2023-09-06 09:00:00 ET
Summary
- Since re-instating the dividend, EPR has been growing its AFFO and revenue steadily year-over-year.
- The REIT recently entered into a master lease agreement with Regal Cinemas owner Cineworld amidst the recent bankruptcy controversy.
- EPR pays a monthly dividend and has a low payout ratio of 63%.
- The REIT sector has seen a lot of price volatility, and this could continue in the near term as investors wait for the FED's decision on raising interest rates.
- EPR could face problems in the near and medium term as the writer's strike continue.
Introduction
Before COVID came and changed the movie theater business, many saw EPR Properties ( EPR ) as a top performing REIT. It was trading in the $70's prior to 2020 and then all of a sudden boom the pandemic happened. Not only did COVID change the way we view movie theaters, it changed the way we view almost everything. Although that was 3 years ago, many businesses are still recovering and some of the ones that made it out will never be the same. Movie theaters account for 40% of EPR's portfolio. The company has been restructuring to adapt to consumer spending habits. Even with the pandemic behind them, this may take some time as they are still feeling its residuals effects. Some of their tenants such as AMC Entertainment Holdings ( AMC ) are still considered high risk. Despite all of this, I think EPR presents an interesting opportunity for investors right now.
There's a movie quote that stands out to me. "Just because someone stumbles and loses their way, doesn't mean they're lost forever." Back in the day people enjoyed going to the movies. Especially on the weekends whether it was with their friends or taking someone on a date. That was the thing to do. But people became accustomed to staying home to watch a movie. Streaming services like Netflix ( NFLX ), HBO, and Disney ( DIS ) also played a part. But that's no fault of theirs as movie theaters completely shut down for months. But EPR adapted and overcame as all good businesses should.
EPR Properties has been making a conscious effort to get rid of what they believe to be non-performing assets, and strengthening their theater portfolio. A year ago they had 175 theaters, 65 early childhood education centers, and 9 private schools in their portfolio. Fast forward to Q2 '23 and they have 171 theaters, 62 early childhood education centers, and 9 private schools. Even with streaming services causing disruption in the movie business, moviegoing remains dominant with a stable 25-year revenue compound annual growth rate ((CAGR)) of 3%. But people don't want to just got to the movies, pay for an expensive ticket, and go home 2 hours later. People want more bang for their buck. Why go spend my hard earned money to purchase expensive movie tickets for several people when I can watch it at home for way less?
If you want to get audiences to come back to theaters, you have to give them a reason. Now consumers want to enhance their experiences thanks to COVID. Expanded food & beverage concepts, luxury seating, and the latest technology all play a part in this. Aside from years 2020 & 2021 you can see above leisure experience spending has recovered strongly. So even though those years were bad for businesses, it also helped.
People now realize that anything can happen at any given moment, and what better way to do this with experiences that will you remember forever. Whether that's going to an all-inclusive resort, traveling the world, or just going out for a fun night and socializing with friends and family. Consumers want something they can cherish because they realize life is short.
Back For The First Time
When you hear back for the first time, it makes you think. How can you be back if this is your first time? As mentioned earlier EPR was a premier REIT before COVID came along, and it seems like people forgot. It's basically saying: "I've been here performing for a long time and it's almost as if you investors forgot, so let me show you by getting back to business." EPR is very popular amongst dividend investors. One of the reasons is the monthly dividend. I mean who doesn't want to get paid monthly? They made the switch from a quarterly paying company to a monthly paying one in 2013. Before that they were paying a dividend of $0.75 and trading over $50. Before the flash crash in 2020 they were trading above $70.
And before the switch, EPR was paying a growing quarterly dividend up until the GFC of '08-'09. The company IPO'd in 1997 and quickly grew the dividend from $0.40 to $0.84 before slashing it by 22.5% to $0.65 in 2009. That was a tough time for many companies. S&P dividends dropped by 24% during that time, the worst of any recession going back to the 1940's. So although no one wants to take a pay cut, it was inevitable. But like the old saying goes, "It's not how many times you fall down, it's how many times you get back up.
Are Movie Theaters Doomed?
In my opinion no. Similar to what I wrote about in my article on Simon Property Group ( SPG ), consumers want experience now. Whether that's having a drink while they watch a movie, reclining in comfortable seats, or both. Companies like EPR and SPG understand this, and that's why they're evolving. There was recent controversy with Regal Cinemas and AMC filing for bankruptcy, but AMC seems to have dodged that bullet with the success of Barbenheimer for now. The two movies came out this past July and were instant hits. Additionally, the company reported a small jump in profit and revenue excluding the two movies. AMC and Regal Cinemas have both taken on a lot of debt since the pandemic but EPR and the latter announced they entered into a restructuring agreement with new master lease. This will continue to provide the REIT with stable income with $65 million in annual fixed rent and built-in rent escalators.
Several questions remain. How will EPR fare going forward? Will these issues with movie theaters keep popping up? Or will we get back to the norm of moviegoers excited to go watch the new blockbuster hit on a Friday or Saturday night? For now there will be near-term problems, especially with the recent writer's strike . This is not the first time this has happened. The last one was in 2007-2008 and lasted for 100 days. The one in 1988 lasted about 5 months. This one has been going on for 4 months now. No one knows how long the strike will last but I'm assuming they will all come to an agreement in the near future.
Diversifying & Capital Recycling
EPR continues to see ongoing consumer demand outside of its movie theater portfolio. They saw strong growth in Q2 and management projects even stronger growth going into Q3. Eat & Play revenue was up 9% and EBITDARM up 2% over Q2. They also have construction underway on a new waterpark in Michigan scheduled for a summer 2024 opening. They saw continued revenue growth in membership across their fitness locations while construction and expansion continues on many of their ski & resort destinations. Additionally, the RV park and educational portfolios continue to perform well posting year-over-year increases of 17% in revenue and 25% in EBITDARM.
Furthermore, EPR sold 3 of its KinderCare locations for net proceeds of $18.1 million and a loss of $575,000. At the end of the quarter, they also sold a Cinemax theater in Hialeah, Florida for net proceeds of $9 million and a gain of $747,000. Year-to-date the REIT has generated proceeds of $31 million from dispositions and continue to market 11 surrendered Regal theaters they plan to sell. EPR has a strong management team and I think they will use this capital wisely as they continue to rebrand and restructure going forward.
AFFO & Revenue Growth Since the Dividend Reinstatement
After cutting & suspending the dividend, EPR got back to paying their monthly dividend in the second half of 2021. Below is EPR's AFFO & revenue growth since re-instating the dividend. As you can see the quarterly AFFO is safely covering the dividend amidst of all the theater controversy. Furthermore, the REIT has been steadily growing its revenues. During the same period EPR grew revenues by roughly 55% from $111.8 million to $172.9 million at the end of Q2.
How Strong Is The Balance Sheet?
One of the best assets I think investors should be looking at when making investments right now is a company's balance sheet. Especially one who has been dealing with a lot of headwinds as of late. During Q2 earnings , EPR stated the balance sheet was in great shape and I agree. They currently have $2.8 billion in debt with minimal maturing next year and only $300 million maturing in 2025. All of their debt is either fixed or has been fixed through interest rate swaps. They also had a $100 million in cash and a Net Debt-to-Adjusted EBITDA of 5.0x. 5.5x or below is what I like to see for REITs. Under 5x is even better.
Valuation & Risks
The stock is currently trading at less than $45 at time of writing. Using the GGM I have an intrinsic value of $40. Analysts have a price target of $49.25 and a high of $54. I think investors looking to start a position can nibble here at the current price. In my opinion, if the FED decides to hike rates by another .25 bps this month, the market will react accordingly and stock prices will fall in the short-term before bouncing back. REITs have seen a lot of volatility in the last few months and I think this will continue as long as treasury rates remain high.
Then there's the AMC bankruptcy that has investors worried. Although they've had some recent success with the release of Barbie and Oppenheimer, we are still unsure of the effect the writer's strike will have on the company going forward. Because of its popularity, if AMC did indeed file for bankruptcy, it would most definitely have an effect on the stock as they account for more than 14% of EPR's annual revenue. If this happens, I say the stock price falls below $40 and closer to its 52-week low offering investors a great bargain. I see the REIT coming to some sort of agreement with AMC, similar to the one with Regal Cinemas.
Conclusion
Since re-instating the dividend, EPR has been growing their AFFO and revenue nicely. The REIT sector has faced a lot of volatility over the last several months and investors should be weary of the next FED meeting. If they do decide to raise rates again, REITs could see their prices fall even further as investors look for higher-yielding, less-risky, and safer investments. EPR has had its fair share of problems but the company has been making a concerted effort to strengthen its portfolio. As movie theaters continue to evolve and redevelop to fit changing consumer needs, there will continue to be uncertainty surrounding the stock. Investors who believe in the long-term success of the company should consider buying now and dollar cost averaging in as the sector continues to find its footing. For now, I rate EPR a buy and think REIT prices start to recover in 2024.
For further details see:
EPR Properties: Back For The First Time