Among the eight different REITs I own, the most exciting is a small cap that just reported another record year of earnings and growth. Retail Opportunity Investment Corporation (ROIC) does not deliver the highest yield (currently about 4.1%), but possesses the knockout potential to become a champion growth stock.
Retail Opportunity Investments Corp. is a self-managed real estate investment trust ("REIT") that owns and manages a portfolio of necessity-based community and neighborhood shopping centers, anchored by national or regional supermarkets and drugstores. As of February 2014, ROIC owned 55 shopping centers, totaling approximately 5.9 million square feet.
Lightweight REIT Blessed With A Heavyweight Management Team
ROIC is a small cap REIT with a market valuation of about $1.1 billion. Having gone public in October 2009, it is a relative newcomer among REITs competing in the shopping center sector. The investment thesis here is the management team.
While ROIC is a lightweight REIT currently, its President & CEO, Stuart Tanz, is a proven heavyweight champion in the industry. From 1997 to 2006, Mr. Tanz served in similar roles for Pan Pacific Retail Properties, Inc., leading it from a $447 million enterprise to over $4 billion when it was sold to Kimco Realty (KIM). Kimco owns and operates North America's largest portfolio of shopping centers and has a current market cap of $8.9 billion.
Other top members of ROIC's management team also served key roles at Pan Pacific. CFO Michael Haines was VP of Finance. COO Richard Schoebel served as VP of Operations. CAO Laurie Sneve was VP and Controller.
In a January 24, 2014 interview, Mr. Tanz expanded on the value of ROIC's experienced team in response to a question about how ROIC handles property management.
"Unlike many of our competitors that utilize third-party property managers and leasing agents, all of our management and leasing personnel are employees of ROIC. We focus on carefully building the right chemistry and culture with our staff. Most of our team today has worked together for the past 15 years, dating back to our days at Pan Pacific. Having the right team and culture has been instrumental to our ability to keep our properties well leased and running at peak performance."
The opportunity to invest in the man that produced almost a 600% return for Pan Pacific shareholders over a 10-year period offers prospects for growth that are simply not possible with the larger, more established REITs.
Pan Pacific Bloodlines Paying Off
A huge advantage when aligning an investment with an experienced winner is the opportunity to prosper extends beyond balance sheets and technical analysis. In the 3rd quarter conference call (transcript courtesy of SA), Mr. Tanz elaborates at length on a pair of highly coveted acquisitions - Crossroads Shopping Center and Five Points Plaza - that he characterized as flagship properties in the portfolio. Both were acquired from the same owner, a business associate from the Pan-Pacific era.
Not only were the acquisitions made possible because of a cordial business history shared by all parties, but also more fascinating was the method of payment. The owner, a Mr. Sher, opted not for an all cash payment, but rather he preferred a majority of payment in operating partnership units.
"In connection with the Crossroads and Five Points acquisitions, our partner, Ron Sher, elected to take the majority of his consideration, not in cash, but instead, Mr. Sher chose to take common equity in the company in the form of operating partnership units. In total, Mr. Sher received approximately $46 million in units based on a valuation of $14.11 per share on average. Needless to say, we valued Mr. Sher as a real estate partner, and we are now very pleased and value having him as a shareholder in the company."
Clearly, Mr. Sher, an accomplished real estate investor in his own right, perceived greater value in becoming a stakeholder in ROIC, rather than taking cash in hand. Hard to imagine a better display of confidence in ROIC's prospects going forward, or a more resounding endorsement of Mr. Tanz's real estate savvy, than what Mr. Sher demonstrated by his decision.
Record Results Reported Across the Board for FY 2013
On Monday, February 24th, ROIC announced 4th quarter and 2013 full year results. The headline numbers were glowing, with record revenue, earnings, and funds from operations ("FFO") reported for 2013. Mr. Tanz began the report by stating:
"During 2013, we achieved record results in every facet of our business. We continued to expand our portfolio significantly and deepen our presence on the West Coast, acquiring a record $437 million of grocery-anchored shopping centers."
The $437 million investment netted 12 additional shopping centers to ROIC's portfolio, increasing the total number of properties owned and managed to 54. All the properties are focused in three states: California, Washington, and Oregon. (Important update: In February, ROIC closed on a 55th shopping center and placed another under contract.)
Key highlights that impressed me even more so than the earnings, were:
- 96.3% portfolio occupancy rate at December 31, 2013
- 6.8% increase in same-center cash net operating income (2013 vs. 2012)
- 7.3% increase in same-space comparative cash rents
- 36.5% debt-to-total market capitalization ratio at December 31, 2013
- 88.4% of the company's total outstanding warrants retired to date
- Awarded investment grade ratings from Moody's and Standard & Poor's
Mr. Tanz went on to add:
"During 2013, we enhanced our financial strength, achieving several important milestones. The company was awarded investment grade ratings and successfully completed its first investment-grade bond offering. Additionally, we refinanced our unsecured debt facilities, lowering our borrowing costs, to a new record low for the company, and expanding the capital availability."
Revenue, Profits, Funds From Operations, and Dividends Steadily Rising
I'm of the mindset that dividend growth is the ultimate profit sharing investment. Dividend increases are the fruit of burgeoning profits, which are sweetest when plucked from growing revenue. In ROIC's four years of operation as a publicly traded company, all of the fundamental metrics to sustaining growth are trending northward.
Dollar amounts in millions, except dividends
Net income (loss)
(Sources: 4th Qtr report for 2013 and Annual Reports for 2010-2012)
Quarterly Dividend Increased 6.7% to $0.16, payable on March 28, 2014.
FFO guidance for 2014 is expected to be about $0.80 to $0.85 per diluted share, (on 81.2 million shares) and net income to be within the range of $0.16 to $0.17 per diluted share. I am writing this before the conference call, so cannot elaborate on the details behind the guidance. Interested investors are strongly urged to read the transcript, which is always made available on SA. Conference calls allow investors to drill down into the details, too often obscured by the headlines.
Retail Opportunity Investment Corp. seeks to anchor each property with a regional or national supermarket or drug store, in keeping with the conviction that necessity-based retail is more resilient to economic downturns and less prone to predatory online sales.
From the February 24, 2014 8-K filing the top 10 tenants by leases and percentage of annual base rent ("ABR")
Pct. of Total
Annual Base Rent
Rite Aid Pharmacy
JP Morgan Chase
Ross Dress for Less
Walmart Neighborhood Market
No Business is Immune to Risks
From where I sit, the three most prominent are:
- Rising interest rates
- Geographical concentration
- Declines in brick and mortar
Foremost with entire REIT sector is the inevitable taper tantrum. Many REITs topped out in May 2013, when the first hint of rising interest rates rattled this group. Rates are already on the rise, with pundits predicting 10-year U.S. Treasury yields may reach 3% within the next 12 months.
ROIC has demonstrated remarkable price resiliency, being only about 8% off its May 22, 2013 high while many REITs remain 15-20% below their 2013 peak. Rising interest rates are sure to soften up REITs a bit more. Equilibrium will take its course and over the long term, REITs remain attractive for my dividend growth portfolio. Apocalyptic events never hold back well-managed businesses for too long, and in hindsight have always proved to be extraordinary opportunities. The taper tantrum will be no different.
Geographic concentration exposes ROIC to a regional downturn in the economy, with all 55 of its properties located exclusively on the west coast; California (35), Oregon (11) and Washington (9). On the positive side, management has vast experience in the region, and the proximity is conducive to managing properties more efficiently.
Online retail will continue to pose challenges to brick and mortar, with some experts predicting retailers will be less inclined to renew longer-term leases in a strategic move to reduce storefronts while increasing internet traffic. Lease defaults nationwide likely will experience an increase, led by businesses most vulnerable to online price-cutting. ROIC tempers the growing trend by striving for necessity-based tenants in community shopping centers, where customers still value the service, convenience and expediency, unmatched by online retailing.
Was it coincidence, or by plan, Mr. Tanz sold Pan Pacific near the top of the real estate market in 2006 and re-entered the market in 2009 while it was bottoming out? I cannot ask him, so I'll never know. My sense is he is a very smart man who knows his craft, and I always prefer to partner with smart people who are master craftsmen at their trade. I don't have $46 million invested in ROIC, but like Mr. Sher, I like the prospect for growth ROIC offers and the opportunity to align my modest investment alongside a heavyweight winner.
Disclosure: Always perform your own due diligence and respect that my enthusiasm for a dividend or growth investment may not be suitable with your tolerance for risk, or your portfolio.