H&R Real Estate Investment Trust T.HR.UN

Scotia comments after conference

[incomedreamer11]

$10.00 = Time to Buy or Have Time To Wait?... We See Both

OUR TAKE: Neutral. We maintain our SP rating on limited imminent catalysts but if you’re willing to trade-off patience for value, $10.00 is a pretty good entry point (i.e., we see a $9.75-$10.75+ trading range, all else equal). There remains a clear line of catalysts for H&R, incl. the potential sale of Hess Tower in Houston, the sale of its stake in Echo (Giant Eagle grocery anchored U.S. centres), improved second-derivative on U.S. Sunbelt Residential, and the sale of Toronto Office with residential zoning. We think the issue (and hence $10.00 unit price) = catalysts seem weighted to 2H/25 (some perhaps extended out vs. outlook 3 months ago). Our TP is +2% on our new 2026E FFOPU/AFFOPU (Exhibit 1), with most estimate revisions similar sector avg. (ex. our lower NAV; Exhibit 2). We reiterate our Q2 message...H&R remains worth the work ahead of 2025 (perhaps you have into 2025 now).

KEY POINTS

What has changed? Exhibits 2-3 highlight estimate revisions. Our Current NAVPU falls 3% on the 3% Q3/24A NOI miss (Exhibit 17), but our Forward NAVPU is +3% on our new 2026E NOI. We left our 11x TM despite extending our forecast horizon to 2026, but admittedly, if we’re wrong, it is probably too conservative. As show in Exhibit 4, we think a more stabilized multiple (upon successful recycling) = ~13x = a unit price closer to $14 or 40% upside.

Valuation looks good. H&R is a rare REIT that trades at an above-avg. AFFO and implied cap spread to 10YR (+30bp-50bp); Exhibit 5. Debt/EBITDA is +0.6x above-avg., similar to sector. At $10.00, we est. Lantower implied cap is 7.25% (Exhibit 6), 150bp+ higher than similar U.S. comps, but below the 7.5%-8.2% over the prior 3 quarters (Exhibit 6); every 25bp = 3% to unit price. The NAV discount and P/AFFO trail historical avg. (Exhibits 10-11).

New 2026E reflect decent growth given forecast disposition dilution. Our new 2026E FFOPU and AFFOPU are $1.27 and $1.07. The 2024E-2026E AFFOPU CAGR of 4% is > historical avg. 0%. The 4% lags sector avg. of ~6% due to forecast dilutive dispositions (i.e., U.S. and CAD Office). Ex. dispositions, our 2024E-2026E AFFOPU CAGR = 7%-8% on a rebound in U.S. residential fundamentals. Exhibit 8 = key assumption table.

Call highlights. Timing of potential catalysts was the primary focus. H&R seemed more negative on broader transaction markets vs. 3 months ago but not for its specific opportunities. H&R resubmitted residential zoning applications at 3 Toronto Office assets (1,600 suites; 1.65Msf) to remove office-replacement requirement; expected to take a year (i.e., no Toronto conversion Office sales anytime soon). H&R ability to sell the Hess Tower feels more predicated on the Hess-Chevron deal resolution than previously cited. Couche-Tarde acquisition of GetGo Cafe +Markets from Giant Eagle may lower the Echo cap rate (HR cited something in the 5%-range) but may also push a deal later into 2025.

Q3/24 Highlights & Developments

OUR TAKE: Neutral. Reported FFOPU was $0.294, and recurring FFOPU was $0.294, -3.9% q/q and -3.9% y/y (Q2 = +1.2% q/q and flat y/y to $0.306), ~4% below our $0.306 and ~2% below $0.301 consensus (range = $0.295-$0.306).

IFRS NAVPU fell 1.5% (-$0.30) to $19.64 (Q2 = -5.3%) vs. our $17.00 on a $23M IPP FV loss or ~1% of unit price (Q2 =IPP FV $427M loss, or 16%). Of the $23M, $28M = Office and $12M = Residential. Equity value/un (i.e., incl. the DTL in NAV like we do = $18.80 vs. $19.23 q/q). Portfolio IFRS cap rate +5bp q/q to 5.93% (Q2 = +27bp q/q) vs. our ~6.4%.

Assets held for sale (AHFS) = $70M vs. $62M q/q; ~$9M pro-forma $61M disposition post-q.

Same-asset (SA) cash NOI fell 1.5% y/y (Q2 = +1.7%; 2023A = +10.3%). In local currency, Canada was -5.3% y/y (Q2 = -1.5%; 2023A = 6.4%) and U.S. was -0.3% y/y (+1.7%; 2023A = 8.4%).

On the surface, no major positive or negative surprises or material new info on key catalysts with modest dispositions completed (no Office or Retail) + minimal change to AHFS. We still believe accretive dispositions (and better U.S. Sunbelt residential sentiment) = key near-term catalyst, which are still weighted to 2025 for H&R, in our view.

Capital recycling update. Essentially no change q/q. HR has $438M (+$9M q/q) of properties sold or under contract YTD, with Q3 assets held for sale of $70M, +$8M q/q. H&R repurchased zero units (zero since Q3/23), with 2023A = 4.1M units at an avg. $10.30/un (~1.5% of 2022A units o/s). Post-Q, HR sold 50% interest in a CAD industrial property for $61M, with ~$36M of net proceeds used for debt repayment.

Operations update. Total and SP occupancy fell 100bp/20bp q/q to 95.9% and 96.6% respectively (Q2 = +50bp each q/q), while SP Residential fell 50bp to 94.1% (Q2 = +20bp), Office was +50bp q/q to 96.8% (Q2 = +150bp). The 1.5% y/y decline in cash SANOI was driven by 6.3% and 0.7% y/y decline in Office and Residential respectively, partially offset by +2.7% growth in Industrial and +2.4% growth in Retail. Avg. CAD and US portfolio in-place net rent was +2.6% and +0.5% to $12.65/sf and US$25.82/sf, respectively (Q2 = -2.8% q/q to $12.33/sf and flat q/q to US$25.69/sf). Lantower occupancy fell 330bp q/q to 91.3% (Q2 = +20bp q/q) largely on an IPP-PUD reclass of Lantower West Love (we est. West Love = 280bp of the 330bp), offset by +110bp q/q in Gateway Cities. Avg. monthly rent of US$2,056 was flat q/q and fell 1.1% y/y, respectively (Q2 = -0.5% q/q). Avg. estimated rent-HHI ratio in Lantower (ex. Jackson Park) = ~20% (-0.4% q/q; Q2 = +2% q/q) vs. ~22% disclosed for Class A U.S. market (flat q/q; Q2 = -1% q/q).

Liquidity fell, while D/GBV and D/EBITDA move up. Liquidity fell $11M q/q to $932M (Q2 = +$138M), incl. $68M in cash and $864M in credit facilities. H&R unencumbered assets of $4.1B = 88% of total debt (Q2 = 87%). Debt/GBV was +10bp q/q to 44.9% (at HR share; Q2 = +30bp q/q) with debt-to-EBITDA +0.6x to 9.1x (Q2 = -0.3x). IFRS cap rate was +5bp q/q to 5.93% (Q2 = +27bp) incl. Office +19bp to 8.86% (Q2 = +122bp) while Retail fell 1bp to 7.03% (Q2 = +54bp), Residential was +1bp to 4.56% (Q2 = +8bp) and Industrial was +19bp q/q to 5.49% (Q2 = flat q/q).