RAM Ratings has downgraded the corporate credit ratings of Dar Al Arkan Real Estate Development Company (Dar Al Arkan or the Group) to A1/Negative/P1 from AA3/Negative/P1.

Published on 24 May 2016

RAM Ratings has downgraded the corporate credit ratings of Dar Al Arkan Real Estate Development Company (Dar Al Arkan or the Group) to A1/Negative/P1 from AA3/Negative/P1. Notwithstanding its position as a top real estate developer in Saudi Arabia, the Group’s land sales had been relatively lackluster in recent years as it turned more selective on deals. Amid a more challenging environment in fiscal 2015, the Group’s top line declined substantially. As a result, Dar Al Arkan’s funds from operations debt cover (FFODC) stayed below expectation, coming in at a thin 0.12 times for FY Dec 2015, and weak for an A1 rating. The negative outlook reflects our concerns that the Group’s debt protection metrics may not recover sufficiently to steadily anchor an A1 rating.

In contrast with annual sales of at least SR3 billion typically, Dar Al Arkan’s quarterly sales had softened since 2Q FY Dec 2015, leading its top line to tumble to SR2.2 billion in fiscal 2015 (-28% y-o-y). Consistent with our understanding that the Group continues to emphasise the preservation of broad margins, its gross profit margin still edged up in 2015. Even so, the recovery of Dar Al Arkan’s sales and FFODC this year could be mild in view of the weaker economy outlook, a softer property sector and lingering uncertainty over tax on undeveloped land – more so should the Group delay sales in a bid to maximise potential capital gains. For 1Q FY Dec 2016, Dar Al Arkan’s revenue came in at SR435 million, marginally better than the previous quarter but steeply falling 40% y-o-y.

RAM continues to recognise that the Group retains a high degree of flexibility to defer land investments that are essentially discretionary, given its vast land bank. That said, holding costs on debt-funded land are likely to stay high should subdued sales be protracted. The Group had curtailed land acquisitions in 2015, and we expect modest capital outlays for investments in the near term. Accordingly, Dar Al Arkan’s gearing ratio should stay comfortable going forward, not projected to exceed 0.4 times. Further, we do not expect the Group to face difficulty in meeting obligations in respect of borrowings maturing in 2016 amounting to SR1.5 billion; these were almost fully matched by its cash pile as at end-March 2016.

Details on a new tax on undeveloped land, aimed at spurring housing development especially in urban areas of the country, have yet to be announced. Thus, the impact on Dar Al Arkan can only be clearly ascertained when these become available. The Group does not expect to suffer a sizeable liability on this tax given that it typically commences infrastructure work soon after land acquisition, although the lack of clarity on its implementation has affected sentiment for property deals.

The outlook on the rating may be reverted to stable if Dar Al Arkan’s FFODC recovers sustainably to 0.15 times or higher. This could be achieved if the Group charts a strong sales improvement despite a difficult environment, or significantly reduces its debts.

Notwithstanding the weaknesses above, Dar Al Arkan’s ratings continue to be supported by its strong market position in the Saudi Arabian property sector, attested by its ability to procure prime land. The Group’s large land bank, located in tier 1 cities, can sustain at least 7-8 years of operations without replenishment.

Media contact
Peter Kong, CFA
(603) 7628 1029
peterkong@ram.com.my