Rating Rationale

Strengths:
* Strong market position, large low-cost land bank, and economies of scale
DLF has an established track record in real estate projects across segments and regions in India. It is a well-recognised brand with the most extensive track record among the private real estate developers in the country. Market position is underpinned by large, low-cost, land bank with a development potential of 192 million square feet (msqft) in prime locations, which supports profitability of projects and provides a significant competitive advantage over other real estate developers.

* Improving financial risk profile and healthy financial flexibility
In DLF's development business, post the transaction with GIC and consequent fund infusion by the promoters, external debt reduced to about Rs 8,835 crore as on September 30, 2018, from Rs 15,500 crore as on December 27, 2017. Debt was further pared down from the proceeds of an aggregate issuance of up to 17.30 crore equity shares by way of a qualified institutional placement in March 2019, and from receipt of the balance 75% payment of warrants¹ issued to the promoters in June 2019. Consequently, gross debt was Rs 7,050 crore as on September 30, 2019. This, along with gradual sales of finished inventory of around Rs 10,145 crore, is expected to further improve financial risk profile in the next 12 months. Financial flexibility is also driven by the annual dividend expected from DCCDL. Financial flexibility is supported by a track record of raising funds from national and international investors, banks, and financial institutions, and from the portfolio of leased assets and large land bank. Operational rental asset portfolio under DCCDL was 30.3 msqft as on September 30, 2019. Besides, 6.6 msqft of rental assets are under construction at present and 2.53 msqft under advanced stage of completion. Rental income increased to Rs 3,000 crore in fiscal 2019 from Rs 2,855 crore in fiscal 2018 and Rs 1,550 crore in fiscal 2012. With occupancy of about 94%, the company will continue to generate stable cash flow from these rental assets. Besides, it has annuity income in the form of facilities management and utilities. Outstanding debt of about Rs 19,000 crore in DCCDL as on December 31, 2019, is primarily lease rental discounting in nature, backed by stable rentals, leading to strong debt service coverage ratios. Sustenance of reduced debt and pickup in sales over the medium term will be key rating sensitivity factors.

Weaknesses:
* Exposure to inherent risks and cyclicality in the real estate industry
The real estate segment is cyclical and volatile, resulting in fluctuations in cash inflow. Cash outflow for projects and debt obligation are relatively fixed, which can lead to substantial cash flow mismatch. The residential real estate sector has remained constrained by weak demand, bearish consumer sentiment over the past few years, and the recent liquidity crisis faced by non-banking financial companies/housing finance companies, resulting in increase in leverage and refinancing needs. Pickup in business environment will be key to increased sales booking of the finished inventory over the medium term. Any decline in pace of sales in the inventory of Rs 10,145 crore could result in lower collections and expose DLF to refinancing risk. Further, rental collection is susceptible to economic downturns, which constrain the tenant's business risk profile, and therefore, occupancy and rental rates.

* Slow, albeit improving, sales in the residential segment
The residential real estate segment is experiencing sluggish sales. DLF's net sales in the residential segment remained modest at Rs 1,425 crore in the six months ended September 30, 2019, against Rs 2,438 crore and Rs 1,000 crore in fiscals 2019 and 2018, respectively. However, DLF is well-positioned to capture the uptick in demand with its finished inventory of about Rs 10,145 crore as on September 30, 2019. However, cash flow remains constrained by high overheads and should come down gradually with timely sale of inventory, thereby improving cash flow, and will remain a key rating sensitivity factor.