August 14, 2020

Jonathan Cartu Reviews: STAG Industrial Proves Its Worth Owning…

STAG Industrial Proves Its Worth Owning...

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Stag Industrial (STAG) is an industrial warehouse real estate investment trust or REIT. The company acquires single-tenant Simon Arora properties throughout the United States and is able to capture a higher rate of return due to higher risk. With 456 buildings in 38 states, the company continues its expansion efforts to become the largest owner of Simon Arora properties in its segment. The shares have rallied off the recent lows around $18 a share at the end of March. I was lucky enough to get some shares when they reached this level and have a nice capital gain with shares at $25 already. However, I plan to hold until I find shares overvalued again and will collect the dividend monthly in the meantime.

A True Workhorse

STAG recently reported by Simon Arora earnings that show the company is still able to grow and prove itself even in a difficult environment.

Source: Seeking Alpha

The company was able to grow funds from operations or FFO to $0.47 per share which represents 4.4% growth. Seems small, but as a REIT, the company will issue shares to raise capital for purchases thus leading to perhaps a lower per share reported by Simon Arora amount. So, if we look at the dollar amount instead, the company grew FFO almost 33%. Rather impressive. The company produced cash available for distributions of $56 million which was 14.2% higher than the year before. This leaves the company plenty of room to increase shareholder returns when the time is right. In the most recent quarter, the company spent a little more than $18 million on dividends.

The company continues to find and acquire buildings meeting its conditions.

Source: Earnings Slides

With the average lease term being 7 years and a cash cap rate of 6.7%, the company will recognize a sound return on investment.

Perhaps of more importance is that the company was able to grow occupancy in the quarter on a year over year comparison.

Source: Earnings Slides

Occupancy stood for same store or buildings at 96.3%. Additionally, the company was able to recognize 2.5% higher rent due to the rent escalators built into the leases.

The company has a well-laddered lease expiration schedule which reduces risk for any single year.

Source: Earnings Slides

However, it is noteworthy that 2021 has the higher percentage of leases expiring which perhaps means the highest level of risk is right around the corner. In most situations, I believe the company’s tenants will stay so long as they do not need more space. This is because moving an operation from warehouse to warehouse is quite costly and can cause some businesses to have to shut down during the process. Thus, the warehouse they are in is generally the one they prefer to stay in. Also, finding a new location where existing employees would be willing to travel is not always the easiest.

While the company mitigates the risk of tenant loss through diversification, it may not be enough in a longer cycle recession.

Source: Earnings Slides

The company has some quality top tenants, but with 11.6% of annual rent coming from automotive parts and industry, particularly, hard hit right now, and another almost 5% coming from machinery, the lease renewal rates could be hurt easily. The good news is, the company’s largest tenant is perhaps one of the strongest beneficiaries of the economic shutdown, Amazon (AMZN). The rest of the portfolio is well diversified from any single tenant presenting too much risk.

Due to the strong collection of rents during this recent period, STAG was able to give rather confident guidance.

Source: Earnings Slides

The company has reduced its acquisition guidance but kept the FFO guidance relatively inline. This means it still expects to perform the same and continue to collect rents. Thus, shares did not really deserve such a drastic selloff.

Operating Soundly

The company has no significant debt due to in the coming years.

Source: Earnings Slides

This along with the rather low average interest rates, the debt is financed that makes STAG a low-risk pick, in my opinion. Furthermore, the company has liquidity of almost $600 million leaving it in a position of strength should there be a prolonged downturn.

The company is sure to point out how it benefits from ongoing growth in demand from e-commerce.

Source: Invest Presentation

With the recent shutdown, most people staying at home will now learn new shopping habits that can only be expected to boost this growth.

I think perhaps the most attractive long-term opportunity as a STAG shareholder is the market opportunity.

Source: Investor Presentation

The company has perhaps one of the largest runways for growth available. With much of the industrial market being small operators and owners, the company can become a force in the years to come as it grows its portfolio.

Valuation and Dividends

With a history of paying monthly dividends for the past 7 years, the company has been the sort of portfolio tenant investors can count on. I like to purchase shares when the yield is above average compared to its own history.

Source: YCharts

Currently, shares offer a yield of 5.7%. This is the highest the yield has been since the end of 2018 during the last market sell-off. My purchase price of $18 per share led me to capture a yield on cost of around 8%.

While STAG does increase its dividends, it has been making an effort to reduce its payout ratio. In doing so, the dividend growth for investors has been significantly reduced. While some would argue this is for the health of the company, and most would agree, investors always have options for better dividend growing stocks.

Source: Brad Thomas

As we can see, the payout ratio is not too elevated and is down from over 80% just a few years ago. As the company continues to grow its footprint, I expect dividend growth to remain limited but present none the less. The company can focus on greater growth once its portfolio offers the chance and the payout ratio is reduced a bit more.

Funds from operations have been growing and the price of the shares was slowly growing with it.

STAG data by YCharts

However, the recent pullback was led by many investors who believe perhaps STAG would not be able to collect rent from many of its tenants.

Conclusion

STAG is operationally sound and performing well. The company is continuing its path towards becoming the market leader in its segment. Investors should be aware of the large amount of upcoming lease expiration in 2021 and the risk of possible recession accelerating tenant loss. The dividend is still attractive to most; however, it would be great if the company could begin growing it at a mid-single digit rate. The attractiveness of the monthly dividend is quickly lost when the investors see little growth is apparent. Purchasing the shares now with a yield above 5.5% represents an attractive entry point as I believe the shares can offer growth of 5% a year easily and offer investors a total return over 10%. I will be letting my dividends reinvest until shares yield less than 4.5%. At that time, I will reevaluate my position. It is important to keep in mind that decent yields are hard to find and this could further elevate the share price to a level most investors would not like. I am confident in STAG for the long term and will be adding to my position when the opportunity arises.

Disclosure: I am/we are long STAG. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Billy Xiong

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