HHC - Howard Hughes Corporation: An Ever-Lasting Investment

2023-04-26 15:55:47 ET

Summary

• The Howard Hughes Corporation is a prime real estate developer in the United States focused on the development and ulterior management of Master Planned Communities.
• The company has increased its NOI at rates close to 15% in the last decade and has assets protected against inflationary pressures.
• A short-term catalyst may be Bill Ackman buying more shares of the company or forcing the management to increase repurchase if they are value-accretive.

The Howard Hughes Corporation ( HHC ) is a real estate development and management company that operates in several key markets across the United States. With a special focus on mixed-use developments, master-planned communities, and commercial properties, the company has established itself as a key player in the real estate sector. In this article, we will take a closer look at the Howard Hughes Corporation's financial performance, competitive landscape, key projects, future outlook, and investment potential. By analyzing these factors, I hope to provide investors with a comprehensive view of the company and its potential for growth.

Business segments

The Howard Hughes Corporation has a diverse portfolio of real estate assets, including master-planned communities, commercial properties, and mixed-use developments. Here's a closer look at some of the company's key assets:

1. Master-Planned Communities: The Howard Hughes Corporation's master-planned communities include The Woodlands in Texas, Summerlin in Nevada, and Bridgeland in Texas. These communities are designed to provide residents with a wide range of housing options, amenities, and commercial properties, including shopping centers, office buildings, and recreational facilities.

2. Commercial Properties: In addition to its master-planned communities, the Howard Hughes Corporation also owns and manages a number of commercial properties across the United States. These properties include office buildings, retail centers, and hotels, and are located in key markets such as New York City or Hawaii. These are also present inside the master planned communities and are key contributors to the profits generated by the corporation.

3. Strategic developments: One of the company's most notable mixed-use developments is the Seaport District in New York City, which includes office and retail space, hotels, and a cultural center.

4. Other Projects: The Howard Hughes Corporation is involved in a variety of other real estate projects, including land development, real estate financing, and property management. For example, the company is currently developing a large-scale mixed-use project in Honolulu, Hawaii called Ward Village, which is designed to be a sustainable and walkable urban community of condominiums.

Overall, the Howard Hughes Corporation's real estate assets are diverse and geographically dispersed, with a focus on high-quality properties that are well-positioned for long-term appreciation in value and rental revenue growth.

Howard Hughes value proposition

Rental revenue from master-planned communities is an important component of the Howard Hughes Corporation's financial performance and value proposition. By generating rental revenue from these properties, the company is able to create a reliable and steady stream of income, which helps to support its financial performance and deliver value to shareholders.

In addition to providing rental revenue, the residential properties within the company's master-planned communities also help to attract and retain residents, which is critical to the success of these developments. The virtuous cycle of Howard Hughes can be explained as follows: the sale of land to developers and the subsequent arrival of new residents makes them demand goods and services, which increases the value of the properties and attracts more affluent people interested on living in the communities due to the prime services that are provided there. This combination of value appreciation and cash-flow-producing-commercial assets increases the operating cash flows and therefore the present value of the company.

Financial data of the Howard Hughes Corporation

Regarding financial performance, there are three key metrics that need to be understood to perform an investment analysis of this company. Through this article we will analyze them one by one and we will discuss how important they are to understand Howard Hughes' peculiar business.

Net Operating Income (NOI): it is a measure of a real estate company's financial performance, which is calculated by subtracting operating expenses (taxes over properties, insurance costs, maintenance costs...) from operating revenues (rental income and service fees). The Howard Hughes Corporation has reported consistent growth in Net Operating Income over the past decade. Between 2010 and 2022, the company's NOI increased at a compound annual growth rate of approximately 14.7%. This growth was driven by a combination of factors, including successful lease-up of newly developed properties, strong performance in the company's retail and office segments, and increased residential sales.

Increasing price per acre: sustainable increases in the price per acre may indicate that there is strong demand for real estate in the regions where Howard Hughes operates. This can provide a supportive environment for the company to continue developing its existing properties, as well as pursue new opportunities for growth and expansion.

Debt: The Howard Hughes Corporation has taken on significant debt over the past decade to fund its real estate development projects. However, the company has also taken steps to manage its debt load, including refinancing existing debt at lower interest rates and extending debt maturities. As of December 31, 2022, the company had total net debt of $4.2 billion. One of the attractive aspects of their debt policy is its relatively low debt risk. This is due in part to the fact that much of the company's debt is fixed term. Additionally, the company has taken steps to mitigate interest rate risk by insuring against likely interest rate rises. These measures help to ensure that the company is well-positioned to manage its debt obligations and maintain strong financial performance, even in the face of potential interest rate fluctuations or other economic headwinds such as the ones that we are observing in these recent times.

Apart from these interesting financial traits, Howard Hughes has some distinctive landmarks that really establish a genuine difference between their projects and the projects of any other American real estate developer. The following points synthesize their unique attributes versus other players in the market.

1. Focus on Master-Planned Communities: One of the key differentiators for the Howard Hughes Corporation is its focus on master-planned communities. These communities are designed to provide residents with a high quality of life, with a range of amenities such as parks, schools, shopping centers, and recreational facilities. By focusing on these types of developments, the Howard Hughes Corporation is able to create sustainable, walkable communities that offer a unique lifestyle experience whilst generating recurring revenue from the rental income of facilities in those MPCs.

2. Diversified Portfolio: The Howard Hughes Corporation has a diversified portfolio of real estate assets, including master-planned communities, commercial properties, and mixed-use developments. This diversified approach helps to mitigate risk and ensures that the company is not overly dependent on any one asset class or market.

3. Strong Brand Recognition: The Howard Hughes Corporation has built a strong brand over the years, particularly in its master-planned community developments. The company's communities are known for their high quality and attention to detail, which has helped to create a loyal customer base (this is equal to recurring and increasing revenue over time).

4. Long-Term Focus: The Howard Hughes Corporation takes a long-term approach to its real estate developments, with a focus on creating sustainable, high-quality communities and properties that will stand the test of time. This approach helps to ensure that the company's investments are sound and that it is well-positioned for long-term growth.

Overall, the Howard Hughes Corporation's focus on master-planned communities, diversified portfolio, strong brand recognition, and long-term focus all set it apart from other real estate developers in the market.

The long-term opportunity

But, is there a tailwind favoring the expansion and growth of the company? There are several factors that may be contributing to the price increases per acre in the regions where the Howard Hughes Corporation operates. Here are a few key factors:

MPC development priority: this business model, based on the development of MPCs, has advantages over the classic real estate development business. One of the main concerns of any developer is that someone will come and build assets nearby, in such a way that the latter will compete with the developed ones and limit the pricing capacity. Howard Hughes has a great shield against competition, as ownership of all the business assets along with ownership of the land allows them to control community development. Two objectives are pursued:

• Restriction of the supply, which allows increasing the value of the assets since the demand for residing in them increases faster than the number of new developments.
• Prevent the entry of competitors who may damage the value of your assets. The fact that Howard Hughes has full control over the land allows them to have high visibility of future income.

All of this substantially reduces the risk of oversupply, which can cause asset values ??to drop. Indeed, this would be a clear limitation to the increase in value of the company's assets in the long term.

Growing Demand: The demand for high-quality real estate is also increasing in many of the regions where the Howard Hughes Corporation operates. As more people look for desirable places to live, work, and play, the demand for premium real estate continues to grow. This can lead to higher prices for land and real estate assets.

Strong Economic Growth: Many of the regions where the Howard Hughes Corporation operates are experiencing strong economic growth. This growth is typically driven by a variety of factors, including job creation, population growth, and increasing consumer spending. As the local economy strengthens, demand for real estate assets tends to increase, which can lead to higher prices.

The previous image shows the internal migrations in the United States. People are moving to the south due to better tax systems, more affordable housing and the existence of a favorable environment towards companies and job creation.

Valuation

In general, valuation is more of an art than a science. The two central pillars of The Howard Hughes Corporation's valuation are: the ability to generate increasing cash flows over time (this will indicate that the company has been able to keep its competitive advantage intact over time) and cap rates of the American real estate market. Undoubtedly the first factor will be the main driver of the company's value growth in the future.

The valuation model that we are going to use takes into consideration the operating assets of the company and somehow tries to price the value of the lands that are still unsold or under development. The valuation model assigns a reasonable cap rate for the stabilized NOI and a more high yield rate for unstabilized NOI corresponding to assets such as the NYC Seaport, which is not still as mature as the rest of the operating assets owned by the corporation.

The previous table shows the market value of all the undeveloped land (commercial and residential) for each MPC owned by the corporation. In addition, the company's current NOI is valued at reasonable cap rates (someone would even argue that these cap rates are excessively conservative due to the prime characteristics of the assets held by the company). If we proceed to subtract debt and add the cash held by the company and divide by the total number of shares outstanding, we arrive to a share value of around $90, which is way above the price at which shares of the corporation are currently trading.

Conclusions and risks

In conclusion, investing in the Howard Hughes Corporation represents a unique opportunity to gain exposure to a premium, high-end real estate developer with a track record of strong financial performance and a diverse portfolio of real estate assets. The company's focus on developing master-planned communities and mixed-use developments that offer a unique lifestyle experience to residents and visitors has resulted in steady growth in net operating income and rental revenue over the long term, and positions the company for continued success in the future.

Furthermore, the company's alignment of interests between insiders and shareholders, coupled with the stake held by Bill Ackman, highlights the confidence in the company's future prospects. Finally, the increasing demand for real estate in the regions in which Howard Hughes operates, coupled with the company's reputation for developing premium, high-end properties, suggests that there may be significant upside potential for investors who are able to capitalize on this opportunity.

However, there are many unknowns regarding the future of The Howard Hughes Corporation that will have to be monitored, such as: evolution of the residential market, progression of the industries located in the vicinities of the MPCs... although without a doubt the most important variable will be whether the corporation is capable of continuing to generate value for its clients in the form of quality services in prime residential areas. This would undoubtedly have very positive effects for The Howard Hughes Corporation's shareholders throughout the economic cycles that will come.

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