A Canadian REIT With a 9% Dividend Yield - SmartCentres REIT (SRU.UN.TO) - Research Report - July 08, 2020
You may have seen these penguins in a plaza in a suburban area if you live in Canada. SmartCentres (ticker SRU.UN) is a REIT that started as a ‘shopping centre’ but has ventured into a ‘city centre’ and has strategically placed 166 properties around Canada. If you are unsure of what a REIT is, you can read a basic introduction by clicking here. "SmartCentres" are built at major intersections which allows for easy access for transit. The company currently has diversified joint-venture partnerships with Walmart, Revera, Penguin Pickup, JADCO, Greenwin, CentreCourt – just to name a few.
What's Good About SmartCentres REIT?
Starting with the tenant base, you will see some familiar, high quality names.
Most of SRU.UN's rent comes from Walmart. We believe this is a good thing as Walmart is a very stable company that does well in all kinds of environments. As a result, they won't have a problem paying their rent.
What are the Catalysts?
SmartCentres has proven (since its inception in 1989) to be a solid company. Recently, the company is focusing its long-term strategy on new housing-focused initiatives. This includes building self-storage, office buildings, apartments, senior living, hotels, condos, and townhouses. Some of the development will be on land SmartCentres currently owns. With an industry-leading occupancy rate of 98%, 60M SF in developed properties, and a development team of 160 in-house team members, SmartCentres plans to generate $12.1B in new housing-focused initiatives. These projects will add $5.5B to its current $10.4B in total assets. Currently, there are 256 development projects across 94 properties.
SmartCentres is also generating new revenue from things such as "Penguin Pickup" (delivery and pickup service), EV charging stations, digital signage, and 5G cell towers. We feel this shows that the company has an eye for the future as those are all things that are in growing demand.
SmartCentres believes that as the Canadian economy reopens (it already has for the most part) they will be able to collect rental income closer to their historical pre-pandemic levels. There is a lot of uncertainty in the REIT space, but we think that SmartCentres will recover from this hiccup.
The recent market crash allows you to buy a company at a large discount to where they were trading pre-pandemic, and more importantly, at a discount to their book value. SmartCentres values their assets at around $10.4B (according to their investor presentation and their filings), their liabilities are about $5B and their owner's equity (not including non-controlling interests) is about $4.5B. **The current market cap is around $3.5B which gives this REIT a price to book ratio of 0.77. In simple terms, if you were to buy shares, you'd be buying them at a 23% discount to their book value, which many investors consider to be "fair value". In the past 5 years, the only time they have been trading under book value is after the recent crash.
**Note: Book value for US REITs is unreliable due to their accounting practices, but for Canadian REITs, book value is a good measure of their fair value.**
Adjusted Cash Flow Yield
SmartCentres REIT has a high adjusted cash flow yield relative to their market cap. Their adjusted cash flow from operations (ACFO) in 2019 was $355.3M. Their current market cap at a price of $20.50 per share is about $3.5B.
To find the ACFO yield, you compute: ($355,300,000/3,500,000,000) x 100 = 10.15%.
This means that if you buy the stock at current market price, the company will be generating a 10.15% cash return for you on your investment. Good companies tend to increase their ACFO per share over the long run which means that the 10.15% per year will grow over time as they recover from the pandemic. Also, Smartcentres' weighted average cap rate on their properties is about 6%, so it is a positive thing that their ACFO yield is above their cap rate.
High Dividend Yield
At a current price per share of $20.50, SRU.UN has a dividend yield of 9.02%, or $1.85 per share (15.4 cents per share paid monthly). A 9% dividend yield is definitely not something to ignore. Going 5 years back, SmartCentres' dividend has been covered by its Adjusted Cash Flow From Operations (ACFO), which is good. This means that it makes more money than it pays out as dividends. This can be seen in the image below. For more information on payout ratios and how to determine if a dividend is safe, click here to read our blog about dividend safety.
In short, the image above shows that in 2019, they paid out 87.5% of their ACFO (similar to free cash flow) in dividends. This number is normal for REITs as they usually have high payout ratios. The only cause for concern is that the number is rising, which isn't what you want.
However, if you noticed, their distributions (dividends) per unit has been increasing every year as well. If SRU.UN's payout ratio ever becomes too high (near 100%), they can take a break from growing the dividend. This is fine because the dividend is already very high compared to most stocks, so you will be receiving a big dividend regardless. We don't expect them to be growing the dividend this year because of the pandemic, but we also don't expect them to slash the dividend either because the company is still generating enough money in the short-term and has enough liquidity to survive through COVID-19, in our opinion.
In the past 10 years, the dividend has grown at a compounded annual growth rate of about 1.8% per year. This isn't much, but it does add up over time. After they fully recover from the pandemic, SRU.UN should be able to continue the 1.8% average annual growth in dividends per share.
Therefore, we think that the current dividend (assuming no dividend increases in the near-term) is fairly safe and reliable.
**Note: We haven't done an in-depth analysis of the dividend safety and we recommend doing your own due diligence. Read our dividend safety analysis blog here.**
Good Long-Term Performance
As you can see above, SRU.UN has outperformed the Canadian REIT index and the TSX, returning an average of 11.6% a year since its IPO.
Strong Financial Position
Helped the Community and is Now Reopening Locations
Although the stock price has taken a hit, SmartCentres did a good job handling COVID-19 and its concerns. SmartCentres took the following steps:
We believe that SmartCentres' decision to help the communities they operate in will strengthen their relationship with their business partners/tenants and benefit them in the future.
We usually set fundamental and/or technical price targets in our research reports. We do not have a specific price target for this report as we are waiting for the company to release it's Q2 2020 results to get a better idea of how they have been performing in the pandemic. We will then do a follow-up valuation once we put all of the information together. However, as of right now, SmartCentres seems to be undervalued based off of its discount to its book value, ACFO yield, and its high but safe dividend yield.