ADC - Agree Realty: A Great Time To Buy The Dip

2023-07-31 08:05:00 ET

Summary

• Agree Realty is attractively priced for conservative income investors with its steady growth and high exposure to investment grade tenants.
• ADC has multiple levers for growth, making it well-positioned in the current environment.
• The recent drop in ADC's share price creates an opportunity for long-term investors to capitalize on this monthly dividend stock.

Businesses have to move fast in order to stay ahead of the competition. However, investors have the luxury of waiting to cherry-pick the market for the best deals. With so many stocks available on the market today, it’s uncommon for everything to be expensive at the same time.

This brings me to Agree Realty ( ADC ), whose price recently dropped from near-$70 to the mid-$60s over the past week. As shown below, ADC remains 17% below where it was a year ago. I last covered ADC here back in April discussing its strong balance sheet and high exposure to investment grade rated tenants. In this piece, I highlight why ADC is attractively priced for conservative income investors.

Why ADC?

Agree Realty is one of the ‘Big 3’ retail-focused net lease REITs, alongside large peers Realty Income Corp. ( O ) and NNN REIT ( NNN ). It’s been publicly traded since 1994 and at present, owns 1,908 properties across all 48 continental U.S. states.

ADC isn’t going to make investors rich overnight, but what it lacks in short-term excitement, it makes up for in long-term consistency. ADC’s steady growth and strong dividend growth track record has resulted in meaningful shareholder returns. This is reflected by ADC’s total return outperformance over the tech-heavy S&P 500 over the past 10 years. As shown below, ADC has produced a 250% total return compared to the 221% of SPY over this timeframe.

ADC stands out for having one of the highest exposures to investment grade tenants, which represent 68% of portfolio ABR. It also has very high grocery store tenancy, representing 10.5% of its annual base rent. Its next top four segments of Home Improvement, Tire & Auto Service, Dollar Stores, and Convenience stores are also generally recession and e-commerce resilient. ADC’s top 5 tenants include the notable names Walmart ( WMT ), Dollar General ( DG ), Tractor Supply Co. ( TSCO ), Best Buy ( BBY ), and Kroger ( KR ), representing nearly a quarter of its ABR.

Perhaps unbeknownst to some investors, ADC also has a large ground lease portfolio that comprises 12% of total ABR. This is spread across 208 leases with 11 years weighted average lease term. 87% of this segment is leased to investment grade rated tenants such as Lowe’s ( LOW ), Walmart, and Home Depot ( HD ). This side of the portfolio provides additional stability, since the tenants have substantial investments into the buildings.

Meanwhile, ADC’s portfolio is 99.7% leased, and has a long weighted-average remaining lease term of 8.8 years. ADC may not seem like its growing much, judging by the 1.5% YoY growth in AFFO per share during the first quarter. However, it’s worth noting that this includes a $0.05 per share aggregate dilutive impact of an equity offering earlier this year. As such, I would expect to see more meaningful AFFO/share growth as proceeds from the offering are deployed.

Importantly, management is deploying capital in an accretive manner, as the weighted average cap rate on acquisitions earlier this year was 6.7%, a 50 basis points expansion compared to full year 2022. This is also 70 basis points higher than ADC’s current equity cost of capital, based on its forward P/FFO of 16.6 at present. For the full year, management expects to acquire at least $1.2 billion worth of properties, which is rather significant for a company with a $6.1 billion equity market cap.

The expected growth is supported by a strong balance sheet with $1.2 billion in liquidity and a low net debt to proforma EBITDA of 3.7x (pending deployment of capital).

Risks to ADC include potential for a recession, as tenants in discretionary industries such as home improvement could feel some impacts. Moreover, materially higher interest rates could impact its cost of capital and impact near term growth, and lower interest rates could spur more competition for deals.

It’s worth bearing in mind, however, that ADC is more than just an ‘investment spread’ investor as it’s also able to create value through its internal development platform, which currently has over $100 million of projects under construction. This comes in handy when there aren’t many existing properties on the market that are attractive to ADC.

ADC currently yields 4.4%. The dividend is paid monthly and is well-protected by a 73% AFFO payout ratio, trending at the low end of management’s targeted 75% to 85% range. The current annualized dividend rate represents a 5.7% increase over the 2022 rate, and ADC has the potential to grow its dividend at over 5% annually at least in the near term. This means that ADC can match or beat the long-term return of the S&P 500 with more stability and a far higher payout.

Considering all the above, ADC is reasonably attractive at the current price of $65.68 with forward P/FFO of 16.6. While the valuation isn’t cheap, it’s not expensive, either, considering the durable characteristics of the portfolio and the potential for market beating returns with the stability of a net lease portfolio.

Investor Takeaway

Agree Realty is attractively priced for conservative income investors looking for a safe play with the potential for market-beating returns. With near-term growth expectations, a strong balance sheet and high exposure to investment grade rated tenants, ADC is well-positioned in the current environment. Lastly, the share price is now within reason after the recent drop, creating an opportunity for long-term investors to capitalize on this monthly dividend stock.

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