RESEARCH GCC EQUITY REPORT Dar Al-Arkan Real Estate Development Co. (4300.SE) OVERWEIGHT CMP SAR 11.45 Target SAR 14.21 Upside 24.1% MSCI GCC Index 409.98 Tadawul All Share Index 6,175.03 Key Stock Data Sector Real estate Reuters Code 4300.SE Bloomberg Code ALARKAN AB Equity Net Out. Shares (bn) 1.080 Market Cap (SAR bn) 14.366 Market Cap (USD bn) 3.305 Avg. 12m Vol. (mn) 3.305 Volatility (30 day) 27.947 Volatility (180 day) 18.345 Stock Performance (%) 52 week high / low (SAR) 17.15 / 11.25 1M 3M 12M Absolute -10.5-20.2-27.1 Relative -8.0-10.5-31.3 Shareholding Pattern (%) Private 29.00 Others 41.00 Public 30.00 Dar Al-Arkan and Tadawul All Share Index Quarterly Result Update Dar Al-Arkan s top-line declined 16.9% to SAR 2,259.38 million during 1H10 from SAR 2,720.08 million in 1H09. Net profit was down 19.9% to SAR 835.65 million from SAR 1,042.78 million. We are maintaining our FY2010E sales estimate at SAR 5,807.03 million, while we have revised our net profit estimate upwards by 2.2%, anticipating lower financing costs. Dar Al Arkan s stock price has declined 15.5% since our last update (May 17, 2010). Accordingly, we are revising our earlier NEUTRAL recommendation to OVERWEIGHT with a revised target price of SAR 14.21, implying an upside of 24.1%. Overview SAR Million 2008A 2009A 2010E 2011E 2012E Revenue 5,611 5,464 5,807 7,586 7,741 EBITDA 2,719 2,383 2,410 3,130 3,174 EBITDA Margin 48.5% 43.6% 41.5% 41.3% 41.0% Net Profit 2,356 2,123 2,198 2,911 2,951 Net Profit Margin 42.0% 38.8% 37.9% 38.4% 38.1% Adjusted EPS (SAR) 2.18 1.97 2.04 2.70 2.73 Total Assets 20,164 23,597 25,187 27,039 29,259 RoAE 20.7% 16.6% 15.3% 18.6% 17.2% Revenue For 1H10, Dar Al-Arkan Real Estate Development Co. (Dar Al-Arkan) reported a 16.9% decline in total sales to SAR 2,259.38 million from SAR 2,720.08 million in the comparable period last year. At the segmental level, sale of land plunged 18.0% to SAR 2,007.16 million, while sale of residential properties was down 7.2% to SAR 252.21 million. Expenses Cost of sales (CoS) declined 16.3% to SAR 1,250.10 million during 1H10 from SAR 1,494.43 million in 1H09. The decline was on account of a 19.6% drop in costs related to land sales to SAR 1,031.88 million, which offset a 3.3% increase in costs related to residential properties to SAR 218.22 million during the period under review. In addition, general and administrative expenses dropped to SAR 60.53 million from SAR 63.34 million. Depreciation charges were down 19.7% to SAR 8.13 million, whereas amortisation of deferred charges was up 36.8% to SAR 13.37 million. Dar Al-Arkan s finance costs increased 25.4% to SAR 98.55 million, as Islamic Sukuk charges jumped 54.3% to SAR 70.12 million, offsetting a 14.3% narrowing in Islamic Murabaha charges to SAR 28.43 million. Meanwhile, income from other sources was up multifold to SAR 25.95 million from SAR 1.97 million. Profitability Despite lower cost of sales, gross profit was down 17.7% to SAR 1,009.28 million, following the sharp contraction in top-line. Operating profit followed the same trend, registering an 18.8% YoY decline to SAR 927.25 million. Subsequently, net profit plunged 19.9% to SAR 835.65 million from SAR 1,042.78 million. Call us on +973 17549499 or email us at research@taib.com
New Projects and Strategies During June 2010, Dar Al-Arkan completed a Shariah-compliant fixed-to-floating profit rate swap agreement for 50% of its fourth Sukuk issue valued at SAR 1.7 billion. As per the deal, the company will pay an annual coupon profit rate of 7.95%, as compared to 10.75% in February. Risks and Concerns to Valuation Our top-line and bottom-line estimates factor in the returns expected from the company s projects under development. Any delay or cancellation will impact our estimates and, consequently, our rating. Our rating may require a change, if the short- to medium-term growth drivers for the sector change, both in the scenario of an accelerated recovery and any further economic deterioration. Valuation Methodology We have used the DCF valuation method to arrive at the fair value of Dar Al-Arkan, as explained below: Assumptions: (i) Risk free Rate (Rf) of 3.50%, equivalent to 12-months average yield on a 10-year US T-bill; (ii) Levered Beta of 0.88; (iii) Terminal growth rate of 2.0% Based on the above and using the Capital Asset Pricing Model (CAPM), we have arrived at a Cost of Equity of 9.75% and a WACC of 6.79%. DCF Calculation DCF Valuation (FCFF Model) (in SAR Million) 2010E* 2011E 2012E 2013E 2014E Operating Profit (EBIT) 122 3,113 3,157 3,380 3,734 Zakat on EBIT 3 72 73 78 86 Effective Tax Rate 2.3% 2.3% 2.3% 2.3% 2.3% NOPAT 119 3,042 3,085 3,302 3,648 Add: Depreciation and Amortisation 8 16 17 17 18 Less: Capex 1,280 1,899 2,104 2,291 2,604 Less: Change in Net Working Capital 32-43 -32-35 -159 Operating Free Cash Flows to Firm (OFCFF) -1,186 1,202 1,030 1,063 1,221 Non-Operating Income 11 47 50 54 61 Tax on Non-Operating Income 0.25 1.09 1.15 1.25 1.40 Add: Non-Operating Cash Flows (After Tax Non-Operating Income) 11 46 49 53 59 Free Cash Flow to Firm (FCFF) -1,175 1,248 1,078 1,116 1,281 WACC (Ko) 6.79% 6.79% 6.79% 6.79% 6.79% Present Value / Discount Factor @ 0.9677 0.9062 0.8486 0.7946 0.7441 Long-Term Growth Rate (g) 2.00% Terminal Multiple 21.30 Nominal Terminal Value 27,279 Present Value of Free Cash Flows -1,137 1,131 915 887 953 *2010E excludes 1H10A
Calculation of Equity Value and Fair Value Per Share NPV of Free Cash Flows (during Explicit Forecast Period) 2,749 Terminal Value: Residual Cash Flow (FCFF of 2014E) 1,281 WACC 6.79% Long-Term/Terminal Growth Rate (g) 2.00% Divided by Capitalization Rate (WACC - g) 4.79% Equals Nominal Terminal Value 27,279 Implied Multiple of 2014E EBITDA 7.27 Times PV/ Discount Factor 0.74 Present Value of Terminal/Residual Value 20,299 Enterprise Value 23,048 Implied Multiple of 2014E EBITDA 6.14 Less: Market Value of Long-term Debts 7,705 Equity Value 15,343 Net shares outstanding (in Million) 1,080 Fair Value Per Share (SAR) 14.21 *figures in SAR Million unless specified Sensitivity Analysis The following tables present a sensitivity analysis and indicate the probable nominal terminal value, discounted terminal value and enterprise value, given different growth rate and WACC assumptions. The shaded areas represent the most probable outcomes. Sensitivity Analysis of Nominal Terminal Value (SAR Million) Long-Term Growth Rate Discount Factor 1.00% 1.50% 2.00% 2.50% 3.00% 4.79% 34,143 39,530 46,848 57,366 73,766 5.79% 27,012 30,311 34,481 39,919 47,308 6.79% 22,345 24,579 27,279 30,610 34,819 7.79% 19,053 20,670 22,566 24,821 27,547 8.79% 16,607 17,834 19,242 20,874 22,788 Sensitivity Analysis of Discounted Terminal Value (SAR Million) Long-Term Growth Rate Discount Factor 1.00% 1.50% 2.00% 2.50% 3.00% 4.79% 27,663 32,027 37,957 46,478 59,766 5.79% 20,970 23,531 26,768 30,990 36,725 6.79% 16,628 18,290 20,299 22,778 25,910 7.79% 13,596 14,749 16,103 17,711 19,656 8.79% 11,368 12,208 13,171 14,289 15,599 Sensitivity Analysis of Enterprise Value (SAR Million) Long-Term Growth Rate Discount Factor 1.00% 1.50% 2.00% 2.50% 3.00% 4.79% 30,623 34,987 40,917 49,439 62,726 5.79% 23,822 26,383 29,620 33,842 39,578 6.79% 19,377 21,039 23,048 25,526 28,659 7.79% 16,245 17,399 18,752 20,361 22,306 8.79% 13,922 14,762 15,726 16,843 18,153
Investment Opinion Saudi Arabia s real estate sector has benefited during the few past years from the huge investments made in infrastructure, construction, and industrial projects. These investments were well supported by robust economic growth, higher disposable incomes, and the growing affluence of the local population. However, weak demand and liquidity concerns during the economic crisis affected the real estate sector. According to industry experts, at present, development projects worth USD 1.37 trillion are underway in the GCC. The UAE (USD 714.90 billion) accounts for more than half of all the GCC construction projects, while Saudi Arabia has USD 283.80 billion of active projects. Moreover, the sector is on a recovery path, as the country remains a preferred destination for developers. The large housing deficit and continued government support will support Saudi Arabia s real estate sector growth during the upcoming years. According to Saudi Arabia Chambers of Commerce, investments in the country s real estate market are likely to exceed USD 129 billion over the next three years, with residential real estate accounting for the bulk of investments. Although the country s construction market witnessed massive development in the past few years, the housing market is under a large demandsupply gap on the entry of young Saudis into the market (around 65% of Saudis are under the age of 25), increased migration from rural to metropolitan areas, and the influx of expatriates. Moreover, the majority of inhabitants live in rented accommodation. Apart from this, demand is expected to receive a further boost once the mortgage law ensuring easy financing is approved. According to Jeddah Municipality, the Saudi housing sector will require a staggering USD 640 million worth investments over the next two decades for the construction of nearly 5 million new housing units. Prestigious projects already in the pipeline include the construction of six Economic Cities, which will be home to 2.5 million residents, at an initial cost of around USD 87.8 billion. In addition, the increasing focus on tourism is expected to boost activity in the sector. During the next few years, areas around the Grand Mosque in Makkah are expected to witness rapid development including the construction of five-star hotels, 4,500 shops, a central transport station, prayer facilities for more than 200,000 worshippers, and parking space for 12,000 vehicles. The government s focus on enhancing the country s infrastructure and bailing out projects from the financial crisis through aid (amounting to more than SAR 11 billion) calls for strong optimism in the long-term. However, a slower or moderate recovery in the economy may temper growth in the immediate- to short-term. Dar Al-Arkan is a leading real estate development company in Saudi Arabia, specialising in the residential segment. The company held an attractive portfolio of development projects, investment properties, and assets worth SAR 23.18 billion at the end of 1H10. Capitalising on the likely build-up in demand in the residential housing market, the company recently unvieled a major housing project in Jeddah worth SAR 7.50 billion. The first phase of the project, which includes 2,000 units, is expected to commence this year at an estimated cost of SAR 1.5 billion. Returns from these projects will likley improve the company s financial performance in the longterm. Moreover, the approval of a new mortgage law will provide fillip to the already promising real estate sector, and improve the company s outlook in a more positive manner. In January 2010, Moody s Investor Service assigned a Ba2 rating to Dar Al-Arkan. The agency noted this rating as the highest for an industry with a mean global rating of Ba3. The Ba2 rating strengthens Dar Al-Arkan s position among regional peers. Additionally, in February 2010, Standard & Poor s Ratings Service maintained its BB- long-term corporate credit rating for the company, following the issue of a USD 450 million Sukuk. However, during 1H10, top-line declined 16.9% to SAR 2.26 billion. In addition, higher operating costs pressurised margins, with EBITDA and operating profit margins decreasing to 42.0% and 41.0%, respectively. Further, higher financing charges resulted in a 135 bps decline in net profit margin to 37.0% from 38.3% in 1H09. Meanwhile, in a bid to reduce its borrowing costs, the company swapped 50% of its fourth Sukuk issue valued at SAR 1.7 billion from fixed profit rate to floating profit rate. As a result, the company will pay an annual coupon profit rate of 7.95% as compared to 10.75%. Moreover, the stock has already declined 15.5% since our last update (May 17, 2010), making it an attractive pick at current levels. We had updated Dar Al-Arkan on May 17, 2010 with a NEUTRAL rating (target price of SAR 14.48 indicating a 6.8% upside). Currently, the company s stock is trading at a P/E multiple of 5.62x and 4.25x on 2010E and 2011E earnings, and at a P/BV multiple of 0.83x and 0.75x on 2010E and 2011E BVPS, respectively. Meanwhile, the stock has declined 18.5% since the beginning of this year as against 0.9% gain registered by the Tadawul All Share Index. Considering the above factors, we have arrived at a price target of SAR 14.21 with an upside of 24.1% over its current price of SAR 11.45 (as on July 25, 2010). Accordingly, we are revising our earlier NEUTRAL recommendation on Dar Al-Arkan to OVERWEIGHT.
Financial Statements Consolidated Income Statement (SAR Million) 2008A 2009A 1H09A 1H10A 2010E 2011E 2012E Sales 5,611 5,464 2,720 2,259 5,807 7,586 7,741 Cost of Goods Sold -2,766-2,957-1,494-1,250-3,233-4,238-4,340 Gross Sales 2,845 2,507 1,226 1,009 2,574 3,348 3,401 General, Administrative, Selling and Marketing Expenses -152-146 -63-61 -164-218 -227 Depreciation and Amortisation -22-18 -20-22 -29-16 -17 Net Operating Profit 2,671 2,343 1,142 927 2,381 3,113 3,157 EBITDA 2,719 2,383 1,162 949 2,410 3,130 3,174 Finance Cost -272-169 -79-99 -167-181 -186 Other Income 17 3 2 26 35 46 48 Net Profit before Zakat/Minority interests 2,417 2,173 1,066 855 2,251 2,980 3,021 Zakat -60-50 -23-19 -52-69 -70 Net Profit 2,356 2,123 1,043 836 2,198 2,911 2,951
Consolidated Balance Sheet (SAR Million) 2008A 2009A 1H09A 1H10A 2010E 2011E 2012E ASSETS Current Assets Cash & Cash Equivalents 716 2,223 460 1,301 1,599 1,750 1,519 Account Receivable and Pre Paid Expenses 949 846 764 753 915 1,154 1,145 Prepaid Expanses and Others 1,737 233 1,034 764 831 919 1,023 Due from Related Parties 57 3 32 9 9 9 9 Project In Progress Short-term 1,148 677 693 471 488 579 662 Developed Land Short-term 121 287 2,577 271 304 336 371 Total Current Assets 4,728 4,269 5,560 3,569 4,144 4,745 4,730 Non-Current Assets Project In Progress Long-term 1,301 3,346 7,989 8,553 9,030 10,004 11,083 Developed land Long-term 2,978 4,172 2,102 3,710 3,994 4,476 5,190 Investments in Land Under Development 9,199 8,929 3,683 4,397 4,913 5,353 5,655 Investment Properties 591 1,518 1,375 1,689 1,847 1,969 2,117 Investment in Associates 1,120 1,162 1,152 1,162 1,164 410 412 Property, Plant, and Equipment 120 103 111 97 91 79 71 Deferred Expenses 127 98 2 2 2 2 1 Total Non-Current Assets 15,436 19,328 16,415 19,610 21,042 22,294 24,529 Total Assets 20,164 23,597 21,975 23,179 25,187 27,039 29,259 LIABILITIES AND EQUITY Liabilities Current Liabilities Islamic Borrowings current portion 1,635 2,700 3,125 1,000 1,000 433 929 Account Payables 275 546 435 417 606 806 837 Accrued Expenses and others 510 560 560 698 706 876 972 Unpaid Dividends 0 0 7 466 0 0 0 Total Current Liabilities 2,420 3,806 4,127 2,581 2,311 2,114 2,739 Non-Current Liabilities Islamic Borrowings 6,000 5,655 5,059 6,705 7,635 8,224 8,339 End Of Service Indemnities 8 12 9 13 17 23 28 Total Non-Current Liabilities 6,008 5,667 5,068 6,718 7,652 8,246 8,367 Total Liabilities 8,427 9,473 9,195 9,299 9,964 10,361 11,105 Equity Share Capital 7,200 10,800 7,200 10,800 10,800 10,800 10,800 Legal/Statutory Reserve 3,600 462 3,600 462 682 973 1,268 Retained Earning 936 2,597 1,979 2,353 3,476 4,641 5,821 Equity attributable to equity holders 11,736 13,859 12,779 13,615 14,958 16,414 17,889 Non-controlling interest from group subsidiaries 0 265 0 265 265 265 265 Total Liabilities and Equity 20,164 23,597 21,975 23,179 25,187 27,039 29,259
Consolidated Cash Flow Statement (SAR Million) 2008A 2009A 1H09A 1H10A 2010E 2011E 2012E Net income before Zakat 2,417 2,173 1,066 855 2,251 2,980 3,021 Depreciation 22 18 10 8 16 16 17 Amortisation of deferred charges 0 0 10 13 14 1 0 Finance costs 272 169 0 0 167 181 186 End-of-service provision 4 5 2 2 7 8 8 Share of losses from investment in associates 0 5 0 0-2 -2-2 Finance income -4 0 0 0 0 0 0 Operating cash flows before movement in working capital 2,710 2,369 1,087 879 2,452 3,183 3,230 (Increase) Decrease in operating assets and liabilities: Development properties -2,187-2,663 0 0 0 0 0 Trade receivables & others -866 1,661 185 93-69 -239 8 Due from related parties 0 0 26-6 -6 0 0 Projects in progress - short term 0 0 456 206 190-91 -83 Developed land - short term 0 0-250 16-17 -32-35 Accrued Expense and others 0 0-70 510 145 170 97 Prepaid Expenses and others -13 29 702-532 -598-88 -105 Accounts payable -221 271 264-54 60 200 31 Cash from/ (used in) operations -578 1,667 2,400 1,112 2,157 3,103 3,143 Finance cost paid -272-169 0 0-167 -181-186 Zakat paid during the year -24 0 0 0-52 -69-70 End of service indemnities paid 0-1 -1-1 -2-2 -3 Net Cash from/ (used in) operating activities -874 1,497 2,399 1,110 1,936 2,851 2,884 Investing Activities Projects in progress long-term 0 0-1,216 38-5,685-974 -1,079 Investments in land under development 0 0 44-714 4,016-440 -303 Developed land long-term 0 0-1,330 462 178-482 -714 Investment in associates -1,045-47 -32 0 0 756 0 Investment properties -328-927 -784-171 -329-122 -147 Purchase of property and equipment -3-2 -1-1 -4-4 -8 Proceeds from disposal of property and equipment 0 2 0 0 0 0 0 Finance income 4 0 0 0 0 0 0 Net cash used in investing activities -1,372-975 -3,319-386 -1,824-1,266-2,251 Financial Activities Net borrowings 1,235 720 664-567 363 21 612 Contribution from non-controlling interests 0 265 0 0 0 0 0 Dividends paid -1,620 0 0-1,080-1,099-1,455-1,475 Net cash (used in) from financing activities -385 984 664-1,647-736 -1,434-864 Increase/Decrease in Cash and Cash Equivalents -2,630 1,507-256 -923-625 151-230 Cash and cash equivalents beginning of the period 3,347 716 716 2,223 2,223 1,599 1,750 Cash and cash equivalents end of period 716 2,223 460 1,301 1,599 1,750 1,519
Financial Ratios 2008A 2009A 1H09A 1H10A 2010E 2011E 2012E Liquidity Ratios: Current Ratio (x) 1.95 1.12 1.35 1.38 1.79 2.24 1.73 Quick Ratio (x) 1.95 1.12 1.35 1.38 1.79 2.24 1.73 Activity Ratios: Debtors Turnover Ratio (x) 7.84 6.09 6.35* 5.65* 6.60 7.33 6.73 Creditors' Turnover Ratio (x) 14.47 7.21 8.42* 5.19* 5.61 6.00 5.28 Total Assets Turnover Ratio (x) 0.29 0.25 0.26* 0.19* 0.24 0.29 0.27 Equity Turnover Ratio (x) 0.49 0.43 0.44* 0.33* 0.40 0.48 0.45 Profitability Ratios: Gross Profit Margin 50.7% 45.9% 45.1% 44.7% 44.3% 44.1% 43.9% EBITDA Margin 48.5% 43.6% 42.7% 42.0% 41.5% 41.3% 41.0% Operating Profit Margin 47.6% 42.9% 42.0% 41.0% 41.0% 41.0% 40.8% Net Profit Margin 42.0% 38.8% 38.3% 37.0% 37.9% 38.4% 38.1% Return on Average Equity 20.7% 16.6% 17.0%* 12.2%* 15.3% 18.6% 17.2% Return on Average Assets 12.2% 9.7% 9.9%* 7.1%* 9.0% 11.1% 10.5% Leverage Ratios: Debt to Equity (D/E) Ratio (x) 0.65 0.60 0.64 0.57 0.58 0.53 0.52 Shareholders' Equity to Total Assets Ratio (x) 0.58 0.59 0.58 0.59 0.59 0.61 0.61 Total Liabilities to Total Assets Ratio (x) 0.42 0.40 0.42 0.40 0.40 0.38 0.38 Current Liabilities to Equity Ratio (x) 0.21 0.27 0.32 0.19 0.15 0.13 0.15 Growth Rates: YoY Growth in Revenue 13.9% -2.6% -2.3% -16.9% 6.3% 30.6% 2.0% YoY Growth in Operating Profit 16.4% -12.3% -15.3% -18.8% 1.6% 30.7% 1.4% YoY Growth in EBITDA 17.6% -12.4% -14.6% -18.4% 1.1% 29.8% 1.4% YoY Growth in Net Profit 17.3% -9.9% 161.6% -19.9% 3.6% 32.4% 1.4% YoY Growth in Total Assets 9.7% 17.0% 20.5% 5.5% 6.7% 7.4% 8.2% YoY Growth in Shareholders' Equity 6.7% 18.1% 21.5% 6.5% 7.9% 9.7% 9.0% Ratios used for Valuation: Adj. EPS (SAR) 2.18 1.97 1.93* 1.55* 2.04 2.70 2.73 Adj. BVPS (SAR) 10.87 12.83 11.83 12.61 13.85 15.20 16.56 P/E Ratio (x) 5.25 5.83 5.93 7.40 5.62 4.25 4.19 P/BV Ratio (x) 1.05 0.89 0.97 0.91 0.83 0.75 0.69 Current Market Price (SAR)** 11.45 11.45 11.45 11.45 11.45 11.45 11.45 *Annualised ** Price as on July 25, 2010
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