2023-04-13 09:30:55 ET
Summary
- I've been clear about my bullish stance on long duration net lease REITs in the current macro environment.
- Today, I present my analysis of a diversified net lease REIT that's very comparable to (and perhaps even better than) W. P. Carey.
- Broadstone Net Lease shines in pretty much every category and is significantly cheaper than peers, including WPC.
- I present my outlook for the next three years. Spoiler alert - I smell solid alpha here.
Dear readers/followers,
I've been quite clear about my bullish stance on some apartment and net lease REITs and have covered several of them here on Seeking Alpha. The reasoning behind my bullish thesis is quite simple and relies on the assumption that long duration net lease REITs should do well whether rates come down quickly or stay elevated for longer.
It's probably clear to most readers why a decline in rates would most likely result in positive returns, but the opposite may not be as intuitive. My thinking is that even if rates stay elevated for several years around current levels (which would inevitably mean that inflation is stubbornly sticky and remains high), landlords with triple net leases will likely be OK, as they will be able to increase their rents significantly. This is exactly why many REITs saw double digit FFO growth rates in 2022. And sure, interest expense will increase as well as companies refinance their debt at higher rates, but the overall effect is likely to be positive for REITs that have low leverage and a high near term lease turnover allowing them to increase rents every time they renegotiate their lease contracts. Net lease REITs fulfil this criteria very well.
Moreover, they tend to have solid dividend yields around 5% (sometimes paid monthly) and offer decent potential upside from current levels. All of this makes net lease landlords a relatively safe way to add income to a portfolio while targeting solid 10-12% total returns. That in my opinion beats holding treasuries any day of the week.
Today I want to present my analysis of a less known net lease REIT - Broadstone Net Lease ( BNL ) to help you decide if it's worth buying over some of the more established players.
Why BNL?
BNL is a relatively new (founded in 2007 and IPOed in 2020) and small net lease REIT with 804 primarily single-tenant commercial properties located in the U.S. (for completeness 7 properties are scattered across Canada, but those are hardly significant). Some investors will be pleased to hear that their California exposure is below 5%. What makes the REIT interesting is that it's very diversified across industries with a heavy focus on industrial (51% of ABR). Healthcare is their second largest segment at 17% of ABR, followed by restaurants (13%), retail (12%) and office (7%). This makes it quite comparable to W. P. Carey ( WPC ).
I especially like the fact that property types are diversified even within each segment. Their industrial properties for example are split between manufacturing, distribution & warehouse, food processing and others. This should make the company quite resilient even in times of economic weakness. In terms of tenants the REIT is well diversified (200+ tenants) with no tenant accounting for more than 4% of ABR.
Occupancy sits at a staggering 99.4% with near perfect rent collections (99.9%+). The REIT has a long WAULT (weighed average unexpired lease term) of 10.9 years with very low near term lease expirations (only 7% of leases expire before end of 2025). This is good because they won't be under pressure to re-lease their space, but it will reduce their ability to increase rents dramatically if inflation (and rates) remains high. This is reinforced by the fact that only 11.6% of lease are CPI-related and the vast majority (86%) has build-in rent escalators that average 2% per year. Still, these are pretty impressive lease characteristics and amongst the best I've seen for any net lease REIT.
The company has grown their asset base pretty aggressively in 2022. They acquired over $900 Million worth of real estate in 2022, increasing their assets by 17% YoY. In Q4 2022 alone, they spent over $300 Million on acquisitions at an average cap rate of 6.7% and with a WAULT of 20 years. For 2023 management guides towards an additional $400 Million in acquisitions which should help them increase their FFO above the 2% from build-in rent escalators.
Their BBB-rated balance sheet shows no real weakness. Most notably they have no debt maturities until February 2026 and over 90% of their debt is fixed. Management has been very cautious to take on more debt, which is why they funded most of their recent acquisition through a secondary share offering of 13 Million shares underwritten at a price of $21 per share.
Dividends are in important factor when it comes to investing in REITs and BNL seems to shine on this front. They increased their dividend twice last year to a current yield of 6.83% which is the highest of any net lease REIT I've covered so far and a full point above WPC. Their forward payout ratio stands at 78% which is a little on the higher end, but still relatively safe and below that of WPC. Finally regarding growth of the dividend, I think there is definitely some potential beyond next year, thanks to their acquisitions, rent escalations and lack of debt maturities.
In 2022 their FFO stood at $1.40 per share and is expected to be flat this year. Beyond this year, I think it's reasonable to expect 2% growth in the medium-term and possibly a little more in the long-term as rates decrease and the pace of new acquisitions picks up. That means that by 2025 FFO could reach $1.46 per share.
Currently the stock trades at 11.4x forward FFO. That's the lowest of all net lease REITs I've covered. Most importantly it's below the multiple of WPC of almost 14x. Frankly, I think WPC deserves some premium, because it's a more established player, but this feels too much. Implied cap rates tell the same story, reiterating that BNL is definitely on the cheaper end of net lease REITs. I don't think this level of a discount is justified, because although it's younger and smaller, it shines in pretty much every category from high occupancy to reasonable payout ratio and low debt.
For this reason I rate BNL stock as a "BUY" here at $16.10 per share. My price target at a very conservative 13.5x FFO is $20 per share which implies upside of almost 25% in addition to a juicy dividend.
Over the next three years I expect BNL to return:
- 6.8% dividend yield (flat or growing very slowly)
- 2% FFO growth
- 18% upside from multiple expansion to 13.5x FFO
- total expected return of 14.5%
For further details see:
Broadstone Net Lease: Best Value Amongst Diversified Net Lease REITs