CDMGF - Icade: Re-Reviewing French Real Estate - Still A 'Buy'

2023-12-12 04:46:41 ET

Summary

• Icade, a French real estate company, has continued to underperform the market but presents an opportunity for upside and high yield.
• The company's fundamentals remain strong, with attractive property types and solid operational performance.
• Icade is using the current situation to make strategic acquisitions and disposals, and its outlook for 2023 remains secure.

Dear readers/followers,

If you spend any time on my articles, you'll know that I've held investments in French Real estate, one of the companies being Icade (CDMGF), for about a year this month. I provided you with an update back in August of this year, and the company has, unfortunately, continued to underperform the market slightly since that time.

However, like in my last update, I don't see any fundamental changes in the upside or appeal for Icade - and because of that, I don't view this as a negative change at all. It's rather an even better possibility for an upside and a high yield.

The reason for the pressure we're seeing here is simple. Icade is in the midst of a disposition and reorganization, which is putting pressure on forward earnings numbers. But even at a relatively impacted forward earnings figure, the fundamentals for this Parisian company and its portfolio have left this one trading at a significant discount, and I see only one way this currently can go - and that's up.

Vonovia (VONOY) is a good example of a company I've invested profitably in with similar crashes. Most of my position is in fact up over 50% here, and I am holding on, because I believe the company in fact has an even higher upside and ways to go than it already has.

But in this article, let's look at what Icade offers here.

Icade - Continued appeal from Parisian real estate

Remember, I primarily cover two French REITs. One is Icade, one is Gecina ( OTCPK:GECFF ). I own both, but my positions are limited - although I expanded the former in conjunction with my last article. Other companies come out of the post-WW2 French housing shortage, to somehow solve the living space discrepancy in the country.

Fundamentals for this company remain absolutely stellar. Remember, despite a limited size of below €2.7B market cap, we have a BBB+ as well as a high yield that, for all intents and purposes, at this time remains well covered. The secondary advantage here is a very appealing mix of property types. The company has both an attractive core-city office as well as traditionally having a residential and mixed-use ass together with related property services.

The company then went ahead and abandoned its residential properties back in 2010 after the GFC, and its services segment in 2016, leaving it to focus on the segments of real estate assets that it currently owns, which comes to Office Space and Healthcare Space, which means we can compare it to both office and healthcare space REITs - two sectors I have exposure to in the US as well.

3Q23 results are the ones we're looking at here - and the results are worth seeing.

Icade reports solid operational performance, an even stronger and improved balance sheet position post closing the stage-1 Icade Santé Disposal (look at my last article for details of this transaction and the importance here).

The company managed to generate €271M of quarterly revenue, which on an LFL basis in 2023 YoY is a 2.5% improvement, and also a similar 3.6% YoY improvement on the property development side.

The leasing activity and fundamentals continue to present in a way that reflects the very strong Parisian trends and fundamentals. We're talking 150k sqm signed or renewed on the last 9M basis, including 50k in 3Q, securing rental income of over €40M per year. The Weighted average length is close to 6 years (5.7) here, with a resilient GRI

As you can see, there are indexation clauses in almost all contracts now as well, with good effects on rents, which should see Icade's situation improve even further.

The company is using the current situation to opportunistically work through acquisitions, as well as disposals. It bought Ponant B in Paris for less than €50M, full ownership of 33,000 sqm with good centrality and a very low level of development CapEx reflecting the current market trends.

it also disposed of €180M worth of assets at an average yield of 4.7%, which is in line with company NAV here. That's what I look for when REITs or European real estate companies go through dispositions here, including Vonovia. I want them to sell at or above NAV, which Icade is doing.

The company taking a very cautious stance towards property development here at this time, focusing on WC and working through its development operations in this new environment. There is a company-wide increase in bulk sales, as well as still-incoming orders, with a continued backlog at this time of €1.7B. Icade has put into contracts an increase in the minimum order rate to make up for market uncertainty and is using much larger selectivity in orders to guarantee good returns here.

The company also went ahead and confirmed its 2023E outlook as of this quarter the company is at least expecting €2.95-€3.05 per share in NCCF, including the impact of every single 2023E disposal. This is a reaffirmation of an already-existing guidance, making it as I see it, very secure.

The dividend is a different story. the current 2024E expected dividend policy is still subject to the AGM, but the company is forecasting a recurring dividend based on the minimum legal distribution obligation. However, there will be a special dividend of at least €2.54/share in 2024, which needs to be considered as well. The 2023E dividend is expected to be at least 10% higher than the 2022A based on this. This special dividend is 50% of the SIIC obligation resulting from the aforementioned Santé disposal.

Going forward, the expectation is for the company to present its new strategic plan, including the new dividend policy from the AGM, in 2024. A lot of the company's current trading trends have to do with the lack of clarity from the company regarding its future.

However, as I see things, this has already, and quite extensively, at this point been taken into consideration at the price that the company is currently trading.

Let's see the risks and upside here.

Risks & Upside

The risk to Icade is obviously a longer-than-usual recovery of the European real estate and property development sectors and industries, especially in Paris. If you're bearish on France and Paris, you really shouldn't be in Icade. However, if you like me believe that assets in Paris and a leading operator of the real estate here have value, then there really is only one direction this company at an eventual point can go.

That we're in a declining trend is not in question here. Nor that the company's FFO, or similar, is going to be declining in the single or even low double digits for at least 2023 and 2024, possibly even 2025E - though anyone who forecasts 2025E and claims accuracy here is fooling themselves, I believe.

The upside to the company has to do with quality and reversal. A BBB+ rated French REIT with a 12%+ dividend (Going lower) trading at less than 8x P/FFO reminds me a lot of the US-based office REITs that have seen 20-30% ROR since investing only months ago. So I say, this company has now been punished quite enough, and it could be time to invest in Icade - that's the upside here.

Let's look at valuation.

Valuation

Valuation for Icade at this time is extremely attractive, like in most office REITs. Unlike many office REITs also, Icade isn't over-leveraged and doesn't have issues attractively divesting or acquiring properties even in this environment.

At current FFO, we have less than an 8x normalized multiple at a native share price for the ICAD ticker that I invest in, for €34/share, give or take a few euro cents. And let me make it clear to you that Icade successfully hits targets with a 20% MoE 100% of the time over the last 5 years at least. There's at least some conviction both for the slight downturn, but also for the fundamentals and the earnings that will come in.

The fact is that you could expect Icade to over the next few years decline to 7.5x P/FFO, with the FFO decline in the bag, and still not lose money, but get away with 3-4% per year inclusive of dividends. But I do not believe this will be the case. I believe the company bottomed out just north of €30/share, and far worse news is needed to push it below the €30/share mark - and things seem to be going in the right direction now, not the wrong one.

Ignoring a 15x historical FFO premium, we can forecast at 10x and still get 17.6% per year, or almost 40% in 3 years at this valuation, inclusive of dividends. Remember, that special dividend, that's confirmed here.

If you're willing to go higher than that, a 12.5x P/FFO normalization would entail over 25% per year normalization, or over 60% total RoR for this company, which I do not believe to be unrealistic when the market in this case for properties and real estate does end up turning around (which, by the way, I believe it will).

Icade is a game of waiting. It's an investment with a higher-than-typical risk tolerance demanded of the investor due to the small market cap and the relatively unknown position for most of you. Also, I'd avoid the ADR due to liquidity - I'd go with a broker that handles French stocks natively.

But, overall, I see a double-digit conservative upside here - and that's why I'm willing to put money to work at what from a distance may look like a risky business, but I do not believe it is.

Here is my updated thesis for Icade.

Thesis

• Contrary to popular belief, Europe does have a couple of REITs that are worth getting into, as well as straight real estate companies. I've looked at a few of them so far, and I intend to continue doing so.
• Icade is, post-disposal of healthcare an interesting mix of office, and residential development with a 39% stake from the French government. These things, together with the fundamentals, make the company an appealing prospect to me. Once we've established that a company is an appealing prospect, what's left to estimate is the valuation.
• Post disposal and considering relevant EPRA numbers, I would put the company at a discount of 40% to its EPRA NTA. This still puts the PT at €45/share, which is a considerable upside from the current share price.
• I consider the company safe, and a "BUY" here. It can be considered a "speculative" buy as such, but it's most assuredly a "BUY" here to me.

Remember, I'm all about:

1. Buying undervalued - even if that undervaluation is slight, and not mind-numbingly massive - companies at a discount, allowing them to normalize over time and harvesting capital gains and dividends in the meantime.

2. If the company goes well beyond normalization and goes into overvaluation, I harvest gains and rotate my position into other undervalued stocks, repeating #1.

3. If the company doesn't go into overvaluation, but hovers within a fair value, or goes back down to undervaluation, I buy more as time allows.

4. I reinvest proceeds from dividends, savings from work, or other cash inflows as specified in #1.

Here are my criteria and how the company fulfills them (italicized).

• This company is overall qualitative.
• This company is fundamentally safe/conservative & well-run.
• This company pays a well-covered dividend.
• This company is currently cheap.
• This company has a realistic upside based on earnings growth or multiple expansion/reversion.

While certainly speculative at this point in time, I believe Icade is still an absolutely solid investment, and I'm buying more shares and expanding my overall position.

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