Errant DLF trying to blur the truth

Realty sector as whole has been lying low and remained beaten down since the past few years. Various factors like rising interest rates, slowdown in sales volumes and rising debt burdens of  realty companies made it sure that they get a knockout punch. Many realty companies were looking for raising funds through primary markets to take the advantage of rising equity indices. While some amount of recovery was witnessed in the past few months after a stable and pro- reforms government was formed, DLF,a leading player in the realty industry, got a major blow from the market regulator SEBI.

SEBI had barred DLF, its promoter K P Singh, his son Rajiv Singh and daughter Piaalong with three other group executives (TC Goyal, KameshwarSwarup and Ramesh Sanka) from accessing the securities market for the 3 years for lapses in making material disclosure during its IPO filing in 2007. The order bars above mentioned entities from accessing the securities market and prohibits them from buying, selling or otherwise dealing in securities directly or indirectly.

The news came in as a severe blow to DLF with the stock plunging more than 28 per cent after the verdict. The impact was quite intense particularly being third major blow for the company after cancellation of 350 acres of land allotment and Rs 630 crore penalty being applied bythe Supreme Court (CCI).

No wonder the stock prices took a severe beating on the bourses and declined more than 28 per cent in one trading session. Since then the stock has consistently remained under pressure with most of the research firms providing cut in target prices putting the common man on the street in a dilemma whether to avoid the stock or take it as a contra buying opportunity. In our analysis we try to find out answers to these queries.

History Of Troubles

While of recent the realty sector in general and DLF in particular had witnessed many adverse situations, the recent ban by SEBI seems to be the severe one which would surely affect the performance of the company. Rather the timing would not been further worse considering the fact that DLF was planning to raise funds from equity route to reduce its debts. But this is not the first time that the company has faced troubles; there is historical evidence of lot of issues in the past.

Troubles started since the company planned to make is maiden debut on the equity markets. It was after quite a lot of resistance that the company could come out with its initial public offer (IPO). The company had filled for an IPO in May 2006. However, it could not tap the market as minority shareholders accused the promoters of mismanagement. It was followed by another event where realty companies witnessed hefty selling on the bourses. As a result DLF withdrew its offer document in August 2006. In June 2007 the company again filled for an IPO prospectus and tapped the primary marketwith an offer price of Rs 500-550. This helped the company to raise Rs 9625 crores against the earlier estimates of more than Rs 13600 crores.

Resistance was expected as there were many firsts attached to the IPO of DLF. With plans to raise Rs 9625 crore in 2007, it was slated to be one the largest IPO of the Indian equity market. While the largest IPO tag was one part, another factor was the listing of the company that would have made its promoter, KP Singh, as one of the richest Indian as well. This apart, the IPO also made news as DLF became the first company in history to directly get added to the Sensex on the first day listing.

After listing, performance of the company was good on the bourses as the stock consistently moved northwards and touched an all-time high of Rs 1400 in start of 2008. However, due to global meltdown, realty stocks also witnessed a severe decline and since then the stock has consistently under-performed in the Sensex. All in all, except initial outperformance, the IPO of DLF had failed to deliver higher than market returns.

What we want to focus on here is the consistent under-performance of the company on the bourses. While the current order has impacted the investors significantly, we are also worried about those who had invested in the company when the stock was trading as high as Rs 1400. While the under=performance of the company has been historical, let’s first understand the modus operandi of what led to SEBI taking such a stern action against DLF executives. We have taken out the important points from the SEBI Order in the box.

Modus Operandi

If we get to the basic of the whole matter, it was the complaint filed by Mr. KimsukSinhaagainst DLF in 2007 alleging that he had been duped of Rs 34 crore by Sudipti Estates Private Limited and related persons for the purchase of land.

Sinha alleged that the firm (Sudipti) was controlled by DLF Home Developers and DLF Estate Developers that were both part of the DLF group and sought that the company not be allowed to list on the markets. Earlier, however, those allegations were refuted by DLF. Then DLF management had stated that Sudipti Estates was not a part of the DLF group.

However, SEBI in a show cause notice to the company noted that three real estate companies, Sudipti Builders, Felicite and Shalika lay at the heart of the controversy and the deals to acquire land. In its show cause notices, the market regulator noted how three arms of DLF divested stake in Feliciteto three housewives: MadhulikaBasak, NitiSaxena and PadmajaSanka all of whom happened to be the wives of key managerial persons in DLF.

Here are the two charts that seek to explain the shareholding pattern:

SEBI in its show cause notices pointed out that despite divesting stake in the three companies, DLF continued to retain control of the three real estate companies, one of which was accused of fraud.

DLF consistently refuted the show cause notice by SEBI saying that “It was not illegal for a person to invest in a company's shares merely because she was a housewife or because a joint account held with her husband was being used to fund transactions. The answer from the management was the fact that the spouses of certain employees of DLF were shareholders of Felicite does not lead to a legal inference that Felicite is a subsidiary of DLF”.

The company also refuted the allegation that the 'housewives' continued to hold stake in one of the companies’ only while their husbands were employed by DLF. It pointed to the case of one ReemaHinduja who continued to be a shareholder in the company even after her husband quit the company and said that it was wrong to infer that the DLF had any control over the three real estate companies.

SEBIstated that while it was an undisputed fact that the 'housewives' involved in the real estate companies used joint accounts with their husbands to fund the deals, the women whose stakes in the three companies weren't even regular investors. This clearly justifies that stake taken in the firm was for particular deal and she was not a regular investor. What added to the justification was,these investors did not have any own income.

Apart from this the SEBI order also noted that the three women were the wives of the Group CFO, Senior Vice President (Finance) and Vice President (Finance) of DLF and the three executives were listed as key management persons in the company's prospectus for the IPO. "They were also subject to the control of DLF due to their "employee and employer relationship". The respective wives held 100% shareholding of Felicite, which in turn held 100% shareholding in Shalika, which in turn held 100% shareholding in Sudipti. Therefore, it has been alleged that DLF never lost control of Felicite, Shalika and Sudipti," the order noted.

If that was not enough, SEBI noted in its order that the purchase of all shares in Felicite were not made by the 'housewives' but their husbands and also pointed to the fact that the shares held by the women were only transferred to the wives of other senior management of DLF.

Here the order categorically noted that “In our view, it cannot be just a coincidence that Felicite is incorporated on March 26, 2006 with its 100% shareholding held by the wholly owned subsidiaries of DLF. Those wholly owned subsidiaries subsequently sold their entire shareholding in Felicite to the 'housewives' of three key managerial personals (KMPs) who made payments for purchases made by their respective wives and subsequently transferred their entire shareholding to DHDL (one of the three initial shareholders), wholly owned subsidiary of DLF and the 'housewives' of other KMPs.

The order noted that the DLF management had employed a plan, scheme, design and device to camouflage the association of DLF with its three subsidiaries namely, Felicite, Shalika and Sudipti and noted that the realty major had actively concealed the filing of an FIR against one of the subsidiaries when it was filing for an IPO.SEBIalso noted that DLF suppressing the information about its subsidiary companies in its IPO filing constituted a grave offence and had larger implications on the safety and integrity of the capital markets.

In similar vein SEBI commented that for the serious contraventions as found in the instant case, effective deterrent action is needed to safeguard market integrity. It, therefore, becomes incumbent to deal sternly with contraventions, digression and demeanour of the erring company and take appropriate actions,” the order noted while barring the DLF executives for three years

What to Expect Next ?

While this is the past, equity markets usually discount future and hence rather than only focusing on the past performance we need to analyse what to expect in the future. While the stock has taken a beating on the bourses, the SEBI order is not the only factor behind the plight of investors. Financial performance of the company has not been good for past many quarters. The debt burden has consistently increased and hence the bottomline is severely getting impacted. Just to quantify as on June 30th 2014 its net debt increased to Rs 19063 crore from the levels of Rs 18526 crore as in March 2014.

Consistently higher debt accompanied by factors like slower sales volume growth forced the company to raise funds from equity markets to reduce its debt burden. However, now the order from SEBI will restrict the company from raising funds from equity markets. Its impact would make the NBFC funding costlier for the company as it would be the only way for the company to raise funds to repay earlier debts.

While financial under-performance is one factor, there are other factors as well affecting the stock. With the new government being formed in Haryana one can expect a series of actions being taken against the company and many past land deals getting scrutinized. Reports suggest that there are few already under scanner and the new government is likely to fast tracks those. Any adverse announcement would further take the stock southwards.

As regards the management views, in its June quarter presentation the management has categorically stated that it shall take 18 months to come back to the targets as articulated in February 2013.

The company is now focusing on execution of current ongoing projects rather than launching new projects. In June 2014 the company had a mature stock of Rs 4000 crore and work in progress at Rs 13000 crore. We are expecting the company to liquidate this stock first. Hence in short to medium term at least we do not expect any positive news for the company. It is true that company has huge land bank of more than 259 million sqft (Development Business) and 48 million sqft in leasing business. However we feel it would be useful only in long-term and short-term to medium scenario remains bleak. We feel that the stock may make some periodical up moves, it should be taken as an opportunity to exit from the counter.

What DLF stated in its defense

In its response to SAT the company stated that no listed company had lost net worth like DLFin a SEBI order. Secondly, it also indicated a no shareholder complaint against IPO in last 8 years. Thirdly, it stated that SEBI order should not punish investors and ultimately it is the investors who are suffering. Fourthly, it would be death warrant for the company if 3-year ban is imposed. And lastly its motive was not to gain anything from alleged suspension of information in IPO prospectus.

However, we are of the opinion that it was of prime importance for investment bankers to take care of all the factors at the time of IPO. Hence the role of BRLM surely comes under scanner.  Lead Managers to the issue were big names like Kotak Investment Banking, DSP Merrill Lynch, Citi Group and ICICI Securities. It also involved foreign names like Deutsche Bank, UBS and Lehman Brothers. DLF will be provided a chance to put up their stance but that decision would come after this magazine goes into print

What about minority shareholders?

If we try to get into the basics of the matter since the filing of first DRHP, one can notice that  DLF has been ignoring the minority shareholders. Rather it was the voice raised of a minority shareholder that resulted in DLF withdrawing DRHP in 2006. Hence when the company is asking about investors, we feel there hardly seems to be intention of serving Shareholders interest. The event has occurred and such incidents naturally affectthe image of India as an investment destination. However, steps taken by SEBI are right and if with smaller damage a larger motive is achieved we have to accept it. It is true that shareholders of the company may get the impact.

However we are of the opinion that promoters should askedto make-up for that. In our preceding editorial we categorically stated that promoters should pay the minority shareholders at the IPO price and send a strong message to the errant promoters. We still stand by our stance and urge SEBI to take action against DLF promoters. With 19.75 per cent holding with FIIs and 0.52 per cent with DIIs, it is easily possible to get the company delisted. Recently the government had directed the scam-tainted NSEL to be merged with FTIL. Many on the street are against the move as they feel NSEL minority shareholders plight is unresolved and there is unnecessary burden being put on FTIL. We feel SEBI should come out with a plan not only to punish the promoters but also hold the promoters liable to pay for financial losses. As at current levels we recommend our readers to avoid the counter.