EPR Properties (NYSE:EPR) looks both attractive and risky. In this article I will show you why I think the company is more attractive than it is risky by comparing it to the REIT market and some of its peers.
For the readers not familiar with the company, EPR Properties is a net-lease Real Estate Investment Trust (REIT) with a niche business in the experiential property market. The company owns 21.5M square feet of leasable area in this sector (and a small portion in the educational sector). Management is currently working on reducing its stake in the theatre business and divert capital to other experiential sectors (e.g., Top Golf, Ski resorts, attraction parks, etc.). Management informed about a healthy pipeline which is currently limited by the rising capitalization rate, but enough investment opportunities remain.
Now that we are all on the same page, we can continue to the analysis. Some peers in the real estate sector for EPR are companies like: Realty Income (NYSE:O), Spirit Realty Capital (NYSE:SRC) and Gaming and Leisure (NASDAQ:GLPI) Properties Inc (GLP). For this analysis I will compare the company to these three peers in terms of performance. For financial health assessment I will use some commonly used definitions in the REIT world.
EPR's Performance against its Peers
The table below gives a summary of the performance ratios for all companies.
So at the top, we evaluate the rent revenue against cost. Then, profitability and pricing is checked. At the bottom, two real performance indicators are evaluated. We can see that, even as the cap rate is rather high, EPR realizes solid returns (Return on Real Estate Assets (RO(RE)A) and Return on Invested Capital (ROIC)), while its taxation value (P/AFFO) is the lowest, indicating that the profitability of the company might be undervalued by the market. This undervaluation is furthermore acknowledged by a price-to-FFO chart.
Here, the stock price (left axis) is compared to the TTM FFO per share (right axis) both axes are scaled logarithmically to represent the 5-year mean P/FFO multiple of 14.9x. Currently, the fair value to this multiple equals $69 per share.
This profitability is not incidental, since EPR has been seeing solid returns on investment capital against cap rate over the last five years. This is important since an investment will increase value when it is returning at a rate above the cap rate, where it will destroy value when it is returning at a rate below the cap rate.
Then, it is also good to note that the WALT value is not at the bottom of these values but also not at the top. If the WALT is too low, it might oppose a risk to periodic rent collection and dividend payout. If it is too high, the company is not able to actively adjust their rents to market conditions, which could have an adverse effect on the business as cap rates rise.
Overall, I would say that EPR is well positioned against its peers in terms of profitability and pricing. Its WALT values make for a stable rent collection with the ability to hike rents periodically. Its niche market has managed to create returns steady above the cap rate and thus actively adding value. SRC is also performing good and surely deserves a deeper dive.
What about Financial Health?
REITs have a reputation to be highly leveraged and are therefore considered more risky than common stocks. There are four ratios I like to analyse the health of a REIT:
- net debt to adjusted EBITDAre: a value above 6x is considered not healthy,
- net debt to real estate assets: 50% is dangerously leveraged,
- net debt to AFFO: 15x is high risk,
- interest expense coverage by AFFO: 3x is low risk.
Using these standards, I have analysed the ratios for the last five years.
It can be stated that overall, financial health has been improving, although it remains close to the high-risk areas. Still, I think, overall, the financial stability is increasing even through 2020. This brings us to the next topic: risk.
High Dividend but How Risky is it?
For the risk performance I check the Sharpe Ratio and Calmar Ratio for a period of 1000 days. Here, I added the main indices (S&P500, Dow Jones and Nasdaq) and the vanguard REIT ETF (VNQ) as a reference.
The data below shows the current Sharpe Ratio of the analysed data. Note that the higher the Sharpe Ratio the better.
Here, we can first see that REITs have underperformed against the broader market indices. But, we can also see that EPR has performed relatively well compared to the REIT ETF (VNQ) and its peers.
When we check the influence of maximum drawdowns over the period on EPR's risk adjusted performance using the Calmar Ratio, we see it has been a little more vulnerable to drawdowns in stock price.
But, this vulnerability is manageable and inline with the REIT ETF value and offset by the high dividend payout of EPR Properties.
Conclusion
Overall, EPR Properties is strongly positioned against its peers and the REIT market. Its stable profitability and success in its niche experiential real estate market makes it an attractive business to invest in. Management seems capable to allocate capital to consistently realize return rates above the cap rate, while improving and ensuring financial stability. The 8%+ dividend yield hints to higher risk, where in reality, the stock has good risk adjusted performance. The current stock price implies that it trades a little below its 1000 day mean.
But, since the stock is a little more vulnerable to drawdowns, it might be attractive to wait for a drop in stock price before jumping into it!
Overall: good performance, strong financials, capable management and a good balance between dividend returns and risk.