TD comments after conferenceWe attribute this morning's ~5% unit price drop to the higher-than-expected D/EBITDA level. Management noted Q2 should represent the high watermark with D/EBITDA trending down into the 8x range over the next 24 months supported by asset sales, dev't EBITDA coming online, and SPNOI gains. In our view, the main catalyst for the stock remains occ gains, which we expect to see progress on in H2.
Impact: NEUTRAL
Occupancy to rebound in H2/24.
With occupancy showing signs of stabilization in Q2 (+10bps q/q and first increase in six quarters), management expects to see a positive inflection point by the end of 2024. Allied has 900k sf of deals currently under negotiation, which we believe could support occupancy gains this year. With only 3%/11% of leases maturing over the balance of 2024/25, we continue to believe Allied is well-positioned to ride out current weaker market fundamentals.
Leverage should improve through 2025. Although D/EBITDA rose higher than we had expected to 10.9x (from 9.4x in Q1) following the closing of the Westbank transactions, management reiterated its ~8x range D/EBITDA target by mid-2026 (8.0-8.9x). Debt reduction levers include $400mm in low yielding asset sales (including $200mm already announced), contributions from developments coming online (we estimate an additional $35mm by 2026), and occupancy gains. Our forecast has Allied reaching 9.4x D/EBITDA at Q2/26. Forecast — Introducing 2026 estimates. Our 2024 FFO/unit estimate declines 2% (lower NOI/higher G&A) while our 2025 estimate is largely unchanged. Our new 2026 estimates calls for flat y/y growth vs 2025. Our NAV estimate declines 11% to $23.10 on lower NOI (cap rate unchanged).
Distribution.
Management remains committed to its distribution and our forecast has no cut. While our estimated AFFO payout ratio tops 100% in 2025/26, we believe there is enough liquidity to fund a temporary overpayment, and we see a path to getting the payout ratio onside. That said, should occupancy not begin recovering as expected by 2025, we believe management should revisit the distribution level.
Valuation. Allied's current 9.2x P/Forward AFFO is well below its historical 16.9x average, and close to the low 8x levels seen at the bottom of the GFC, which is unwarranted in our view. Versus U.S. comps (Figure 9), Allied trades at a 40% discount, compared with a 3% average discount since January 2018. We see good absolute and relative value in Allied and believe investors are being well compensated to wait for improving operating metrics.
Leasing Update In Q2/24, Allied completed 125 leases (50 new, 75 renewals) for 444,963sf, compared with 135 leases for 526,684sf in Q1/24. On a cash basis (exit rate to new rate), the leases were completed at a 9.7% spread, while on an average-to-average rent basis, the spread was 16.2%. Looking ahead, management expects continued sustained leasing activity in 2024 and has ~900k sf of deals under negotiation/prospect. Touring activity moderated in the quarter, with 262 lease tours completed in Q2/24, - 10% vs Q2/23. Deals continue to take longer to complete (12-18 month timelines versus 3-6 months pre-pandemic) owing to a softer economic environment and more choices for tenants (tenants’ market). Sublease space remains at the higher end of historical average, largely due to the ~350k sf Shopify space at the Well. Excluding this sublease space is largely in line with historical averages.
Forecast Update. Our 2024 FFO/unit estimate declines 2% on lower NOI and higher G&A, while our 2025 estimate is largely unchanged (lower NOI offset by lower interest expense) Our newly introduced 2026 estimate calls for flat y/y growth. Key drivers to our forecast include refinancing the $600mm February 2026 debenture at 5.85% (up from current 1.73%), $400mm of completed asset sales by year end 2025 at low 4% cash yields, development projects coming online as contemplated, and a gradual occupancy recovery leading to 3% SPNOI growth for both 2025 and 2026
.Acquisitions/Dispositions Allied has seven non-core asset sales (including three announced from Q1) that are expected to close in H2/24. In addition to the Telus Sky transaction (expected to close in Q3), these asset sales will generate nearly $200mm in proceeds and meet management's 2024 target. We view the pricing of these transactions favourably, with three assets sold meaningfully above IFRS value (included intensification potential) and the remaining four assets sold in line with IFRS. Based on the $234mm held for sale, we estimate a sub 4% cash yield, which should be accretive with proceeds used to reduce high 6% debt. Looking ahead, management expects to complete $200mm in additional asset sales through 2025. Our forecast calls for $200mm in dispositions in 2025.
Developments The REIT’s developments are 82% leased (up from 81% q/q). QRC West (Phase II) was transferred to the rental portfolio in Q2 (although did not contribute to NOI). Estimated timelines were pushed back one/two quarters for several developments, while yields and total costs were largely unchanged. Allied does not intend to start any new development projects over the near term and expects PUD/Assets to decline to sub-5% by Q4/25. Remaining spend on the current pipeline is ~$148mm, which we believe can be easily funded with the REIT's existing liquidity.
Valuation Allied currently trades at a P/AFFO multiple of 9.2x on our 2024 estimate, and 4.8 multiple points below its U.S. peers. We believe the REIT should trade closer to peers based on Allied’s favourable near-term lease maturity profile. On a P/NAV basis, Allied is trading at a 27% discount to our $23.10 NAV/unit estimate (previously $25.90), which compares with its historical average of a 3% discount and U.S. peers at a 7% discount
Justification of Target Price Our $20.00 target price (unchanged) is based on a multiple of 11.0x-11.5x applied to our 2025E AFFO/unit (unchanged) and represents a 13% discount to our NAV. These are at the low end of the historical multiple range we have used to set Allied's target price owing to the higher level of uncertainty around near-term office market fundamentals.