EPR Properties (NYSE:EPR) delivered another quarter that was at least respectable and arguably quite good. The company reported FFO of $1.17, in line with estimates, and revenues of $118.8 million which beat estimates by almost $9 million. All around the earnings release looked solid.
One of the critical elements in evaluating the quality of management is assessing the occupancy rate of the portfolio. The entertainment segment was 98% leased, the education segment was 100% leased, and the recreation segment was 100% leased. Management's ability to keep a very high portion of properties leased is critical to the strong performance of the REIT. When all properties are included the blended occupancy rate is 99%.
Benjamin Graham warned investors not to count management twice in measuring a stock. An investor could not suggest both that the company had higher earnings because of great management and deserved to trade at a materially higher multiple of those earnings because of great management.
Fortunately EPR does not trade at a huge premium relative to other triple net lease REITs. They do trade at a much higher level relative to their own historical price levels, but they don't trade at an unreasonably high price. Still, I think investors may want to be wary about their time for entering the name. The REIT has been on a tear following my first article on them.
One of my philosophies on evaluating companies is that management should always strive to avoid putting the company in a position where it "NEEDS" capital. The cash situation should be proactively managed with a long time horizon and a healthy cushion. EPR follows this practice and took advantage of the higher prices for their common shares to issue more shares and used it to pay down their debts. As a result the company has access to more funding on their "revolver" which allows them to rapidly access large amounts of cash. This is excellent for giving EPR a stronger position in negotiations since the party on the other side of the table may need the cash EPR can access.
The following chart demonstrates the maturities and the weighted average rates on the debts:
The yield curve has fluctuated quite a bit over the last several years but it has not inverted. The lower yields on long term debt such as the 4.5% on the 2024 demonstrate that yields moved materially lower and cheaper debt financing is available. As older debts at higher rates are paid off it will pave the way for cheaper debt. The simple result is that more of the revenue earned by EPR should be available for reinvestment or common shareholders rather than going to higher interest rates on their debts.
On the earnings call management provided a great quote:
"We increased our monthly common dividend by nearly 6% in the first quarter to an annualized dividend of $384 million in 2016 on our FFO as adjusted payout ratio was 81%. I would also like to point out that we are moving to using net debt to adjusted EBITDA as the primary metric we monitor to manage leverage, as we feel this is more relevant for this purpose than debt to grow these assets.
As defined in our supplemental, net debt to adjusted EBITDA was 4.81 times at quarter end and we expect to maintain this ratio within a range of 4.6 times to 5.6 times going forward."
The dividend increase was certainly welcome to shareholders and a payout ratio of 81% is fairly reasonable among large triple net lease REITs. The really interesting thing is not their use of net debt to adjusted EBITDA, it is their expected range of leverage. Management indicated that they ended at 4.81 and that they expect to run in a range of 4.6 to 5.6. This suggests that management is expecting to take out some new loans over the next year or two. Since they recently issued shares, suggesting that the debt would be used to buy shares would be absurd. The logical expectation is that this is further funding their acquisitions of new properties. They have several new properties already in progress and it is their expertise in the acquisition and operation of these properties that is creating value for shareholders.
Investment guidance was affirmed at a range of $600 to $650 million for fiscal 2016. Relative to a market capitalization of about $4 billion this is a steady rate of growth in the assets. If those assets are financed with new loans at the lower rates that are now prevalent it suggests some strong positives for growth in FFO and AFFO over the next couple of years.
EPR has three series of preferred shares. Two of them contain what are effectively call options on the common stock. I find the preferred shares fairly interesting and include them in my tracking of preferred shares. In addition to watching for favorable entry prices on the common shares, I'm also occasionally checking on the preferred shares.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in EPR COMMON OR PREFERRED SHARES over the next 72 hours.
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.
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