TSX:NRR.UN - Post by User
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EstevanOutsideron Jan 12, 2025 11:58am
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NORTHVIEW REIT - WRITE UP ON SUBSTACK
NORTHVIEW REIT - WRITE UP ON SUBSTACK Hi everybody,
Today I thought I would share a favourite investment idea about a lesser known residential REIT in Canada that does not get much attention. For disclosure sakes, it is currently one of my largest real estate holdings. Northview Residential (TSX: NRR.UN) is a name that is not well known although the players behind it are two of the larger residential investing investors in Canada, being Starlight & Kingsett. It currently offers investors a 7.5% well covered yield which is by far the highest in the residential space which is an attractive consideration for income seekers although there is a much greater alure to NCP then simply the distribution. With a surge in negativity in recent months about declining rent prices and a change in immigration policy, it makes the situation at Northview even more unique as 90% of their exposure is not focused on immigration or student-centric markets in Ontario at all with zero Toronto/GTA exposure where the ‘declining’ rents are taking place. It is important to note this decline particularly revolves around newer condominium builds which were planned and constructed at periods of historically low interest rates rather then legacy apartment rentals. In fact, two of three Northview markets are in Atlantic Canada and Alberta, the two provinces where rent prices are still growing. Their largest market is the Canadian Arctic, where they are essentially the only game in town.
Northview has a slightly elevated debt to book value ratio | Source: Northview Northview is a bit unique in the Canadian residential space in other ways then jurisdictional exposure to unique markets. The REIT is incredibly illiquid, with only around ~19% of the entity available for pubic trading, with the rest held by institutional investors such as Starlight, Kingsett, Aimco and Hazelview. This creates wide bid-ask spreads at times so if you are uncomfortable holding an illiquid investment, this may not be for you. Northview also maintains an elevated debt-to-gross book value ratio at a hair under 65%, although their current strategy is to dispose of non-core assets to gradually reduce this number. As of Q3, it was announced they sold a number of older apartment and commercial buildings in New Brunswick and Quebec for prices in excess to their IFRS value in which they currently trade at a 46% discount too. With this strategy, the REIT has significantly reduced floating rate debt which has less favorable borrowing costs. NAVs and discount gaps do not mean much to me without a motivated owner willing to act and close the gap. NCP believes that Northview’s team is motivated given the majority private equity holders and their openness and continued execution to sell off non-core assets to private hands at full values to take advantage of the large public discount.
ONE OF THE STEEPEST DISCOUNTS IN THE SPACE
Northview trades at the largest discount gaps in the space | Source: Northview Northview is trading at one of the steepest discounts in the Canadian residential space on several preferred real estate metrics (NAV, implied cap rate, AFFO multiple), perhaps only rivaled by Minto REIT which is another name that NCP is very fond of and likely shares a similar illiquidity discount with a large parent ownership which often impacts the public valuation. The above presentation is from November, but the trading price has since fallen further on the latest sector rout. With a NAV of approximately ~$27 per unit and a current trading price of $14.53 after Friday’s sell-off, the discount is around 46% which is rather staggering. Another consideration is the implied cap rate, which is around 7.6% and well above their capitalization rate and significantly above current market trends for multi-family suites. Northview’s per suite implied valuation is around ~$133,000 after factoring in their commercial real estate exposure, which is generally well below the low end of current market trends in almost any of Northview’s markets, even on more aged buildings. Investors taking a position at the current valuation have a wide margin of error on multiple fronts.
Northview has taken writedowns for higher borrowing costs and moved cap rates Northview has slightly moved cap rates in the past year as shown in the above and has taken multiple years of significant write-downs which mostly can be attributed to rising borrowing costs due to an increase in government bond yields. Investors buying today have the opportunity to capture cap rate compression should interest rates fall. Rising rates hurts real estate valuations as capitalization rates often expand. Canadian bond yields are significantly lower than those of our US peers, both shorter and longer term duration, which allows for lower borrowing costs for real estate holders. While we cannot predict the future, it seems likely that interest rates are likely at or near their cycle highs and more likely to head lower then higher. If that happens, cap rates could compress and NAVs could once again rise; on the flip side, if we are incorrect and interest rates rise, it is possible that we see more write-downs and cap rate expansion. One consideration of higher interest rates on real estate may be positive in the longer run for residential apartments, as it lessens the interest in new builds which is ultimately supportive of higher valuations due to constrained supply which ultimately should lead to rental growth and increased valuations when real restate conditions once again become more favorable as often happens each cycle.
Canadian rent prices are still growing in some markets, such as Northview’s
Rents are still growing in Northview’s major regions | Source: CBRE Contrary to the negativity being pushed often on media like X (Twitter), the rent growth in Canada is continuing according to the latest Canadian inflation reports. While Toronto and Vancouver are seeing rent declines, other markets are continuing to exhibit growth, particularly in Alberta and Atlantic Canada which had significant catch up to play as both were undervalued markets until the past few years when they began rallying as the plight to these markets became more attractive due to affordability. Northview has zero Toronto or Vancouver exposure, with 90% of their exposure in Northern and Atlantic Canada. Northview’s 19% to Atlantic Canada is attractive, even if the buildings are not glamorous, the potential for rental growth in this market exceeds that of ‘flashier’ markets which are now seeing declines as this market sees a historical population boom due to affordability attraction. Moncton and Halifax have been two of Canada’s best markets for rent growth and home re-sales.
ARCTIC AND ATLANTIC CANADA MARKETS ARE STILL STRONG
Northview’s Arctic, Atlantic and Quebec exposure. Source: Northview 2023 AIF How about the Canadian Arctic where Northview is the predominant landlord. Investing in Nunavut as a landlord sounds strange to most, but in fact, it is a compelling opportunity with an incredibly tough MOAT to outsiders for a number of reasons. With the average implied suite valued for Northview at around ~$133,000, the average cost to build a new home in Nunavut is at least ~$500,000 or higher. Construction costs are similar in the Northwest Territory. While there is a very sparsely populated geography, the permafrost and other Arctic challenges such as required infrastructure make it incredibly tough and expensive to build in these markets. The main employer is normally the government, both provincial and federal, with many workers coming from southern Canada on temporary contract where housing is provided as a ‘perk’ due to the in inaffordability.
There is a growing emphasis on the Arctic for a number of reasons, including security and economic opportunities. The area has seen an uptick in mining interests with companies like Agnico Eagle building multiple gold mines and B2 Gold recently making an acquisition at Sabrina Lake. There is currently uranium and more iron ore exploration which is seeing both support and opposition within the Inuit community. Aside from economic and security interests, there is also a growing acceptance of importance to ‘take care’ of Canada’s aboriginal communities. It is logical to expect more emphasis being placed on housing the local communities with rental subsidies which should be supportive for Northview’s vast Arctic business which is one of the only games in town in these challenging to access markets.
OTHER MARKETS (ALBERTA & BRITISH COLUMBIA)
It isn’t all peaches and roses for Northview’s markets. They have a couple less favorable markets too: Dawson Creek, British Columbia and Fort McMurray, Alberta. While Fort McMurray seems to be recovering, the Dawson Creek properties are still seeing weaker occupancy as the region faces challenging economic conditions. Overall Northview is maintain a 96% occupancy so any uplift in these weak markets would be an asset while the negative implications of these markets is likely more then priced in, on both an occupancy scale and also a valuation scale where the REIT has them marked at the highest cap rates on paper. With a Conservative sweep likely in 2025 in Canada, it is possible that in the coming years Northview’s British Columba and Alberta properties in cyclical resource towns became more in favor again. It should be noted that Northview’s Alberta market aside from Fort McMurray are still seeing significant rental growth, with a 13.8% YoY NOI gain reported in Q3. Alberta like Atlantic Canada is seeing a historic intermigration surge as Canadians seek an opportunity for a better quality of life with access to affordable housing.
NORTHVIEW’s DEBT STACK IS WELL TERMED AND CMCH-BACKED
According to the latest financial data, Northview has approximately ~90% of all their mortgages linked to CMCH loans, which offers borrowers the lowest financing opportunities in the industry and significantly below traditional lender rates. There is certain strict criteria to access this type of lending, you can read about some of the provisions here for your interest. Basically Northview is able to borrow at the same cost of the government in a non for profit setting as long as they meet requirements such as providing a certain about of housing for lower income rents, certain communities or make certain energy efficient upgrades.
90% of Northview’s mortgages are CMCH-backed. Source: Northview Until the recent move in Canadian bond yields, we were seeing CMCH-linked financing at terms of just under 4%. It is reasonably safe to assume that Northview’s upcoming maturities could be re-financed around ~4% based on current Canadian bond yields and forward curve interest rate expectations. Every single bank in Canada is expecting further interest rate cuts in Canada in 2025 at upcoming Bank of Canada meetings, right into the end of the year. There is only a slight differing view on where the end terminal rate will settle, but the consensus is much lower then where it is today. All of this bodes well for Northview which has a weighted average of 3.80% on their fixed rate mortgages which consists of the vast majority of their debt. Another 20 basis points is unlikely to make a material impact, especially given Northview’s likely ability to raise rents in excess of potentially higher borrowing costs.
Northview has a weighted interest rage average of 3.80%. Source; Northview Northview’s maturities are well stacked with the next tranche of 2024 maturities likely to be rolled over at or better rates before the 2025-2026 round come due which should see a likely modest increase in interest rate costs. With 63% of Northview’s maturities not due until 2027 or later, that gives ample time to continue disposing of non-core assets to re-pay any debt should the REIT wish to pursue this path. The amount of leeway in payout ratio to maintain distribution coverage is still relatively decent and it seems more likely that this path continues given current interest rate trends.
OTHER FACTORS TO CONSIDER
Vacancy rates hover near all-time lows despite recent uptick Source: CMCH Northview is an interesting investment that is almost a private entity given large ownership of institutional and private equity backers. The remaining float portion that is public is both a risk and opportunity. In NCP’s view, the upside risk is that the remaining portion of the float be taken private by one of the institutional players involved in the REIT. Recent real estate investors comments suggest that there is a growing amount of interest in Canadian residential assets and CBRE noted they expect an uptick in transactions for 2025. Only last year we saw Tricon Residential being taken private a 27% premium by Blackstone. If I held one residential REIT with M&A aspirations it would likely be Northview, with the second choice Minto. Given Northview’s 46% discount to IFRS NAV and small public float, the likely outcome of this would be positive for current investors given the steep discount.
Taxation is also an important consideration for publicly traded REIT investors in Canada as it can impact total returns. Northview has been paying out distributions as a return of capital which has a favourable outcome in non-registered accounts as you do not have to pay tax on these distributions until you sell the units. In that case, the income received is ultimately taxed as a capital gain. On the flip side, Northview is actively selling non-core assets and investors may be left with taxable outcomes over the next year. Some REITs do this by issuing phantom distributions which are not always received favourably. Others may special cash distributions.
Northview’s publicly traded market cap is small but “All Classes” is much larger As mentioned prior in the article, Northview has one of the most illiquid set-ups in the Canadian REIT space. It is important to note the different unit classes and understand the overall market capitalization is ~$500 million rather then ~$50 million as only a small portion of the REITs units are traded publicly on the TSX. This creates a wider bid-ask spread at times, particularly on days where there is selling pressure as we saw on Friday. NCP used the opportunity to scoop up a meaningful amount of units to an already built position, as liquidity is tough to come by at times without driving up the unit price when conditions are more favorable. Having a steep reasonably covered distribution yield provided thru a return of capital mechanism is a favourable set-up for NCP and may or may not be for others. The opportunity to capture a large yield and also equity upside is compelling.
IN A NUTSHELL
NCP believes the Canadian residential REITs have been discarded in the past few months for a slurry of reasons. The most obvious seemed to be the headlines around immigration changes, which will particularly impact the Toronto area markets. Other factors seem to be the big reversal in US Treasury yields which have unexpectedly surged back closer to cycle highs and the influence they have played in Canada, which drove our bond yields up slightly higher as well. Negativity around the Canadian dollar weakening which seems to relate to the current political uncertainty around Prime Minister Trudeau has not helped. Donald Trump’s latest rhetoric around a wild ~25% tariff imposition on Canada has not helped and only added more uncertainty. It seems likely these issues will be resolved in the coming months or year. Set aside the interest rate uncertainty and assume current trends hold, the known factors are a continued housing gap in Canada, the resumption of political stability with a Conservative majority and the likelihood that Canada-USA will maintain a positive trading relationship which has withstood modern history. NCP sees the current events as a likely rare buying opportunity in the Canadian residential space which has never seen such discounts on almost all metrics in the past two decades. While it is possible bits and pieces of negativity last longer then NCP expects, it seems highly likely that prospects in Canada will resume higher rather then get worse, particularly as Canadians go to the polls and elect a much more business friendly government.
Disclosure: NCP is long Northview Residential REIT
Thank you for reading and as always, if you have any questions or comments please leave them in the comment section.
Yours truly,
Roger Lafontaine
Partner, Head Trader & Research Analyst, Nugget Capital Partners