When two public companies merge with each other, the goal is to create one entity that will increase the overall value of both. Often the acquiring company’s stock will decline after the deal is announced, while the target company’s stock price rises.
But what happens if both companies have been struggling in recent years? Can the merger of the two strengthen the earnings and revenue of each? Take a look at two real estate investment trusts (REITs) that have just merged after both have traded near multiyear lows and see what the results of this deal could be.
Global Net Lease Inc. GNL announced late on May 23 that it has merged with Necessity Retail REIT Inc. RTL. Global Net Lease will acquire Necessity Retail in an all-stock transaction valued at about $950 million. Under the terms of the agreement, Necessity Retail shareholders will receive 0.67 shares of Global Net Lease stock for each common share of Necessity Retail stock, or about $7.08 per share as of closing prices on May 23. The merger is expected to close in the third quarter of 2023.
At the close of the merger, the company will operate as Global Net Lease and will own and internally manage over 1,350 properties with an aggregate asset value of approximately $9.6 billion.
Global Net Lease is a New York-based net-lease diversified REIT, founded in 2011, with a current market cap of $1.1 billion. Its portfolio of 311 properties covers 39.3 million square feet in 11 countries. Its properties are 99.9% with a weighted average remaining lease term of 8.3 years. Contractual rent increases are included in 94.7% of its leases.
The U.S. is home to 61% of Global Net’s properties and another 20% are in the United Kingdom. The remainder is spread across Europe. Its top 10 tenants include McLaren Automotive, FedEx Corp., Whirlpool Corp. and the U.S. General Services Administration. Its industry makeup is extremely diversified, with financial services and auto manufacturing making up 25% of the total portfolio. Industrial and distribution space account for 54% of its assets, 42% of its portfolio is office and 4% is retail.
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Also based in New York, Necessity Retail REIT was founded in 2013 and has a present market cap of $629.36 million. Necessity Retail owns and operates 1,039 properties across 48 states. About 90% of its properties are single-tenant assets and about 10% are open-air shopping centers with multiple tenants.
Necessity Retail’s top 10 tenants include Truist Bank, Fresenius Medical Care, Mountain Express Oil Co., Americold, The Home Depot Inc. and PetSmart. Its present portfolio occupancy rate is 92.6%, and with leasing pipeline occupancy, that number rises to 94.5%. Its leases have a weighted average remaining lease term of 7.1 years. The single-tenant occupancy rate of 97.7% is much higher than the 89.1% occupancy rate of the multitenant units.
At the time of the announcement, Global Net Lease shares had closed at $10.56, while Necessity Retail was trading at $4.88. Both REITs have seen better days. Global Net Lease traded around $15.50 in the summer of 2021 and as recently as January, had touched $14.79. Necessity Retail was a $10 stock pre-pandemic and as recently as March was near $7 per share.
In recent weeks, Blackwells Capital had pressured both companies in a letter to shareholders to change the board of directors and to eliminate the external management of AR Global Investments, which it accused in the letter of “self-dealing and self-enrichment.”
In the morning following the announcement, Global Net Lease opened lower by about 15%, with Necessity Retail up by a similar amount.
The question now is will this merger help both REITs overcome recent struggles, or is this new REIT simply two problematic companies about to become one larger problem?
Before the merger, both companies were paying out huge dividends with yields that maximized payout ratios. Global Net Lease had forward funds from operations (FFO) of $1.40 but was paying out $1.60 in annual dividends, for a yield of 15.15%. Necessity Retail had FFO of $0.84 and yet paid out $0.85 in annual dividends for a 17.42% yield. Those dividends were simply not sustainable.
But following the merger, Global Net Lease is expected to begin paying a quarterly dividend of $0.354 per share and the new annual dividend of $1.41 will drastically cut the payout ratio. Global Net Lease’s new AFFO for the fourth quarter of 2023 is expected to be $0.42.
By adding Necessity Retail’s portfolio, Global Net Lease will markedly increase the retail percentage of its total portfolio. But given the current negative state of office leasing, its large number of office properties may continue to hamper its top and bottom lines.
The first-quarter operating results for both REITs were tepid to disappointing. Global Net Lease’s adjusted FFO of $0.38 beat the Street by $0.02 but was $0.03 below its FFO in the first quarter of 2022. Its revenue of $94.3 million also missed estimates by $450,000 and was almost $3 million below the first quarter of 2022. Necessity Retail’s FFO of $0.23 was in line with estimates but missed on revenue by $4.17 million. The better news was that revenue was 19.7% higher than in the first quarter of 2022.
Necessity Retail’s FFO has been up and down over the past four years but with no progress made — even while revenue was growing by 63%. Global Net Lease’s revenue has grown by about 22%, but its FFO has declined significantly since 2019.
One problem with this merger is that both companies are carrying huge amounts of debt. Necessity Retail REIT’s debt-to-equity (DTE) ratio has been steadily climbing since 2021 when it was 1.08 to its present level of 1.89. Global Net Lease’s DTE ratio has risen from 1.17 at the end of 2019 to 1.86 at the end of March 2023.
Another positive outcome of the merger is the savings from the elimination of the external management of AR Global. As part of the agreement, Global Net Lease will make an upfront payment of $325 million in stock and $50 million in cash to AR Global. The new REIT will then become internally managed, which is expected to save Global Net Lease approximately $54 million per year.
- Riley Securities analyst Bryan Maher recently maintained a Buy rating on Global Net Lease but lowered his price target from $17 to $15. There have been no new analyst ratings on Necessity Retail REIT for over a year.
The takeaway from this merger is that while it surely can’t hurt and may somewhat help to eventually push Global Net Lease’s share prices higher, investors should be asking themselves whether it’s possible to create a real winning stock simply by merging two poor performers together.
Over the past five years, private market real estate investments have outperformed the publicly traded REIT market by about 50%. Check out Benzinga’s Real Estate Offering Screener to discover the latest passive real estate investments.
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