2023-07-05 13:30:12 ET
Summary
- Federal Realty Investment Trust trades at an undemanding valuation and at a discount to its historically normal valuation.
- Federal Realty offers a nice dividend yield of 4.5% and will likely continue to raise its dividend over time.
- The company looks like an attractive investment at current prices.
Article Thesis
Federal Realty Investment Trust ( FRT ) is a high-quality real estate investment trust ("REIT") that is also a Dividend King thanks to 55 years of dividend increases. Today, FRT offers a nice dividend yield of 4.5% and trades at a very undemanding valuation. Combined, these factors make FRT look attractive, I believe.
Federal Realty Trust Is A Strong Company
Federal Realty Trust is a real estate investment trust that invests in retail and mixed-use assets. While some retail commercial real estate properties are having major problems, that does not hold true for all assets in this space. Malls are performing worse compared to shopping centers, for example, and even among malls, one has to differentiate between lower-quality ones that are located in areas with low population and low spending power, and higher-quality malls that are located in densely-populated areas where consumers have a lot of discretionary income - such as the ones owned by Simon Property Group ( SPG ). Federal Realty Trust's assets are better than malls from a "property type" perspective, and they are largely located in attractive markets:
We see that FRT's portfolio is concentrated on large urban markets. The company owns assets in California, on the East Coast, and in some additional cities such as Phoenix, Chicago, and Miami. While California's major cities are experiencing some headwinds from people moving to other states and from work-from-home trends in the tech industry, the average household income in the markets FRT addresses remains high. High household incomes, high population density, low competition, and high barriers to entry (due to high prices and low available space) are factors that are beneficial for Federal Realty in all the markets it is active in.
Higher population density means that there is a large number of consumers living nearby, which makes FRT's retail space attractive to potential tenants. High household income results in a lot of spending not only on consumer staples but also on discretionary consumer goods, which, again, makes FRT's properties attractive for tenants. This, in turn, results in high occupancy rates and high average rent per square foot, which makes FRT quite profitable.
Looking at the asset types in FRT's portfolio, we see the following:
Mixed-use assets make up around two-fifths of FRT's overall portfolio, with super regional centers being the second-largest contributor. Grocery-anchored shopping centers make up around one-fifth of FRT's assets. Overall, there is a clear focus on assets that are rather resilient versus e-commerce. Mixed-use assets, where people can shop but where they can also live, eat, and work, are resilient versus Amazon ( AMZN ) and other online retailers - which cannot be said about lower-quality malls, for example. Retail assets with a grocery component are also resilient - consumers don't buy their bread or vegetables on Amazon, after all.
While Federal Realty Trust also has some office assets, which can be seen as somewhat riskier in the current environment, office properties make up just 12% of the company's rent - even when this segment experiences headwinds, it will hardly be a major threat for the company. It is also important to note that the majority of FRT's office space has leases running through at least 2030, thus there is little threat from near-term maturities. Office tenants include Bank of America ( BAC ), Cisco ( CSCO ), Puma ( PUMSY ), and similar successful large-cap companies, which reduces the counterparty risk in this space.
With its ongoing investments in mixed-use assets, where a residential component makes the property especially resilient, as people always need a place to live, Federal Realty's portfolio should become even safer going forward.
The company also has a healthy balance sheet, which is important from a risk perspective as well. Federal Realty Trust has a BBB+ credit rating, solidly in the investment grade area. Net debt is equal to around 6x EBITDA, which would be quite high for many companies, but which is far from risky for a real estate investment trust with resilient assets. Federal Realty Trust managed to lock in low-ish (compared to where they are now) interest rates, as around 85% of debt is fixed-rate. Last but not least, the company has more than $1 billion of liquidity between its current cash position and the unused portion of its credit facility.
FRT: Growth, Dividends, And An Undemanding Valuation
Federal Realty Trust is a quality business that isn't risky or especially cyclical. Importantly, the company has also delivered compelling growth in the past, and it seems likely that future growth will be meaningful as well.
In the past, Federal Realty Trust has grown a lot faster compared to peers such as Kite Realty Group ( KRG ) or Regency Centers ( REG ). While real estate isn't a growth industry, Federal Realty Trust has averaged funds from operations ("FFO") per share growth rate of 4%-5% over the last 15-20 years, leading the peer group easily.
This growth wouldn't be attractive when combined with a low dividend, or, even worse, no dividend. But when one combines a mid-single digit FFO per share growth rate with a dividend yield of 4.5%, things look different. If Federal Realty Trust were to grow its FFO per share by 4.5% in the future, too, then one could assume that total returns will be in the 9% range going forward, adding the current yield to the expected growth rate. Of course, changes in the company's payout ratio could have an impact on total returns, and this simplified calculation also assumes no changes in the company's valuation. But this example, nevertheless, shows that Federal Realty Trust could be a quite rewarding investment going forward.
When we factor in the REIT's valuation, total returns could be even better in the future:
Today, Federal Realty Trust trades at an enterprise value to EBITDA multiple of 18, using estimates for the current fiscal year. Over the last five years, the valuation was ~10% higher, on average. Over the last ten years, the valuation was around 25% higher, on average. Compared to the historical valuation range, Federal Realty Trust thus looks rather inexpensive today. We can also look at an additional way to value Federal Realty's stock in order to see whether the suggested undervaluation, based on the company's EV to EBITDA multiple, is confirmed. Over the last decade, the dividend yield looked like this:
While Federal Realty Trust offered an even higher dividend yield during the peak of the pandemic, it is pretty clear that the dividend yield was lower than it is today for most of the last decade. The dividend yield was mostly in the 3% range, while it is substantially higher today. With the dividend yield being way higher than it was, on average, in the past, it looks like it is a better-than-average time to add or buy shares of Federal Realty Trust.
The company's dividend properties are quite attractive: Not only has the REIT increased its dividend by 55 years in a row, but the dividend growth rate has been quite compelling over that time frame, too. Over more than five decades, Federal Realty Trust has averaged a dividend growth rate of 7%. With Federal Realty Trust likely growing a little less than that in the future, it would not be surprising to see the company grow its dividend at a somewhat slower pace going forward, but with a dividend payout ratio in the mid-60s, the company could also opt for a somewhat higher dividend growth rate, relative to its FFO growth rate, via an increasing payout ratio.
Final Thoughts
Federal Realty Investment Trust is a high-quality REIT that is currently trading at an undemanding valuation of just 15x forward funds from operations. The REIT also looks inexpensive when we compare its current valuation to how the company was valued in the past.
Investors can lock in an above-average dividend yield at current prices, and I believe that there is a good chance for high-single-digit annual returns going forward - and potentially even more, if FRT's valuation expands again.
For further details see:
Federal Realty: High-Yield Dividend King On Sale