H&R is a REIT to buy for growth and income

H&R REIT has a portfolio of 38 office properties, 156 retail properties, 101 industrial properties, 12 residential properties and four development projects. The REIT is well diversified geographically and by asset class, which helps provide stable financial results. It’s attractively valued compared to other real estate investment trusts, and it also yields a higher-than-average 5.9 per cent. It’s a buy for growth and income.

H&R REIT’s (TSX—HR.UN) financial results have been negatively affected by property sales these past two years. But the trust has used these sales to significantly improve its financial position, a strategy that will reduce risk and likely lead to improved results in years to come.

In 2016, for example, management decided to take advantage of the strong property market and high demand to sell $1.3 billion of real estate assets, while acquiring $757.5 million in assets.

That resulted in a net decrease in assets of $542.5 million, at H&R’s ownership share. In the process, the trust reduced its debt to total asset ratio to 44.3 per cent by the end of the year, compared to 46.2 per cent at the end of 2015, and 49.2 per cent at the end of 2013.

H&R REIT is Canada’s largest diversified real estate investment trust with total assets of about $14.7 billion. The REIT has ownership interests in a North American portfolio of office, retail, industrial and residential properties comprising over 46 million square feet.

For the year ended Dec. 31, 2016, H&R’s funds from operations (FFO) were $584.3 million, or $1.93 a unit, compared with $569.9 million, or $1.92 a unit, in 2015. Excluding non-recurring items, however, FFO declined by $5.9 million in 2016, and FFO per unit was $1.88 for the year. Meanwhile, rentals from investment properties decreased by $10.1 million, and property operating income fell by $19.6 million.

Distribution raised despite lower financial results

Despite the weaker 2016 financial results, H&R raised its distribution at the end of 2016, after making no change to it since 2013. In December, the annual distribution was raised by $0.03 a unit to $1.38. This reflects management’s confidence that its deleveraging, diversification and development strategies will eventually improve financial results. What’s more, we expect further increases in the distribution this year and in 2018.

FFO per unit will likely remain relatively flat over this time frame. But we expect FFO to improve as H&R’s strategies come to fruition. In addition to strengthening its balance sheet, the REIT continues to diversify by asset type and geography, which lowers risk and produces steadier financial results.

Development activities take time to add to FFO

Then too, it continues to pursue development activities, which inevitably take time and capital to complete, but that should eventually contribute to FFO growth. A case in point is the development of 1,871 luxury residential units for the Long Island City project, in which H&R has a 50-per-cent interest. The total budget at 100-per-cent ownership is expected to be about US$1.2 billion, but occupancy of the first tower is not scheduled to begin until early 2018.

H&R REIT trades at a reasonable 12.7 times its likely 2017 FFO of $1.84 a unit. Its current annual distribution of $1.38 a unit yields 5.9 per cent. H&R REIT is a buy for growth and income.

 

This is an edited version of an article that was originally published for subscribers in the March 3, 2017, issue of Money Reporter. You can profit from the award-winning advice subscribers receive regularly in Money Reporter.

Money Reporter, MPL Communications Inc.
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