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Dubai real estate development | OW Emaar Development on story and valuation

Flag Emaar Development as a play on the development segment in Dubai. We initiate coverage on Emaar Development (ED) with an Overweight rating (48% upside), and Damac Properties (Damac) with a Neutral rating. We find ED’s story quite compelling, with a P/NAV of 0.68x, a 16% discount to JLL’s NAV vs. 1.0x for its closest peer, Damac (trading 24% ahead of its historical NAV). Relative to Damac, ED is supported by a: i) stronger brand name, ii) larger land bank, iii) more resilient client base, iv) more diversified product offering, and v) better sales network. We expect ED to deliver growth, with both revenue and EPS growing at a 2017-20e CAGR of 17%, and a 2017-20e ROE of 48% vs. -1.8%, -7.7%, and 14%, respectively, for Damac. This is in addition to higher, committed dividends, yielding 10.3% in 2018-20e vs. 8.3% for Damac (also attractive, albeit only for 2018-19e).

2018 company themes: MSCI inclusion for ED, unit delivery year for Damac. 2018 should be a good year for ED with: i) contracted sales, sliding only 5% from an exceptionally strong year, ii) revenue and net income growing c20%, each, iii) EBIT margin expanding c2pp, and iii) the company delivering on its first dividend (interim dividends set for 3Q18). ED’s parent’s failure to stick to its post-ED IPO dividend guidance appears to weigh on ED’s shares. However, we argue that the case here is different, owing to ED’s off-plan model and cash-light land acquisition strategy, as well as the parent’s 2018-20 funding needs for BTL and BTO projects. We flag ED’s high likelihood of inclusion in the MSCI UAE Standard Index, in May 2018, as a major catalyst. As for Damac, apart from decent unit deliveries set for 2018 (more than 4k units, 30% higher than 2015-17 average), triggering significant cash releases from escrow, we believe 2018 will be lacklustre due to: i) contracted sales, roughly unchanged y-o-y from a low base, ii) revenue dropping 6%, iii) EBIT margin narrowing c7pp, and iv) net income falling 22%. 

Development market near trough. Although still generally soft through February 2018, encouraging signs of stability were seen since the kick-off of 2017. We believe 2018 will show stability on: i) better oil prices, ii) a more stable outlook for the GBP and EUR, and iii) gradually improving sentiment, with prices confirming stability, and activity in the ready units market picking up after a robust year of off-plan sales. Beyond 2018 and closer to Expo 2020, Dubai’s real estate market is set to benefit from increased economic activity. The city has a strong case for attracting international flows, underpinned by: i) high residential rental yields, ii) low mortgage rates and transaction cost, and iii) the absence of capital gains tax.