2023-07-11 05:07:40 ET
Summary
- Alexandria Real Estate Equities, a life science real estate investment trust, is an attractive option for passive income investors, despite a 30% drop in stock since February.
- The trust has a low payout ratio of 56%, a 4.3% dividend, and robust portfolio metrics, making it a low-risk investment with the potential for consistent cash flow.
- Despite being unfairly grouped with office REITs, Alexandria Real Estate Equities has strong fundamentals, including a 99.9% rent collection rate and long-term leases with pharmaceutical companies.
Alexandria Real Estate Equities, Inc. ( ARE ) makes an attractive value proposition for passive income investors as the stock has dropped approximately 30% since February. The real estate investment trust’s valuation has been pummeled in 2023 as investors have grown increasingly concerned about the state of the U.S. office market and unfairly lumped Alexandria Real Estate Equities, which is focused on life science real estate, into this group.
Alexandria Real Estate Equities is well-positioned to ride out a downturn in the commercial real estate market and has sufficient cash flow to keep paying a healthy dividend.
With a payout ratio of 55%, the trust’s 4.3% dividend is not nearly as risky as investors think it is. Since Alexandria Real Estate Equities also comes with an attractive price tag, passive income investors should consider buying the trust on the drop.
Alexandria Real Estate Equities Is Not An Office REIT
Presently, office real estate is widely out of favor with investors as doomsday reports about plummeting valuations and rising delinquencies for office CMBS have an understandably negative effect on REIT investors' attitudes.
Alexandria Real Estate Equities’ valuation sort of reflects this general distaste of REITs, as their valuation declined ~30% since mid-February and the stock price recently fell through the 50-day moving average, setting up a negative technical picture for the office REIT.
Moving Averages (Stockcharts.com)
Office REIT valuations have plunged due to two major developments in the market:
- Vacancy rates are on the rise as more workers work from home; and
- Higher interest rates are putting pressure on borrowers that have loans to service.
Furthermore, a negative short-term outlook on the office sector has led to falling transaction volumes . However, I think these considerations are missing the point when it comes to Alexandria Real Estate Equities.
At its core, Alexandria Real Estate Equities is a life science REIT that invests in real estate consisting of properties that are leased to the life science industry, primarily.
The trust’s key tenants operate in scientific research, drug discovery, medical technology development, and other activities related to life sciences and technology. The tenants use Alexandria Real Estate Equities' facilities as places to conduct scientific or technological research and experiments. Life science-focused REITs tend to be grouped together with office REITs and it is this association that has hurt the trust’s valuation since February. Since Alexandria Real Estate Equities' portfolio metrics look very robust, I think the comparison to office REITs is even more inappropriate.
Percentage Of ARE's Annual Rental Revenue (Alexandria Real Estate Equities)
Alexandria Real Estate Equities’ real estate portfolio includes 41.9 million SF, including 5.5 million SF of Class A properties. About half of the trust’s tenant base is investment grade rated, leading to stable cash flows with a limited degree of volatility.
Alexandria Real Estate Equities’ portfolio characteristics underline the quality of the trust as a passive income investment, particularly its long-term leases, which provide earnings and cash flow visibility, and the trust’s rent collection rate of 99.9% in 1Q-23.
Based on the REIT’s lease expiration table , only 3.9% of Alexandria Real Estate Equities' leases are expiring in 2023. I think the trust’s long-duration leases are a strong asset in this market environment and they build a strong foundation that generates recurring cash flow for shareholders.
Tenant Collections (Alexandria Real Estate Equities)
The trust’s core tenants (850 in total) are large, investment grade rate pharmaceutical companies, including Bristol-Myers Squibb (BMY), Novartis ([[NVS]], [[NVSEF]]), Sanofi ([[SNY]], [[SNYNF]], [[GCVRZ]]), and Pfizer (PFE). These companies invest into their product pipelines for the long term and the pharmaceutical industry tends to have much less vulnerability in an economic recession than more cyclical industries.
Top 20 Tenants (Alexandria Real Estate Equities)
Why There Are Reasons To Be Optimistic About Alexandria Real Estate Equities
Alexandria Real Estate Equities had an occupancy of 93.6% in 1Q-23 and the portfolio is well-utilized. The trust increased its dividend twice in the last year, handing passive income investors a 5% raise and sending a strong signal that management trusts the resilience of its earnings and its funds from operations.
Presently, Alexandria Real Estate Equities offers passive income investors a 4.3% dividend, based on a $1.24 per share per quarter dividend that, I think, will continue to grow when taking into account the trust’s rather low payout ratio.
In addition to two dividend increases in the last year, I think the core argument for buying ARE is that the company’s payout fundamentals don’t justify the gloom that is reflected in the trust’s valuation. In fact, the REIT is performing rather well with consistent QoQ FFO growth and a very consistent payout ratio.
Alexandria Real Estate Equities paid out a stable 55-56% of FFO, as adjusted, which I think leads to a very low-risk dividend. The trust’s FFO (as adjusted) increased 6.8% YoY in 1Q-23, leading to a very low-risk dividend, driven by robust releasing activity. Approximately 48% of the trust’s re-leased space saw higher releasing rates, reflecting not only strong demand for the trust’s life science facilities but also increasing pricing power for the trust.
Historical Rental Rate Growth (Alexandria Real Estate Equities)
Alexandria Real Estate Equities Offers A 30% Discount To The February FFO Multiple
Alexandria Real Estate Equities sees $8.91 to $9.01 per share in FFO for 2023. Based on a stock price of $116.91, the REIT’s growth potential is valued at 13.0x funds from operations. That same potential was valued at 18.0x in February, even though the trust did not report any kind of deterioration in its fundamentals. Rather, it is the unfair inclusion of ARE into the office sector that I believe has led to a decline in the trust’s market valuation.
Investment Risks with Alexandria Real Estate Equities
The office market may continue to weaken in the short term, but this should not affect Alexandria Real Estate Equities since it has leased its real estate to the who's who of the international pharmaceutical industry which tends to be recession-resistant.
The trust also has a weighted average lease term of 7.2 years and only 3.9% of its leases are expiring in 2023, resulting in a compelling risk/reward ratio on the drop.
My Conclusion
I think Alexandra Real Estate Equities is a very attractive passive income investment for three reasons:
- The trust has a low payout ratio of 56% which easily covers the dividend;
- The trust's fundamentals are strong as the REIT collects almost all of its rents (99.9% in 1Q-23) and has a low amount of lease expirations in 2023; and
- The trust raised its dividend twice in the last year, indicating that management is not concerned with its financial status, portfolio utilization, or cash flow.
Taking into account that Alexandria Real Estate Equities has seen a valuation haircut of almost 30% since February, I think investors have an opportunity here to buy ARE stock at a very attractive P/FFO ratio.
For further details see:
Alexandria Real Estate Equities: The Market May Be Wrong About This 4.3% Yielding REIT