RioCan Real Estate Investment Trust T.REI.UN

Scotia comments after conference

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Downgrading to Sector Perform on Lack of Near-Term Per Unit Growth and Catalysts

OUR TAKE: Negative. We are downgrading REI to SP from SO, with our key estimates down an avg. 6% post Q1 results (Exhibits 1-2) vs. 2% peer avg. (Exhibit 3). TP is -$1.75 to $20.50 (vs. ~$20.75 consensus). We’ve debated our Rating for some time (our last Positive “Our Take” on quarterly results = Q3/22; Exhibit 4). Our revised NTM TR = 22% vs. 23% peer and sector avg.; REI ranks #3 in our Retail coverage (behind CRR & PMZ). We think REI will look more interesting heading into 2025 (uptick in residential gains = lower leverage + FFOPU upside), but we’re taking a pause for now. A NTM total return closer to 30%+ (i.e., $16.50/un) = revisit rating. Overall, we don’t see much downside to REI unit price (at ~11x 2024E AFFO) but upside may take some time.

KEY POINTS

OUR THOUGHTS: The challenge has been and still is the relatively short-term vs. long-term outlook for REI, in our view. Long-term, we think REI’s portfolio (and disclosure) is vastly superior to the past (see our October 2021 Re-Initiation, which the team deserves credit for, including creating RioCan Living (via development, as opposed to acquisition...for us). Occupancy and lease spreads are pretty much as good as they’ve been (Exhibits 12-13). On the other hand, despite that, our flat 2023A-2025E AFFOPU CAGR (ex. residential gains) = a PEG ratio that is n/a or 3.7 using just 2025E or 3.6 incl. gains (vs. Retail 3.3 avg; Exhibit 5), on elevated near-term debt maturities (Exhibit 6) that is simply hard to overcome at current market rates (AFFOPU CAGR would be ~3% ex. refi).

Reasons downgrade. Limited recurring AFFOPU growth through 2025 on higher interest expense (rationale = similar to Killam). We’re at or above consensus FFOPU through 2025 (incl. gains). That said, REI no longer stands out on “mean reversion” due to our lower AFFOPU estimates, something we’ve cited several times in the past. As shown in Exhibit 8, REI AFFO yield spread to 10YR now looks more reasonable in the context of less forecast growth and above-historical-avg. leverage (by ~0.5x); the implied cap spread is tighter than avg. (reasonable given ownership of new Apartments). Having sold multiple high-cap rate (low growth) assets in the past 5 years, REI acquisitions > dispositions recently, contrary to market preference for “FFOPU-accretive and debt-lowering dispos” ala FCR. We think that changes in 2025 with much higher residential gains anticipated (i.e., accretive debt paydown; our 2025E = $82M vs. 2024E of ~$30M-$34M); we could see 2024 guidance fall if some of it gets pushed into 2025. The high-end Toronto residential rental market (i.e. REI new construct) is showing some signs of flattening (REI resi occupancy fell 120bp q/q to 96.2%; but likely mostly due to acquisition). We see limited unit price catalysts over the summer.

See Page 2 for why we may be wrong….

Reasons why we may be wrong. We still believe that REI is trading 1x-2x points below where it should vs. some peers (Exhibit 10). Surfacing value from its RioCan Living Residential portfolio (Q1 NOI = ~$6M; 4% of total NOI or ~7% on a near-term stabilized basis) sooner than expected (REI has discussed $50M-$60M of annual EBITDA as a good size to do something) is a nice catalyst (i.e., 7% of portfolio valued at double the AFFO multiple = +0.7 to REI overall trading multiple = $1.00/un upside or 5%-7%). Similarly, a surprising amount of residential density sales to reduce leverage quicker than expected (i.e., REI guidance of ~9x by Q4/24 and ~8x by Q4/25) would work. We need better residential land markets for that, in our view (similar to our take re: Primaris potential sale of Dufferin Grove; see link). Lastly, as mentioned, REI portfolio quality has improved meaningfully and active dispositions have removed less institutional quality assets from the mix, thereby increasing REI’s portfolio “private value”. That said, large-scale REIT privatizations are not our base case for the next 3-6 months as uncertainty over monetary policy and the economy lingers.