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An all-round beat but near-term growth priced in

We initiated coverage on Phoenix Mills (PHNX) in Mar’23 with a positive view on the back of a healthy ramp-up in new malls in Indore and Ahmedabad and the scheduled completion of malls in Pune and Bengaluru (est. 34% EBITDA CAGR over FY23-25). The company has progressed well on ramping up occupancy in Indore and Ahmedabad and is on track to deliver Pune and Bengaluru malls in 2QFY24. Thus, we continue to estimate a 31% EBITDA CAGR over FY23-25E. However, with a 30% runup in the stock price since our initiation, we believe a large part of earnings growth over the next two years is already priced in and see limited upside potential in the near term. Hence, we downgrade PHNX to Neutral

Higher-than-expected revenue drives EBITDA/PAT beat

* In 1QFY24, PHNX reported revenue of INR8.1b, up 41% YoY/11% QoQ and 5% above our estimate. Growth was driven by strong performances in the retail and hospitality verticals.

* EBITDA grew by 52% YoY to INR4.9b (9% beat), which was higher than revenue growth as margin expanded by ~450bp YoY and ~170bp QoQ to 60.7%. PAT was up 50% YoY at INR2.4b (20% above our estimate) with a margin of ~30%, up 150bp YoY.

* PHNX generated OCF (post interest) of INR4.5b and incurred INR3.4b in capex. Gross debt remained flat at INR40b, while net debt (PHNX share) declined by INR1.5b to INR16.3b.

Consumption in Retail portfolio up 9% YoY on LFL basis

* Consumption across PHNX’s mall portfolio increased by 18% YoY to INR25.7b. Excluding the contribution from recently opened malls in Indore and Ahmedabad, consumption was up 9% YoY. In Jul’23 it was up 6% YoY at INR9.3b.

* Retail income growth was in line with consumption growth at 17% YoY to INR3.8b. Trading occupancy increased by 200bp for the portfolio to 89%. Retail EBITDA came in at INR3.9b, up 19% YoY, at a margin of 75% over total income.

* The company is on track to deliver new malls in Wakad, Pune, and Hebbal, Bengaluru, in 2QFY24. With 60-65% of area already under fit-out, we believe a faster pick-up in trading occupancy of these new malls will lead to a 30% CAGR in retail rentals to INR22b by FY25E.

Hospitality performance remains strong across key parameters; commercial performance also steady

* St. Regis continued to clock over 80% of occupancy for the fifth quarter in a row, with 1QFY24 occupancy of 82%. For Marriott Agra, occupancy was down 700bp QoQ but up 10pp YoY at 72%.

* ARR for St. Regis was up 38% YoY at ~INR16,500, while ARR for Marriott Agra grew 18% YoY. Overall revenue increased by 34% to INR1.2b, while EBITDA for St. Regis stood at INR480m, with 43% margin.

* Commercial performance: PHNX reported gross leasing of 0.18msf and net leasing of 0.03msf during the quarter. Total income and EBITDA from the office portfolio grew 11% YoY to INR449m and INR261m, respectively.

Highlights from the management commentary

* Consumption: Trading occupancy for all malls will be at 95%+ by 3QFY24 (89% now) and the commencement of new malls will complement consumption. Historically the company has witnessed 8-10% SSG at high trading occupancy and expects a similar trend to pan out. A strong content pipeline, subsiding monsoon and long weekends, along with festivals, will further drive consumption growth in 2QFY24.

* Office portfolio scale-up: PHNX will sign its first deal at the first phase of its new Bengaluru office once OC is received in the next few weeks. Pre-leasing is prevalent in malls as retailers have expansion plans for the next 3-4 years. But in office, RFPs come out six months prior to intended dates of operation. Hence, leasing traction is relatively moderate vs. malls but will pick up as assets get completed.

* Debt trajectory: PHNX has been generating robust OCF but it will release its equity to deploy in other growth opportunities. So debt is expected to inch up given the strong balance sheet and high interest cover.

* While debt on U/C assets will remain minimal, but as and when assets become operational, PHNX will draw debt via LRDs to optimize the capital structure.

Valuation and view

* PHNX delivered a better-than-expected revenue performance in 1QFY24, which led to a beat across the parameters. We raise our FY24E/FY25E PAT by 4% on the back of higher rentals and better margins.

* We believe the company’s growth trajectory remains intact, but current valuations indicate that near-term growth is priced in. Hence, we downgrade the stock to Neutral with our SOTP-based revised TP of INR1,845 (10% upside potential).

* While near-term growth is priced in, the company’s upcoming mall portfolio provides strong growth visibility over the next 3-4 years. Hence, if we push up the valuation base to the end of FY27 (two-year return), taking into account a stabilized rental run rate for the upcoming malls and no pending capex, then our valuation for the retail segment increases to INR315b from INR260b in the base case. Accordingly, our TP increases to INR2,150, indicating a two-year return potential of 28%.

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