High debt, weak sales to hit Abu Dhabi developers

After a torrid first half of the year, memorable for its lack of major land sales, Abu Dhabi's property developers face a tough remainder of 2010 with high levels of debt, low cash flow, and tight bank lending conditions likely to prevent any significant rebound in earnings, analysts said.

"We see no material pickup in Abu Dhabi land sales during the second half of 2010 and therefore weak revenues as a consequence," said Chet Riley, a real estate analyst at Nomura Securities in Dubai.

A dearth of land transactions has eroded the earnings of Abu Dhabi’s two marquee developers so far this year. And now even the business models that Aldar Properties and Sorouh Real Estate were built on are beginning to be examined closely.

"Our concerns are on the medium-to-long term viability of the existing business model and configuration in the post crisis world," said Roy Cherry, a real estate analyst at Dubai-based investment bank Shuaa Capital.

For Abu Dhabi's major developers, high levels of debt and low sustainable recurring cash flows are "a highly undesirable reality," Cherry added.

Aldar, the emirate's largest developer by market value, posted a second-quarter net loss of Dh475.3 million ($129.5 million)--compared with a profit of Dh254 million last year--due mainly to fewer property sales.

Sorouh Real Estate, the second-largest developer, didn't fare much better. Its second quarter profit slumped 79% to Dh30.8 million as it made not one land sale in the three months to June 30.

To be sure, a lot of pessimism surrounding the two has already been factored into their share prices. Aldar’s stock has plunged about 47% over the past 3 months, while Sorouh has given up around 31%. The Abu Dhabi exchange meanwhile has lost 11% over the same period.

Real estate prices in Abu Dhabi have slumped up to about 30% since the onset of a global financial crisis two years ago, prompting developers to scale back projects and the government to prop up some real estate companies with large contracts.

In Abu Dhabi, a significant number of new properties expected for delivery in the second half of the year will continue to pressure rental and sales prices.

"An ever increasing stock of commercial and residential space in Abu Dhabi, coupled with prevailing weaker economic environments both locally and internationally, is likely to result in downward pressure on leasing and occupancy rates in the capital," said property consultants CB Richard Ellis in a recent research note.

And while new unit deliveries will bring in substantially higher revenues for developers than those reported in the first half, "attracting tenants is a key priority to ensure future cash flows," Nomura's Riley said.

Aldar, Abu Dhabi’s flagship developer, has been hit by hard by a series of downgrades by ratings agencies and research analysts following its second quarter earnings. Moody’s Investors Service last week downgraded Aldar's issuer rating two notches to 'Ba3' from 'Ba1', while Standard & Poor's downgraded its credit ratings by six notches to 'BB-' from 'A-' the day after its quarter earnings release.

“In our view, the only positive scenario to current shareholders is a possible acquisition of Aldar, similar to IPIC's acquisition of Aabar," analysts at EFG-Hermes said in a note last week, referring to a takeover by the government. "However, we rule out this scenario," they added.

Analysts have cited the partial settlement with the government of Dh9.14 billion in receivables from assets sold on Yas Island as a key indication of Abu Dhabi support.

In Its half-year financial statement, Aldar said "an amount of Dh6.49 billion receivable from the government was offset against the loan payable to the government," while the remaining amount would be recovered in cash in the future.

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