Streetwise

Lauren Rudd

Sunday, October 13, 2013

Analyzing a REIT

The financial markets are buffeted by events in much the same way that a sailboat finds itself at the mercy of the wind. Moreover, the waves of volatility often reach dramatic proportions. Such is the nature of the beast. So it is not surprising that the oscillation between anticipation and disappointment over the current economic outlook, both domestically and globally, is roiling the investment waters.

Nonetheless, Wall Street still offers up the greatest potential for accumulating wealth. Consider a recent Wall Street article regarding the gains realized by Warren Buffett as he took advantage of the 2008 financial crisis by tossing lifelines to a handful of blue-chip companies during the financial crisis.

Five years later the payoff on those deals is becoming clear: $10 billion and counting. Buffett approached that figure after he collected another hefty payment recently, bringing to nearly 40 percent the pretax return on his crisis-era investments, according to the Wall Street Journal.

Once again Buffett has illustrated the truth of one of his favorite investing axioms: "Be fearful when others are greedy, and be greedy when others are fearful."

Buffett has gone on to say, "In terms of simple profitability, an average investor could have done just as well investing in the stock market if they bought during the panic period."

Buffett was referring to the period beginning in the fall of 2008 when the stocks of some of his favorite companies, including Wells Fargo and American Express, fell to historic lows. "You make your best buys when people are overwhelmingly fearful,” Buffett said.

So where do you begin? One possibility might be to consider National Retail Properties (NNN), a real estate investment trust (REIT). When I last wrote about NNN a year ago, my earnings estimate was $1.70 per share with a 12-month forecasted share price of $35 per share.

The Company’s shares reached a high of nearly $40 in the mid-May time frame. However, since then the share price has declined to a recent closing price of about $32 per share. So why should you consider researching this stock?

One key reason is that within the commercial real estate world, single-tenant freestanding properties are the jewels and are usually leased for 10-20 years. NNN’s holdings are mostly single-tenant and it owns higher quality real estate than the national average. And with 98 percent of its portfolio committed to long term leases, it is not being significantly affected by the sluggishness in the economy.

On average, REIT balance sheets are made up of 61 percent equity, 3 percent preferred equity and 36 percent debt. When evaluating REITs, in lieu of earnings per share you use a metric called Funds from Operations (FFO) and Adjusted Funds from Operations (AFFO) when analyzing a REIT’s cash flow from operations.

FFO is defined as net income less gains or losses from property sales plus depreciation of real estate and amortization of capital expenditures. AFFO goes a step further and subtracts routine expenditures that are required to maintain a portfolio of properties.

For the first half of 2013, NNN reported FFO of $0.92 per share, an 8.2 percent increase over 2012's $0.85 per share. In its forward looking guidance, NNN announced an increase in 2013 FFO guidance from a range of $1.85 to $1.89 to a range of $1.86 to $1.90 per share. 2013 AFFO is estimated to be $1.94 to $1.98 per share.

The Company’s FFO guidance equates to net earnings of $1.02 to $1.09 per share, plus $0.81 per share of expected real estate depreciation, amortization and impairments. In addition, NNN raised $877 million of long term capital during the first half of the year which positions the Company in an excellent position to fund future acquisitions.