CIBC commentsOur Conclusion
As of September 19, we initiate coverage of Slate Grocery REIT (SGR) with a Neutral rating and anUS $11.00 price target.Fundamentally, SGR’s portfolio is well structured: a high concentration of essential services and grocery-anchored tenants, a low threat of supply, stable occupancy and solid leasing spreads. As a small-cap, growth-oriented REIT, SGR has successfully achieved scale. Further growth runway remains from the fragmented asset class, and accretive acquisitions (which we do not model) could present upside. SGR’s active and opportunistic acquisitions, however, have contributed to constrained FFO/unit growth. Leverage is also at the high end of the sector range. We expect units to trade at a discount to peers given lower trading liquidity and the REIT’s external management structure. Units are trading ~20% below net asset value (NAV), and we view valuation as fair.
Key Points
Essentials-focused Portfolio: Of properties, 100% are grocery-anchored (excluding five non-core assets) and ~60% of gross leasable area (GLA) is occupied by essential services tenants. The tenant mix comprises large, credit-worthy grocers and the five largest are Kroger, Walmart, Ahold Delhaize, Albertsons, and Publix. All anchor space is effectively fully leased, and overall occupancy is ~94%.
Active Acquisition Track Record: Since inception, Slate has scaled up its portfolio from 3.5MM sq. ft. to 15MM sq. ft., adding assets that are valued below replacement cost. With >40,000 grocery stores in the U.S., the opportunity set is large and the REIT has been consistent in its strategy of focusing on non-gateway markets (i.e., less competition and better pricing). The relationship with Slate Asset Management (SLAM) has been a key driver in the REIT’s ability to source off-market transactions. We prefer internal management structures, but SLAM’s 5.6% interest in SGR does provide some alignment.
An Improved Debt Stack: From a legacy debt strategy that was heavily weighted to floating rate debt, Slate has since fixed the majority of its debt (~97% at present). Debt to Gross Book Value (D/GBV) was ~51% at Q2/23 (~54% on a proportionate basis) vs. the sector at ~45%. There are no 2023 debt maturities, while ~20% of debt matures in 2024, over half of which is the revolver (has two six-month extension options).
Valuation:
Our $12.00 NAV is based on a 7.25% cap rate, and our $11.00 price target reflects a discount to account for the external management structure. Slate Grocery is trading at ~8.6x 2024E FFO and a ~20% discount to NAV, close to small-cap retail REITs. Including the distribution, our price target implies a total return of ~23%. The current yield of ~9.0% is higher than the ~6.3% sector average and reflects a 2024E AFFO payout ratio of 94%.
Price Target
(Base Case): US$11.00 Our 12- to 18-month price target is $11.00/unit, which is an ~8% discount to our NAV estimate to account for the externalized management structure and equates to 9.8x 2024E FFO.
Upside Scenario: US$13.50 Our upside case reflects our NAV estimate with higher NOI growth of +2.5% and a 25 bps decrease in the cap rate.
Downside Scenario: US$6.50 Our downside case reflects a 20% discount to NAV with a decline in NOI of 2.5% and a 50 bps increase in the cap rate, owing to unexpected vacancies, primarily in non-grocery.