NXRT - NexPoint Residential Trust: Trading At A Discount But Better Opportunities Elsewhere

2023-03-27 11:28:48 ET

Summary

• NexPoint Residential Trust owns and operates multifamily properties, located primarily in the Southeastern and Southwestern regions of the U.S.
• The company's portfolio is comprised of middle-tier properties with value-add potential.
• To date, they have realized significant returns on upgrades made on these properties.
• In 2022, operating results were strong, with notable strength reported in their core markets.
• Though shares trade at a discounted valuation, I view shares as a "hold" due to opportunities available elsewhere.

NexPoint Residential Trust (NXRT) has an interest in middle-income multifamily properties in large cities and suburban markets, primarily in the Southeastern and Southwestern U.S. The company is externally advised by an affiliate of NexPoint Advisors, L.P., an SEC-registered investment advisor.

Their portfolio is concentrated in four operating markets; Dallas/Fort Worth, Phoenix, South Florida, and Atlanta. Collectively, over 50% of NXRT's properties are located in these markets.

Florida, however, is a prime contributor to total net operating income ("NOI"), representing over 30% in aggregate through three operating markets. Their Nashville, Phoenix, and Dallas/Fort Worth markets also provide a double-digit contribution to NOI.

Compared to most peers, NXRT is off to a better start in 2023, down just under 4% YTD.

Shares, however, have significantly lagged over the past year and are down over 50%.

The pullback in the shares has resulted in an implicit valuation that is markedly below estimated net asset value ("NAV"). And there is confidence in the stock, at least internally, as evidenced by a high degree of insider ownership , which currently tracks near 14%. The company is also producing strong operating results that perhaps support a reassessment higher. However, their debt load is on the higher side, despite recent deleveraging efforts. In addition, shares currently trade at a similar multiple of another close competitor, who I view as a better buy in the current market environment. As such, at present, I view NXRT as a "hold".

Recent Earnings and Current Portfolio Metrics

In Q4, NXRT reported an overall increase of nearly 20% in NOI. In the same-store portfolio, NOI was up 14.4%, due to a 17.3% increase in rents. This was partially offset by a 15.3% increase in same-store expenses and slightly lower occupancy levels of 94.1%. This was down 20 basis points ("bps") from the same period last year.

For the full fiscal year, portfolio NOI was up 22.3%. In the same-store portfolio, NOI was up 16.2%, led higher by a 17.8% increase in rents, offset by slightly lower occupancy levels and higher same-store expenses that were up 11.1%.

Quarterly core funds from operations ("FFO") came in at $0.75/share, a 9% YOY increase. And for the year, core FFO landed at $3.13/share. This represents an increase of 28.9%.

Looking ahead , management sees 2023 core FFO at $3.09/share at the midpoint. This would be down about 1% from 2022. Same-store NOI, on the other hand, is projected to be up 11% at the midpoint. But this, too, would be a step down from the results produced in 2022.

Across their same-store properties, they're expecting rental income growth of between 10.5% to 12.6%. Contributors to this include expected occupancy of 93.5% to 95.1%, with the peak expected sometime in Q3 or Q4. In addition, there is about 6% of earn-in built in, as well as 4% to 5% market rent growth in 2023. They are also expecting to realize the accretive benefits of recent value-add spending.

Liquidity and Debt Profile

In Q4, NXRT paid down +$261M of principal on their credit facility via a cash out refinance on 19 of their properties. And subsequent to year end, the company refinanced another property, which resulted in a maturity extension from 2024 to 2033. In addition, they paid down another +$17.5M on their credit facility in February.

Through recent actions, the average maturity of their portfolio currently stands at 6.5 years. And the balance on their credit facility is +$57M.

Currently, the company has two properties under contract for disposition. Upon closing, which is expected sometime in the first half of the year, NXRT expects to receive +$63M in net proceeds. Receipt of these proceeds are then expected to be used to pay off the remaining balance on their facility.

The additional property sales would be on top of another that was completed at the end of 2022. At that time, they completed the sale of one property in Houston for total gross proceeds of +$36.8M, representing a cap rate of 4.37%

In 2022, NXRT acquired two properties for a total purchase price of +$143.4M. This is down from about +$290M in 2021. And looking ahead to 2023, management is expecting total acquisition volume between $0 and +$250M. Given current operating conditions, it's likely the company will prioritize dispositions and balance sheet cleanup as opposed to acquiring new properties.

At 60% of their total enterprise value, net debt does run on the high side. It is higher in relation to their peer set as well, despite recent deleveraging efforts.

They also utilize primarily floating rate debt, which does expose them to interest rate risk. However, they have interest rate swap agreements in place that effectively fix the interest rate on about three quarters of their total debt load.

In fact, settlement of these swaps figures significantly into their core FFO guidance in 2023. While they may be realizing a net benefit in current periods, the higher load does create a greater risk of an earnings drag in later periods.

Dividend Safety

NXRT has a strong dividend track record. Since inception, they've increased their dividend by over 100%. Most recently, they increased their dividend by 10.5% to its current quarterly level of $0.42/share. This continues a streak of continuous growth. Over the last three years, for example, the payout has grown at a compound rate of nearly 11%.

At current trading levels, the payout represents a yield of just over 4%. This is comparable to the yield offered by Elme Communities ( ELME ) and higher than that of Independence Realty Trust (IRT), though it trails both Centerspace ( CSR ) and BRT Apartments (BRT), who both currently yield in the mid-5% range.

At just under 50% of core FFO, the payout was well covered in 2022. In fact, it was improved over 2021, where the payout was about 58%.

It is worth noting, however, that NXRT spent about +$36M on value-add expenditures in 2022, as well as +$11.7M on recurring maintenance expenditures. Factoring in just the value-add expenditures would bring payout levels to the 90% range. And it would go over 100% when adding in the recurring expenditures. In future periods, therefore, either the dividend will need to be rightsized or their capex will need to be reduced lower to maintain current payout levels.

Final Thoughts

NXRT reported strength in all their markets in 2022, with notable revenue growth cited in the Florida region. Their Tampa, South Florida, and Orlando markets all logged revenue increases of over 15%. This was the case as well in their Nashville and Phoenix markets. Strength in these five markets supplemented their other markets within their portfolio, which all grew at least 8% or better.

The company is also reporting solid returns on their value-add activities. In 2022, they realized a 23.1% ROI on these activities. This was notably higher than peer, ELME, whose reported ROI came in within the 13-15% range. It was also comparable to IRT, who achieved a slightly better return of 24.1%.

Margins have also exhibited marked improvement over prior periods. During Q4, same-store NOI margin improved to 61.6%, which was up just under 50bps from the same period last year. And for the year, same-store margin improved over 100bps to 60%.

In 2023, regional strength is expected to continue, and the company is forecasting additional returns on their value-add activities. NXRT is also making measurable progress on their deleveraging efforts via asset dispositions and the additional terming of nearer maturities.

At just 13.2x forward FFO, shares trade at a discount to ELME and BRT, who trade at 17x and 15x, respectively. But they trade in-line with IRT and at a premium to CSR.

The company does have an impressive record pertaining to dividend growth. But the payout is on the higher side when considering their value-add spending. Their debt load, too, is higher than their peers.

While shares trade at a sizeable discount to NAV, I view an alternative, such as IRT, a better buy , due to their stronger pipeline of value-add activities and their overall valuation. As such, I view shares in NXRT as a hold, given more appealing opportunities elsewhere.

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