Here are three REITs featured in a recent Investor’s Digest of Canada survey of 51 Income Trusts covered by leading analysts across Canada.
Managing challenges while awaiting direction
Business in Cominar REIT’s (TSX—CUF.UN) office segment has been characterized by high vacancy in suburban properties and relative stability downtown, though the pandemic has weighed on the near-term outlook for the latter.
The higher weighting of enclosed malls and discretionary retailers is expected to temper retail rent growth, and CIBC World Markets analyst Sumayya Syed expects little change in the current 85 per cent occupancy level. Outpacing office and retail is industrial, where rents are up to 20 per cent below market value and market rent growth is around 15 per cent to 20 per cent, resulting in strong net operating income growth with plenty of runway still left.
The analyst sees several prospective alternatives with the potential to narrow the valuation discount through deleveraging and unit buybacks. Possible paths include partial monetization and the sale of under-appreciated assets that could generate significant liquidity.
Further, reducing diversification by exiting markets or sub-segments could also narrow the holding company discount, pending the composition of the residual portfolio. Ms. Syed estimates $250 million to $650 million of sale proceeds directed to buybacks could result in one per cent to three per cent net asset value and unit accretion, while a reduction in leverage from roughly 54 per cent to close to peers at about 50 per cent would also improve valuation.
The analyst initiates coverage of Cominar REIT with a “neutral” rating. The pandemic interrupted the REIT’s progress towards stabilizing operations, bringing into sharper focus some of the softer spots such as retail and suburban office. The challenges in these segments are largely offset by the stronger aspects of the portfolio, the market-to-market opportunity in industrial rents, the stability of the large government office tenant base and embedded intensification potential.
“We believe there is potential value to unlock in the portfolio, and the valuation discount can narrow through deleveraging or unit buybacks. Our neutral rating, however, reflects our view of muted near-term portfolio and market fundamentals,” comments Ms. Syed.
Cominar is a diversified REIT specializing in owning and managing office, retail, and industrial properties, mainly in Montreal and Quebec City.
Attractive multi-family play in the US Sunbelt
BSR REIT’s (TSX—HOM.U) roughly $1.3 billion portfolio, comprising 7,660 multi-family apartments in the US Sunbelt is concentrated in three Texas metropolitan statistical areas of Dallas, Houston and Austin, making up the Texas Triangle.
The Texas Triangle’s gross domestic product is close to all of Canada’s, while its expected population growth in the next five years is double that of Canada. Unlike major Canadian provinces, there is minimal regulatory risk in Texas (e.g. no rent control). BSR has a fully-aligned internal management platform, with a 39 per cent equity stake held by management and founders.
Scotiabank analyst Himanshu Gupta expects adjusted funds from operations per unit compound annual growth rate of 9.6 per cent in 2020 to 2022, as capital recycling initiatives are behind them and BSR is entering the next chapter of growth.
BSR is the only pure-play US-focused multi-family name on the Toronto Stock Exchange (TSX). According to Mr. Gupta the company stacks well against its global multi-family peer group and offers reasonable growth at a reasonable valuation.
Mr. Gupta also sees the opportunity for higher participation from US investors highlighting, “While BSR’s investor base has been predominantly Canadian, the company is increasingly looking to gain the attention of US investors. BSR recently presented at the Nareit conference in June 2021 to target the US audience. We think that because the company now has a primary-market portfolio (versus the secondary market previously), BSR can gain better traction with institutional investors both in the United States and in Canada.”
The analyst asks whether or not portfolio recycling was worth it and is decidedly positive. BSR acquired US$882 million of properties in primary markets and disposed US$612 million of properties in secondary markets in a short two-to-three-year period since its initial public offering. Net asset value per unit grew by a 4.7 per cent compound annual growth rate in the last two years despite COVID-19, while adjusted funds from operations per unit was down 15 per cent year-over-year in 2020. Although the recycling (now complete) came at the expense of adjusted funds from operations per unit growth, the analyst thinks BSR 2.0 is well positioned to increase adjusted funds from operations per unit from here.
“We are initiating coverage on BSR REIT with a ‘sector perform’ recommendation and a one-year target price of $14.50, implying a one-year total return of roughly 12 per cent. This potential return equals a 3.7 per cent distribution yield, plus 6.2 per cent net asset value growth, plus a roughly two per cent narrowing of the net asset value discount. BSR’s unit price is up 22 per cent since May 2021, and as a result, the trading discount to net asset value has narrowed considerably,” says Mr. Gupta.
BSR completed its IPO in May 2018 with a portfolio value of $840 million and a market capitalization of approximately US$400 million.
Smart choice for long-term upside
Post a comprehensive model review, Scotiabank analyst Mario Saric is resuming coverage of SmartCentres REIT (TSX—SRU.UN), which the bank had placed “under review” on Feb 3. The analyst comes back to the REIT with a “sector perform” rating, down from a previous “sector outperform”.
The analyst says SRU’s 29 per cent year-to-date move adds up to a fair valuation. He predicts a solid mix of yield and average funds from operations per-unit growth through 2022, with big long-term development value upside, shifting SRU into a diversified REIT.
“The value is there but we think patience is required,” he notes. “Overall, we believe the 29 per cent year-to-date unit price rally has yielded a valuation that reasonably balances near-term opportunities and risks, while reflecting negligible value for long-term pipeline we think adds $4 per unit to its net present value.”
SmartCentres REIT is one of Canada’s largest fully integrated REITs, with a best-in-class portfolio featuring 168 strategically located properties in communities across the country. SmartCentres holds roughly $10.3 billion in assets and owns 33.8 million square feet of income producing value-oriented retail space with over 97 per cent occupancy, on 3,500 acres of owned land across Canada.
This is an edited version of an article that was originally published for subscribers in the August 6, 2021, issue of Investor’s Digest of Canada. You can profit from the award-winning advice subscribers receive regularly in Investor’s Digest of Canada.
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Investor's Digest of Canada •10/13/21 •