A Proxy to the Saudi Residential Real Estate Market « Alpha Dinar- talking GCC finance

As I promised last week (click here), I will tell you how to best position yourself if you are betting on the Saudi Mortgage Law. When the supply finally catches up with the demand the whole economy will grow and all sectors will benefit. Banks will take their share by growing their loan portfolios and increasing their NIM’s (net interest margin). Real estate brokers, landlords and land developers will benefit from the increase in volume in sales.

An obvious investment would be real estate, however, if you don’t have enough capital or simply you cannot own land in Saudi, the best way to capture this growth is to long Dar Al Arkan stock. In my opinion this stock is a proxy to the Saudi residential real estate market.

Dar Al Arkan, incorporated in 1994, is the largest listed real estate developer in Saudi Arabia. It was established by six Saudi families, in which they control 70% of the equity and rest is free floating in the Tadawul exchange. Since inception the company has grown to be from a basic infrastructure constructor to become one of the leading real estate developers and homebuilders. Given its young aged demographics, Saudi Arabia is highly in demand for new infrastructure. Dar Al Arkan has positioned itself to be the leader in mid-income housing development.

Revenue

Currently most of Dar Al Arkan’s revenues are generated through land sales. However, revenue is expected to be more diversified in the coming few years when the company is ready to sell its’ units and a stream of rental income is expected to come in. Moody’s expect the revenues to be around SAR11 billion in 2013 from SAR5 billion in 2009. Historically the company has been generating high gross income margin of around 50% backed by high margin land sales; nevertheless, this number is expected to decrease to around 30% as revenue diversifies more.

Debt and Liquidity

Due to the nature of the company and given it cannot sell off-plan properties it has to fund itself through other mediums. They have taking both short-term and long-term debt to fund their projects. As per the second half results, Dar Al Arkan has SAR7.6 billion in borrowings. Initially cash from land sales will settle a small portion of the debt, however the debt is expected to decrease when they start selling their unites in 2012. The company has high leverage ratios, however, it is justified due to the nature of the business. I expect the debt ratios to decrease in 2012 when they sell the projects they are working on. Moreover, I expect the profitability ratios to improve, as they will have more sources of revenues.

Below is the price chart of Dar Al Arkan. The stock is trading at all time lows, down 38% this year as compared to the Tadawul index, which is up 3%. Although I like the story of Dar Al Arkan the chart frightens me a bit as it indicate that the market anticipates further delay on the law. There is defiantly a big risk factor, however I would still take a bet on it.