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Analysis: Stock rising

The potential risks and rewards of investing in Damac's shares

Hot Property: Damac has sold 398 Akoya villas for an average price of $890,000.
Hot Property: Damac has sold 398 Akoya villas for an average price of $890,000.

Damac has revealed that the IPO, which took place on London’s stock exchange at the end of 2013, raised a total of $379.1mn for its founder.

Two companies owned by chairman Hussain Sajwani, Al Firdous Holding and Sahira Co, sold a stake equating to a 14.3% share of Damac at $12.25 per share.

The sale not only provided a handsome payday for Sajwani, it also gave the company a market cap on flotation of $2.65bn.

Moreover, in the six weeks since they were first floated, the shares have increased in value by 20% – from $12.25 to $14.70. Deutsche Bank, which advised the firm on its IPO, recently recommended the stock as a Buy, and set a target price of $16.90.

So what’s in it for investors, and what are the risks involved? As the firm explained in its prospectus, there are significant opportunities available within Dubai’s property market, but also plenty of potential threats.

Industry commentators seem to agree that, although Damac can’t be deemed to have had a ‘good’ recession, it at least got on with the business of delivering the bulk of its projects. There were certain schemes which never got off the ground, and the odd court case involving investors seeking refunds, but overall its record has been admirable.

Indeed, documents filed as part of its offer to shareholders show that its development activity “picked up strongly” in 2009/10, and completions increased accordingly.

Just one scheme worth $105mn was completed in 2010, but five projects with a combined value of $754.1mn completed in 2011 and three projects finished in 2012 worth $693mn. At the time Damac’s prospectus was published in early December, it was forecasting a further 12 completions in 2013 and eight in 2014.

The total number of completed units at October 31, 2013 stood at 8,887 – 8,165 of which were in Dubai and the rest in Abu Dhabi.

This is reflected in the firm’s figures. In 2010 the company declared a loss of $96.1mn on revenues of $118mn, but as more projects were completed it reported a five-fold increase in sales to $666.9m in 2011 and turned around the loss into a net profit of $150mn. This was followed by a $212.5mn profit in 2012.

As it ramped up activity last year ahead of its IPO, launching a blitz of new projects including new Paramount and Fendi-branded towers in Dubai and Riyadh, as well as the huge Akoya by Damac scheme at Dubailand, the figures achieved in the first six months of 2013 were impressive – year-on-year sales were up by 39% to $631.9mn and profits surged by 83% to $332mn.

For investors, the company says that it plans to pay out 30-50% in distributable earnings in 2014, and that it will pursue a “progressive” dividend policy thereafter; so if it keeps making profits, shareholders should earn a greater share, depending on how much of its earnings it decides to distribute and how much it withholds for investments.

The company works off a model of using off-plan sales to fund development, within the confines of UAE law. It typically requires customers to pay at least 30% of a unit’s total sale price within 180 days. Around 30-40% of a development will be sold off-plan, but by the time a scheme reaches completion this will have risen to around 85-95%. Money from pre-sales is held in escrow, but can be tapped into to meet construction costs once certain targets are met. Historically, Damac “has not been required to utilise significant amounts of external debt” to complete schemes.

Income generated on projects depend on the sale prices generated, but even after buying land, paying construction and marketing costs, the firm can make a profit of up to 50%, according to a recent Wall Street Journal article.

Damac also says it has a secure pipeline of future projects, with 21,075 properties on 25.8m ft2 of land set to be delivered by 2017.

So what’s not to like? Well, a look at the risks spelled out to potential investors started with the most obvious, given that its pipeline is concentrated in Dubai.

“Any adverse developments in the real estate sector or the Dubai market may have a material adverse effect on the group’s business and financial results”, it said, pointing out that if the market were to become saturated – or even if it were perceived to be – it might have to sell units at a loss or have trouble selling them at all.

It could also suffer damage to its reputation through projects being delayed, suspended, terminated or changed materially in scope.

Shortages of raw materials like steel and glass, particularly if there is a major construction boom in the region, could also delay projects and hike up costs.

Although the company generally expects contractors to pick up rising costs, there are clauses in some deals that require it to make up a shortfall above a pre-agreed percentage.

There are also some business-specific risks, including Damac’s reliance on founder and chairman Hussain Sajwani.

Similarly, its development model could mean it is forced to postpone or cancel projects if it either fails to secure enough off-plan sales, or if enough customers who agree to buy units subsequently default.

Other business risks are associated with its recent rapid growth and its ability to continue managing it; to buy land at the right price and to recruit contractors at the same rates it has enjoyed in recent years. If Dubai’s property market continues to strengthen, contractors’ bargaining power will increase – particularly among firms capable of building towers with 40 or more storeys.

Risks inherent to the Middle East were also highlighted, including “unlawful or arbitrary government action”, the potential introduction of VAT or corporation tax in Dubai and the risk of further political instability. Regional property markets are also “characterised by a lack of transparency”.

Only time will tell whether the shares will prove to be a good investment, although the outlook for the short-term at least seems positive.

Between June 30 and the prospectus’s publication date on December 3, 2013, the company sold a further 2,292 units for $952mn. Some 398 of these villas were at the Akoya by Damac project, which fetched a combined $354mn, indicating an average price per villa of just under $890,000.

It also paid a further $30.6mn for 9.1km2 of neighbouring land, and leased over 4km2 for land that will form phase 3 of Akoya by Damac. The purchased part will contain homes and commercial units and the leased element (held for 30 years) will house a landscaped park.

Peter Tavener , managing director at BDO Corporate Finance in Dubai, said that he believed Damac’s flotation had been a success.

“It was sensibly priced and Damac is in a great position,” he said.

“When you look at the number of properties it has delivered recently, it’s in excess of Emaar and it has a great pipeline.”

Meanwhile, a report published by Jones Lang LaSalle last week said sale prices for Dubai properties continued to grow rapidly in Q4 - up by 22% year-on-year. It estimated that 45,000 new homes will be built over the next three years, with a third of these being in the Dubailand area where the Akoya by Damac project is based.

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