Given below are some of the well known real estate companies in India. Ashiana Housing clearly stands out as it has a low market capitalization compared to others and it has negligible debt.
Ashiana Housing is a real estate development company established in 1979 with its head office in New Delhi, India. It is in the business of building, selling, and maintaining homes. The company was founded by Late Om Prakash Gupta and it is currently managed by his three sons: Vishal Gupta, Varun Gupta, and Ankur Gupta.
1. Where does it build homes?
Ashiana operates in Tier II and Tier III cities. They have a major presence in North India. Take a look at the map given below to see its presence.
80% of its ongoing projects are happening in Jaipur and Bhiwadi. Both cities are in Rajasthan.
2. Who are its customers?
The company builds comfort homes (apartment type) for the middle income group. It prices its homes between Rs 15 to 60 lakhs. This is an affordable price as this range is below 6 times the annual median income of its target segment. It also sells homes for people who are over 55 in the middle income group in cities having population of more than 25 lakhs. It does this under the brand ‘Ashiana Utsav‘. It also does assisted living for people in advanced ages who require assistance in performing their daily chores. It does this under the brand ‘Care Homes‘. Around 90% of the homes built by the company are of type comfort homes and the remaining 10% are of type senior living.
3. What are its sales channels?
The company has an in-house sales team that sells homes to the customers directly. It does not sell it through any broker. This increases customer satisfaction through direct and transparent communication, creates better feedback channel and builds long term relationships. Also there are no sales related incentives. This ensures that all the sales executives are motivated by the customers satisfaction and not by a sale. This setup helps the company to avoid incentive-caused-bias.
The company has an excellent website with price information that are updated regularly. Also the website is integrated with an online chat system which lets the prospect to chat with a company representative.
The company spends some money on advertisement and promotions to acquire new customers. In FY2013 it spent less money on advertisements compared to FY2010. The company grew its revenue by spending less on advertisements. Is this not strange?
Around 50% of the sales happen through referrals. Take a look at the table given below which proves this fact.
In 2013 annual report Ankur Gupta talks about this.
Referral sales are a big part of your sales numbers? Could you explain why this is so high and what all company does to ensure these high rates?
One of the biggest strength that our company has is the large number of referral sales. The entire ethos of this trust has been built on a philosophy of honest and transparent dealings with customers. Of our total sales, over 50% are through referrals. This has been a big differentiator for us and helped us maintain our growth momentum even in markets where overall sales are slowing down.
When was the last time you referred a product or a service to another person? Why did you do it? You will refer it for three reasons (1) High Quality (2) Trust in the company (3) Brand appeal. Ashiana Housing has all of this and hence referral sales account for over 50%. This helps the company to keep its costs low and increase its profit margins. Take a look at the company logo. The visual in the logo resembles a mother holding a child. Also the tagline below the logo “you are in sale hands” specifies that once associated with Ashiana, you don’t have to worry about deliveries, investments, safety, security and other issues related to housing. Strong association is one of the power mental model in psychology and it is working positively for the company.
4. What are the key resources and strategies used by the company to build homes?
In order to build and sell homes you need to acquire a land for development. The company follows a development-oriented approach. Land is treated as an inventory stocked enough for consumption instead of creating a large pool of land bank. Any big housing project has two stages (1) Pre-development where it needs to study the area and source the land. This stage takes around an year (2) The actual development stage which takes around four to six years depending on the size of the project. Hence the company maintains five to seven years of land inventory at any point in time to ensure that projects are executed smoothly and also not blocking too much capital in the land. This is one of the reasons why the company has negligible debt. In 2013 annual report Ankur Gupta tells
Our philosophy around land acquisition is pretty straightforward and built on the following tenets. Land for us is just inventory. We want to block minimum amount of cash in it and at any given time have saleable land inventory of 5-7 times the sales run rate in any given year. The other thing we look for is that our final land cost per sq. ft. should not be more than 25% of the final selling price.
What does the company do if the land cost exceeds 25% of the final selling price? In that situation the company partners with land owners by way of area sharing, profit sharing, or revenue sharing. Some of the advantages in partnering with land owners are (1) Reduces the amount of investment in land (2) Reduces title risks (3) Partners have local area expertise and know-how of regulatory procedures which leads to quick execution during pre-development stages. This strategy enables the company to execute multiple projects at the various locations with minimal capital.
In order to build homes you need people. The company has an in-house construction team having expertise in building homes. Having an in-house team enables the company to deliver projects on time, with quality, and reduces cost and increases its profit margins.
Two basic raw materials for building homes are steel and cement. Over the years the prices of these commodities have been on the rise. The company does not have much control over this. In the very short term it reduces its profit margins. But in the long term it does not matter as the price increase is passed on to the home buyers.
5. Does the company maintain relationship with the customers post purchase?
Most of us would have purchased apartments from a well known builder. How many times did the builder talk to you after the apartment is delivered? The most likely answer is never. But this company is different. It has a subsidiary named VML which provides facilities management post delivery and it maintains over 5000 flats. It also does resale and rental services. VML is not a profitable segment for the company. But having it increases the buyers confidence and helps to maintain the brand image of the company. This results in increased referral sales and it also completes the entire value chain for the company.
6. How much profit does the company make per square footage constructed?
Let us look at the profit and loss statement for the fiscal year 2007, FY2010, and 2013.
In FY2013 around 53% of revenue was spent on land, material, and labor. Compared to FY2010 direct costs definitely went up. Why? In the last few years the cost of materials and labor increased from Rs 900 to Rs 1,250 per sqft of saleable area. This represents an increase of around 39%. Should we be worried about this. Not really. In the long term these direct costs will be passed on to the customers. Is there a way to prove it? Take a look at the average realization price per sqft. It has gone up as well.
Average realization per sqft = Value of area booked in lakhs / Area Booked in lakh sqft
In FY2013 rest of the expenses add up to around 21% of revenue. This is in line compared to the previous years. In fact we already saw why the advertising expense went down. What else do I see? Over the years I can see that the tax rate have gone up. Why? In the 2011 annual report Vishal Gupta answered this question
While at a operating levels we aim to maintain our margins in the coming years, our net profit margins may be impacted, as over time we move from MAT regime to being taxed at higher corporate tax rates.
Applying the margins from FY2013 on the average realization per sqft of Rs 2,699 we can see that for a sqft the company constructs, it makes a pretax profit of Rs 703.
7. Why did the revenue drop by 35% from FY2012 to FY2013?
In FY2012 the revenue was Rs 248.97 crores and in FY2013 it was Rs 161.41 crores. The revenue dropped by around 35%. In order to understand this drop we need to understand how the company recognizes revenue. Real estate companies recognize revenue using percentage-of-completion method (POC) or contract-completion (CC) method. In POC, as construction happens sales get booked and revenues are recognized. But there is one problem with this approach. This method does not capture market risks correctly.
For example, the company had recognized revenues from the Utsav, Lavasa project under POC method, and then the project was put on hold by the Ministry of Environment and Forest. Now one must ask what was the liability of the company if that project had not received eventual clearance and had to be discontinued. The liability of the company would have been to refund the entire amount received from the customers of Lavasa and not the amount reflected in the Balance Sheet, which was reduced by the amount of revenues recognized from Lavasa. The POC method understates both the liabilities and assets of the company. It is also our belief that for a real estate company, the balance sheet is the more important indicator of the financial health of the company as compared to the profit and loss statement because our operating cycles tend to be in multiple accounting periods.
From FY2012 onwards the company switched from POC to CC method. Under CC method revenues are recognized when the unit is completed and either possession is transferred or deemed to be transferred to the customer. Until the homes are delivered to the customers, cash received from them will be shown as Advance from Customers on the liabilities side of the balance sheet and the homes under construction will be shown as Inventory on the assets side of the balance sheet. This clearly reflects the assets and liabilities situation of the company. Since the company is in the transitionary phase we cannot compare the sales from FY2012 to FY2013. Hence this drop in revenue does not mean anything.
We need to compare the total area booked and the equivalent area constructed by the company to see the progress between years. Given below are the numbers. In order to make a better sense of these numbers I have taken the average home size as 1300 sqft. This is the size which Varun Gupta used in his MDI presentation.
If you are curious and wanted to know what is Equivalent Area Constructed. Here is the explanation from its annual reports.
Equivalent Area Constructed in any period is the percentage of work value done in that period multiplied by the total size of the project. For example if a project is of 500 sqft and total work value of the project is Rs. 5,00,000 and during the period work done value was Rs. 1,00,000 then equivalent area constructed during the period will be 20% (1,00,000/5,00,000) of 500 sqft i.e. 100 sqft.
To summarize: Ashiana Housing is capable of constructing 944 homes in one year. On each sqft constructed, it makes a pretax profit of Rs 703. The company has an in-house sales and construction team. Around 50% of its sales are done through referrals. Customers trust the company and it has a brand appeal.
Cost advantage arising out of better business model is a moat. Ashiana Housing has a powerful business model. Since the company follows development-oriented approach and treats land as an inventory its capital requirements are very low. In order to prove the cost advantage, I compared it with Godrej Properties. In FY2012 Ashiana Housing made 50% return on capital employed compared to Godrej Properties paltry 4.64%. In FY2013 Ashiana Housing switched to contract-completion method and hence its operating profits are very low. Even then it beats Godrej Properties.
What if other real estate companies copy Ashiana’s business model? Even if every other company wanted to copy this model it is going to take some time. In the book The Little Book that Builds Wealth – Pat Dorsey talks about this
In Southwest’s case the incumbent airlines did not copy its low cost process for a number of reasons. First, a rigid union structure meant that pilots weren’t about to start helping clean planes at the incumbents. Second Southwest’s point-to-point route structure would have made it hard for the majors to feed profitable business and international passengers through their expensively maintained hubs. Third, Southwest was an aggressively egalitarian airline – no separate classes, no assigned seats – in an industry that made a lot of money by treating some passengers like royalty and charging them for the privilege. In short, the majors would had to figuratively blow up their businesses to gain Southwest’s cost advantage, and it’s hard to blow up your own business.
Customers trust the company for its quality, timely delivery, and transparency. This gives creates a brand appeal for the company. Brand is a moat if the company can charge a premium price. In 2013 Annual report Ankur Gupta tells that they can charge a premium price because of their brand.
Your average realizations have grown to about `2,600 per sq. ft. What has driven this big jump in realizations?
We started our journey in real estate by selling units at about `450 per sq. ft. way back in 1991. Since then we have come a long way and last year sold 18.65 lakh sq. ft. at an average realization of about `2,699 per sq. ft. There has been a good jump in realizations over the last 2 years. We are seeing that our brand is trusted for good quality, timely delivery and honest dealing and that in turn is helping us command a premium in the market of 5-7%. However, we cannot extrapolate this trend and say that the premium will continue to rise.
Take a look at the net worth and stock price of the company given below. Its net worth grew at a compounded rate of 42.26% and the stock price grew at a compounded rate of 39.64%. What does it tell you? It tells that for every dollar of earnings retained by the company, the market rewarded it by the same amount.
Take a look at the performance of the company with BSE Realty index. The stock price of the company went up by almost 600% where as the Realty index went down by 80%
Did the management dilute any equity during this period? No it did not dilute any equity for the last 10 years. Also it did not leverage the balance sheet. From 2013 annual report
Net worth of the company has grown 24 times in ten years from 11.06 crores as on March 31,2002 to 268.07 crores as on March 31, 2013 without any dilution of equity or leveraging balance sheet.
From this I concluded that the management is able and shareholder friendly.
Real estate business is going to stay in India for the next 10 years. I can safely make this assumption. You need land, cement, steel, and people to build homes. Even Zuckerberg’s of the world cannot change this fact. According to a research report from McKinsey, the number of middle-class households (earning between 2 to 10 lakhs per year) will increase more than fourfold nationwide from 32 million to 147 million between 2008 and 2030. This is the target customer segment for Ashiana and hence we can safely assume that the demand for homes will be there. Many developers have already started focusing on the middle income segment. Would this create a problem for the company? The management tells that the pie is too big and hence we need not worry about it. From their 2011 Annual report.
We have been in the business of middle income housing for the last 25 years. We have steadily built up our capabilities, and it would be difficult for any new entrant to replicate our competitive advantages in a short term. Having said that, the size of the opportunity in real estate in the next 20 years is huge. Over 25 million units need to be built, and there is space for everyone to prosper & grow. We welcome healthy competition and feel that since the size of the pie is growing, and real estate being a much localized business, there is no dearth of opportunities for established players like us.
Using the financial data from past I came up with the following assumptions. The calculations I did to come up with these assumptions can be found here.
My 10 years projections for the company can be found here. In FY2023 the company should be able to construct around 3000 homes, with only equity funding without any dilution and can generate an after tax profit of Rs 414 crores and have a net worth of Rs 2,491.09 crores.
If this happens to be true (base rate of my prior predictions is very low; close to zero) and the market values the company at 2 times book then its market capitalization will be Rs 4,982.18 crores. From the current market capitalization of Rs 903 crores this would represent a CAGR of around 20%.
Only time will tell if my assumptions were correct. As of this writing I do not own any shares of Ashiana Housing.