NNN - NNN REIT: A Rare Dividend/Value Pick

2024-01-18 22:31:32 ET

Summary

• NNN REIT owns and manages retail properties across the US, with a focus on the Southeast markets.
• It has experienced decent growth at a moderate use of leverage, and its strong liquidity makes for a very healthy solvency profile.
• The high dividend yield appears to be very attractive coming from such a reliable dividend grower, and the shares are trading at a considerable discount to NAV.

NNN REIT, Inc. ( NNN ), founded in 1984 and headquartered in Orlando, FL, is a REIT that acquires, owns, develops, leases, and manages retail properties all over the country.

This company stands out from the pack thanks to its profitability, conservative capitalization, and strong liquidity. It also manages a well-diversified portfolio and currently offers a high dividend yield, with further dividend growth very likely. But most importantly, its shares are trading at a discount to NAV even when based on conservative assumptions.

Portfolio & Performance

As of September 30, 2023, the company owned 3,511 properties, aggregating ~35,797,000 sqft of gross leasable area, which are located across 49 states.

As you can see from above, the REIT is mostly exposed to Southeast markets with the least exposure to West ones. Additionally, its largest state exposure was to Texas, in which it owned 547 properties; Florida came second with 270 properties.

Next, its industry exposure breakdown based on ABR reveals a high concentration in convenience stores, automotive services, and restaurants; a mix of essential and non-essential businesses.

Now, NNN is exceptionally efficient in managing its assets with only 27 vacant properties out of 3,511 and an occupancy rate last reported at 99.2%. Its long-term average rate is 98% and as you can see from the image below, this high level of efficiency is unique among retail REITs:

Coming to operating results, its long-term historical performance depicts great growth since its IPO:

However, growth has been slower in the last decade:

Regardless, it has steadily become more and more profitable over the years and this is always a good thing. The more recent results depict the same modest but decent growth; below I compare the average annual figures from the past 3 fiscal years with the last quarterly report's ones annualized:

In any case, I think that the market has been unfair to this REIT after taking a look at how volatile the ride has been in the last 10 years:

It's rare to find such a tight price range with a REIT like NNN. And there's more for investors to like than its portfolio and past performance.

Leverage & Liquidity

It's even more impressive to know that the business grew so well year after year with a moderate use of leverage. Only about half of NNN's assets are financed with debt. And its debt-to-EBITDA ratio lastly sat at 5.1x, which also shows its strong liquidity. In addition, an interest coverage ratio of 3.4 times confirms this.

Although it could add more debt without any problem, we need to note that its leverage level has increased throughout the years as shown above. The good news here is that all of its debt is fixed-rate and unsecured with a weighted average interest rate of 3.81%. Moreover, it's unlikely this cost will soon increase as maturing portions that have a lower rate are small against $4.2 billion of total debt and are coming due in 2026/2027.

Dividend & Valuation

NNN currently pays a quarterly dividend of $0.57 per share which suggests a forward yield of 5.38%. Such a yield is very attractive to capture because the business is healthy and the dividend appears to be the safest I have observed in REITs. The payout ratio based on AFFO is 70.13% and there is a strong momentum of steady dividend growth present:

In conjunction with an ever-increasing AFFO, NNN definitely proves to be one of the best fits for an income-oriented portfolio right now. But it also scores very high as a value pick.

It seems to be fairly valued on a peer-relative basis which is... unfair in my opinion because of all the things I discussed above:

But most importantly, it is currently trading at a 6.61% implied cap rate. While the median retail REIT implied cap rate may be higher, cap rates are forecast to average 6.26% for retail space this year. But using the average to value NNN's assets would be unfair considering it managed to sell properties at a 6% cap rate during the third quarter in 2023, the same year that retail cap rates averaged 6.39% , the highest in more than a decade.

Therefore, the conservative but fair approach would be to use 6% as the appropriate rate here, which suggests a 13.59% discount to NAV ($49.04). Now, that's a really good discount for a REIT like NNN.

However, I like ranges because they remind me that NAV calculation is not an exact science (we can't really know at what cap rate NNN would be able to liquidate today). So, assuming that interest rates fall back to normal in the next couple of years, it is likely for cap rates to return to the 2021 average of ~5% for retail assets.

Thus, a forward-looking NAV based on that assumption is around $63 per share, which would represent a 33% discount based on current levels and a 50% upside if the market closes the margin. Based on the reasonable assumption that NAV will continue to expand, the discount may appear even steeper in retrospect.

So, what the use of data and logical thinking suggests is that you'd buy a top-quality high-yielding REIT with a healthy dividend profile at a decent discount at worst and at a great one at best.

It's also worth knowing that the calculated NAV range (~$50-$60) is not unfamiliar territory for NNN, with the price bouncing back to ~$50 after the 2020 drawdown, not long before the Fed hikes began, as well as almost reaching $60 not long before the 2020 crash:

Risks

Now, either the potential expansion of cap rates or the decrease in NNN's NOI, no matter how unlikely, presents a risk to our above estimation of NAV.

Of secondary importance but of higher likelihood is the opportunity risk. If the upside is not realized within a reasonable time frame, the dividend returns may not be enough to compensate for the opportunity cost observed after a retrospective view of other investment opportunities.

Remember that a 5% dividend yield is attractive only within the context of a high-quality REIT like NNN; I personally wouldn't worry about an opportunity risk if it was +8%. You might have a different risk tolerance, however.

Verdict

Regardless, I rate NNN a strong buy at its current price because it's a profitable, conservatively capitalized, and highly liquid REIT with a well-diversified portfolio, a safe and high dividend yield, as well as shares trading at an adequate discount to NAV. I am looking forward to start buying it after I free up some capital during February and I can only hope the price level will remain attractive until then.

Was that post useful? Do you intend to buy some shares or are you already a shareholder? Feel free to share your thoughts below and I'll get back to you very soon. Thank you for reading!

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