Post by
incomedreamer11 on Nov 06, 2024 8:54am
CIBC upgrade
Our Conclusion
IIP reported an in-line Q3/24, highlighted by the 13th consecutive year of a 5% or more distribution increase.
We believe the recent weakness in the units has been caused by concerns over a curtailment of foreign students (and more broadly immigration levels going forward) which may have negatively impacted occupancy levels – however at 96.4%, occupancy was up sequentially 20bps and 120bps Y/Y with average monthly rents increasing ~7% to $1,687. While the REIT did call out the recent immigration policy changes as something likely to have a modest impact on rental rates in the near term, it did note that its mark to market gap still sits at a very robust 27%, achieving an ~11% lift on 1,279 leases during the quarter, representing 9.7% of the portfolio.
Concurrent with the release of our inaugural 2026 estimates, we are upgrading InterRent Real Estate Investment Trust from Neutral to Outperformer.
The upgrade is based on current underperformance, largely due, in our view, to punitive concerns of a decline in immigration (and accordingly demand), and the associated effects on future rental rate growth. At a steep ~25% discount to NAV, paired with federal housing supply forecasts which fall well short of the 3.5MM requirement, the current unit price should serve to set up a more compelling risk/reward scenario. We maintain our NAV at $15.00 and our NAV-parity price target.
Key Points
Earnings Results: IIP reported diluted FFO per unit of $0.16, in line with consensus. Same-property proportionate NOI increased ~8.7% Y/Y, driven by a 120 bps increase in occupancy Y/Y, 40 bps of margin expansion and ~6% growth in average monthly rents.
Subsequent Events: Subsequent to quarter end, the REIT closed the acquisition of a newly constructed community in downtown Montreal with 248 residential suites and ~7k square feet of commercial space. The transaction is part of a 50% joint venture, with a total purchase price of $107MM (or $431,500 per suite), with the REIT’s proportionate share being $53.5MM.
Balance Sheet: The REIT reported D/GBV at 38.5%, a decrease of 10 bps Y/Y, and total liquidity of ~$247MM at quarter-end (as measured by cash and available facilities). Subsequent to quarter-end, the REIT’s variable rate exposure sits at ~2%, and ~90% of mortgage debt was backed by CMHC.
Distribution Increase: The REIT has announced that its Board of Trustees has approved a 5% increase to the distribution, from $0.3780 to $0.3969. This marks the 13th consecutive year that InterRent has grown its distribution by 5% or more, we also note that at a 100% return of capital on the distributions, the after tax yield is indeed quite attractive.
Beyond The Headlines
Debt And The Rate Environment: InterRent’s current weighted-average interest rate of 3.37% compares to current CMHC financing in the mid-3% range. IIP has ~$87MM of mortgage debt maturing in 2024 at a 5.04% weighted-average interest rate that should, all else equal, provide a tailwind going into 2025. The Trust continues to look for opportunities to up-finance existing, with the potential to add up to an additional $48MM of debt on remaining 2024 maturities, and up to $81MM on loans maturing in 2025.
Operating Results: IIP reported strong top-line operating metrics, with growth in SP-AMR, SP-Occupancy, and SP-NOI. SP-AMR grew ~5.6% to $1,686 as an undersupply of relatively affordable housing continues to drive positive leasing demand, a trend that we expect to continue unabated. Led by the Greater Vancouver Area (+7.0%) and the Greater Montreal Area (+6.4%), each of IIP’s major markets experienced robust SP-AMR growth. IIP executed 1,279 new leases (or 10% of the portfolio) during the quarter, achieving a gain-on-lease of ~11% to expiring rents. The above dynamics resulted in a 120 bps decline in SP-Vacancy rates Y/Y to 3.6%, led by the Greater Montreal Area (-300 bps) and the Greater Toronto and Hamilton Area (-120 bps). While inflation continues to seem much more persistent than originally expected, IIP saw SP-NOI margins expand 40 bps Y/Y to 68.2%.
What Is Driving Recent Weakness?
The government of Canada’s recently announced changes to its immigration plan include a reduction in the projected number of new permanents residents and lowers the annual target for permanents residents. Despite these cuts, new targets for permanents residents will still be well above levels seen before the pandemic. Looking at the trends which currently exist based on the Government of Canada real time population clock, growth seems to still be running in the +2% range and if one were to simply extract the current trend through the end of 2024, it would effectively nullify 2025’s proposed reduction. We fully acknowledge the immigration file is complex, nuanced and largely misunderstood (ourselves very much included). However, we do know there is a pronounced structural housing shortage in Canada, and it is very much a supply side issue. We aren’t entirely convinced that a temporary reduction in immigration (something the country has NEVER experienced) will serve to balance that equation, consider that even if, and that’s a big if, based on track records the targets are achieved, there will still be more people in the country at the end of 2027 than the current ~42MM by some 150k+ and if growth declines to just 1% (something may be more likely than the reduction) we are still looking at some ~1.3MM new residents over that time. Ultimately it’s a hard call of the efficacy of the proposed immigration plan, however, we think erring on the side of a higher population, not a lower one, may prove to be the right call. If we are indeed correct in questioning the ultimate path of population growth, then it’s entirely reasonable to surmise that the implied reduction in asking rents may be somewhat premature – IIP’s results to this end seem to support that view. Per the Exhibit 1 bar chart below, while we do acknowledge that the gain-on-lease over the past six quarters has exhibited a downward trend, InterRent continues to achieve a doubledigit spread on leases. We would observe that some of the widening of the gap between unrealized and in-place rent is most likely a function of lower duration tenancies turning, as opposed to a structural change that one could simply extrapolate in a linear fashion. Second derivative rates of change do matter to unit price performance, we simply think that the market may be imputing a larger deterioration than will ultimately be borne out over time.