2023-03-31 08:20:00 ET
Summary
- Mid-America Apartment Communities has impressive operating fundamentals, with revenue growing faster than expenses.
- It's well-positioned for a potential recession due to exposure to growing secondary markets with lower price points.
- It also carries a fortress balance sheet and pays a well-covered and growing dividend.
With all the talk about interest rates and the potential for economic volatility this year, it's no wonder that many investors are seeking to shelter capital into supposed safe assets such as Microsoft ( MSFT ) and Apple ( AAPL ) and away from the banking sector in general, with even industry stalwarts like Charles Schwab ( SCHW ) trading nearly 40% down from its recent highs.
One asset class that appears to be missed by investors are high quality Apartment REITs, and this brings me to Mid-America Apartment Communities ( MAA ) which I last covered in early January here .
The stock has moved sideways and down since then, dropping by 5.4%, underperforming the 3.6% return of the S&P 500 ( SPY ) over the same time. In this article, I highlight recent developments, provide an updated valuation, and discuss why now may be an even better time to layer into this income growth stock.
Why MAA?
Mid-America Apartment Communities is a large U.S. REIT that's a member of the S&P 500 Index. At present, it has 102K apartment units spread across 16 states and Washington D.C. What sets MAA apart from its large peers such as Equity Residential ( EQR ) and AvalonBay Communities ( AVB ) is its focus on Sunbelt markets across the Southeast and Texas.
These geographies offer the best of both worlds, as they have seen population increases in recent years and have less competition for deals from the big institutional players, thereby resulting in higher initial cash yields on investment.
Moreover, Apartment REITs like MAA are better positioned for rising rate environments, as they come with short-term leases that are generally 1 year in length (compared to 10-year average for net lease REITs). This enables them to adjust rents faster in an inflationary environment.
This is reflected by MAA closing 2022 even stronger than management had expected, with same store property revenue growing by 13.6% YoY during the fourth quarter. Also encouraging, MAA is seeing strong operating leverage at the property level, as operating expenses grew at a slower rate, enabling same-property NOI growth of 17%, outpacing revenue growth.
Notably, MAA carries one of the strongest balance sheets amongst the REIT sector, with a net debt to adjusted EBITDAre ratio of just 3.7x, and is one of a handful of REITs with an A- credit rating from S&P. It also has plenty of liquidity, with $1.3 billion in cash and available capacity on its revolving credit line, and has a low weighted average interest rate of 3.4%.
Importantly, management values balance sheet strength with a stated intention of keeping a net debt to total adjusted assets ratio in the safe range of 30% to 36%, and this sits safely within its covenant on unsecured notes of 60% or below. As shown below, MAA's debt maturities are well staggered by year through 2032, making it less susceptible to the immediate effects of higher interest rates, all while being able to raise rents within a relatively short timeframe in response to inflation.
Looking forward, MAA is expected to achieve 6.8% Core FFO per share growth this year, driven by both organic growth and by new projects coming online. Forward growth beyond this year is also supported by muted construction activity (i.e. less competition), as higher interest rates have priced out more leveraged players. This is against the backdrop of a strong labor market, as noted by management's comments on the recent conference call :
We're not seeing any real evidence, significant evidence building in any of our markets at this point relating to employment weakness or people losing jobs. We're not having any kind of issues surrounding collections. Migration trends continue to be very positive.
If [a recession] does happen, and if we find ourselves in a more severe economic contraction, where broadly the employment markets start to really pull back, we think that that's where the sort of defensive characteristics that we've built into our strategy really start to pay a dividend for us and that's where our secondary markets come into play on lower price point of our product comes into play.
Importantly for dividend investors, MAA pays a respectable 3.8% dividend yield, which is well covered by a 62% payout ratio, based on management's 2023 Core FFO/share guidance. It also comes with a 7% 5-year dividend CAGR and 12 consecutive years of dividend growth. Should MAA be able to keep up with its FFO/share growth streak, it could reasonably deliver long-term total returns in the 10% to 11% range.
As such, I find MAA to be reasonably attractive at the current price of $148.48 with a forward P/FFO of 16.2, sitting below its normal P/FFO of 17.1. Analysts have an average price target of $176 , translating to a potential 22% total return over the next 12 months.
Conservative investors seeking an even higher yield may want to consider the Preferred Series I ( MAA.PI ). This preferred share currently yields 7.7%, and while it does trade at a 9% premium to liquidation value, earliest call date is not until October 1, 2026. This series is also cumulative, which means that preferred stock owners will need to be paid back any missed dividend payments.
Investor Takeaway
MAA is a great option for investors looking for exposure to a high quality apartment REIT that has a fortress balance sheet, solid growth and operating leverage, and a healthy dividend yield. The company's exposure to growing secondary markets also sets it up well for a potential recession due to its lower price points. Considering all the above, MAA appears to be a wonderful stock trading at a reasonably attractive price for DGI (dividend growth) investors.
For further details see:
Mid-America Apartment: Hard To Go Wrong With This DGI Stock