Welcome to the 2CHYP quarterly analytics. Each quarter we analyze our holdings both at a portfolio level and at a company level.
PDF link: 2CHYP 1Q18 analytics
For information and analysis on each company within the portfolio, click the links below to open 2-page profiles. Each profile contains our price target, company information, and an elevator thesis.
Core Civic (CXW)
PDF: CXW Company Profile 1Q18 (CXW)
Core Civic (CXW) just keeps getting cheaper despite improving fundamentals. I think the market is looking for the wrong thing in anticipating help from increased spending on prisons in the budget. When the budget was announced without an added prison package CXW and GEO both sold off. What the market is missing here is that private prison operators like CXW are the low cost provider. Per diem costs per detainee are significantly lower for CXW than for public prisons. This means that in the presence of constrained budgets, the government is MORE likely to contract with private prisons. CXW is also making it work at the state level with sizable new contracts. This stock is entirely uncorrelated fundamentally with other REITs so it makes a great diversifier while also having potential for an individually strong return.
Global Net Lease (GNL)
PDF: GNL Company Profile 1Q18 (GNL)
Global Net Lease (GNL) has a strangely volatile market price for a company with flat FFO for the foreseeable future. In this environment, the market is looking for growth, so the companies that are not growing are getting punished. We tend to be indifferent to this kind of value, caring instead about the magnitude. Any stream of future cashflows has value that can be discounted to the present and in GNL's case, the cashflows are particularly transparent. These cashflows are locked in with contractual revenue with high credit quality counterparties. The only way one can look at this stream of cashflows and arrive at the market price is if they are using a massive discount rate. When using a discount rate more commensurate with the level of risk, the fair value seems to be significantly above market price.
Government properties Trust (GOV)
PDF: GOV Company Profile 1Q18 (GOV)
Government Properties Trust (GOV) is disliked for its external manager RMR which has a history of misalignment with shareholders. Generally speaking, they operate to increase AUM rather than to increase shareholder value. This detracts materially from the value of GOV, but there is still a finite amount of discount that should be applied. I think the discount should be around 20%, but the market is pricing in closer to 50% at today's prices. In other words, I think management will destroy some value, but the property portfolio generates enough cashflow that even with some value destruction the fair value is above today's price. This is not a glamorous investment, but the value is sufficient to make it work on a risk adjusted basis.
Gramercy Property Trust (GPT)
PDF: GPT Company Profile 1Q18 (GPT)
Gramercy Property Trust (GPT) is the deep value play of the industrial sector as it is being valued amongst triple net peers despite a portfolio that is nearly 80% industrial. FFO/share growth has not been impressive lately as the company has been selling office to buy industrial which generally has a lower cap rate. The near term dilution from the property recycling combined with delevering has painted a bleak FFO picture for GPT. This was neither poor performance nor a mistake as the quality gains will shine in the long run. Now that leverage is near target and the transition is complete, strong industrial property performance can shine through. Transitions of this magnitude take years to pay off and the market simply did not have the patience, so GPT's price has suffered. Once growth turns positive we expect the market to once again embrace GPT.
Hersha Hospitality (HT)
PDF: HT Company Profile 1Q18 (HT)
Hersha Hospitality (HT) is one of the more expensive stocks in 2CHYP on a relative basis as it trades fairly close to the median multiple of its sector. Its operations, however, are well above median with Hersha's hotels outperforming their submarkets. Hersha has simultaneously increased its NAV and its RevPAR through a combination of dispositions, share buybacks and luxury hotel acquisitions. If we are truly in a rising rate environment as everyone seems to be fearing, hotels are a great place to be.
Iron Mountain (IRM)
PDF: IRM Company Profile 1Q18 (IRM)
In late 2017, Iron Mountain (IRM) was a $40 stock when it issued equity to finance a synergistic data center acquisition. At that time it was hard to find a bear, but there just wasn't enough demand to absorb the new shares. IRM dropped sharply on the issuance and fell precipitously in the following months. It was a GARP stock at $40 with a reasonable valuation. Today, it has the same growth potential, but at a value multiple. IRM's legacy business is still growing and its hybridization of physical and digital data storage and protection is well positioned for a future wrought with hackers. This company has no business trading around 11X forward AFFO and we have every intention to take advantage of the mispricing.
Jernigan Capital (JCAP)
PDF: JCAP Company Profile 1Q18 (JCAP)
Jernigan Capital (JCAP) is a strategic play on the self storage space. This sector has had exceptional same store NOI growth for decades but is now facing supply issues due to the somewhat low barriers to entry. JCAP is one such supplier with its primary business being to provide loans to developers in exchange for both a high priority return and significant equity participation. This strategy relies on the properties being successful upon completion which in turn relies on the self storage space remaining fundamentally strong. It looks as though supply is going to taper off in 2019 with demand growth exceeding supply growth. JCAP's developments thus far have been underwritten with a reasonable amount of conservatism, so there is a good chance the anticipated NAV will be realized.
Kite Realty Group (KRG)
PDF: KRG Company Profile 1Q18 (KRG)
Kite Realty Group (KRG) continues to put up strong fundamental numbers as its price languishes. Unfortunately, the dividend slashing at Wheeler gave grocery anchored shopping center REITs a bad name and seems to have furthered the selloff. Wheeler's dividend was cut entirely based on the company's poor operations and cost of debt. It had nothing to do with grocery fundamentals. KRG, has a track record of solid operations and a far cheaper cost of debt so there is no reason to think the problems at WHLR are contagious to KRG. These sorts of situations where prices are correlated despite disparate fundamentals are often the source of mispricing. We will watch KRG's same store NOI growth, but so far it seems like smooth sailing.
Medical Properties Trust (MPW)
PDF: MPW Company Profile 1Q18 (MPW)
It is hard to discuss MPW without repeating my former commentary as the company has had the same story for so long. Normalized FFO consistently grows on a per share basis through a combination of acquisitions and escalators on existing rental contracts. The entire healthcare space has had problems cropping up due to cost of labor, regulation, and reimbursement. MPW's tenants have had similar issues including one major tenant, Adeptus, who went under. Where MPW differs from the rest of the healthcare space is that it has substantial barriers in place which protect it from these headwinds. The first barrier is an exceedingly high EBITDAR coverage of rent among its tenants. With such strong coverage, when a tenant loses 10% of its profitability due to the aforementioned difficulties, MPW is unaffected. Even when this barrier fails as was the case with Adeptus, the quality and location of properties serves to provide replacement tenants. MPW's margin of safety is not priced into the stock, affording a favorable reward for the risk.
Plymouth Industrial (PLYM)
PDF: PLYM Company Profile 1Q18 (PLYM)
Plymouth Industrial REIT (PLYM) is still new, but it is making strides toward proving its strategy. The worry was that high cap rates at which PLYM was purchasing would come at the cost of poor leasing. However, the last quarter gave us a glimpse of PLYM's leasing and rent was mostly rolled up, not down. Even the most concerning property which was scheduled to be vacated by Pier 1 has been re-leased. PLYM is priced to provide unusually high reward for investors and this was formerly matched by the higher risk of its unproven strategy. Today, the risk has been significantly reduced yet the reward remains as high as ever, resulting in what could be a superior risk adjusted return.
Sotherly Hotels (SOHO)
PDF: SOHO Company Profile 1Q18 (SOHO)
Sotherly Hotels (SOHO) has appreciated nicely in recent weeks, partially helped by the Pebblebrook takeover bid on LHO. The price offered demonstrates that hotels are worth far more in private market pricing than they are in public markets. If one were to value SOHO's properties at a reasonable private market cap rate, they would be worth about $12-$13 per share. Even at its appreciated price of around $7, SOHO is a steal. With a P/FFO of about 6X, SOHO has a sizable amount of fair cashflow that is being split between its dividend and property renovations. Having personally visited 3 of SOHO's renovated properties, I believe the capital spend was true value add, rather than mere maintenance. As a small cap stock, SOHO is often overlooked, but for those with the patience to wait it out, the return potential is sizable.
STAG Industrial (STAG)
PDF: STAG Company Profile 1Q18 (STAG)
I am genuinely confused by Stag Industrial's (STAG) price chart. Since inception STAG has been executing precisely the same strategy, with high cap rate acquisitions of A or B properties in mostly secondary markets and these acquisitions have consistently added to FFO/share. Until recently, the market had rewarded STAG with a market price that tracked nicely with the FFO growth. STAG got well over $28 and still traded at a reasonable multiple which was slightly below the median of industrial REITs. The fundamentals have continued in this direction with both STAG's strategy remaining the same and the macroeconomic factors remaining bullish. The market price, however, did a full reversal dropping back down to the low $20s. At this price, STAG is trading at about 13X estimated 2018 FFO which is quite opportunistic given the growth profile and track record of success.
UMH Properties (UMH)
PDF: UMH Company Profile 1Q18 (UMH)
Most of the companies in 2CHYP have performed quite well fundamentally, matching or even beating our expectations. UMH Properties (UMH) is the exception with a rather disappointing 4th quarter. While the same store NOI growth remained impressive and the external growth strategy was highly accretive, excessive share issuance through the DRIP entirely diluted the growth that should have resulted from the property performance. The redeeming factor to the share issuance is that it was done at a significantly higher share price with average proceeds per share over $15. Given the high IRR's at which UMH is capable of investing this capital, FFO/share could still grow nicely. We are in communication with management to ascertain whether they intend to stop issuing shares now that the market price has dropped. If the DRIP stops, UMH can be a great investment, but if it continues we may look for greener pastures.
Uniti Group (UNIT)
PDF: UNIT Company Profile 1Q18 (UNIT)
With a fair value estimate of $36, Uniti Group (UNIT) counts as our most ambitious investment since this indicates a return greater than 100%. Despite the prima facie extremity of this estimate, it is well within the bounds of how these things would normally price. In fact, $36 represents just a 13.8X multiple on 2018 estimated AFFO. Note that most REITs trade closer to 18X AFFO and tech related REITs trade higher, so even at $36, UNIT would be a value REIT. Essentially, the market has pulled its price down to a ridiculously low multiple of cashflow on concerns that WIN will stop paying rent. At the risk of beating a dead horse, we think this is highly unlikely as there are multiple layers of protection. First, WIN has about $2B in annual OIBDA which easily funds the roughly $0.64B rent to Uniti. Second, these assets are absolutely essential to WIN's revenues such that we think it likely the lease would be approved in its current form even if WIN went bankrupt. Finally, WIN has no major debt maturities for the next couple years so UNIT will have plenty of time to diversify away. I recognize that there are risks here, but the upside, in my opinion, easily justifies the chance of things going south.
Washington Prime Group (WPG)
PDF: WPG Company Profile 1Q18 (WPG)
The term "binary" is often used to describe B mall REITs as the prevailing sentiment is that these malls with either thrive or die. If left alone, I think the outcome would be as binary as some suggest, but REITs actively manage their portfolios and WPG is more proactive than most. Fixing, modifying, changing and updating properties to meet where demand for retail space is today will be a highly expensive process requiring extreme amounts of capex. This is why CBL cut its dividend, despite having a low FFO payout ratio. It is entirely possible that WPG will have to cut their dividend as well, but I would stress that the cut, if it happens, will be optional. AFFO easily covers WPG's dividend and property performance has been strong enough that it seems unlikely AFFO will fall below the level of the dividend. I like WPG because they are doing the property renovations intelligently. They let properties be foreclosed upon when the IRR of renovation is too low and they use low cost tricks such as installing Amazon lockers to drive traffic. Quite frankly, I think WPG is more skilled at adapting than CBL and will therefore come out ahead.