Escape New York City! This seems to be a major theme of 2020. Subthemes involve escaping other densely populated gateway cities such as Boston and San Francisco.
This is not an issue for me. In many ways I am a country boy at heart.
Figure 1. This is not where the denizens of NYC will move. It is the sort of country the author used to ride through alone as a teenager. Source.
As a teenager I would take off into the Colorado wilderness for days at a time on my horse. Some canned goods, legal fishing, and an occasional bit of small scale poaching sustained me.
In my sedate elder years, I still like being in the dark and love watching the stars. I live in a semi-rural area in northern Michigan.
One of my neighbors from the city put a light in his yard so bright we could barely see the stars or the moon. He said it felt too desolate here.
A neighbor, who loves watching the moon, joined me in making threats that led him to turn off the light. No no no, we did not threaten gunplay. But fortunately for us, zoning here is compatible with country folk.
The point of this story is that the hordes leaving New York City will not be interested in coming to my small town, save perhaps for the occasional Diane Keaton wannabe. They want access to Broadway, not stars or the moon.
Where Will The Escapees Go?
So where will they go? They will go to the suburbs around NYC. Many of them will buy groceries and get services in shopping centers owned by Urstadt Biddle Properties, abbreviated as UBP. UBP is located entirely in communities near NYC, as Figure 2 shows.
Figure 2. UBP locations are throughout the region near NYC. Source.
These are wealthy and populous areas. In Figure 3 we can see that they have the highest nearby household income and third highest population density among the shopping center REITs.
Figure 3. The properties of UBP are among the most advantageously located among shopping center REITs. Source.
I love seasons and especially fall colors, and so cannot resist sharing the picture in Figure 4 of one of their properties.
Figure 4. One of the UBP centers. Source.
With all these advantages, one would think that the Class A stock of UBP (UBA) would be highly valued among its peers. This makes the 2020 price action of UBA (Figure 5) particularly puzzling.
Figure 5. The price of UBA has dropped by nearly 2/3 since January. Source: YCHARTS.
UBA not only dropped to nearly $10 in March, since June they have dropped well below that. Other shopping center REITs have not fallen nearly as far. It seems that the market does not know the difference between NYC proper and the surrounding suburbs.
Perhaps Mr. Market is punishing the stock because the Democrat, or is that demi-god, governors of New York, Connecticut, and New Jersey would rather kill the local economy than reach herd immunity. (Disclaimer: I am neither a Republican nor a Democrat.) If so, I would offer Mr. Market a clue: the pandemic will end.
Or perhaps there is some other reason to believe that the value of UBA is a third of what Mr. Market thought in January. Let’s take a look.
Is UBP Broke?
UBP would be in big trouble if they could not cover their ongoing costs. Their total cash expenses, including interest payments, have averaged $17M per quarter for the past 8 quarters. They got them down just below $16M in their quarter ending July 31.
UBP reported that
At July 31, 2020, we had approximately $42.3 million in cash and cash equivalents on our consolidated balance sheet, and an additional $64 million available under our Facility (excluding the $50 million accordion feature).”
Quotes below are also from this source unless otherwise indicated. UBP could cover nearly 7 quarters of expenses, even if they had zero revenue.
But UBP does have revenue, and substantial revenue at that:
As of September 4, 2020, we have received payment of approximately 81%, 81% and 79% of lease income … billed for April 2020, the third quarter of fiscal 2020 and the month of August 2020, respectively.
This ignores the revenue to come from deferrals on the unpaid rent, of which there are many.
If UBP drew the $64M remaining on their credit line, then their debt would have increased since January 2020 by about a third. They had 6x coverage of their interest expense in January, so this would be unfavorable but not disastrous.
Beyond those numbers, a large fraction of UBP’s tenants are “essential businesses” and not likely to shut down.
… approximately 70.2% of our tenants (based on ABR) [were] designated as “essential businesses” during the early stay-at-home period of the pandemic…
So UBP can cover their costs for much longer than the pandemic will last. And the revenue they are getting implies that they are still making money.
If fact, after cutting their dividend by 75% for the previous quarter, out of an abundance of caution, they doubled it from there for the next one. On an operating basis, they will be able to afford to keep increasing it.
Does UBP Have Debt Maturity Problems?
During the Great Financial Crisis, many REITs found themselves caught short on their debt. They faced debt maturities they could not pay, and had to issue massive amounts of equity to cover them.
This same issue also forced General Growth Properties to file for bankruptcy. These days every REIT pays attention to their debt maturity ladder.
In the case of UBP,
We do not have any unsecured debt maturing until August 2021. Additionally, we do not have any secured debt maturing until January 2022. All maturing secured debt is generally below a 55% loan-to-value ratio, and we believe we will be able to refinance that debt.
Their debt is dominantly about $300M of mortgage debt.
The mortgages are secured by 24 properties with a net book value of $559 million and have fixed rates of interest ranging from 3.5% to 4.9%.
Only their $100M credit revolver is not mortgage debt.
This reliance on mortgage debt resembles that of a few other REITs, including Monmouth Realty (MNR) and Macerich (MAC). It adds the security of being non-recourse debt and the potential to turn over to the lender any property with a maturing mortgage, if needed.
This is not likely for UBP:
At July 31, 2020, we had 51 properties in our consolidated portfolio that were unencumbered by mortgage …
We currently maintain a ratio of total debt to total assets below 33.0%
In sum, UBP has no debt maturity problems.
Is UBP Near A Covenant Violation?
Even if a REIT holds property that amply exceeds the value of its debt, it is not necessarily safe from “bankruptcy”. Any unsecured debt comes with associated covenants.
A REIT that violates the covenants may be “in default” even if they have made all their associated payments. We have seen some REITs come into trouble for this reason in 2020, notably including Pennsylvania REIT (PEI) and Washington Prime Group (WPG).
UBP does have such covenants on their credit revolver, and is in compliance with them:
The principal financial covenants limit the Company’s level of secured and unsecured indebtedness and additionally require the Company to maintain certain debt coverage ratios. The Company was in compliance with such covenants at July 31, 2020.
The covenants that most often causes trouble are related to coverage of fixed charges by EBITDA. If there is little EBITDA, as has been true for many REITs amidst the pandemic, problems can arise.
For UBP, the primary fixed charges mentioned in their covenants are interest charges and preferred share dividends. They shall not “Permit the Fixed Charge Coverage Ratio as at any fiscal quarter end of the Borrower to be less than 1.5:1.0.”
UBP is lucky or good in that the credit agreement specifies that this covenant is to be evaluated each quarter on a trailing twelve month basis. My calculations indicate that they were slightly in violation of the required ratio, on a quarterly basis, for their quarter ending July 31.
To my mind, that quarter was very likely the worst they will see as measured by cash rent collections. The low point for occupancy will come later. But if the suburbs near NYC did go into severe shutdowns for the next year, UBP potentially could end up in violation of the covenant on coverage.
This seems unlikely to me. But even if UBP did end up in violation, the lenders have no interest in forcing a bankruptcy, let alone a liquidation. There is too much value in their properties. The lenders would just encumber some of their 51 unencumbered properties to secure their capital.
Is Past Performance Perilous?
Another reason to discount UBA during troubled times could be based on their past performance. If UBP had a spotty record, one might justifiably doubt how they would handle the present times.
UBA paid dividends steadily through the Great Recession and also through the recession in 2000. This indicates that UBP has handled past crises well.
Figure 6 shows a basic analysis of their performance in recent years. The performance of REITs without substantial discontinued operations (UBP has almost none) is usually described well by the simple estimates of FFO and AFFO shown there.
Figure 6. Evaluation of Simple AFFO and payout fractions for UBP. AFFO is Adjusted Funds From Operations. FFO is Funds From Operations. Calculations by author using data from TIKR.com.
One can see in the table that Simple AFFO per share has increased every year since 2013 (light blue row). The CAGR of the increase has been 6.1% since then (and 5.5% since 2011).
Common dividends (green row) have also steadily increased since 2013. The AFFO payout fraction was high early in the last decade, and has dropped to very conservative levels in recent years.
So What Is UBA Worth?
The value of any investment is fundamentally the discounted, long-term value of the cash flows it generates. This prior article discussed how AFFO connects to value.
Figure 7 shows valuations of UBA for various assumptions. The two red curves use data for the past 7 to 9 years, as indicated. The red dots show that UBA was valued at a discount rate just above 12% early in 2020. If UBP returns post-pandemic to the performance and growth rate of the past decade, UBA will be worth nearly three times the current price.
Figure 7. Value of UBA against the discount rate demanded by the investor under various assumptions, as indicated and discussed in the text. Source: author calculations.
In the past two quarters (ending April 30 and July 31), the AFFO generated by UBP has been about 80% of its typical value in prior quarters. The blue curve shows the corresponding valuation, on these two assumptions:
- AFFO remains 80% of prior values (implying lower rents going forward)
- UBP does manage to grow it at a 5.5% rate.
For these assumptions, UBA is undervalued by a factor of more than two.
The black curve shows the value of UBA if one assumes that AFFO remains suppressed and never ever grows again. This is roughly where the market is pricing them.
What Do You Think?
If you believe that the suburbs of NYC are going to stagnate forever, then there is no point in buying UBA. You would want something far more diversified geographically and preferably not coastal at all. Weingarten Realty (WRI) or Kite Realty Group (KRG) might be for you.
A relevant example is from my own state of Michigan. Detroit has been on an upswing in recent years. But it languished for decades and remains a pale shadow of its former self. In the meantime, the surrounding communities across southeast Michigan have flourished.
To my mind, the suburbs of NYC will flourish, no matter what path NYC itself may take. Even if these suburbs do no grow, they will remain intense areas of economic activity, densely populated with high-earning people.
UBP has a conservative model that has proven able to support steady growth. Their Gross Assets have doubled in the past decade even as their shares outstanding have increased just over 50%. There is every reason to expect that they can continue to grow steadily after the pandemic.
I am very pleased to have been able to establish my position inexpensively during recent months. If UBP soon restores the dividend on UBA to anything near their previous amount, my yield on cost will be so high that I may hold it forever.
What Are We Buying?
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Disclosure: I am/we are long UBA. 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.
Additional disclosure: The disclosure function is again not working. I am long UBA, WRI,