2023-08-29 02:18:10 ET
Summary
- Shares in Broadstone Net Lease appear undervalued in relation to the market value of their properties.
- The company is completing dispositions with mid-5% cap rates. Yet shares are trading at an implied cap in the mid-7s.
- In addition to sizeable upside potential, BNL also provides an attractively yielding dividend payout.
- Solid quarterly results reaffirm my bullishness in the stock.
Owner and operator of single-tenant commercial properties, Broadstone Net Lease ( BNL ), is down about 2% since my prior update on the stock. The broader S&P ( SPY ), meanwhile, is up the same way in the other direction.
One aspect of my bullishness was the company’s valuation in relation to peers. I also viewed the higher-yielding dividend payout as attractive and safe.
I still hold these same views following the release of their Q2 results. And recent transactional activity provides additional confidence in the underlying value of BNL’s properties. The more evident disconnect between the stock’s current implied capitalization (“cap”) rate and the current market value of their properties indicates BNL is undervalued by at least 20%.
Broadstone Key Stock Metrics
At June 30, BNL’s portfolio metrics were consistent with prior periods. The total portfolio was 99.4% occupied with a weighted average remaining lease term (“WALT”) of 10.7 years. Over 200 tenants occupied these properties, distributed among 54 industries. And approximately 15% of their total tenant base was investment-grade (“IG”) rated.
While the industrial property class represents the majority share of their annualized base rents (“ABR”), BNL derives much of their ABR from tenants operating healthcare facilities, restaurants, and centers for packaged foods & metals. Collectively, these three industries represented about 38% of ABR at the end of Q2.
BNL Q2FY23 Investor Supplement - Partial Summary Of Top Industries By ABR
Broadstone Q2 Results
Total lease revenues were up 11.6% YOY but shy of consensus estimates by approximately +$3.0M. Revenues were also down 8.1% sequentially from Q1. This was due primarily to +$7.5M of lease termination income recognized in Q1.
BNL Q2FY23 Investor Supplement - Breakout Of Total Lease Revenues By Quarter
The revenue declines were also attributable to lower rent collections as a result of net dispositions during the quarter. In Q2, BNL disposed of four properties for total proceeds of +$69.4M, translating to a weighted average cash cap rate of 5.6%. The proceeds were then recycled into total investments of +$64.9M at an initial cash cap rate of 7.3%.
These investments consisted of +$37.5M in development funding, +$20.4M in property acquisitions, and +$7.0M in revenue generating capital expenditures (“capex”). The properties acquired were three industrial properties at an initial cap rate of 7.4% with a WALT of 14.2 years and annual escalators of 2%.
Though total revenues were down, BNL still reported growth in adjusted funds from operations (“AFFO”). YOY, it was up just under 10%. And sequentially, it grew 2.3%. At $0.35/share, BNL maintained adequate AFFO coverage of their $0.28/share quarterly dividend payout.
Looking ahead, the management team maintained their full-year guidance, which set AFFO at a midpoint of $1.41/share. Assuming the dividend is maintained at current levels, the payout ratio would be about 80%, in-line with BNL’s targeted range.
Takeaways From BNL’s Recent Performance
Tenant health remains on solid footing. Compared to other net lease REITs, BNL has a lower degree of exposure to IG-rated tenants, at just 15%. Realty Income ( O ), on the other hand, derives approximately 40% of their rent from IG-rated tenants. NETSTREIT ( NTST ) has an even higher exposure at about 68%. The lack of IG-rated tenants, resultingly, puts BNL at greater tenant risk, in my view.
One tenant that’s been on watch is Red Lobster. This is one of BNL’s top ten tenants, representing 1.6% of ABR. Carvana ( CVNA ) is another. They are among their top 20, representing 1.2% of ABR. Their third and final tenant on watch is Green Valley Medical Center, a privately held entity outside of the top 20 listing.
Though the total ABR exposure is low, it’s still enough to warrant attention. On the Q2 release, BNL President, Ryan Albano, provided positive commentary on the status of the three, noting Red Lobster’s momentum in their turnaround efforts, as well as CVNA’s record second quarter results. Despite the reassurance, I would still view the outlook on the three with caution. The status of Red Lobster is less of a concern, considering 75% of BNL’s initial investment in the tenant has been recovered. But I’d view the other two less optimistically.
BNL continues diversifying into stronger property classes. This can be seen in their high concentration of industrial properties. The sector has also been a target of their recent acquisitions. Their newly commenced build-to-suit distribution facility for United Natural Foods (“UNFI”) is also a promising project that can support BNL’s future growth objectives. At over +$200M, there is a lot at stake in the project. But it appears BNL is on track for successful execution.
BNL is also achieving attractive investment spreads on their acquisitions. In Q2, for example, dispositions were being completed at cap rates of 5.6%, while their property acquisitions were completed at 7.4%. That 180 basis point (“bps”) spread is up from 80bps in Q1. Interesting, too, is that cap rates in Q2 for their industrial properties were higher than the retail property acquired in Q1. My expectation would have been for the reverse. Looking ahead, I can see the cap rates on their newly acquired properties ultimately contracting under BNL ownership.
Is BNL Stock A Buy, Sell, Or Hold?
I view BNL as a solid addition to any long-term, income-focused portfolio. From a valuation perspective, I believe BNL is undervalued. At June, 30, BNL generated annualized adjusted cash NOI of +$384M. Based on their total enterprise value at the time of +$5.0B, shares would have commanded an implied cap rate of 7.68%. Since then, the share value hasn’t moved materially. So an implied cap in the mid-7% range is likely still appropriate.
In contrast to where shares are currently trading, BNL is disposing of properties at cap rates in the mid-5% range. If the stock were to trade at those levels, the implied price would be well-above their 52-week high of $20/share, at $25/share. Even if that is too high, consider that the current Wall Street target is about $20/share. This still represents nearly 25% upside potential from current trading levels.
In addition to the upside potential, I also find BNL’s dividend payout as attractive. At the annualized rate, the current yield is approximately 7%. While that may not sound as attractive compared to risk-free alternatives, which are currently providing about 5%, it’s still attractive in relation to much of their peer set. Realty Income, for example, yields about 5.5%. W. P. Carey ( WPC ) provides 6.6%.
With occupancy and collections at nearly 100%, BNL offers attractive upside potential at limited risk. For investors seeking positioning for the long-term, BNL is one name that I still remain bullish on.
For further details see:
Broadstone Net Lease: Over 20% Upside Potential With 7% Yielding Dividend