It feels like stock of Dream Global Real Estate Investment Trust (DRG.UN-T) “wants to move higher,” according to Desjardins Securities analyst Michael Markidis.
Expressing “greater comfort” with the possible outcomes of its vital 2018 Deutsche Post (DP) lease maturities, Mr. Markidis upgrade the stock to “buy” from “hold.”
Dream has 80 leases with Deutsche Post, with a total of almost 3 million square total or 23-per-cent of its leasable area, set to expire in June of 2018. It represents 13 per cent of the REIT’s gross rental income.
Mr. Markidis anticipates a resolution by the end of the second quarter of its current 2017 fiscal year.
“To be clear, we are not expecting long-term extensions on 100 per cent of the in-place GRI [gross rental income],” he said. “However, we do believe that DP will enter into renewals/new leases with DRG for a term of at least two years for 50 per cent or more of the current GRI. There is also a high probability that direct leases with Postbank (currently a sub-tenant under many of the DP leases) will improve immediate GRI retention further. DRG has also demonstrated a strong track record of reducing its exposure to DP through non-core dispositions. By our estimates, 250-million euros has been sold since the beginning of 2014, a substantial figure compared with the 420-million euros of IPO properties remaining in the portfolio. Demand for this type of product from local investors remains strong. With a full year of lead time to work with, we believe management should be able to dispose of a substantial proportion of the space that DP may elect to vacate through additional property sale.”
Mr. Markidis said he also expects investor confidence in the sustainability of Dream’s distribution to rise going forward.
“DRG’s payout ratio has been at the high end of the range of our coverage universe for the past two years (FFO payout ratio was 104 per cent in 2015 and 99 per cent in 2016),” he said. “Reflecting the contribution from occupancy gains, interest savings on refinancing activity and acquisitions, we see further improvement this year and next. As the payout trends closer to 90 per cent, investor confidence in the sustainability of DRG’s distribution should increase.”
“Liquidity of $220-million comprises $73-million of cash and availability under a 100-million euros revolving credit facility that is virtually untapped. Although DRG has yet to utilize the Baa3, Stable rating recently received from Moody’s in Europe, the investment-grade credit rating might facilitate an unsecured bond offering at an attractive rate in the future. Given that DRG has been listed on the Frankfurt Stock Exchange for only six months, a potential broadening of the REIT’s investor base is likely still in the early stages. If successful, the REIT’s cost of equity capital could improve further.”
Mr. Markidis raised his target for the stock to $11 from $10. Consensus is $10.35.
“DRG had a quick start to this year, rising from $9.45 on Dec. 30, 2016 to $10 by late February,” he said. “The early momentum seemed to be quashed by the $115-million equity offering, which took the better part of a month for the market to work through. The stock has subsequently moved back to the $10 level and it seems poised to break out of the $8–10 trading range that it has oscillated between since the middle of 2013.
We see three potential catalysts that could boost the stock further in the months ahead: (1) the resolution of the DP leases expiring in 2018, (
2) full deployment of net proceeds from the March equity offering, and
(3) an investor/analyst property tour hosted by management from June 20–23.”