November 10, 2020
CAPREIT
Mid-tier is the place to be; moving to Outperform on attractive risk-weighted return potential
Our view: We are moving our rating on Canadian Apartment Properties REIT’s (“CAPREIT” or “CAR”) units to Outperform from Sector Perform. We believe the business is well-positioned, via its predominately mid-tier portfolio, to navigate 6-12 months of more trying operating conditions, ahead of what we expect will be stronger fundamentals heading into 2022. With apartment values holding strong we see attractive risk-weighted total return potential to our revised (+$2) $59 price target.
Key points:
Q3 results re-cap – As covered in our First Glance Note, Q3/20 FFO/unit of $0.59 was +6% YoY from Q3/19’s $0.56 and +6% versus our $0.55E. Top- line revenue for the Q ($221MM) was 0.2% off our forecast, but lower than expected bad debt and Trust expenses drove favourable bottom line variance. Q3/20 SPNOI was a solid +4.0%, on organic revenue growth of 2.8%, largely driven by higher rents on turnovers, offset by a small slip in occupancy (-50 bps to 97.7% overall) and expense growth of only 0.5%.
Acquisition cadence remains strong; we expect more – CAR has acquired 2,100 apartment suites in Canada for a total investment of $0.7B this year. While apartment values have held very firm this year (as has our CAR NAV/unit), deal velocity in Canada remains strong and with the benefit of declining interest rates, the spread between going-in cap rates and ten-year CMHC financing spreads has widened from less than 100bps two years ago to 200 bps (possibly more) currently. We expect CAR’s acquisition program to continue to focus on mid-tier properties where it can add significant value via capex and its operating strategies, which we believe it best suited towards this segment. We expect newer property acquisitions may also be part of the mix, to the extent their price-point is more mid-tier, as opposed to luxury rents (rents of $2.75-$3.00/sf, but not $4-$5/sf). In light of new supply and current economic conditions, we expect continued softness in new, higher-rent luxury rentals.
Leverage and liquidity look great – CAR rounded-out Q3 with a D/GBV ratio of 36% and corporate liquidity of $0.5B. In 2021 CAR has $573MM of mortgage principal amortization and maturities carrying a WAIR of 3.21%. Ten-year CMHC insured mortgages have a cost of ~1.8% currently, thus offering solid rate roll-down potential. Moreover, CAR believes it can originate $0.9B of new/renewal mortgage financing next year, thus boosting liquidity by $0.3B.
2021E-22E FFO/unit little changed – Largely due to lower than previously forecast bad debt and trust expenses, our 2020E is +3% to $2.24, from $2.18 formerly. Our 2021E-2022E of $2.26/$2.35 are little changed (<1%) from $2.27/$2.35 formerly.
Price Target +$2 to $59; Rating moved to Outperform.