2023-07-05 06:33:31 ET
Summary
- Four Corners Property Trust owns and operates primarily restaurant-focused properties net leased to top operators, such as Olive Garden and Longhorn Steakhouse.
- The company has recently engaged in several acquisitions, adding to their quality restaurant portfolio as well as to their growing auto service and medical retail holdings.
- Despite the activity, I believe the company needs to further increase their sector diversification.
- At present, the current portfolio mix and the shares are fairly valued, in my view.
Four Corners Property Trust ( FCPT ) has been on an acquisition tear since their last earnings release . This may not be enough, however, for investors eager for movement in the share price needle in response to the heightened activity.
FCPT Key Stock Metrics
Over the past year, FCPT stock has lost about 6%. YTD, the losses are at a narrower 2%. This is better than some of their net lease peers. Realty Income ( O ), for example, is down by over 5.5% YTD. Shares in NNN REIT ( NNN ), meanwhile, are down nearly 6.5% over the same period. Still, the losses are a disappointment considering broader market gains elsewhere.
Seeking Alpha - Basic Trading Data Of FCPT
The underperformance isn't necessarily due to their operating results. On the contrary, the metrics are largely in-line with expectations . Occupancy and rent collections both remain just shy of 100%. And there are no apparent concerns with their restaurant-focused tenant base.
In fact, 61% of their portfolio brands are investment-grade ("IG") rated. In addition, the tenants boast of total rental coverage of 4.6x, with Darden ( DRI ) at 5.7x and all others at a healthy 2.7x.
Looking at their two largest operators, Olive Garden and Longhorn Steakhouse, who together account for over 55% of annualized base rents ("ABR"), each reported same-store sales growth of 4.4% and 7.1%, respectively, surpassing industry averages. Margins, as well, came in higher than last year due partly to moderating labor and commodity costs.
In addition to a fully occupied portfolio and healthy operator metrics, FCPT's lease maturity schedule is also weighted more heavily towards later years. Currently, their weighted average lease term ("WALT") is about eight years. Though this adds an element of stability to their reoccurring cash flows, it also limits the upside potential in rental rate growth.
June 2023 Investor Presentation - Lease Maturity Schedule
FCPT's Acquisition Activity
Following a slower start to the year in acquisitions, FCPT has been highly active of late. On the date of their earnings release, Patrick Wernig, FCPT's Managing Director of Acquisitions, noted that they closed on over +$25M of volume in the month of April. This exceeded the entire volume completed in Q1.
They have since completed over +$100M in acquisitions over the last two months, as highlighted in recent press releases . The most notable transaction was their definitive agreement to acquire up to 14 DRI restaurant properties for a total purchase price of +$85M. This is expected to close in the third fiscal quarter.
The purchase with their longstanding partner, DRI, will add 13 Cheddar's Scratch Kitchen ("Cheddar") properties to their portfolio and one Olive Garden property. The addition of Cheddar will support their retail brand diversification efforts. It will also increase their geographic diversification by adding to a few underrepresented areas in their portfolio, such as Tennessee and Kentucky.
Aside from the tenant and geographic diversification, the purchase doesn't provide much to be excited about. The initial term of the lease is 13 years, and the annual escalator is just 1.5%, well below long-term inflation expectations .
The acquisition also simply adds to their restaurant portfolio as opposed to expanding out into other areas, such as medical retail or auto service. Sector diversification is important because it would provide a protective buffer against operator or sector deterioration. While their brands have proved their staying power through changing business cycles, there is no guarantee that they will power through future downturns.
In recent periods, FCPT has expanded to other sectors. In Q1, for example, 71% of their activity was geared to medical retail and 24% was attributable to auto service. And at present, about 8% and 4% of their ABR is derived from auto service and medical retail, respectively.
The representation of these property classes is positive, but FCPT could benefit investors by increasing the share further in future periods. The greater weighting of transactions at the beginning of the year is a start, but Wernig indicated that the forward pipeline is likely to even out over the course of the year, with perhaps a slightly greater mix to medical retail than in prior years.
Is FCPT Stock A Buy, Sell, Or Hold?
In my view, FCPT is priced accordingly based on their current portfolio composition. In Q1 of fiscal 2019, shares were valued at an implied cap rate of 4.9%. It has since expanded to 5.9%. This isn't viewed as the widest disconnect, especially considering the rise in interest rates. Recent surveys have also indicated that cap rate estimates are up anywhere between 50 to 70 basis points. FCPT's current implied rate reflects this.
Nevertheless, at a 5.5% implied cap, shares would be valued at about $30/share. That's right about where shares traded prior to the pandemic. It's also just above the top end of their 52-week range, which was attained in the middle of fiscal 2022.
For shares to rise to these new highs, FCPT's sector diversification will likely need to increase. Their exposure to auto service, for example, would need to rise to about 10% of ABR from 8%. Medical retail holdings should also trend to the upper mid-single digits. I believe this would warrant a reassessment of current valuations.
FCPT has made headway in branching away from restaurants, but investors would likely be better off waiting for further updates from management on their acquisition progress in their second half conference calls.
Shares do come attached with a well-covered dividend that's currently yielding over 5%. But in today's rate environment, the yield isn't viewed as attractive enough for income investors. And though shares have benefitted from limited volatility, their operator and sector concentration does expose them to heightened downside risk.
While shares are worth a continued watch, they aren't yet appetizing enough for investment.
For further details see:
Four Corners Property Trust: Recent Acquisitions May Not Result In Material Upside