Thursday, July 10, 2008

Say No to DLF buyback at Rs.600/-

So, why is everybody questioning DLF buyback?

As per filings before NSE, the company will spend close to Rs.11 billion ($255 million) to buyback 22 million equity shares at price not exceeding Rs.600 per equity share. Giving in to the babble around the expediency of this bold decision, I ran a check on the DLF data.

The company had revenues of Rs.60.58 billion and an EBITDA of 31.18 billion for FY 2007-08. So the EBITDA margins are in the range of 51.47%. The company has an interest outgo of Rs.4.48 billion during the period. DLF is an industry leader, let’s assume its cost of funds at an average of 14%. That means it has a debt of about Rs.32 billion in its books (Rs.4.48 billion x 100/14). Now if you imagine 14% funds getting deployed in a 51.47% margin earning business, it is a no-brainer to decide in favor of its retention in the business.

Why is then DLF bent on spending Rs.11 billion to buyback just 1.18% of its equity? Bravado? Why don't they retain that cash and plow it back in business?

I think it has to do with the high promoter holdings in the company. First off, in a buyback, even as the company forks out funds to buy its stock back, it is the promoter who gains in individual wealth since his % stake goes up. The SEBI formula - six months’ average of daily highs and lows or the last two weeks’ average, whichever is higher – comes as a blessing in disguise now that DLF prices have declined by over 50% of their all time high. So if the stock price is not kept propped up, the founder K.P.Singh’s family holdings of about 88% will have to be eventually valued lower. Being a high beta stock, DLF price will revive faster when markets improve and the founders know it only too well. That’s when the promoters stand to gain if they choose to dilute their stake and cash out.

So it pays to think like a promoter. I see a clear 50% upside from current valuations in about six months when the current turbulence fueled by oil price surge and political tempest settle down and the realty sector looks back up. What say you?

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