COMPANY: Dar Al Arkan (DAAR) is the largest listed real estate developer in Saudi Arabia. Land sale has been the company’s major source of revenue in recent years, though it is working towards diversification by increasing its recurring income stream. The company’s land bank spans Riyadh, Medina, Jeddah and the Eastern Province. DAAR was established by six Saudi business families in 1994 and has since evolved from a basic infrastructure contractor to a leading community developer and land dealer. The company was floated on the Saudi Stock Exchange in 2007. DAAR’s founders own a total of 70% of the company, while the remaining 30% is free float. The company also operates through various subsidiaries in three main areas of real estate: land development, property management and leasing, and residential and commercial development.
The company’s business model has been highly skewed towards land sales, which represented on average 95% of 2009-13 revenues, with the remaining 5% stemming from project development. Over the last few years, project development revenues declined with a limited inventory of housing units, as the company is in the process of developing new master plans for communities. Due to limited off-plan sales in the Kingdom, DAAR funds its developments by selling plots. In 2013, the company’s total sales declined 18% to SR2.9bn ($773m) due to a slowdown in land sales. Its gross profit margin declined 20 basis points to 39.3% on the back of lower land margins. Net profit decreased 32% to SR681m ($181m) as finance costs further escalated due to higher debt used to fund land acquisitions.
DAAR remains one of the few organised community housing developers in Saudi Arabia, where about 90% of the sector is served by unorganised local contractors. DAAR purchases and develops large parcels of undeveloped land, which are later sold to other sub-developers or individuals, or retained for the construction of planned communities. The company aims to build large master-planned communities, which act to increase land value. The benefit comes from selling the remaining land to third-party developers, investors or end users at a higher value.
DEVELOPMENT STRATEGY: DAAR is looking to reduce its dependency on land sales by building a recurring revenue portfolio. The company is coming to rely less on property sales due to limited homebuyers’ affordability, especially in the middle-income segment. DAAR has 3000 residential units and some 100 sq metres of commercial – mainly retail – space in its leased portfolio and is developing three projects totalling 4.1m sq metres for expected delivery by 2017. Though recurring income is expected to grow strongly from its currently low base, we expect its share of total revenues to remain low at about 6% by 2016E.
The Saudi property market is one of the strongest within the Middle East and North Africa, driven by favourable demographics with a large number of citizens entering the labour market. According to Deutsche Bank, demand for additional units should reach 1.2m by 2015E, with supply at about 0.8m units, leading to a shortfall of 34%. Ironically, the majority of this unmet demand remains dormant due to limited affordability, as banks remain reluctant to offer mortgages in light of an ambiguous legal framework that fails to protect lenders. Lower profitability due to higher land cost – 40% of total cost versus 10-20% in Dubai – is another obstacle to offering affordable products.
To address affordability, the government has introduced a new mortgage law. This liberal legislation could boost unit demand in the long term, while the short term will remain challenging for most developers. That said, we expect the early beneficiaries of the law to be master developers with land inventories of at least 32m sq metres, given that smaller real estate developers may try to scale up their projects, and therefore, land purchases, in anticipation of increased demand. We expect mortgages to play a vital role in the middleincome segment where DAAR predominantly operates. Overall, we foresee DAAR being the prime beneficiary of this potential fundamental change in the Kingdom.
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