Overcapacity Or Opportunity? 2 Retail REITs To Bet On

The end of Cyber Monday, a day which witnesses the single largest volume of online purchases, is possibly a good time to take stock of e-commerce’s fortunes. Fresh estimates from Adobe Systems Inc. (NASDAQ:ADBE) indicate that expenditure via the e-commerce route registered a near 17% increase to hit $6.6 billion this Cyber Monday.

In fact, the holiday season as a whole will see online expenditure touch nearly $107 billion, more than 11% of total retail holiday sales. While this is great news for the likes of Amazon.com, Inc. (NASDAQ:AMZN), brick and mortar retailers are an embattled lot. But the fallout of the e-commerce assault isn’t limited to this segment alone. Retail REITs are also increasingly feeling the heat.

General Growth Property’s Dilemma

The problems faced by U.S. retail REITs are best illustrated by the case of GGP, Inc. (NYSE:GGP) . On Nov 11, GGP received a $15 billion offer from Brookfield Property Partners, aimed at buying the shares it still doesn’t in this major mall owner.

Reportedly, GGP had already been in talks with Brookfield about going private. But Brookfield offered to pay only $23 per share, only marginally higher than Nov 10’s closing price of $22.20 in a cash and equity deal.

This case serves to illustrate how acute the situation seems for retail REITs. This Chicago-based REIT is believed to be well above its peers in terms of the quality of its real estate portfolio. Most of its malls are considered to be “Class A” level, those which generate the highest level of sales per square foot.

Has E-commerce Caused Retail Overcapacity?

But GGP is already facing a large number of problems, store closures and retail bankruptcies to name a few, all of which are a fallout of the switch to online purchases. Share prices of several major retail REITs are down year to date. This includes the likes of Simon Property Group (NYSE:SPG) , Federal Realty Investment Trust (NYSE:FRT) and Kimco Realty Corporation (NYSE:KIM) which have lost 12%, 8% and 27.7% over the last one year.

And yet, most of these REITs enjoy occupancy levels of 95%, according to most industry estimates. This means that demand from multiple sources remains high. In fact, year to date leasing volumes for Kimco Realty are at a record high, a fact which serves to illustrate the sector’s inherent strength. Rental prices and leasing volumes continue to remain high and earnings have been mostly promising.

Is Diversification the Way Forward?

Coming back to the GGP story, a deal with Brookfield would provide the mall owner with an opportunity to diversify across various segments of the REIT industry. For instance, it could follow a mixed usage strategy, putting office space and apartments into several of its properties. This is because Brookfield itself holds a more diversified real estate portfolio, including retail stores, offices and multifamily housing.

This is likely a situation which retail REITs across the board are facing. As brick and mortar retailers increasingly come under fire, retail REITs are having to make rapid changes, sometimes only in order to combat falling share prices. Though stock fundamentals continue to look solid, activist investors are demanding rapid changes in the face of the e-commerce boom.

Price Declines Likely Overdone

There is no denying that the retail REIT segment is facing a number of challenges. Among them is increased competition, both at malls and at shopping centers anchored by groceries. This could lead to a significant decline in margins for retailers who would in term pay lower levels of rent.

REITs are suffering because it is difficult to predict the outcome of the so called retail apocalypse. But strong earnings and leasing volumes indicate that the extent to which prices of retail REIT stocks have declined is difficult to justify.

2 Retail REIT Choices

Despite the troubles plaguing the industry currently, retail REITs remain solid prospects. Strong fundamentals imply that price declines are overdone. This is why investing in select retail REITs remains a good option.

A favorable EV/EBITDA ratio is desirable for any REIT given the large levels of debt which they utilize to funds their operations. Both of our picks have EV/EBITDA levels which are lower than the industry average of 23.3. Additionally, each of them has a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Urstadt Biddle Properties Inc. (NYSE:UBA) is a retail REIT whose operations are centered around high quality malls surrounding New York City.

Urstadt Biddle Properties has a dividend yield of 4.6% Its EV/EBITDA ratio of 15.3 is lower than the industry average of 23.6.

Cedar Realty Trust, Inc. (NYSE:CDR) is a fully-integrated real estate investment trust which focuses primarily on ownership, operation, and development of supermarket-anchored shopping centers in coastal mid-Atlantic and New England states.

Cedar Realty Trust has a dividend yield of 3.3% Its EV/EBITDA ratio of 16.5 is lower than the industry average of 23.6.

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