Initiating Coverage
Embassy Office Parks REIT
23 DEC 2019 23 DEC 2018 Company Report BUY Target Price:Rs 495
Current Market Price : 420 Potential Upside : 18% Stock data
No. of share (Cr) : 77.2 Market cap (Rs.Cr.) : 33181.6 52 week high/low : 462/300 Embassy Office Parks REIT Avg. daily vol. (6mth) : 551210 Bloomberg code : EMBASSY IN Commercial Real Estate Shareholding Pattern : Sponsor Group : 70% FII/DII : 16%/1% REIT way is the right way Retail : 13% Price performance* 160
120
80
40 Apr-19 Jun-19 Aug-19 Oct-19 Dec-19
BSE Sensex Embassy Off.REIT Financial Summary Key Drivers
Revenue NOI NDCF EV/EBITDA DPS Y/E March Debt/Equity Metric FY 19 FY 20E FY 21E FY 22E (Rs Cr) (Rs Cr) (Rs Cr) (x) (Rs) NOI Growth - 20% 16% 13% 2019 1,877 1,574 - 4.9 17% 0.0 2020E 2,304 1,890 1,814 5.9 17% 22.5 Occupancy 94% 95% 96% 97% 2021E 2,611 2,193 2,062 21.4 20% 24.5 2022E 2,956 2,483 2,285 19.1 23% 26.7 Rentals (in Rs/psf) 63 67 71 75 Source: Company, Axis Securities, CMP as on Dec 20, 2019, *Price Performance is normalized to 100 for better comparison
Ankit Suchanti – Manager - Research Analyst | [email protected] | (+91 22 4267 1778) 23 DEC 2018 Company Report
Embassy Office Parks REIT REITs offer Stable Debt like Cash Flows with (Equity Like) Growth… Sector: Commercial Real Estate
What are REIT’s? REIT’s are an asset class that owns income producing real estates like offices, hotels, warehouses, apartments, shopping centers etc. This asset class has been in existence for over four decades in developed countries REIT was approved in the Budget of 2014 and SEBI (Real Estate Investment Trust) Regulations, 2014 provides detailed requirements and guidelines of listing and operating REIT Investing in REIT is like investing in a collective investment scheme (much like mutual fund), where money is pooled from many investors to invest in income generating, high-end real estate assets (primarily commercial real estate). The income generated is then distributed to REIT holders at regular intervals which is mandated by regulation
What are the benefits of REIT’s to investors? Annualized returns by economic cycle (1991-2018)
REITs, across the globe, have performed at comparable levels to 30 broad equity indices. For ex. REITs have averaged 11.1%, while 22.8 the S&P 500 has averaged 9.8% over the last 28 years. They 20 15.6 have shown low volatility and recession protection similar to 11.3 10.6 11.1 9.8 defensive equity stocks 10 7.1 REITs have also shown lower correlation with other asset classes like Equity, Debt, Commodities. Thus, providing an excellent 0 choice for diversification -0.2 REIT’s provide downside protection during economic downturns (10) as the underlying cash flow is contractually bound by long term -9.6 leases thereby ensuring a steady dividend yield at all times. (20) Overall, REIT’s provide characteristics of both debt and equity. -17.7 Equity Characteristics: Short term volatility due to market price Early Cycle Mid Cycle Late Cycle Recession All Periods movement, capital appreciation, growth levers built in lease US REITS S&P 500 contracts. Debt Characteristics: Stable dividend yields backed by cash flows from long term leases (7-9 years) of tenants, high correlation to inflation hence providing inflation protection REIT’s have shown lower volatility & higher return compared to S&P 500
Sources: The Conference Board, National Bureau of Economic Research (NBER), Thomson Reuters, Cohen & Steers, Betas, NYU Stern, SEBI, Axis Securities
3 23 DEC 2018 Company Report
Embassy Office Parks REIT Embassy REIT Overview Sector: Commercial Real Estate
Embassy Office Parks is the owner of premium office portfolio in India that serves as corporate infrastructure to multinational tenants. Company’s Portfolio comprises of seven Class A office parks and four city-center office buildings totaling 33 msf (million square feet) of total area. They provide strategic amenities, including 2 completed and 2 under-construction hotels totaling 1,096 keys, food courts, childcare and employee transportation facilities Their Portfolio is strategically located in India’s four key office markets of Bengaluru, Pune, Mumbai and Noida which are amongst the top-performing in India and account for 72% of total Grade A office stocks. In the last 5 years these markets have seen one of the highest absorption of premium office space in the world beating New York, San Francisco, Shanghai, Central London and Tokyo Their Occupancy is at 94.7% with weighted average lease expiry of 7.2 years. They have 165 tenants comprising a mix of blue-chip multinational and Indian corporates, such as JP Morgan, DBS, Swiss Re, Google, McKinsey, IBM and L&T Technology Services. Approximately 45% of Gross Rentals come from Fortune 500 companies. Nearly, 53% of our Gross Rentals are derived from tenants in technology sector, with the remainder coming from various industries including financial services, healthcare and telecommunications. Embassy REIT is backed by strong sponsors; Blackstone LLP, the largest alternative investment firm in the world and Embassy Group which is a local expert and has developed 45 msf of real estate in India
Assets Tenant Metrics Locations
Noida 33msf Largest REIT in Asia 165 Blue Chip MNC’s
11 Best-in-Class Properties 45% Rent from Fortune 500
Premium Hotel Room 1096 53% Rent From Tech. Services Keys Mumbai
100Mw Solar Power Bengaluru 94.7% Occupancy Pune
Sources: Company, Axis Securities
4 23 DEC 2018 Company Report
Embassy Office Parks REIT Investment Rationale Sector: Commercial Real Estate
Embassy Office Parks REIT, is the owner of premium office portfolio in India that serves as corporate infrastructure to multinational tenants. It is the largest REIT in Asia and the first REIT to get listed in India. Its primary source of revenue is through long term rental contracts from world class tenants which makes the cash flows for the company quite stable. Embassy REIT’s business has multiple growth levers (discussed in detail in later sections) that is supported by a strong services sector and a growing, tech-savvy, low cost human capital. Embassy REITs operational execution is one of the best amongst REIT’s the world over due to its highly experienced management team that has global experience in property management. Embassy REIT is backed by strong sponsors; Blackstone LLP, the largest alternative investment firm in the world and Embassy Group which is a local expert and has developed 45 msf of real estate in India. Additionally, REIT as an asset class has shown comparable returns to broad equity markets (and low correlations) with downside protection during recession making it an attractive investment class
We expect revenues/earnings to grow at CAGR of 16% / 41.5% respectively over FY19-22E driven by
Present in Key Marquee, Sticky Strong Highly office markets Experienced with proxy play Significant and Tenant profile Financials with multiple Growth implies stable superior Management on backed by high growth Levers long term cash operational flows efficiency world Class technology, Sponsors services sector
We initiate coverage with “BUY” rating and a target price of Rs 495, implies a 18% upside
Source: Company, Axis Securities
5 23 DEC 2018 Company Report
Embassy Office Parks REIT Macro Drivers: Attractive Commercial Real Estate Market Sector: Commercial Real Estate
Indian Commercial Real Estate has one of the lowest rents globally Lower rents make it favorable to set up offices for MNC’s in India 12000 300000 Indian markets charge 1/5h to 1/7th of the rent charged in other major office markets, making it extremely attractive for 8000 200000
global players to set up offices here 4000 100000
The Capital values are also very low (1/5th of global values), 0 0
which makes investment in office real estate very cost effective Pune
NCR
Tokyo
Beijing
London
Sydney Munich
th Mumbai
Bengaluru New York New
India also has abundant English speaking talent at 1/10 the Shanghai
Singapore
Hong Kong Hong Los Angeles Los cost of a developed country employee which provides the fuel Fransisco San Rs psf/year Avergae Capital Values (Rs psf) to drive the services industry Higher Capitalization rates implies superior operating margins High Cap rates, as compared globally, makes it an attractive business
India 8% High Capitalization Rates or operating income yield vis-a-vis Australia 5% estate values for Grade A offices is 1.75 – 5.75% higher than US 5% other major markets UK 4% High cap rates coupled with low capital values gives superior China 4% return opportunities for investors in commercial real estate in Germany 4% India Japan 3%
Hong Kong 3%
Singapore 3%
0% 2% 4% 6% 8% 10% Source: Company, Axis Securities
6 23 DEC 2018 Company Report
Embassy Office Parks REIT Macro Drivers: Present in Key Office Markets of India Sector: Commercial Real Estate
Embassy REIT Markets have been leading office absorption Office stock absorption of select global commercial hubs- India Leading Favorable rental profiles, high cap rates and favorable 60 50% demographics has led to the highest absorption of Grade A 40 25% office stocks in last five years as compared to major Grade A 20 office markets in the world 0 0% Embassy REIT is present in four key office markets of India (i.e.
th Pune
Bengaluru, Pune, Mumbai, NCR) which cover nearly 3/4 of Tokyo
Beijing
London
Sydney
Munich
Mumbai…
Bengaluru New York New
the total Grade A office market in India Shanghai
Delhi NCR Delhi
Singapore
Hong Kong Hong Los Angeles Los
Last 5 year average absorption as % of total stock stood at Fransisco San 35% for Embassy REIT Markets as compared to only 12% for rest of the major global markets Additionally, office absorption Cumulative Absorption in msf (2013-2018) in Bengaluru alone is higher than combined absorption of Last 5 years' absorption as a % total stock Shanghai, Beijing and Hong Kong
Strong Demand-Supply Fundamentals favor a growing rental Embassy REIT properties have a superior demand outlook as market compared to its markets 40 25% Embassy REIT’s markets have witnessed strong absorption with 20% 30 limited supply. The average absorption as percentage of supply 15% 20 stood at 99.7% 10% 10 Consequently, vacancy has decline steadily by 540 bps from 5% CY2014 to CY2019 0 0% 2014 2015 2016 2017 2018 2019E 2020E This trend is likely to continue and will keep demand for Grade
Supply (msf) Absorption (msf) Vacancy (%) A office space on a strong footing across REIT markets
Source: Company, Axis Securities
7 23 DEC 2018 Company Report
Embassy Office Parks REIT Macro Drivers: Superior growth of services sector Sector: Commercial Real Estate
Embassy REIT’s tenant profile is dominated by services sector (contributing to 90% of gross rentals) with technology sector contributing nearly 53% to Gross Rentals. Hence, services sector growth becomes an important proxy parameter for Embassy REITs rental growth The services sector is the key driver of the Indian economy with contribution of 54% to FY19 GVA (Gross Value Added). Led by technology and financial services, it has grown by 7.5% in FY19 contributing to 60% of GVA growth. While Technology sector alone has grown by 8.3% in FY19. Below Info graphics present factors that will keep driving demand of services sector
Factors that give a significant advantage to services sector in India Additional Expected Office Demand (in msf) from services sector (2019-22E)
Services sector is driven by human capital and India 300 Large and has the largest talent pool in the world with with 35% 2 16 growing, of population in the age bracket of 15-34 years 250 English India has been leading new generation technology Speaking businesses with 8K+ digital solution providers 200 52 talent pool employing ~ 5mn employees (i.e. ~75% of the global digital talent base.) 150 81
100 Due to lower salary levels and more affordable real estate, India-based technology services are Competitive approximately 7 times cheaper compared to the US- 50 102 Cost based technology services Advantage India’s cost competitiveness has amounted to more 0 than US$ 200 bn in cost savings for clients in the Technology Financial Media and Ent Telecom Pharma R&D past 5 years Services Network and IT vendors
Source: Company, Axis Securities
8 23 DEC 2018 Company Report
Embassy Office Parks REIT Multiple Growth Factors Sector: Commercial Real Estate
Building new properties Rental Growth on vacant areas
Re-leasing of expired RoFO assets: contracts at mark to First right to sale of market rate assets by its sponsors
Hospitality and Lease up of vacant space other Value added services
Embassy REIT has multiple sources of growth
Source: Company, Axis Securities
9 23 DEC 2018 Company Report
Embassy Office Parks REIT Rental Growth ensures revenue growth in all market situations… Sector: Commercial Real Estate
Embassy REIT assets have a built in contractual escalation of 10-15% with its clients every 3-5 year Embassy REIT focuses on quality assets and best-in-class service and has been able to achieve 270 bps higher rental in FY19 as compared to market rents The superior quality of its tenant amenities has also enabled them to achieve an average occupancy of 94% consistently over FY16-19 Management expects, contractual rent escalations to contribute ~36% of the total increase in revenue from operations over FY20E-21E. In H1FY20, contractual escalations have contributed to 37% of revenue growth (YoY basis) and will be one of the most consistent sources of revenue growth every year
Superior rental growth of Embassy REIT portfolio vis-à-vis markets Consistently higher committed occupancy for REIT portfolio
135 100% 130 Occupancy 95% 125 +270 bps 90% +950 bps 120 85% 115
110 80%
105 75%
100 70% FY2014 FY2015 FY2016 FY2017 FY2018 FY2019 CY2014 CY2015 CY2016 CY2017 CY2018 Q12019
Market Rent Embassy REIT Portfolio Rent Embassy REIT Market
Source: Company, Axis Securities
10 23 DEC 2018 Company Report
Embassy Office Parks REIT Re-leasing at Mark to Market provides ~30% upside Sector: Commercial Real Estate
Due to long dated contracts, typically of more than 7 years, there is an inherent mark to market (MTM) opportunity on expiry of contracts This would give a revenue boost to Embassy REIT as and when leases come up for expiry and are re-leased at then prevailing market rates Embassy REIT have re-leased 3.1 msf area at an average spread of ~42% above in place rents from FY2016 to FY2019 5.2 msf area is expected to expire between FY20E to FY23E, with an average re-leasing spread of 30% above in place rents giving a ~10% contribution in revenue growth from re-leasing
Embassy achieved ~42% average re-leasing Leasing-up at market rents on lease 20% of Gross Rent expires between spread between FY16-19, indicating the managements expiry could provide 30% upside to FY20E–23E, which should contribute ability to lease-up at market or higher rents on lease expiry revenue as per current rental trends to ~10% revenue growth in 4 years 8.50% 60.70% 9% Gross Rent Expiring 100 Rs 86 8% 80 7% Rs 66 6% 60 4.90% 35.30% 34.90% 5% 26.60% 40 4% 3.50% 3.30% 8.5 49 20 3% 2% 0 1% 0% In-Place Rent Market Rent FY2016 FY2017 FY2018 FY2019 FY2020E FY2021E FY2022E FY2023E
Year FY16 FY17 FY18 FY19 Year FY20E FY21E FY22E FY23E
Area Re-leased (in msf) 0.3 1.1 0.5 1.2 MTM upside 50% 16% 65% 49%
Source: Company, Axis Securities
11 23 DEC 2018 Company Report
Embassy Office Parks REIT De-risked New Leases minimizes vacancy risks… Sector: Commercial Real Estate
Embassy REIT’s new properties have shown de-risked development with high pre-leasing trend
Embassy REIT has a vacant space of about 8 msf, which it has plans to build and lease up in the coming years
Embassy management focuses on de-risked brownfield expansion on existing land by pre-leasing properties ahead of development. For example Embassy Oxygen, which completed in Nov’ 18, was 92% pre leased.
Approximately, 2.3 msf is at various stages of development (see chart below) and is expected to complete by FY22E. Of this 1.4 msf of office development is tracking two quarters ahead of schedule due to strong demand from tenants.
Pre-leasing trends in the upcoming (1.4 msf space) have also shown strong traction with c23% already pre-leased.
Further, development work has already started in Embassy Manyata (1 msf) and Embassy Techzone (0.9 msf) ahead of schedule.
Development history; schedule – Tracking ahead of plan Filling up of vacant office space is near term priority for Embassy
1.6 Embassy REIT’s 5% vacancy is concentrated in three properties, 1.4 msf 1.4 development namely Embassy Techzone in Pune (~13% vacancy), Embassy 1.2 tracking ahead of Oxygen in Noida (~15% vacancy) and FIFC in Mumbai (~22% schedule
1 vacancy). )
0.8 msf ( 1.4 0.6 1.3 The high vacancy is because these buildings are either 0.4 0.9 0.8 0.9 constructed recently (Embassy Oxygen) or there is a transitory 0.6 0.2 0.5 vacancy due to upgrades and repositioning 0 FY2014 FY2016 FY2018 FY2019 FY2020E FY2021E FY2022E This is expected to be leased up in the next year and a half and would provide ~ Rs 110 cr of revenue increase in FY19-21. Manyata Oxygen Techzone
Sources: Company, Axis Securities
12 23 DEC 2018 Company Report
Embassy Office Parks REIT Significant Greenfield Expansion scope and focus on Value Added Services… Sector: Commercial Real Estate
ROFO assets give long term growth visibility with 43 msf area identified for expansion Embassy REIT has a Right of First Offer (ROFO) on assets owned by Embassy Sponsors. This gives them opportunity to expand to new markets and diversify geographically They have identified 4 such properties in Chennai (1) and Bengaluru (3) totaling an area of 43 msf In Q2FY20, Embassy REIT received a ROFO notice for Embassy TechVillage in Bengaluru. This consists of 6.2 msf of completed area which already has tenants in place and has 2.5 msf of under construction area If the ROFO asset proves to be yield accretive (current yield ~5.6%) for REIT unit holders, management will go ahead and acquire the property. Management discussed that they have a lower cost of equity v/s cost of debt and will find the optimum mix to invest in this property We estimate that this acquisition, if materializes, could add to 20-25% to its NOI. We believe such regular acquisition of assets through ROFO opportunities will keep boosting the unit price of stock. We have not accounted for ROFO acquisition impact in our estimates
Focus on Value Added Services and Best-in-Class facilities Embassy REIT focuses on superior tenant experience through value added services Two revenue generating VAS sources are 1) Hotels 2) Solar Power Hilton at Embassy Golflinks (with 72% occupancy) and Four Seasons at Embassy One (completed May 2019) together have 477 keys Embassy REIT plans to add 619 keys more to its portfolio for business executives comfortable stay in FY22E Add-on services and others contributed 26% to revenue growth
in H1FY20, on a YoY basis Hilton at Embassy Golflinks, 247 Keys, Five Solar Plant with 100 MW capacity serving star property with 72% average occupancy Bengaluru properties Sources: Company, Axis Securities
13 23 DEC 2018 Company Report
Embassy Office Parks REIT Global Tenant profile with long term “stickiness” Sector: Commercial Real Estate
Sector Mix Gross Rentals (%) and Top tenants Embassy REIT’s cash flows are backed by marquee tenant base that have stayed with Embassy REIT for long periods of time. Some Others key highlights of the tenant profile are: 10% Telecom 5% 165 multinational tenants of the highest quality Technology Healthcare 53% 45% Rental from Fortune 500 Companies 6%
Top 10 Companies contribute 43% to Gross Revenues. Retail 7% Achieved same store rental CAGR of ~7% in 2016-2019 Research, Tenant Retention rate of 78% implies that most tenants want to Consulting & Analytics 8% continue with Embassy REIT. Financial A weighted average lease expiry of 7.2 years for the portfolio Services 11% implies stability of revenue for the foreseeable future
Since tenants typically undertake significant Tenant
Improvement capex at their own expense in India, often
equivalent to 4-7 years of rent, they have significantly higher
“stickiness” due to high moving costs.
Sources: Company, Axis Securities
14 23 DEC 2018 Company Report
Embassy Office Parks REIT A notch above competitors across Asia… Sector: Commercial Real Estate
A comparison with REIT’s in the Asian markets clearly shows that Embassy REIT has higher dividend yield of 6-7% v/s other REIT’s yield around or below 5% mark. Another important differentiator is the significant revenue growth outlook for Embassy REIT as compared to its peers. CAGR Growth for Embassy REIT in FY19-22E is expected to be 16.3% with long term growth pegged at above 10% whereas for other REITs it is around 5%. Embassy REIT’s NOI margin profile of 85% is one of the best among REITs globally and nearly 10% higher than Ascendas India Trust which also operates in Indian office space. Debt to TEV (Total Equity Value) of Embassy REIT at ~11% (leverage ratio) is the lowest among global REITs, with averages ranging from 18% for US based REITs to 37% in European REITs. This also gives significant headroom to raise capital for growth.
Embassy REIT’s comparison on key metrics with Asian Peers
Revenues Total Area NOI Margin CAGR Growth Div Yield % REIT Name Country (in mn $) EV/EBITDA (msf) (FY2020E)) % (FY19-22E) (FY20E) (FY20E) (FY20E)
Ascendas India Trust Singapore 18.2 702 75% 3.5 5.59 15.89
Capitaland Singapore 3.9 298 71% 1.9 4.57 19.90
Champion REIT Hong Kong 2.9 417 84% 5 4.41 18.57
Keppel REIT Singapore 3.7 126 65% 2.4 4.60 74.33
Embassy Office Parks REIT India 33 314 85% 16.3 6.5 19.1
Suntec REIT Singapore 3.9 277 80% 1.5 5.04 35.50
Source: Consensus, Reuters, Axis Securities
15 23 DEC 2018 Company Report
Embassy Office Parks REIT Highly experienced Management and Board Sector: Commercial Real Estate
Michael Holland Vikaash Khdloya Bhhavesh Kamdar Sachin Shah Anuj Puri Dr. Punita Kumar Sinha CEO Deputy CEO / COO President, Leasing CIO Independent Independent Board Board Member Member
20+ Years Experience 11+ Years Experience 26+ Years Experience 17+Years Experience 30+Years Experience 30 +Years Experience Former Country Former Former Deputy Key person of Group Chairman Portfolio manager, Manager and MD,Blackstone Real General Manager – Samsara Fund and founder of Oppenheimer Asset Managing Director Estate Leasing and Advisors Private ANAROCK Management of JLL India Former VP at Marketing Limited Board member of CFA charter holder, Former CEO of PiramalFund (Commercial) at Former VP of Jagran Prakash and served on the Assetz Property Management Larsen & Toubro Acquisitions at Limited, Music Board of Governors (erstwhile IndiaREIT) Starwood Capital Broadcast Limited, for CFA Institute ANAROCK Investment advisor
Sources: Company, Axis Securities
16 23 DEC 2018 Company Report
Embassy Office Parks REIT Strong Sponsors: Perfect combination of global and Local Expertise Sector: Commercial Real Estate
Extensive expertise with One of the world’s area developed across 54+ msf $153.6 bn largest real estate south western India, Serbia, (AUM) investors in Real Estate Eastern Europe and across equity and debt. Malaysia.
Experience of end to end 527 The team consists of over 527 real estate commercial development 25+ Years professionals, right from land EMBASSY professionals identification to building the OFFICE PARKS 11 offices in 11 offices around the property to marketing and globe which manage the selling the property best and biggest real estate projects
Holds an extensive land bank of 1,000+ acres across the country ensuring 1000 + 50 mn sqft Largest owner of Class A supply of land will not be a office space in India, hindrance. acres with a portfolio spanning . across key office markets and IT hubs.
Source: Company, Embassy Group, Blackstone LLP, Axis Securities
17 23 DEC 2018 Company Report
Embassy Office Parks REIT Assets Profile, Metrics - Bengaluru Sector: Commercial Real Estate
Embassy Manyata- 14.2 msf Rs 16,800 Cr 52% ~60%
Gross Asset Value GAV of total portfolio Of Total Gross Rentals
17.2 msf 68 Rs/psf pm 42%
Total Area In place rent MTM upside
97.1% 8.2 years ~10.3% Embassy One - 0.3 msf Embassy Golflinks-2.7 msf Occupancy WALE Last five year Rental CAGR
Market Outlook and Growth Drivers (FY19-22E)
Leader in office absorption globally Healthy hiring and abundant availability of talent Improved connectivity with rapidly developing metro Competitive and quality office with limited supply
Sources: Company, Axis Securities
18 23 DEC 2018 Company Report
Embassy Office Parks REIT Assets Profile, Metrics - Mumbai Sector: Commercial Real Estate
FIFC - 0.4 msf Rs 5,076 Cr 16% ~18%
Gross Asset Value GAV of total portfolio of Total Gross Rentals
2 msf 165 Rs/psf pm 5%
Total Area In place rent MTM upside
Express towers - 0.5 msf Embassy 247 -1.2 msf 90.5% 4.6 years ~ -1.3%
Occupancy WALE Last five year Rental CAGR
Market Outlook and Growth Drivers (FY19-22E)
Global financial and legal services hub 9% vacancy in REIT markets implies ample opportunity Limited supply with re-kindling of demand in sub-markets Improved connectivity with developing metro
Sources: SEBI, Company, Axis Securities
19 23 DEC 2018 Company Report
Embassy Office Parks REIT Assets Profile, Metrics - Pune Sector: Commercial Real Estate
Embassy Quadron- 1.9 msf Rs 4,590 Cr 14% ~14%
Gross Asset Value GAV of Of Total total portfolio Gross Rentals
42 Rs/psf pm 8.8 msf 15% Embassy Techzone - 5.5 msf Total Area In place rent MTM upside
92.1% 5.8 years ~ 7.5%
Occupancy WALE Last five year Rental CAGR
Embassy Qubix-1.5 msf Market Outlook and Growth Drivers (FY19-22E)
Hub of SEZ’s around Pune provide for high office demand Abundant availability of technically savvy talent Rapid infrastructure development and seamless connectivity Low property prices with ample space to grow
Sources: Company, Axis Securities
20 23 DEC 2018 Company Report
Embassy Office Parks REIT Assets Profile, Metrics – Delhi NCR Sector: Commercial Real Estate
Embassy Oxygen - 3.3 msf Rs 2,957 Cr 9% ~8% Gross GAV of Of Total Asset Value total portfolio Gross Rentals
4.6 msf 40 Rs/psf pm 28.6 % MTM upside Total Area In place rent
8 years ~ 10% Embassy Galaxy - 1.4 msf 91.3% Committed WALE Last five year occupancy Rental CAGR
Market Outlook and Growth Drivers (FY19-22E)
Near the capital of India, with multiple MNC headquarters Healthy hiring and abundant availability of talent Top class connectivity through roadways and metro Competitive and quality office with SEZ benefits
Sources: Company, Axis Securities
21 23 DEC 2018 Company Report
Embassy Office Parks REIT Solid H1FY20 Performance with focus on growth and distribution… Sector: Commercial Real Estate
17% growth with 99.5% of NDCF payout to unit holders Leasing Highlights of H1FY20 – Long contracts at high spreads
H1FY20 H1FY19 % change New Lease Analysis H1FY20 Embassy Office Parks REIT (in Rs cr) (in Rs cr) YoY Total Lease-up Area (msf) 1.19 Revenue from Operations 1055.7 898.6 17% Area Re-leased (msf) 0.89 Property Tax and Insurance -35.8 -34.4 Re-leasing Spread (%) 66.50% Direct Operating Expense -128.7 -108.6 Net Operating Income 891.2 755.6 18% New Leasing to Existing Portfolio Tenants 75.90% Other Income 44.2 84.9 WALE on new lease-up (years) 9.3
Property Management Fees -23.4 -16.0 Renewal Analysis H1FY20
Indirect operating Expenses -35.3 -55.5 Area Renewed (msf) 0.307 EBITDA 876.7 769.0 14% Renewal spread (%) 22.10% Working Capital Adjustment 110.2 -23.6 Cash Taxes -68.2 -100.9 Key Tenant Additions H1FY20 – Quality on focus Other Adjustments -59.0 -77.2 Tenant Asset City Area (msf) HCL Embassy Techzone Pune 0.236 Cash Flow from Operations 859.7 567.3 52% NTT Data Embassy Golflinks Bengaluru 0.205 NDCF at SPV level after Debt Repayment 805.1 Infosys BPM Embassy Techzone Pune 0.128 Distribution from SPV to REIT 799.8 L&T Infotech Embassy Techzone Pune 0.128 Facebook Embassy Golflinks Bengaluru 0.104 Distribution from Embassy Golflinks 96.0 Google India FIFC Mumbai 0.061 REIT Management Fees -10.3 Dell Embassy Golflinks Bengaluru 0.054 Other Inflows at REIT level -1.3 NTT Data Embassy Oxygen Noida 0.053 Access Healthcare Embassy Techzone Pune 0.044 NDCF at REIT Level 884.2 The Executive Centre FIFC Mumbai 0.022 Payout Ratio Multiple Multiple Multiple 0.155 Distribution 879.7 99.5% Total Area Leased 1.19
Source: Company, Axis Securities
22 23 DEC 2018 Company Report
Embassy Office Parks REIT Valuation Sector: Commercial Real Estate
Valuation We have used a balance sheet based 10-year DCF valuation and a cap rate based terminal value to allow for cash flow stabilization to arrive at a target price of Rs 495. The details of assumptions built-in are as below. Also, ROFO acquisitions can provide considerable upside to value of stock not built into the valuations.
Key Assumptions Growth Drivers
Revenue CAGR Growth Next 3 Years 16.3% Metric FY 19 FY 20E FY 21E FY 22E
Revenue Growth 3 to 10 Years 10% NOI Growth - 20% 16% 13%
WACC 11.3% Occupancy 94% 95% 96% 97%
Capitalization Rate 6.5% Rentals (in Rs/psf) 63 67 71 75
Rental CAGR (FY19-22E) is 5.81% while inflation is expected to remain lower than this level implying rental growth to protect against inflation. Key Risks Tenant concentration risk: Tenants in the technology and financial services sector amount to ~64% of gross rentals and any adverse impact on these sectors will impact Embassy REIT. Property Concentration Risk: High revenue concentration remains in one integrated office parks (~41% of revenue from operations from one Bengaluru property: Embassy Manyata). Any impact on Embassy Manyata will impact overall performance significantly. Inability to lease at market prices: Leasing & rental growth depends on supply-demand conditions in micro-markets, portfolio attractiveness and landlord reputation among other factors. Any impact on these, will affect growth adversely. Regulatory Changes: Any adverse alterations on taxation of interest and dividends will have an impact on company’s operations and return expectations of investors.
Source: Company, Axis Securities
23 23 DEC 2018 Company Report
Embassy Office Parks REIT Financials Sector: Commercial Real Estate
Profit & Loss (Rs Cr) Balance Sheet (Rs Cr)
Y/E March FY19 FY20E FY21E FY22E Y/E March FY19 FY20E FY21E FY22E Net sales 1,877 2,304 2,611 2,956 Total assets 36,695 33,288 33,551 33,724 Other operating income 154 138 157 177 Net Block 21,084 21,435 21,642 21,732 Total income 2,031 2,443 2,768 3,134 CWIP 122 125 128 132
Cost of goods sold 517 592 621 704 Investments 1,499 1,282 1,419 1,400 Contribution (%) 72.4% 74.3% 76.2% 76.2% Wkg. cap. (excl cash) 4,961 795 399 335
Cash / Bank balance 329 329 329 329 Operating Profit 1,514 1,851 2,146 2,430
PBIDT 1,514 1,851 2,146 2,430 Other Non Current Assets 8,699 9,322 9,634 9,796
Depreciation 356 550 592 611 Capital employed 36,695 33,288 33,551 33,724 Interest & Fin Chg. 706 370 434 507 Equity capital 22,904 22,904 22,904 22,904 E/o income / (Expense) 115 138 157 177
Pre-tax profit 567 1,070 1,277 1,490 Reserves (9) (791) (1,585) (2,382)
Tax provision 201 134 198 246 Pref. Share Capital 0.0 0.0 0.0 0.0 Associates 0 0 0 0 Current Liabilities 2,512 2,545 2,767 2,826 Other Comprehensive Income 0.1 0.0 0.0 0.0 Borrowings 7,146 4,234 4,908 5,679 Adjusted PAT 291 815 947 1,096
Reported PAT 365 936 1,079 1,244 Def tax Liabilities 4,142 4,397 4,557 4,697
Source: Company, Axis Securities
24 23 DEC 2018 Company Report
Embassy Office Parks REIT Financials Sector: Commercial Real Estate
Cash Flow (Rs Cr) Ratio Analysis (%)
Y/E March FY19 FY20E FY21E FY22E Y/E March FY19 FY20E FY21E FY22E Revenue Growth 16.5 22.8 13.3 13.2 Profit before income tax 567 1,070 1,277 1,490
Depreciation and amortisation OPM 74.5 75.8 77.5 77.5 356 550 592 611 expense Oper. profit growth 11.3 22.3 16.0 13.2 Net change in Working COGS / Net sales 27.6 25.7 23.8 23.8 16 (75) (82) (92) Capital Depreciation / G. block 1.7 2.5 2.6 2.6 Income taxes paid, net (186.3) (133.7) (197.9) (245.8) Effective interest rate 9.4 6.7 10.3 10.2
Cash flows from operating EBITDA Margin (%) 75.8 77.5 77.5 1,239.5 1,512.6 1,737.2 1,962.6 activities Debt/Equity (x) 0.17 0.17 0.20 0.23 Interest Coverage (x) 2.1 5.0 4.9 4.8 Capex (462) (629) (529) (429)
Cash flow from investing RoE 2.8 4.2 5.0 5.9 106 (679) (501) (250) activities Debt / equity (x) 0.17 0.17 0.20 0.23 Equity Issued/(Bought back) 4,750 0 0 0 Effective tax rate 35.5 12.5 15.5 16.5 Debt Raised/(Repaid) (460) (2,912) 674 771 RoA 1.6 2.9 3.5 4.0 Dividends Paid 0.0 (1,717.8) (1,872.4) (2,040.9) Payout ratio (Div/NP) 0.0 183.6 173.5 164.1
Cash flow from financing 3,472.5 (4,999.6) (1,632.2) (1,776.8) activities EPS (Rs.) 4.8 12.3 14.1 16.3
Net increase/ (decrease) in CEPS (Rs.) 9.5 19.5 21.9 24.3 4,817.6 (4,166.0) (396.2) (64.0) cash and cash equivalents DPS (Rs.) 0.0 22.5 24.5 26.7
Source: Company, Axis Securities
25 Appendix 23 DEC 2018 Company Report
Embassy Office Parks REIT Historical Performance of REIT and correlation with Interest Rates… Sector: Commercial Real Estate
REIT as an asset class has been in existence for over 5 One common misnomer that we have come across is that decades in the US. So we have looked at US based Equity REIT’s rise only in periods of falling interest rates when debt REIT returns to understand how REIT’s have performed as investments become unattractive and underperform during compared to other broad equity markets over long periods of periods of rising interest rates. We therefore again looked US time. REIT returns during rising interest rates. Returns (%) REITs in a Rising Interest Rate Environment Dow Jones FTSE Nareit Nasdaq Period S&P 500 Industrials Russell 2000 All Equity REITs Composite Average 10-Year 13.3 13.44 13.3 12.38 16.3 15-Year 8.65 9.03 9.57 7.93 9.92 20-Year 11.74 6.2 7.38 8.02 4.89 25-Year 11.18 10.15 8.39 9.34 10.28 30-Year 10.75 9.94 8.11 9.4 10.31
The above table represents 10-year to 30-year annualized returns data for broad based equities and REITS, till Nov 2019
REITS have outperformed all broad equity markets be it small The above table looks at a period of 2004 – 2007 where fed cap, large cap or multi-cap in 20-year and above periods and funds target rate increased from 1% to 5%. have given comparable returns in 10-year and 15-year During the same period REIT’s gave a cumulative return of more periods ~80% while S&P 500 gave a return of ~37%. Over very long term investment in REIT’s can be real Wealth Other samples also indicate that REIT’s may be volatile to rising creators even better than equities!! interest rates but generally rise with rising interests Source: NAREIT, Axis Securities
27 23 DEC 2018 Company Report
Embassy Office Parks REIT Structure of REIT and role of various players; Taxation Sector: Commercial Real Estate Taxation The REIT manager sets and executes the strategic direction Tax is charged at the hands of the REIT according to its UNIT HOLDERS Investors will own of the Unit holders and is stated investment strategy. For Units of REIT a pass through at REIT instance, it is responsible for Owns and SPV levels the acquisition and divestment Distributions Units of the REIT’s properties Acts on Management of REIT Services behalf of Unit SPV Holders REIT MANAGER TRUSTEE Dividend Income – No Tax Management Trustee Fees Fees Interest Income – No Tax Appoints Owns Property Property Manager property Income The trustee is responsible Other Income – Taxable for holding the assets of the REIT on behalf of unit PROPERTY PROPERTIES holders REIT Other duties include MANAGER Property Management ensuring compliance with all applicable laws and Services Buy/Sell Dividend Income# – No Tax protecting certain rights of Properties unit holders Interest Income* – Taxable The property manager’s responsibility includes renting Other Income – Exempt out the property to achieve the SPONSORS best tenancy mix and rental income, to run marketing events Unit Holders or programs to attract shoppers/tenants and to Sponsor source the properties that upkeep the property are injected into the initial portfolio of * Investors have to pay 1) Withholding the REIT and may continue to provide tax @ 5% for foreign investors and 10% a pipeline of assets for the REIT for domestic investors on interest income Sponsors typically owns both REIT 2) Tax on income from interests as part of and Property manager and have income tax at applicable marginal tax significant stake in REIT rates # Dividend distribution tax applicable above Rs 10L of dividend income Sources: SEBI, Company, Axis Securities
28 23 DEC 2018 Company Report
Embassy Office Parks REIT Disclaimer Sector: Commercial Real Estate
Disclosures:
The following Disclosures are being made in compliance with the SEBI Research Analyst Regulations 2014 (herein after referred to as the Regulations).
1. Axis Securities Ltd. (ASL) is a SEBI Registered Research Analyst having registration no. INH000000297. ASL, the Research Entity (RE) as defined in the Regulations, is engaged in the business of providing Stock broking services, Depository participant services & distribution of various financial products. ASL is a subsidiary company of Axis Bank Ltd. Axis Bank Ltd. is a listed public company and one of India’s largest private sector bank and has its various subsidiaries engaged in businesses of Asset management, NBFC, Merchant Banking, Trusteeship, Venture Capital, Stock Broking, the details in respect of which are available on www.axisbank.com. 2. ASL is registered with the Securities & Exchange Board of India (SEBI) for its stock broking & Depository participant business activities and with the Association of Mutual Funds of India (AMFI) for distribution of financial products and also registered with IRDA as a corporate agent for insurance business activity. 3. ASL has no material adverse disciplinary history as on the date of publication of this report. 4. I/We, Ankit Suchanti, PGDM IIML author/s and the name/s subscribed to this report, hereby certify that all of the views expressed in this research report accurately reflect my/our views about the subject issuer(s) or securities. I/We (Research Analyst) also certify that no part of my/our compensation was, is, or will be directly or indirectly related to the specific recommendation(s) or view(s) in this report. I/we or my/our relative or ASL does not have any financial interest in the subject company. Also I/we or my/our relative or ASL or its Associates may have beneficial ownership of 1% or more in the subject company at the end of the month immediately preceding the date of publication of the Research Report. Since associates of ASL are engaged in various financial service businesses, they might have financial interests or beneficial ownership in various companies including the subject company/companies mentioned in this report. I/we or my/our relative or ASL or its associate does not have any material conflict of interest. I/we have not served as director / officer, etc. in the subject company in the last 12-month period. Any holding in stock – No 5. ASL has not received any compensation from the subject company in the past twelve months. ASL has not been engaged in market making activity for the subject company. 6. In the last 12-month period ending on the last day of the month immediately preceding the date of publication of this research report, ASL or any of its associates may have: i. Received compensation for investment banking, merchant banking or stock broking services or for any other services from the subject company of this research report and / or; ii. Managed or co-managed public offering of the securities from the subject company of this research report and / or; iii. Received compensation for products or services other than investment banking, merchant banking or stock broking services from the subject company of this research report;
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Instead of a company visit, we have done a conference call with the company’s management.
29 23 DEC 2018 Company Report
Embassy Office Parks REIT Disclaimer Sector: Commercial Real Estate
DEFINITION OF RATINGS Ratings Expected absolute returns over 12-18 months BUY More than 10% HOLD Between 10% and -10% SELL Less than -10% NOT RATED We have forward looking estimates for the stock but we refrain from assigning valuation and recommendation UNDER REVIEW We will revisit our recommendation, valuation and estimates on the stock following recent events NO STANCE We do not have any forward looking estimates, valuation or recommendation for the stock
Disclaimer: Nothing in this report constitutes investment, legal, accounting and tax advice or a representation that any investment or strategy is suitable or appropriate to the recipient’s specific circumstances. The securities and strategies discussed and opinions expressed, if any, in this report may not be suitable for all investors, who must make their own investment decisions, based on their own investment objectives, financial positions and needs of specific recipient. This report may not be taken in substitution for the exercise of independent judgment by any recipient. Each recipient of this report should make such investigations as it deems necessary to arrive at an independent evaluation of an investment in the securities of companies referred to in this report (including the merits and risks involved), and should consult its own advisors to determine the merits and risks of such an investment. Certain transactions, including those involving futures, options and other derivatives as well as non-investment grade securities involve substantial risk and are not suitable for all investors. ASL, its directors, analysts or employees do not take any responsibility, financial or otherwise, of the losses or the damages sustained due to the investments made or any action taken on basis of this report, including but not restricted to, fluctuation in the prices of shares and bonds, changes in the currency rates, diminution in the NAVs, reduction in the dividend or income, etc. Past performance is not necessarily a guide to future performance. Investors are advice necessarily a guide to future performance. Investors are advised to see Risk Disclosure Document to understand the risks associated before investing in the securities markets. Actual results may differ materially from those set forth in projections. Forward-looking statements are not predictions and may be subject to change without notice. ASL and its affiliated companies, their directors and employees may; (a) from time to time, have long or short position(s) in, and buy or sell the securities of the company(ies) mentioned herein or (b) be engaged in any other transaction involving such securities or earn brokerage or other compensation or act as a market maker in the financial instruments of the company(ies) discussed herein or act as an advisor or investment banker, lender/borrower to such company(ies) or may have any other potential conflict of interests with respect to any recommendation and other related information and opinions. Each of these entities functions as a separate, distinct and independent of each other. The recipient should take this into account before interpreting this document. ASL and / or its affiliates do and seek to do business including investment banking with companies covered in its research reports. As a result, the recipients of this report should be aware that ASL may have a potential conflict of interest that may affect the objectivity of this report. Compensation of Research Analysts is not based on any specific merchant banking, investment banking or brokerage service transactions. ASL may have issued other reports that are inconsistent with and reach different conclusion from the information presented in this report. Neither this report nor any copy of it may be taken or transmitted into the United State (to U.S. Persons), Canada, or Japan or distributed, directly or indirectly, in the United States or Canada or distributed or redistributed in Japan or to any resident thereof. If this report is inadvertently sent or has reached any individual in such country, especially, USA, the same may be ignored and brought to the attention of the sender. This report is not directed or intended for distribution to, or use by, any person or entity who is a citizen or resident of or located in any locality, state, country or other jurisdiction, where such distribution, publication, availability or use would be contrary to law, regulation or which would subject ASL to any registration or licensing requirement within such jurisdiction. The securities described herein may or may not be eligible for sale in all jurisdictions or to certain category of investors. The Disclosures of Interest Statement incorporated in this document is provided solely to enhance the transparency and should not be treated as endorsement of the views expressed in the report. The Company reserves the right to make modifications and alternations to this document as may be required from time to time without any prior notice. The views expressed are those of the analyst(s) and the Company may or may not subscribe to all the views expressed therein.
Copyright in this document vests with Axis Securities Limited. Axis Securities Limited, Corporate office: Unit No. 2, Phoenix Market City, 15, LBS Road, Near Kamani Junction, Kurla (west), Mumbai-400070, Tel No. – 022- 40508080 / 022 - 61480808, Regd. off.- Axis House, 8th Floor, Wadia International Centre, Pandurang Budhkar Marg, Worli, Mumbai – 400 025. Compliance Officer: Anand Shaha, Email: [email protected], Tel No: 022-42671582.
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