Slate Grocery REIT SRRTF

For your interest

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The REIT Stuff: Keeping it In-House; Buy Back Better We’ve talked a lot about the abnormally high Canadian REIT trading discount to NAV this year (now 16% vs. 19-year average 2% premium); see our recent Spotlight Report on Cap Rates.

Canadian REITs have traded at a 15%+ discount to our NAV only 9% of the time, leading to an average 11% six-month total return (i.e., a great time to buy REITs… if you believe our NAVs). A REIT trading price to NAV can impact several things, including near-term capital allocation priorities and external growth abilities. In this edition of our monthly

The REIT Stuff, we look at market reaction to external growth in 2022 and whether unit re-purchases have made a difference over the past five years as NAV discounts often solicit “Why don’t you buy back stock?” investor feedback.

The Market Seems Less Enthused on External Growth; Net Sellers = Net Winners

There have been some larger acquisitions announced this year. Exhibit 1 compares “acquisition intensity” to subsequent unit price performance (through last Friday). We defined acquisition intensity as net YTD announced acquisitions as a percentage of Q4/21 gross book value (GBV). We chose net acquisitions and have only included announced deals (i.e., assets held for sale are excluded). There is some judgement involved in terms of identifying T = 0; we generally chose the acquisition announcement date if it was meaningful (i.e., as a % of total acquisitions announced). While the outcome isn’t perfect, we note a general trend line from the top left to bottom right (i.e., more acquisitive REITs have mostly subsequently lagged Canadian REIT unit price performance). It’s not perfect, as there are clearly other data points to consider, such as Q1 earnings (actual vs. consensus FFOPU; that said, Minto was the only REIT in the top-left quadrant that was notably below Q1 consensus), shifting investor asset class preferences (i.e., Industrial REITs did very well last year), Value vs. Growth, and Cyclical vs. Defensive. With all of that said, average YTD acquisitions totaled 3% of GBV for the sector, with more active REITs (i.e., 5%+) down an average 13% post announcement versus -6% for broader sector and -1% for REITs that have been net zero acquirors or sellers.

To be clear, we don’t believe unit price responses reflect the acquisitions per se. Rather, we believe the market prefers capital preservation at large discounts to NAV and/or concerns over broader economic/credit markets, regardless of whether acquisitions are funded by existing liquidity, higher leverage, or unit issuance (unless at a trading premium to NAV, of which there is just three examples, including StorageVault).
Simply put, the ~50 bp YTD uptick in REIT implied cap rates suggests investors are pricing in a similar uptick in private market cap rates within six to nine months (given REITs were trading at roughly NAV to start the year), which renders acquisitions less appealing, all else equal, and more focused on organic growth (i.e., ability to drive bottom-line growth in an inflationary environment).

Secondly, we believe the market is against flat (or negative) acquisition cap rate spreads amid rising mortgage debt costs, which implies greater reliance on aboveaverage rent/occupancy growth heading into a period of economic uncertainty (based on our client discussions; concerns over stagflation and/or recession come up a lot).

Conversely, it appears significant asset dispositions (actual or very likely) are being rewarded, particularly if proceeds are earmarked toward unit repurchases at a discount to NAV (think H&R, Artis, Dream Office).

Essentially, a market implying lower future private values will view imminent dispositions more positively.

REIT Unit Prices Have Responded to Buybacks Historically, Including Recently Some of the best performing REITs YTD have been more active on unit re-purchases. Specifically, the three most active REITs have all outperformed YTD, including H&R REIT (repurchased ~5% of units outstanding; unit price is +8% vs. -11% for sector), Artis (~6%; +6%), Dream Office (~2%; -15%), and RioCan (~2%; -7%). Indeed, H&R and AX are the best performing REITs in our universe YTD.

We also think RioCan’s disclosed ~8M NCIB activity with Q4/21 results (February 9) has notably contributed to its 7% outperformance versus the sector since (and +4% versus Retail peers).

H&R (most already announced in Q1/22 MD&A) has acquired ~7.5M units in Q2/22, with REI and AX each at 3M-3.5M units in May at an average ~$12.95, ~$22.30/un, and ~$12.50, respectively. Exhibit 2 provides analysis since 2016, which similarly shows general unit price outperformance on NCIB execution.

Dream Office has been by far the most active REIT (re-purchased 120% of Q1/22A units), followed by Artis (33%), RioCan (11%), H&R (7%) and Slate Grocery (6%). Dream has outperformed its CAD Office peer (Allied Properties) by 15% on a total return basis, most of which we attribute to the “value creation” from unit repurchases (i.e., purchase price versus our in-place NAVPU estimate over the years).
More recently, we point to Artis’ strategic plan execution driving solid value creation, estimated at ~9%. Interestingly, given YTD weakness, we estimate the average buyback price for active REITs going back to 2016 was only 0.1% below current trading prices and 11% below our NAVPU estimates at the time (and 18% below our current NAVPU estimates). So, ultimately the degree of absolute “value creation” depends on your definition of “value creation”; a decent amount if you use our NAVPU estimates, less so using current trading price.
The REIT Stuff: Keeping it In-House; Buy Back Better We’ve talked a lot about the abnormally high Canadian REIT trading discount to NAV this year (now 16% vs. 19-year average 2% premium); see our recent Spotlight Report on Cap Rates.

Canadian REITs have traded at a 15%+ discount to our NAV only 9% of the time, leading to an average 11% six-month total return (i.e., a great time to buy REITs… if you believe our NAVs). A REIT trading price to NAV can impact several things, including near-term capital allocation priorities and external growth abilities. In this edition of our monthly

The REIT Stuff, we look at market reaction to external growth in 2022 and whether unit re-purchases have made a difference over the past five years as NAV discounts often solicit “Why don’t you buy back stock?” investor feedback.

The Market Seems Less Enthused on External Growth; Net Sellers = Net Winners

There have been some larger acquisitions announced this year. Exhibit 1 compares “acquisition intensity” to subsequent unit price performance (through last Friday). We defined acquisition intensity as net YTD announced acquisitions as a percentage of Q4/21 gross book value (GBV). We chose net acquisitions and have only included announced deals (i.e., assets held for sale are excluded). There is some judgement involved in terms of identifying T = 0; we generally chose the acquisition announcement date if it was meaningful (i.e., as a % of total acquisitions announced). While the outcome isn’t perfect, we note a general trend line from the top left to bottom right (i.e., more acquisitive REITs have mostly subsequently lagged Canadian REIT unit price performance). It’s not perfect, as there are clearly other data points to consider, such as Q1 earnings (actual vs. consensus FFOPU; that said, Minto was the only REIT in the top-left quadrant that was notably below Q1 consensus), shifting investor asset class preferences (i.e., Industrial REITs did very well last year), Value vs. Growth, and Cyclical vs. Defensive. With all of that said, average YTD acquisitions totaled 3% of GBV for the sector, with more active REITs (i.e., 5%+) down an average 13% post announcement versus -6% for broader sector and -1% for REITs that have been net zero acquirors or sellers.

To be clear, we don’t believe unit price responses reflect the acquisitions per se. Rather, we believe the market prefers capital preservation at large discounts to NAV and/or concerns over broader economic/credit markets, regardless of whether acquisitions are funded by existing liquidity, higher leverage, or unit issuance (unless at a trading premium to NAV, of which there is just three examples, including StorageVault).
Simply put, the ~50 bp YTD uptick in REIT implied cap rates suggests investors are pricing in a similar uptick in private market cap rates within six to nine months (given REITs were trading at roughly NAV to start the year), which renders acquisitions less appealing, all else equal, and more focused on organic growth (i.e., ability to drive bottom-line growth in an inflationary environment).

Secondly, we believe the market is against flat (or negative) acquisition cap rate spreads amid rising mortgage debt costs, which implies greater reliance on aboveaverage rent/occupancy growth heading into a period of economic uncertainty (based on our client discussions; concerns over stagflation and/or recession come up a lot).

Conversely, it appears significant asset dispositions (actual or very likely) are being rewarded, particularly if proceeds are earmarked toward unit repurchases at a discount to NAV (think H&R, Artis, Dream Office).

Essentially, a market implying lower future private values will view imminent dispositions more positively.

REIT Unit Prices Have Responded to Buybacks Historically, Including Recently Some of the best performing REITs YTD have been more active on unit re-purchases. Specifically, the three most active REITs have all outperformed YTD, including H&R REIT (repurchased ~5% of units outstanding; unit price is +8% vs. -11% for sector), Artis (~6%; +6%), Dream Office (~2%; -15%), and RioCan (~2%; -7%). Indeed, H&R and AX are the best performing REITs in our universe YTD.

We also think RioCan’s disclosed ~8M NCIB activity with Q4/21 results (February 9) has notably contributed to its 7% outperformance versus the sector since (and +4% versus Retail peers).

H&R (most already announced in Q1/22 MD&A) has acquired ~7.5M units in Q2/22, with REI and AX each at 3M-3.5M units in May at an average ~$12.95, ~$22.30/un, and ~$12.50, respectively. Exhibit 2 provides analysis since 2016, which similarly shows general unit price outperformance on NCIB execution.

Dream Office has been by far the most active REIT (re-purchased 120% of Q1/22A units), followed by Artis (33%), RioCan (11%), H&R (7%) and Slate Grocery (6%). Dream has outperformed its CAD Office peer (Allied Properties) by 15% on a total return basis, most of which we attribute to the “value creation” from unit repurchases (i.e., purchase price versus our in-place NAVPU estimate over the years).
More recently, we point to Artis’ strategic plan execution driving solid value creation, estimated at ~9%. Interestingly, given YTD weakness, we estimate the average buyback price for active REITs going back to 2016 was only 0.1% below current trading prices and 11% below our NAVPU estimates at the time (and 18% below our current NAVPU estimates). So, ultimately the degree of absolute “value creation” depends on your definition of “value creation”; a decent amount if you use our NAVPU estimates, less so using current trading price.