STIFEL: KRC ($72.63, Buy) - Gold Rush in San Francisco; Target Price $80/sh; Maintain Buy

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Gold Rush in San Francisco; Target Price $80/sh; Maintain Buy

  • We have chosen to run the numbers by hand and have come up with the following conclusion: selling a 44% interest in two assets for $508mm ($1.155B at 100%), a value over 2.7x the cost to acquire the assets, creates value and increases NAV.
  • Kilroy acquired the two assets, 303 Second and 100 First Street, in 2010 for $354/SF. The just announced joint venture values these two assets at $963/SF and a quoted 'low 4%' cash cap rate.
  • We think the transaction underscores the willingness of offshore global capital to pay very full prices for assets in barrier-to-entry markets and make major investments in Gateway City office REITs. We expect additional similar investments to occur selectively throughout our coverage.

 

  • After adjusting our estimates for this transaction, we are increasing our target price to $80/sh. The new target price equates to 2017E FFO/FAD/sh multiples of 22.5x/35.4x, a 4.8% implied NOI cap rate and a TEV of $637/SF, versus our estimate of adjusted replacement cost of $538/SF.

 

  • We estimate that Kilroy Realty currently trades at very reasonable real estate valuation metrics: 1) 5.3%/4.5%/3.8% for Implied NOI, Cash Flow, and CF less G&A Cap Rates. TEV/SF of $584/SF is also reasonable relative to our estimates of $620/$538/SF for gross/adjusted replacement cost. Finally, KRC trades at a 16%/6% discount to our 4.5%-5.0% NAV range.

 

  • This accentuates the pivotal question with REIT valuations -- does a discount to NAV and other attractive real estate valuations offset historically high FFO/FAD multiples?

 

 

  • While clearly Net Asset Value accretive, the transaction will result in cash staying on the balance sheet until spent on development, and near term earnings dilution.

 

  • We are adjusting 2016 FFO/FAD/sh estimates to $3.38/$2.19 from $3.40/$2.21 and our 2017 FFO/FAD/sh to $3.55/$2.26 from $3.57/$2.27. We estimate the normalized 2015-2017 FFO/FAD growth to be 5.0%/7.7%.

Target Price Methodology/Risks

  • Our target price of $80/sh, equates to 22.5x/35.4x on our updated 2017 FFO/FAD/sh estimates of $3.55/$2.26 and an implied NOI cap rate of 4.8%.
  • Risks to achieving our target price include development and lease-up risk, tech bubble fears, interest rate and general economic risk.

STIFEL - Retail REIT Comp Sheets 8/29/16

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REITs were down 0.44% last week, but are up 12.9% YTD. Retail REITs are slightly outperforming the REIT index YTD, up 13.1%, as regional malls are up 11.6% and shopping centers are up 15.5%.


The REIT sector is trading at a 1.8% premium to NAV. Regional malls are attractively priced to the REIT sector, in our view, trading at an 10.5% discount to NAV, while shopping centers are trading at a 5% premium to NAV.

 
  • Forest City Realty (FCEA, $23.41, Not Covered) announced the Board of Directors has authorized a process to review strategic alternatives for its retail portfolio, which consists of ownership interests in 14 regional malls throughout the country and 19 specialty retail centers located primarily in New York City. FCEA expects to conclude the review process by 1Q17. If FCEA does a retail portfolio transaction, it would redeploy the proceeds into their apartment and office assets that better align with their focus on urban, mixed-use assets. A few of the mall and shopping center REITs could be interested in some of the assets, but FCEA owns less than 100% in many of their retail centers and doesn’t manage some of the centers, which could make them less appealing to the public REITs.
 
  • Long-time Equity One (EQY, $30.88, Hold) President, Thomas Caputo, is departing the company on December 31, 2016 when his employment agreement expires. Mr. Caputo has entered into a consulting agreement with EQY for January 1, 2017 through December 31, 2017 to provide consulting services on acquisitions and other strategic opportunities. Members of EQY’s management team will assume Mr. Caputo’s responsibilities upon his departure.
 
  • Taubman Centers (TCO, $77.28, Not Covered) reopened International Market Place in Waikiki on August 25. The 345k sf open-air center is anchored by Hawaii’s first Saks Fifth Avenue. Nearly 50% of the retailers and restaurants at the center are unique to O’ahu. International Market Place was redeveloped through a partnership between TCO and CoastWood Capital Group in conjunction with the Queen Emma Land Company.
 
  • WP Glimcher (WPG, $13.55, Not Covered) completed the sale of Knoxville Center for $10.12 million. Knoxville Center was identified as a non-core asset and anchored by Belk, Dillard’s, JC Penney, Regal Cinema, Rush Fitness Center, and Sears. WPG received $3.85 million at closing and financed the remainder of the sale price with a $6.2 million loan secured by the property. The term of the loan is for one-year loan with one six-month extension option at an interest rate of 5.5%. WPG used the sale proceeds to reduce borrowings on its credit facility.
 

Performance is as of 8/26/16. Equity pricing is intraday, 8/30/16.

STIFEL: GPT ($9.62, Buy) - Disposition Volume Exceeds Initial Targets & Ahead Of Schedule

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Disposition Volume Exceeds Initial Targets & Ahead Of Schedule

Capital Recycling Plan At GPT. Last summer, Gramercy Property Trust's management put together and presented a capital recycling plan to reshape the company's portfolio post the closing of the merger with CSG. The merger closed in mid-December andGPT has executed on that plan over the last eight months. With the recent sale of four assets, GPT has exceeded its original plan to sell $1.15-$1.23 billion over a 24-month period. We believe, once all of the sale proceeds are redeployed, the company should have a high-quality portfolio with predictable and growing cash flows and a strong balance sheet that should result in a higher multiple.

 

Triple-Net Sector Has Lagged MTD. The triple-net sector has been lagging MTD -6.5% vs. the RMS -3.8%. The sector has underperformed due to the possibility of the Fed raising rates at the upcoming meeting in September

 

GPT Has Lagged Triple-Net Sector YTD. YTD, GPT is up 27.8% vs. the triple-net sector +31.5% and RMS +13.9%.

 

Presented Plan At Investor Day Last September To Reposition Portfolio. Last September, management presented a plan to reposition the combined CSG/GPT portfolio by selling assets in two phases. The first phase was to take place throughout 2016 and was intended to reduce the company's exposure to non-strategic multi-tenant and single tenant suburban office assets by selling $725-$775 million at a 6.2%-6.7% cash cap rate. The second phase was to take place over the longer-term, by year-end 2017 and hoped to sell $420-$450 million of office assets with shorter lease terms at a 7.3%-7.9% cap rate. In total, GPT hoped to sell $1.145-$1.225 billion of assets at an average cap rate of 6.7%-7.2%.

 

Sells Four More Assets. Yesterday, the company announced that it has sold three more single-tenant office buildings in Princeton, New Jersey, Burlington, Massachusetts, and Bloomington, Minnesota as well as a single-tenant industrial property in Phoenix, Arizona for $206.7 million or a 7.4% forward cash cap rate. The properties had a weighted average lease term of 10.1 years.

 

Has Exceeded Expectations With Over $1.26 Billion Sold. YTD, GPT has sold $1.26 billion of primarily single and multi-tenant office assets at a weighted average 6.6% cap rate.

 

More Assets Under Contract & Being Marketed. The company has $158.6 million of assets under contract with an additional $117.8 million being marketed. If those sales close, total dispositions would be $1.5 billion at a 6.8% cap rate, over 12 months ahead of the anticipated schedule.

 

Use Of Proceeds. Management intends to use the proceeds from asset sales and balance sheet capacity to reach a target asset allocation of 75% industrial and 25% office/specialty.

Acquisition Update. In 2Q, GPT purchased $354.9 million of assets at a 7.3% cap rate with a weighted average lease term of 12.0 years. QTD, an additional $155.2 million have closed at a 6.6% cap rate with a weighted average lease term of 12.1 years. An additional $342.6 million of assets are under contract/LOI at a 6.75% cap rate with a weighted average lease term of 12.2 years. Total acquisitions are $905.5 million at a 7.0% cap rate with a 12.4 year weighted average lease term

U.S. Portfolio As Of 12/31. As of 12/31, U.S. portfolio NOI consisted of 47.0% office, 45.0% industrial, and 8.0% specialty retail.

 

Pro Forma For The Current Sales. Pro forma U.S. portfolio NOI consists of 60.7% industrial, 34.7% office, and 4.6% specialty retail. Office exposure will continue to come down as sale proceeds are recycled into industrial assets. Management hopes to reduce office exposure to 25.0% by year-end.

 

Reduced Joint Venture Exposures. With the dissolution of the Duke joint venture and the sale of a large portion of the Goodman joint venture in 2Q, equity investments has been reduced from $580 million to $105 million. Unwinding most of the joint ventures, should provide a cleaner story.

 

Merger Fully Integrated, Synergies Ahead Of Initial Estimates. The integration with CSG was completed earlier this year. Original synergy estimates were $15 million. Realized synergies are $16-$20 million.

 

GPTE Gaining Scale, Taking Longer To IPO. Gramercy Europe is a joint venture between GPT, EJF Capital LLC, Fir Tree Partners, and Senator Investment Group LP. The venture owns over 30 assets with almost 10 million sf of that 100% occupied with a weighted average lease term of 8.6 years for a total purchase price of €623.0 million. Over 50.0% of the assets are located in Germany, 25.0% in the Netherlands, and the remainder in France, Poland, and the UK. The pace of capital deployment has been slower than expected.

 

Wide 2016 Guidance Range To Be Narrowed With 3Q Release, Could Provide 2017 Guidance. With its 2Q release, GPT maintained its 2016 core FFO and AFFO guidance of $0.66-$0.75/share. The guidance midpoint implies 15.6% FFO growth this year. The wide range was maintained as management was waiting to have a better handle on the timing of new acquisitions. Guidance will be addressed with its 3Q release. Management could also release 2017 guidance with its 3Q release. The Street is projecting high-single digit AFFO growth next, some of the highest in the sector.


 

Maintaining Estimates. We are maintaining our 2016, 2017, and 2018 core FFO estimates of $0.75, $0.79, and $0.84. We are maintaining our 2016 GPT-defined AFFO estimate of $0.70, $0.76, and $0.82. GPT strips out capex below AFFO. If we strip out $24 million of capex in 2016 and $16 million in 2017 to calculate AFFO, our 2016 and 2017 AFFO estimates are $0.64 and $0.73, respectively.

 

Expected to Address Quarterly Dividend Rate Later This Year. GPT's annual dividend payout is $0.44/share a or 4.6% dividend yield. The dividend will likely be raised later this year.

 

Balance Sheet. GPT has $2.24 billion of debt, $223 million of cash, and $757 million of undrawn line capacity. Gramercy’s balance sheet has net-debt+preferred to EV at 33.6% vs. the industry average of 32.7%. Net-debt+preferred/EBITDA is 4.7x, one of the lowest in the industry.

 

Valuation. Our 2Q NAV per share estimate of $8.25 reflects a 6.75% cap rate. Our value range of $9.25-$7.25 reflects cap rates of 6.25%-7.25%. Shares trade at an implied 6.1% cap rate.

Target Price Methodology/Risks

Our $10.50 target price reflects 12.8x our 2018 AFFO estimate of $0.82.

 

Risks to our target price include a prolonged economic downturn or recession, interest rate movements, and general market risk, including continued weakness in the mortgage-backed securities market and commercial real estate fundamentals.

STIFEL: Office/Industrial REITs - Office & Industrial REIT Metrics Update 8/26/16 - With Two Upcoming Conference Calls

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Office & Industrial REIT Metrics Update 8/26/16 - With Two Upcoming Conference Calls

  • We will hold our semi-annual Funds Flow Update conference call on 31 August 2016 at 11 AM ET. The invitation is attached. There are a number of moving pieces including positive Japanese retail funds flows and the strength of ETF funds flows relative to weakness in actively managed funds flows.
  • Also on the schedule is our semi-annual NAV Creation/Destruction Update conference call, which is scheduled for 7 September 2016 at 11AM ET. Again, this invitation is attached.
Pricing as of close 8/26/16
 
  • Despite excellent YTD 2016 performance, we continue to like Industrial REITs and have Buy ratings on six of the eight we cover. We expect industrial fundamentals to continue to modestly surprise to the upside and look attractive relative to other property sectors.
 
  • Despite recent positive performance following 2Q16 earnings calls, we continue to favor Gateway City office REITs including Vornado (VNO, Buy, $102.24), SL Green (SLG, Buy, $115.52), Empire State Realty Trust (ESRT, Buy, $20.98), and Kilroy Realty (KRC, Buy, $70.26) due to a combination of fundamentals, real value-add platforms and attractive valuations relative to suburban or low barrier office REITs, which are often (but not always) encumbered by weak fundamentals and a pension fund advisor type, generic platform.

Along with the two invitations to our aforementioned conference calls, the most recently updated Office and Industrial REIT valuation metrics are attached as Exhibits.

 

Below, we have our 2Q16 Earnings wires for each company under coverage (in chronological order from most recent reporter to first reporter):

 

      
  • Douglas Emmett (DEI, Sell, $36.98) - Staying with the southern California theme, we think the West L.A. and SoCal office markets are solid, but we still have questions regarding DEI. Beach Volleyball. What Else? Maintain Sell.
     
  • Equity Commonwealth (EQC, Hold, $30.63) - Sooner rather than later EQC will have some serious decisions to make regarding the portfolio they want to own in the long term. Javelin Throw? Javelin Catch? Hold.
      
       


Links to our most recent office and industrial REIT sector wires follow:

    

 

  

STIFEL: WRE ($32.06, Hold) - Maryland Athletes Win Twenty Olympic Medals While WRE Happy to Exit Maryland Office Market. NDR Recap. Hold

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Maryland Athletes Win Twenty Olympic Medals While WRE Happy to Exit Maryland Office Market. NDR Recap. Hold.

  • As the summer draws to a close, we accompanied Washington REIT on an NDR; reviewing their core portfolio and -- now that they have an attractive cost of capital -- growth opportunities.
  • We note that while Maryland athletes won 20 Olympic medals, the WRE management noted that there is zero correlation between Maryland athletic prowess and Suburban MD office market dynamics. Hence, exiting their suburban MD office assets for $240mm and a very high $200/SF was Olympic gold for WRE.
 
  • Key take-aways included: 1) proforma the suburban office asset sales the portfolio NOI will be comprised of 46% office, 30% apartment and 24% retail, 2) deleveraging is occurring with net debt/EBITDA falling from 6.6x at 4Q15 to an expected 6.1x-6.3x by YE16, 3) strong job growth in the DC MSA is sustaining demand for apartments and retail sales, 4) the affordability gap between Class A and Class B apartments appears to be increasing, improving WRE's ability to raise rents in its Class B apartments, despite all the recent new supply delivered in the DC MSA, and 5) the appeal of METRO accessible office properties is apparent as net office absorption in Northern Virginia between 1/1/15 and 6/30/16 in assets within 1/2 mile of METRO stations is positive 1.8mm SF. For those assets further away, net absorption was negative 1.3mm SF for the same period. Sixteen of WRE's proforma eighteen office properties are within half a mile of a METRO.
 
  • One of the few REITs we cover that has an internal research team and focuses on only one market, we are always interested in the WRE perspective on the multiple asset classes and the ability to create value primarily through acquisition and redevelopment in the Washington, D.C. MSA.
 
  • Based on recent transactions and forward expectations, it appears that WRE is much more interested in spending capital on inside the Beltway Virginia-centric apartment development and redevelopment than 'office capex hogs'.

 
  • Additionally, please see our Washington, D.C. update wire (here). The greater D.C. office market is recognized as one of the most expensive markets in the country for re-leasing office space.
 
  • We estimate WRE currently trades at 5.9%/4.7%/4.2% implied cap rates for NOI/cash flow/CF less G&A. This equates to (9.0%)/3.0% discount/premium to our NAV estimate of $35/$31/sh using our just reduced NAV cap rate range of 5.5%-6.0%.
  • We adjusted our NAV cap rate range as a result of the cumulative efforts to reposition the office portfolio while reducing its overall percentage of NOI. Once the suburban office asset sales are completed in 3Q16, WRE's NOI will be composed of 46% office, 30% apartments and 24% retail. We believe this is an improvement from the 4Q15 composition of 55% office, 20% apartments and 25% retail.
 
  • In addition to adjusting our NAV cap rate range, we are also adjusting our NAV static cap rate analysis to reflect the portfolio's improving quality.
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  • This adjustment creates a one-time pop to NAV. Where the value goes hereafter will once again depend upon management's ability to create value in a still challenging Washington, D.C. environment. WRE's improved cost of capital, should help in this respect.

 

  • It appears as if all REITs (all sectors) that are generating reasonable (5%+) FFO/FAD growth, can grow the dividend and own institutional quality assets are trading sub 5.3%. As WRE clearly owns institutional quality assets, share price appreciation appears likely if the portfolio starts generating earnings and dividend growth.

 

  • We think the post suburban office portfolio sale TEV for office space of $455/SF is fair relative to our recently updated $592/$433/SF estimates for gross/adjusted replacement cost.

 

  • Other positive aspects include 1) improved balance sheet, 2) improved portfolio, 3) while the Washington, D.C. economic recovery lagged the U.S. 2011-2015, it is now exceeding the U.S., 4) Washington, D.C. leads the nation in millennial as a percentage of the population, and 5) WRE has internal redevelopment opportunities for both office and apartment assets.

 

  • Negatives include 1) there is not a shortage of talented developers in the Washington, D.C. MSA, 2) land is available near a large number of METRO stops, 3) significant apartment supply, 4) surprising continued office development in select markets.

 

  • We are adjusting our 2016 FFO/FAD/sh estimates to $1.77/$1.28 from $1.77/$1.32 and our 2017 FFO/FAD/sh estimates to $1.81/$1.30 from $1.80/$1.29. This equates to normalized FFO/FAD 2015-2017 growth of 2.9%/2.8%.