2023-07-10 09:00:00 ET
Summary
- Vornado Realty Trust shares have climbed 50.28% to $18.50 after a multi-decade low, and the company is expected to benefit from SL Green Realty's sale of a 49.9% stake in their 245 Park Ave building.
- VNO has a strong liquidity position, with $1.31 billion in on-hand cash liquidity and $2.63 billion in investments in partially owned entities, allowing it to weather rising interest rates and debt loads.
- Despite risks such as a potential resurgence in work from home, companies downsizing their footprint.
Earnings season is upon us, and Vornado Realty Trust ( VNO ) reports on 7/31/23 post-market . The higher rate environment has been troublesome for REITs, and the combination of debt refinancing and work-from-home or hybrid work still being relevant has negatively impacted office REITs. In recent months, outlooks of doom and gloom have been associated with office REITs, especially those exposed to San Francisco. Over the past year, VNO declined to a valuation not seen since the 1990s, as it fell further than it did during the financial crisis. Shares fell -81.83% from $67.78 to $12.31 during May of 2023. Since making its 52-week and multi-decade low, shares of VNO have climbed 50.28% to $18.50. Since my first article on VNO ( can be read here ), shares have climbed 22.44% compared to 6.6% for the S&P 500. I wrote a 2 nd article on VNO ( can be read here ) as I revisited my investment thesis after they suspended the dividend, and shares have rallied 35.93% compared to 4.98% for the S&P 500 since the publication date of 5/31/23. SL Green Realty ( SLG ) delivered an adrenaline shot to office REITs on 6/26/23 when they announced a 49.9% stake sale in their 245 Park Ave building. Since the SLG news, VNO has traded up 27.33%, and I feel the momentum will be carried over into earnings. While some have made sizable profits going against the grain, investing in VNO could still deliver large amounts of capital appreciation for long-term investors, and I am still buying shares of VNO And SLG.
Why the SL Green news is important for Vornado
SLG recently announced that it sold a 49.9% stake in 245 Park Avenue to a U.S. affiliate of Mori Trust Co., Ltd. at a gross asset valuation of $2.0 billion. 245 Park is a 1.8 million square foot building on the Park Avenue corridor between 46 th and 47 th Street. Putting speculation aside what may or may not occur regarding rates, work structures, and debt refinancing, SLG just sold a joint venture interest at a $2 billion valuation for the 245 Park asset. SLG just took in $1 billion from the sale and reset the market for building valuations in NYC.
A rising tide lifts all boats, and, in this case, VNO is an indirect beneficiary of the SLG deal. Despite the headlines and any opinions or speculation about the commercial real estate industry, especially in NYC, SLG just set the market on valuations. SLG has jumped from roughly $23.55 to $31.47 since the news was released, and its market cap is still under $2 billion. As of last quarter, SLG had $4.98 billion in total equity on the books and a book value per share of $65.84. At the close of the market on 7/7/23, SLG’s share price traded at a -52.2% discount to book, and its market cap was valued at a -61.25% discount to the equity on its balance sheet. SLG had a preferred equity investment of $195.6 million in 245 Park , and on 9/12/22, they announced the acquisition of 245 Park. The SLGs 2022 annual report stated that SLG closed on the acquisition of 245 Park at a gross asset valuation of $2 billion. Less than a year later, SLG was able to command the same valuation despite the doom and gloom narrative. Provided that SLG has many trophy properties across NYC and its only exposure is NYC, this is a likely indication that its equity and book value remains unchanged, and if that is true, then it should hold true to VNO also.
VNO owns and operates almost 20 million square feet of office and street retail in NYC and is revitalizing the Penn District . On May 2 nd , The Post reported that Ken Griffin inked a deal with Vornado and Rudin Management to form a joint venture partnership that will give Citadel room to grow in NYC. Citadel had previously too a 10-year master lease on Vornado’s 350 Park Ave, which has 585,000 sq feet where rent started at $35 million per year with rate escalators. Citadel took out a master lease on 40 E. 52 nd Street with Rudin Management. Both buildings are expected to be empty except for Citadel over the next decade, and Citadel is looking to tear down both buildings and build a 1.7 million sq foot skyscraper where they stand. VNO and Rudin are purchasing 39 E. 51 st for $40 million to enlarge the footprint for Citadel’s massive project. The arrangement between Citadel, VNO, and Rudin is that Griffin has the option to buy VNO and Rudin out for a $1.4 billion sum by June 2030 and develop the tower himself, while VNO and Rudin also have the ability to require Griffin to buy their stakes for $1.2 billion. Between the SLG news, VNO’s Penn District project, and the Citadel partnership, NYC isn’t lacking investment, and there is still significant interest for Class A properties in the city that never sleeps.
At the close of business on 7/7/23, VNO traded for $18.50 per share with a market cap of $3.65 billion. As of VNO’s Q1 earnings, its book value per share is $23.50, and there is $6.36 billion in total equity on the books. This means that VNO is trading at a -21.28% discount to book, and its market cap trades at a -42.61% discount to the equity on the balance sheet. If my logic on SLG is correct, then the value of VNO’s assets should remain close to unchanged, making its book value and equity accurate. This would mean that the gap between VNO’s current valuation, its book value, and equity is an opportunity, especially with revitalized assets in Midtown West under construction. I think that VNO could ride SLGs coattails into earnings, and these could be 2 of the stronger office REITs in the sector.
Debunking the interest rate and debt fears in regard to Vornado
Don’t get me wrong, there are certainly REITs that are under pressure due to rising rates and their debt loads. In my opinion, VNO just isn’t one of these companies. VNO finished Q1 2023 with $890.96 million in cash on the books, with another $142.99 million in restricted cash, and $276.65 million in U.S. T-bills. This places their on-hand cash liquidity at $1.31 billion, and VNO has another $2.63 billion in investments in partially owned entities.
Looking at VNO’s consolidated debt maturities, they have $22 million of debt maturities coming due in 2023, and another $396 million in 2024. The Fed has indicated that there will be 2 more rate hikes, but the St. Louis Fed indicates that rates will decline to 4.6% in 2024 and 3.4% in 2025. If VNO doesn’t add a single dollar of cash to the balance sheet, they could pay off 2023 and 2024’s maturities and walk into 2023 with $892.6 million of on-hand cash liquidity. Rates are expected to be 3.4% in 2025, which means VNO has the liquidity to ride out the current storm and wait to refinance at more favorable rates. VNO isn’t in the same situation as other REITs, and the financial picture negates the current fears surrounding office REITs
Risks to my investment thesis
There are certainly risks to my investment thesis, and I could be 100% incorrect. VNO could see a resurgence in work from home, companies downsizing their footprint when the leases term end, or companies outright exit the state to lower tax havens. We could also see a higher for longer rate environment, and the St Louis Fed projections on rate cuts could be wrong. If the Fed holds rates higher for longer and a 5%+ environment extends into 2026 or 2027, then VNO would need to refinance at rates that could be unfavorable and put a strain on its balance sheet. Real estate is also an asset class that could go through a severe downturn, leaving the assets less valuable, which could cause issues for refinancing. REITs are a risk, and if you invest in REITs you should think about your risk tolerance and understand the markets where the REIT operates.
Conclusion
Earnings season is here, and VNO reports in less than a month. Office REITs got a bump from SLG’s sale, and VNO is up 50.28% off its May lows. The SLG sale validated the asset value from prime NYC real estate, and VNO owns and operates some of the best assets throughout Manhattan. Based on the book value and equity on VNO’s balance sheet, I think the current share price is undervalued, and VNO could benefit from SLG reporting before them this earnings season and continue to ride the wave higher into their earnings report. VNO is in a strong liquidity position compared to its debt maturities, and if VNO provides favorable commentary around its dividend and share repurchase plan, I wouldn’t be surprised if shares exceed $25 sometime this summer. VNO is a play on Manhattan real estate, and I think this is a market that will thrive in the future.
For further details see:
Vornado Realty Has Steam Heading Into Earnings After The SL Green News