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Real Estate Investors: Here's Why Canaccord Analysts Prefer Growth Over Size

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Real Estate Investors: Here's Why Canaccord Analysts Prefer Growth Over Size

In a rising rate environment, one rule-of-thumb is that equity REIT business models which can grow accretively will tend to outperform less dynamic peers.

On July 22, Canaccord Genuity analyst Ryan Meliker published a comprehensive 83 page report initiating coverage on the residential REIT sector.

Canaccord's coverage now includes three multifamily apartment REITs and two dedicated student housing REITs with a top pick for each sub-sector.

Tale Of The Tape - Apartments 2015 YTD

cg_-_ychart_apts_vs_peers_july_2015.jpg

  • Essex Property REIT (NYSE: ESS) $14.5 billion cap, 2.6 percent yield; Hold, $235 PT.
  • Apartment Investment and Management Co Real Estate Trust Class A (NYSE: AIV) (AIMCO) $6.2 billion cap, 3 percent yield; Hold, $41 PT.
  • Preferred Apartment Communities (NYSE: APTS) $244 million cap, 6.6 percent yield. Buy, $13 PT.

Tale Of The Tape - Student Housing 2015 YTD

cg_-_ychart_student_housing_july_2015.jpg

  • American Campus Communities (NYSE: ACC) $4.4 billion cap, 4.1 percent yield; Hold, $42 PT.
  • Education Realty Trust (EDR) (NYSE: EDR) $1.6 billion cap, 4.4 percent yield; Buy $37 PT.

Canaccord On REITs & Rates

Meliker noted that the broader REIT index is down 12 percent since the 10-Yr Treasury hit its low of 1.65 percent in January. The CG Apartment REIT Index was only down 5 percent during the same period.

He cautioned that the data shows that over the long-term, REIT performance has not been highly correlated to the 10-year Note.

cg_-_apt_vs_rmz_10-yr_treasury.jpg

He added, "Many non-REIT-dedicated investors -- who by definition drive net fund flows -- have pared back their REIT positions in response to the rise in long-term yields, which in turn are anticipating higher short-term policy rates."

Canaccord believes investors should "buy the dip."

Canaccord's Top Total Return Pick

Total Return: The Preferred Apartment Communities $13 target price represents a potential ~25 percent total return including its annual dividend yield.

Price Target: Canaccord's $13 year-end 2015 price target is based on a 15 percent discount to its $14.86 NAV estimate, utilizing a 6.25 percent cap rate. It is also supported by a Canaccord's discounted cash flow model, "…assuming a 14% cost of equity and a 2.0% terminal growth rate."

Risk Factors: According to Meliker "…challenges include the limited size and scale of the company, which leads to a high G&A load and limited diversification, and the company's external management agreement, which does not align the external manager with investors as well as others."

Preferred Apartments - A Complicated Story

Meliker believes that Wall Street "…continually misunderstands the company's development lending strategy," which he estimates generates annualized returns of ~14 percent. He noted, "APTS trades at just a 9.4x 2015E FFO multiple, well below the peer group average of 20.9x."

APTS has many moving parts besides operating multi-family apartment communities which contribute to the growth story, including:

Underwriting and providing developers bridge loans and mezzanine financing as a source of capital required for land acquisition, pre-development, construction and lease-up in return for fees, interest and attractive options to purchase the newly-developed communities.

cg_-_apt_preferred_apts_dev_loans.jpg

In addition to traditional apartment communities, PCA is also focused on college student housing. This is a specialty niche within the multi-family sector, which uses the "number of beds occupied" as a leasing metric rather than the entire unit.

PCA increased the amount of non-multifamily assets allowed as a percentage of total PCA assets from 10 percent to 20 percent, in 2014.

A Shopping Center Componen

This paved the way for a new Preferred Apartment Communities grocery-anchored necessity shopping center division, which was announced on its Q2 2014 earnings call.

cg_-_apt_preferred_retail_july_2015.jpg

On that call, PCA declared a goal of reaching large enough operational scale to spin-out a stand-alone retail shopping center REIT, "New Markets" within approximately one and a half years.

Meliker is not a fan of the retail/residential asset mix, and noted while the retail spin-out will further reduce market cap, it should also serve as a positive catalyst for the APTS share price.

Canaccord - Investor Takeaway

"Apartment REITs have historically been less exposed to higher risk-free rates than most other property sectors, but surprisingly no more sensitive to GDP growth. As such, we believe the recent rate-driven pullback across Apartment REITs has created an intriguing entry point."

Meliker believes "…investors too focused on rising rates will miss a fantastic buying opportunity across the broader REIT group."

Latest Ratings for APTS

DateFirmActionFromTo
Apr 2020SunTrust Robinson HumphreyMaintainsHold
Sep 2019National SecuritiesInitiates Coverage OnBuy
Dec 2018JMP SecuritiesMaintainsMarket OutperformMarket Outperform

View More Analyst Ratings for APTS
View the Latest Analyst Ratings

 

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