales 59, Q Golf Course Plot Sales 93, Q TalahPH1.3 Unit Sales 64, Q Q TalahPH 2 Plot Sales 1,020, Q Q TalahPH 3 Plot Sales 342, Q Q Towhouses1 Unit Leases 94, pa Q Q Towhouses2 Plot sales 111, Q Towhouses3 Plot sales 112, Q Q AlWaha UnitLease&Sales 107, , 60k to 120kpa Q Low End Affordable housing 1 (1100 Units) Unit leases and sales 127, k-500k,1545kp.a Q Labour Housing Labor Housing (1000 workers) Unit leases 66,000 SR per person perday Q Q High End Mid-End Areas Green: Built Area Black: Plot Sales TH 1 94k sqm Al Waha 107k sqm TH 3, 4 223k sqm TG 3 342k sqm TG k sqm TG 2 1,020k sqm Affordable Housing 127k sqm GC1b 59k sqm Labor Housing 66k sqm GC1c 93k sqm BC 2 450k sqm Source: The residents of the city will be provided with multiple amenities like healthcare, education and leisure. Along with government schools, GEMS international academy already has a school running in the city. 5

6 Revenue Estimates The company s main source of revenue is its land sales from industrial valley and residential and units sales. We believe, the company is expected to see highest revenues in 2015, given that a multiple of residential project will be completed by the end of As revenue recognition is realized after 20% of the payment is made, we believe major chuck of residential units sales will be realized in For 2013, the weak performance so far was due to lesser land available for sale during the quarter. We believe in the coming quarter as more land is developed for sales along with the launch of new vertical projects, revenue source will significantly improve. 2, % 2, % 80% In (000) 1,500 1,000 60% 40% 20% 500 0% -20% % Revenue % Change Government shows solidarity with the project by lending SAR 5bn The impact of the financial crisis was felt by KAEC as real estate prices in the Kingdom took a hit, and economy faltered with the weakness in the oil prices. However with the oil prices coming back near $100/bbl, the Kingdom has once again found its footing, and has also highlighted the vulnerability of the economy in respect to hydrocarbon revenues. The government in order to diversify the economy has embarked on new projects that will help the government in achieving a diversified profit pool. In order to achieve its target the government had lend SAR 5.0bn on soft terms to the project in ,000 5,000 4,000 50% 45% 40% 35% In (000) 3,000 2,000 1,000 30% 25% 20% 15% 10% 5% % Debt-LHS Debt/Equity-RHS 6

7 Key financial data In SAR mn e 2014e 2015e 2016e INCOME STATEMENT Revenue ,929 1,475 % Change in Revenues 348% 34% 20% 47% 101% -24% Cost of Revenue (96) (67) (163) (240) (482) (221) Gross Profit ,447 1,254 % Change in Gross Profit NM 54% 2% 47% 101% -13% Expenses Selling and Marketing (17) (19) (20) (22) (23) (25) General and administration (150) (188) (194) (197) (206) (215) Depreciation (45) (47) (49) (50) (51) (51) Other costs,net 26 (6) (5) (5) (5) (5) Total expenses (187) (259) (268) (273) (285) (296) Profit from operations , Financial charges,net (61) (89) (109) (111) (113) (99) Commission income Other income,net Income before zakat and non-controlling interests , Zakat (6) (5) (4) (9) (27) (23) Net income before non-controlling interest , Net income , % Change in Net income NM 129% -16% 125% 194% -17% BALANCE SHEET Assets Current assets Cash 1,711 3,242 4,606 4,746 5,132 5,203 Murabha term deposits with banks 3, Account receivables and other current assets Development properties 1, ,212 2,590 2,112 Other investment Loan to related parties Total current assets 6,005 4,822 5,254 6,153 8,154 7,718 Non-current assets Investment properties 3,614 4,465 4,440 4,061 3,687 3,622 Property and equipment 3,542 3,689 3,836 3,868 3,860 3,851 Investment in associate Loan to an associate Assets classified as held for disposal Total non-current assets 7,741 9,062 9,184 8,838 8,455 8,381 TOTAL ASSETS 13,746 13,884 14,438 14,991 16,609 16,099 Liabilities and Equities Current Liabilities Accounts payables and accruals 1, ,150 1,233 1, Current Portion of Long term Loan Total Current Liabilities 1, ,150 1,233 2,450 1,733 Non Current Liabilities Long-term loan 5,062 5,168 5,277 5,387 4,731 4,061 Differed contribution Long-term provision Employees' end of service benefits Total current liabilities 5,245 5,451 5,560 5,672 5,017 4,347 Total Liabilities 6,366 6,315 6,710 6,905 7,467 6,080 Equity Share Capital 8,500 8,500 8,500 8,500 8,500 8,500 Accumulated losses (1,120) (930) (772) (414) 642 1,518 Total shareholders' equity attributable to Co.'s shareholders 7,380 7,570 7,728 8,086 9,142 10,018 Total Equity 7,380 7,570 7,728 8,086 9,142 10,018 TOTAL LIABILITIES AND EQUITY 13,746 13,884 14,438 14,991 16,609 16,099 CASH FLOW Cash Flow from Operation (64) (330) , Cash flow from Investing activities (3,565) 1,862 (89) (727) (1,390) 472 Cash Flow from Financing Activities 5,000 (0) (770) Changes in Cash 1,371 1, Opening Balance 340 1,711 4,102 4,606 4,746 5,131 Ending Balance before deposits 1,711 3,242 4,606 4,746 5,131 5,203 Murabha term deposits with banks 3, Ending Balance 4,880 4,102 4,606 4,746 5,131 5,203 Source: Company reports & Aljazira Capital research, *NM: Not Meaningful 7

8 Key ratios F 2014F 2015F 2016F Liquidity Ratio Current Ratio Quick Ratio Efficiency Ratios Receivables Days Turnover Inventory Days Turnover NM* NM* NM* NM* NM* NM* Payables Days Turnover NM* NM* NM* NM* NM* NM* Cash Cycle NM* NM* NM* NM* NM* NM* Asset Turnover Profitability ROE 1.1% 2.5% 2.1% 4.5% 11.6% 8.8% ROA 0.6% 1.4% 1.1% 2.4% 6.4% 5.5% ROIC 1.6% 3.7% 3.0% 6.7% 19.2% 18.2% Gross Margins 76% 88% 75% 75% 75% 85% EBITDA Margins 48% 60% 49% 55% 65% 71% EBIT Margins 37% 52% 42% 50% 62% 68% Net Margins 20% 35% 24% 37% 55% 60% Leverage Ratios Debt/Equity 69% 68% 68% 67% 60% 48% Debt/Capital 41% 41% 41% 40% 38% 33% Debt/Assets 37% 37% 37% 36% 33% 30% Times interest earned - TIE Valuations Div Yield 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% BVPS MCAP 6,290 7,055 10,030 10,030 10,030 10,030 EV 6,471 8,121 10,700 10,671 10,399 9,657 PE* PB EV/EBITDA EPS Source: Company reports & Aljazira Capital research, *For , we have considered closing price for respective year. As for , we have considered closing price on 5th. 8

9 RESEARCH DIVISION AGM - Head of Research Abdullah Alawi a.alawi@aljaziracapital.com.sa Senior Analyst Talha Nazar t.nazar@aljaziracapital.com.sa Senior Analyst Syed Taimure Akhtar s.akhtar@aljaziracapital.com.sa Analyst Saleh Al-Quati s.alquati@aljaziracapital.com.sa Analyst Jassim Al-Jubran j.aljabran@aljaziracapital.com.sa BROKERAGE AND INVESTMENT CENTERS DIVISION General Manager - Brokerage Division Ala a Al-Yousef a.yousef@aljaziracapital.com.sa Sales And Investment Centers Central Region Manger Sultan Ibrahim AL-Mutawa s.almutawa@aljaziracapital.com.sa AGM-Head of international and institutional brokerage Luay Jawad Al-Motawa lalmutawa@aljaziracapital.com.sa Area Manager - Qassim & Eastern Province Abdullah Al-Rahit aalrahit@aljaziracapital.com.sa Regional Manager - West and South Regions Abdullah Al-Misbahi a.almisbahi@aljaziracapital.com.sa RESEARCH DIVISION AlJazira Capital, the investment arm of Bank AlJazira, is a Shariaa Compliant Saudi Closed Joint Stock company and operating under the regulatory supervision of the Capital Market Authority. AlJazira Capital is licensed to conduct securities business in all securities business as authorized by CMA, including dealing, managing, arranging, advisory, and custody. AlJazira Capital is the continuation of a long success story in the Saudi Tadawul market, having occupied the market leadership position for several years. With an objective to maintain its market leadership position, AlJazira Capital is expanding its brokerage capabilities to offer further value-added services, brokerage across MENA and International markets, as well as offering a full suite of securities business. RATING TERMINOLOGY 1. Overweight: This rating implies that the stock is currently trading at a discount to its 12 months price target. Stocks rated Overweight will typically provide an upside potential of over 10% from the current price levels over next twelve months. 2. Underweight: This rating implies that the stock is currently trading at a premium to its 12 months price target. 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