Egypt - Six October Investment and Development Company (SODIC) – Initial Coverage – May 2008 - SODIC reported an excellent performance during the past few years, as revenues recorded a CAGR of 290% from 2004 to 2007 against a CAGR of 153% for cost of sales over the same period, resulting in improved profit margin, as revenue growth outpaced cost escalation. The Company’s revenues reached LE486.62mn in year 2007 compared to LE359.45mn in 2006, recording a growth rate of 35.4%. Net profit achieved a growth of 48.3%, increasing from LE223.62mn in 2006 to LE331.53mn in year 2007, while return on sales improved to reach 62.2% and 68.1% in 2006 and 2007, respectively.
We initiate coverage on SODIC using Sum of the Parts (SOTP) valuation, where we derived SODIC’s value based on the sum of values generated from each project to determine the contribution of each project to the Company’s total value. A fair value of LE293.88 per share was reached based on a blended DCF/ NAV valuation, where Solidere two projects account for 84% of the Company’s total value, while the rest of the projects account for 16%. The stock currently trades at LE178.40 which implies that SODIC’s shares are trading at a discount of 64.73% to its fair value. We, therefore, initiate our coverage of SODIC's stock with a ‘Buy’ recommendation, at its prevailing price levels.
Financial Performance
SODIC’s revenue achieved a very high growth in year 2005 recording LE153.3mn, compared to LE8.2mn in 2004, due to the sale of 1mn sqm at a total sales value of LE131.25mn. The Company continued its revenue growth momentum and recorded 134% and 35% growth in 2006 and 2007, respectively.
This resilient growth in 2006 resulted from the sale of 294,000sqm to Royal Gardens Company, in which SODIC owns 20%, with a total sales value of approximately LE176mn to establish Casa project. In addition, the Company sold other land plots with a total value of LE152.9mn. In 2007, the growth in revenue came mainly on the back of the sale of Cairo-Alexandria showroom to Bonyan Development and Trading Company, a subsidiary of Citadel Capital, with a total sales value of LE262.9mn, implying a price of 2,250/sqm, and the sale of 10,000sqm land plot, on which Beverly Hills club exists, to Beverly Hills for Cities and Resorts Management Company against a total value of LE14.5mn. The growth in sales was mainly attributable to the sale of land plots, which contributed to more than 90% of total revenue in 2006 and 2007, compared to 78% in 2005.
In 2007, SODIC sold an area of 97,313sqm from the land plot, on which Dahshour show room will be established, with a total value of LE68.7mn to the Egyptian Company for real estate development, an affiliate to SODIC, in which it owns 50% stake. Therefore, the sale value was excluded from the consolidated financial statements. On the other hand, cost of sales as percentage of revenue decreased from 59.0% in year 2005 to reach 33.4% in year 2007. This decline resulted from greater contribution of land sales, which development costs are lower, compared to built-up areas sales. This led to improved gross profit margin from 41.5% in 2005 to reach 66.6% in 2007.
SODIC’s operating revenues and expenses
Source: SODIC and Global Research
Operating profit (EBIT) margin improved in 2006 compared to 2005, where it increased from 41.5% to reach 68.5%, whereas it declined in 2007 to reach 55.8%. This decrease can be explained by the employees’ stock option plan adopted by SDOIC, where the Company record the difference between the share’s market value and its exercise price as an expense on the income statement, resulting in an increase of LE8.75mn in Selling, Administrative and General expenses in 2007. In addition, wages, salaries, sales commissions and advertising expenses increased by approximately LE20mn in 2007.
Although the operating profit in 2006 was higher, in comparison to 2007, the NPBT margin was higher in 2007. This increase was attributed to the remarkable decrease in interest expense, from LE13.4mn in 2006 to LE1.8mn in 2007, as the Company paid the outstanding debt balance amounting to LE73.2mn accrued to the National Bank of Egypt in 2006. In addition, interest income increased significantly from LE11.1mn in 2006 compared to LE31.8mn, on the back of LE6.9mn and LE4.8mn return on investment in treasury bills and investments in sister companies, respectively. Another factor caused the increase in NPBT margin was the consultancy revenue generated in 2007 amounting to LE6.0mn.
With regard to taxation, SODIC enjoyed a 10-year tax exemption, as the Company was established under law no. 159. SODIC’s tax exemption ended in 2007 and will start paying taxes starting from year 2008 at 20% tax rate.
The outcome of the aforementioned significant improvement in SODIC’s financial performance was a certain surge in its bottom line as percentage of sales recording net profit margin of 26.8%, 62.2% and 68.1%, in 2005, 2006 and 2007, respectively. In terms of growth in net profit, the Company recorded a considerable growth of 443.6% in 2006 compared to 48.3% in 2007. This is translated into an EPS of LE11.88 in 2007 compared to LE8.01 in 2006 and LE1.47 in 2005.
SODIC’s assets base increased significantly since 2005, as total assets increased from LE455.70mn to reach LE2.26bn in 2007 at a CAGR of 123%. This increase in total assets is mainly attributable to the increase in cash balances, resulting from the Company’s capital increase, which took place in 2006. The contribution of cash and equivalent to total assets recorded its highest level of 46.9% in 2006, compared to 13.5% and 24.1% in 2005 and 2007, respectively. SODIC cash and cash equivalent balance stood at LE544.92mn in 2007 compared to LE793.83 and LE61.46mn in 2005 and 2006, respectively.
Furthermore, the composition of the Company’s assets has evolved over the past 3 years, where investments, which includes unutilized land plots and rented finished units, contribution to total assets declined to reach 0.4% in 2007 from 25.6% in 2005. This decline came on the back of shifting the un-utilized land plots, with an amount of LE88.50mn from investments, to the work in progress account, causing a surge in inventory as percentage of total assets from 10.4% in 2006 to 39.0% in 2007. Net accounts receivables contribution to total assets maintained its level around 22.0% in 2006 and 2007 compared to 16.8% in 2005.
SODIC is heavily dependent on financing its assets through funds provided by shareholders, as equity financing contributed to 78.0% to total asset in 2007, as opposed to 82.2% and 22.4% in 2006 and 2005, respectively. The Company’s net worth reached LE1.75bn in 2007 compared to LE1.39bn in 2006 and LE102.13mn in 2005. The large increase in equity from 2005 to 2006 was a direct result of increasing the capital by 11mn shares, of which 9mn shares were offered to new shareholders and the remaining 2mn shares offered through private placement, at a price of LE100 per share, to finance the acquisition of 99.99% stake in Sixth of October for Development and Real Estate. In addition, the Company issued additional 1mn shares to Employees Stock Option Plan (ESOP) in 2007.
The Company successfully paid the entire bank long-term debt amounting to LE73.20mn accrued to the National Bank of Egypt. Accordingly, bank debt was reduced from 17.5% of total assets in year 2005 to 0% in 2006. In 2007, SODIC obtained a short term facility amounting to LE44,941. Land debt represents the amounts accrued to New Urban Communities Authority (NUCA), where it contributed to 9.7% of total assets in 2007. The outstanding land debt of LE164.30mn was for purchasing a 327,600sqm land plot in El Sheikh Zayed in 2007, payable on 7 years, starting from 2010 with a 3-year grace period, in addition to LE15.0mn against relinquishing an area of 1mn sqm, payable on 30th December 2008, and another LE41.95mn for New Cairo land plot, payable in 2008. Down payments made up 24.5%, 7.9% and 5.3% of total assets in 2005, 2006 and 2007, respectively. It represents the amounts received in advance from customers until units’ delivery.
