AKR - Acadia Realty Trust: Fairly Valued Following Q4 Results

Summary

• Acadia Realty Trust owns a portfolio of high-quality retail properties, located primarily in densely populated metropolitan areas.
• Despite negative sentiment surrounding the retail environment, the company posted solid 2022 results, comprised of strong growth in FFO with continuous upward revisions in guidance.
• A sizeable pipeline of pending commencements also provides clear visibility for future earnings growth.
• A more challenging comparative environment in 2023, however, in addition to expected downtime associated with key tenant loss, could create a drag on an upward advance in shares.

Acadia Realty Trust (AKR) owns and manages high-quality retail properties located primarily in densely populated metropolitan areas across the U.S.

About 30% of their core portfolio is in suburban neighborhoods, with the remaining 70% located in street/urban environments.

The greater exposure to urban environments is a net-benefit to the company, as the leases contain higher contractual increases than their suburban counterparts. This allows AKR to achieve equivalent rental rate growth on lower releasing spreads. This would be especially advantageous in an environment with moderating re-leasing spreads.

Among their top tenants are large publicly traded companies, such as Target ( TGT ) and Walgreens ( WBA ), who together represented about 8% of total annualized base rents ("ABR") in 2022, with TGT itself accounting for 5.5% of the total. They also, however, have exposure to weaker tenants, such as Bed Bath & Beyond ( BBBY ).

Since a prior update on the stock, shares have gained about 15%. This compares favorably to the 6.7% gain logged in the broader markets over the same period.

At current trading levels, shares are little changed on a YTD basis and are still down over 30% over the past year.

A trading multiple of just 12.4x forward funds from operations ("FFO") also appears inviting for value investors. Analysts on Wall Street, however, view shares more neutrally , with most rating shares a "hold" at current levels. Additionally, Seeking Alpha's quant system rank shares a "sell" with poor grades all around.

Despite the sentiment, the stock remains a solid hold. Current investors are receiving a modest dividend, currently yielding 4.75%. In addition, there were no apparent weaknesses or concerns on their most recently released earnings results. Their debt load is on the higher side, but limited near term maturities buffets that risk. Shares could track higher in the periods ahead but the bar is going to be raised, given the difficult comparative environment to 2022. All considered, shares appear fairly valued at current pricing.

Recent Performance and Current Portfolio Metrics

In Q4 , AKR increased their core physical occupancy by 150 basis points ("bps") on a sequential basis to 92.7%. Their total leased rate, on the other hand, stood at 94.9%. This thus creates 220bps of opportunity via a signed but not commenced ("SNO") pipeline.

This SNO pipeline represents about +$5.6M of pro rata ABR and +$6.5M of net operating income ("NOI"). This is just over 3% of their total NOI earned on their core portfolio in 2022. Timing wise, the company expects 60% of this pipeline to commence in the first half of 2023. Another 10% is then expected in the second half, with the remainder then realized in the first half of 2024.

For the full fiscal year, AKR made measurable progress in their physical occupancy levels, increasing it by 270bps. And this came with strong cash rent spreads, which ultimately resulted in 6.3% NOI growth in their same-store portfolio. This exceeded the upper end of their guidance range.

On an overall basis, the company grew FFO by 7% in 2022 and reported 5.7% full year growth in same-store NOI.

Looking ahead to 2023, AKR is currently guiding for 5% to 6% growth in same-store NOI. It's worth noting that this is unadjusted for expected headwinds relating to prior period cash collections, which is estimated to about 200bps. Barring these expected headwinds, growth expectations would have been more around the 7% to 8% range.

In addition, management is guiding for about 150bps in general credit loss relating to bad debts. This is conservative, since their historical range has typically averaged between 50 to 150bps. This would, thus, be at the very top of that range. Additionally, it doesn't factor in losses relating to BBBY and Regal Cinemas, which are expected to add another 125bps to the total. This would bring their total combined reserve to about 275bps.

With regards to BBBY and Regal, the two together accounted for approximately 3% of total ABR. The loss of one or both, therefore, would be material. However, both are presently current on their monthly rents through February 2023. Additionally, each are fully reserved on a GAAP basis.

For Regal, forward guidance assumes that they will remain in place through 2023 and will continue paying rent. For BBBY, however, both of their core locations were included on their recent store closure list.

As such, management expects to recapture the property in Q2. It is then expected to be backfilled by a new higher-quality retailer. Though this retailer is already lined up, their name has not yet been revealed. When the space is ultimately recaptured, management is expecting a 12-month timetable for the tenant build out.

Liquidity and Debt Profile

AKR is currently operating on total leverage, as measured as multiple of EBITDA, in the mid-6x range. While the company has been getting by on this, they are targeting a lower range closer to the low 6s.

Lower leverage levels would improve current coverage ratios, which presently hover around 3x. While this is adequate, it doesn't offer much breathing room for additional capacity.

Offsetting their higher load is the fixed-rate composition, at 93% of the load. This greatly reduces their interest exposure in a rising rate environment.

In addition, there are no material core debt maturities through 2026 at the earliest.

No material construction or development cost commitments also enables AKR to redirect capital to other priorities, such as dividend increases or opportunistic acquisitions.

And even though overall debt is on the higher side, the company still has readily available access to markets, as evidenced by about +$950M of new unsecured borrowings during the year. And barring all else, they still generate about +$150M to +$200M in internal funding.

Dividend Safety

AKR's most recently announced quarterly dividend of $0.18/share is payable on April 14, 2023. At current pricing, this represents a yield of 4.75%. In 2022, the total payout was increased by 20%. The payout could increase further in 2023, but it may be challenging given current coverage levels.

In 2020, the payout was suspended and then re-instated at a quarterly rate that was just a fraction of the pre-pandemic level. Though it has been increased since then, it is still about 60% below those prior levels. If the quarterly rate did in fact return to that level, the annualized yield on cost would near 7%.

Coverage is on the lower side; for Q4, the payout represented 94% of adjusted funds from operations ("FFO"). This compares unfavorably to last year's 69%. But for the full year, the payout ended at 81%. While this is still above prior year levels, it's not significantly worse than sector averages , which are in the 75% range.

Final Thoughts

Despite pessimistic sentiment surrounding the retail environment, demand for AKR's high-quality properties remains robust. In 2022, for example, expectations were continuously exceeded, resulting in three increases in full year guidance. This came as physical occupancy grew 270bps on solid cash rental spreads.

Despite overall physical occupancy levels of about 95% in their core portfolio, physical occupancy within their street/urban portfolio stands at just 89%. This significant SNO pipeline creates clear visibility into future earnings growth.

AKR does have exposure to weaker tenants, such as Regal Cinemas and Bed Bath & Beyond, but the losses of both are likely to be net benefits to the company, as it will allow for upward adjustments on market rents. In the interim, however, the associated downtime relating to the build out of space for their replacement tenants will likely create a drag on earnings.

Shares appear to have attractive value potential, trading at about 12x forward FFO. But markets appear apathetic to the stock. YTD, for example, the stock is little changed. And it is still down over 30% over the past year. Current Wall Street price targets guide for a fair value of over $16.50/share, which would represent upside of about 15.5%.

While this provides some appeal, it may prove challenging for AKR to hit this target in 2023. Tenant loss will create timing gaps on earnings realization. And the company will face a difficult comparative environment in relation to 2022. Any shortfall in expectations would likely keep shares rangebound if not lower. For investors, AKR is a solid hold but not a screaming buy at current trading levels.

For further details see: