Forget Vadragate, the DLF stock should still be a sell

The stock price of DLF closed on Friday at Rs 218.9, nearly 10 percent down over the week.

However, almost none of the major stock brokerages has changed its recommendation on the stock ever since Arvind Kejriwal attacked the company for his Robert Vadra connection. Nevertheless, there are strong rumours going around that the brokerages are getting their real estate analysts to call up their biggest clients and recommending them to slowly sell out of the DLF stock. This may, to a certain extent, explain why the stock price of the company has fallen so fast the previous Friday.

Dragged into controversy. Reuters

Stock brokers rarely issue direct sell recommendations on stocks. There are primarily three reasons for the same. The company on whose stock the sell recommendation is issued can limit the access the analyst has with the company. So there might be no information sharing, site visits, etc. This can put the analyst at a huge information disadvantage vis-a-vis other analysts.

An out and out sell recommendation also does not go down well with institutional investors, the biggest clients of stockbrokers. This is because a sell recommendation can spread and lead to everybody wanting to sell out at the same time. This can lead to the value of the investments falling dramatically. And nobody likes that.

And, finally, any brokerage makes more money by issuing a buy recommendation than a sell recommendation. This is primarily because when it makes a sell recommendation it can only earn commissions from its own customers who sell the stock. Whereas when it makes a buy recommendation it can get its brokers to call on new customers and get them to buy the stock.

Due to these reasons none of the major stock brokerages have issued a sell report on DLF, even though great political risk seems to have become attached to the company.

Even so, the fact that DLF might have major political risk going with it has only recently been identified and registered into public perception. But even with that the one big reason investors should stay away from the company is the massive debt that it has on its books.

The debt has constantly been building up since the financial year 2007-2008 (the period between 1 April 2007 and 31 March 2008) during which the company decided to re-list on the stock exchange.

The debt as on 30 June 2007 was at Rs 10,436.6 crore. This number five years later stands at Rs 25,060 crore, or 140 percent more. The debt of the company has grown at the rate of 19.1 percent on an average every year.

Click here to look at the tables. It shows very clearly that the debt of the company has gone up year on year since 2007. Any company which takes on more debt does so in the hope that the extra money helps it to expand and thus earn more money in the process. But is that the case with DLF?

The tables throw up some very interesting numbers. The total quarterly income of DLF as on 30 June 2007 was at Rs 3,121 crore. The total quarterly income of DLF as on 30 June 2012 was Rs 2,329 crore, or 25.3 percent lower.

So the debt of the company has gone up by 140 percent in the last five years. But during the same period the quarterly income has fallen by a little over 25 percent. To be fair to the company, quarterly sales do not always reflect the annual trend. So let's take a look at the annual numbers and see how they stack up.

As we can see from the above table, the total income of DLF has come down by 30 percent in the last four years. Though it has recovered to some extent in the last two years. What is interesting is that between 31 March 2008 and 31 March 2012, the debt of the company has more than doubled to Rs 25,066 crore.

What does all this tell us? Here is a company which is earning less money than it was in the past but is constantly taking on more and more debt. More debt means more interest to pay as well. As the annual report of DLF dated 31 March 2012 points out, "the company's borrowings from banks and others have a effective weighted average rate of 12.38 percent calculated using the interest rates effective as on 31 March 2012 for the respective borrowings".

This means the company is paying an interest of 12.38 percent on its debt of Rs 25,066 crore. This translates into a yearly interest of Rs 3,103.8 crore. This works out to 30.4 percent of the yearly income of Rs 10,207.88 crore and is much more than the companies last quarterly income. The interest burden of the company this year is 2.7 times its last year's net profit of Rs 1,168.68 crore.

Other than the interest to be paid the company also needs to pay off the debt that is maturing. Its total debt of Rs 25,060 crore is a little over 21.4 times its last year's profit and two-and-a-half times its annual income. DLF is in a right royal mess. It is highly unlikely that the company will be able to pay off its debts from its normal sources of income. Given this, the only way out for the company is to sell off its various assets as well as non-core businesses.

But that is easier said than done. It has been trying to sell its wind power business for a while now. Media reports also suggest that it is in the process of selling off Aman Resorts, its foray into the luxury hospitality business. The hotel DLF set up with Robert Vadra is also reported to be on the block. A couple of months back DLF managed to sell off its 17.5 acre land plot in Mumbai's Lower Parel area to Lodha Developers for Rs 2,750 crore. The company also managed to sell off Adone Hotels and Hospitality for Rs 567 crore.

All these investments got the company into the financial mess as it took on more and more debt to expand.

The company also claims to have a land bank with a developmental potential of 345 million square feet. But in the economic environment that prevails, it is becoming more and more difficult for DLF to sell of its assets like land and other businesses. Hence its ability to bring down its debt remains limited. Given that, it will have to continue paying high interest on its accumulated debt thus limiting its net profit.

DLF had listed on the stock exchanges in July 2007 with great fanfare. The stock price reached an all-time high of Rs 1,207 in January 2008. Anybody who bought the stock at its peak, like a lot of investors did, would have seen the value of his investment fall by a whopping 82.1 percent by now, making the stock one of the biggest destroyers of stock market wealth over the last few years. Chances are this might just continue in the days to come.

Vivek Kaul is a writer. He can be reached at vivek.kaul@gmail.com.

Disclosure: The author does not own any DLF stock. Neither is he short on it. He may have some indirect investment in DLF through the equity mutual fund route.