KIM - Kimco Realty: Not Shopping Here

2023-12-15 00:27:36 ET

Summary

• Kimco Realty's shares have been trading towards the higher end of the range due to a decline in interest rates.
• The company announced a substantial deal to gain scale and increase exposure to growing geographic areas over the summer.
• The nature of the real estate is cost-intensive, making me cautious despite a high initial yield.

Shares of Kimco Realty ( KIM ) have been trading towards the higher end of the trading range this year, fueled by a rather substantial decline in interest rates in recent weeks. 2023 has been rather uneventful until the summer when Kimco announced a substantial (share) deal in an effort to gain scale, deliver on synergies and increase exposure to more rapidly growing geographic areas.

Despite these great ambitions, the nature of the real estate is quite cost intensive, which makes me cautious despite a high initial yield. With the grocery anchored tenants being key in the business model, such a business model looks sound, but it is the costs incurred with this type of real estate, which make me cautious, as evident in the very mixed long term track record.

About Kimco Realty

Kimco is a North American publicly traded real estate business, which owns and operates so-called ¨open-air, grocery-anchored¨ shopping centers and mixed use assets. The company operates such real estate in the first rings suburbs of major metropolitan areas, focused on coastal markets and Sun Belt cities. Its tenant mix focuses on essential goods, services which require multiple shopping trips per week.

The business has been listed since 1991 and has been conducting operations for more than 60 years, over time having expanded to own, or have interests in, over 500 shopping centers and mixed-use assets, spanning over 90 million square feet. Typical, and the largest tenants, include the likes of TJX, Home Depot, Ross Stores, Whole Foods, Albertsons and Petsmart, among others.

For the year 2022 the company operated with a $17.8 billion balance sheet, mostly comprised out of (direct) real estate investments, financed by about $9.5 billion in equity. The company obtained $1.73 billion in revenues that year, on which it earned a mere $101 million, in terms of net earnings. That of course does not tell the entire story in real estate investing land. The so-called funds from operations (FFO) was reported at $976 million, equal to $1.58 per share based on occupancy rates around 95%.

The company did not provide an upbeat outlook for 2023, seeing FFO at a midpoint of $1.55 per share, down three cents amidst higher interest rates. The reported numbers are of course more volatile due to investment losses and gains, and in the case of Kimco also due to the fact that the company still held some shares in Albertsons ( ACI ) , which became more valuable after Kroger ( KR ) announced its intention to acquire the business late in 2022.

2023 - Rather Uneventful Until The Summer

In the first two quarters of 2023, the company has seen a modest outperformance, as it hiked the lower end of the FFO guidance for the year by a penny in each of the quarters, seeing FFO at a midpoint of $1.56 per share as of the second quarter. Despite an annual dividend payment of $0.92 per share, the company has strengthened the balances sheet a bit, as little investment activity took place in that period.

In August, Kimco announced the acquisition of Stonebridge at the Potomac Town Center, acquiring a 504,000 square foot lifestyle center in Woodbridge, Virginia, in a $172 million deal, with few other financial details being announced.

Later that month, a more substantial deal was announced as the company announced an all-stock acquisition of RPT Realty ( RPT ) , in a deal valued at $2 billion. The deal will give investors in RPT a pro forma 8% equity stake in Kimco Realty, adding 56 properties and over 13 million square feet to the portfolio. The deal is driven by a desire for scale, an anticipated $34 million in costs savings, which typically are relatively modest in a REIT. This is due to the inherent nature of the business, as well as a benefit from greater density of properties in the region.

As of the third quarter, the company still had to close the RPT deal of course as the 620 million units outstanding value equity at $12.4 billion at $20 per share, as this includes about $8 billion in debt.

The implies that the business is really valued at $20 billion (pre RPT) at a time when gross revenues trend at close to $1.8 billion, for an unleveraged 9.0% yield on the assets. This higher yield understandable as this kind of real estate is quite expensive in terms of costs and leakage, including huge property taxes and operating costs, with full year FFO now seen at $1.56-$1.57 per share. The company hiked the quarterly dividend by a penny to $0.24 per share, for a near annual dollar payout, yielding close to 5% in this environment.

A Final Word

While Kimco steadily continues to grow in accordance with its strategy, it is the relatively expensive nature of the type of real estate which makes me a bit cautious here, even as occupancy creates look good and the grocery-anchored business model creates a more resilient business than a pure retail REIT.

Moreover, topline rental growth has not kept up with inflation, due to pressure on the business model of many of its tenants, while costs of course rise with inflation, or more, making that the net to gross rent ratio over time has come down. Despite this observation, I noticed that the REIT and category has been struggling to show long term strong performance, with investors relying on dividend rather than capital gains.

Moreover, Kimco is not entirely insulated from higher interest rates as well, even as they are coming down now, with the business recently issuing half a billion in notes due in 2034, carrying a steeper 6.4% coupon in the meantime.

While shares do not look too expensive based on (gross) rent, I am looking for more long term secular tailwinds in a long term investment case.

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