Fronsac A Small Under The Radar Triple-Net REIT With Nice Potential To Grow

Summary

• Fronsac FRO.UN is small under the radar triple-net REIT traded on the TSX venture exchange.
• Strong management performance helped the trust in maintaining an excellent cash flow stream and increasing the distribution by 10.2% on a yearly average since 2012.
• The Conservative approach of acquisition and capital preservation puts the Trust in a great position for future growth.
• The trust recently performed a reverse split, which might put it on the radar for large institutional money.

Fronsac A Small Under The Radar Triple-Net REIT With Nice Potential To Grow

This is the first article I write here, and it is a work in progress. I would appreciate any constructive feedback or even just a short good or bad note.

Fronsac is a small Canadian triple-net REIT traded on the TSX Venture Exchange. The trust holds 74 assets located mainly in QC and comprises mostly Gas Stations, grocery-anchored properties, convenience store chains and quick-service restaurant chains.

A quick look at their tenants’ list shows that over 50% of their properties occupied by Walmart (WMT), Sobeys’s, Loblaw (L), Suncor (SU), and Tim Horton’s, while the rest is occupied by other investment-grade renters such as A&W (AW.UN), Couch-Tard (ANCUF). Yet, some tenants had requested a rent deferral, which is handled case by case, and so far, the trust did not need the CECRA for many tenants. According to the third-quarter report of 2020, the occupancy rate was 99%, which is a drop from 100% in the last few years, which can be partially attributed to some development properties.

Financials

This will be the place to mention that FRO.UN has gone through a reverse split of 10:1 after the third-quarter reports, meaning that all data is based on the previous price before the split. Fronsac was able to navigate the first nine months of 2020 with hardly any background noise due to its strong tenants and a good balance sheet. For the 9 months period ended September 30, 2020, the Trust recorded a recurring FFO of $5,139,573 compared to $3,319,677 for the same period in 2019. Recurring FFO per unit increased by 19% from 3.04¢ to 3.61¢ for the same period last year; the difference results from an issue of new units. The growth in FFO is mainly derived from rental revenues of newly acquired properties net of the increase in financial expenses related to new mortgages on the properties. During the first 9 months of 2020, the Trust had a rental income of 9,286366$ in comparison to 6,650,030$, an increase of 39.64%. The increase in rental income is due to new acquisitions, and some rental increases in old properties. It is worth noting that the Trust financed these acquisitions by issuing new units and some convertible debt as well as new mortgages. Currently, the trade-off between dilution and maintaining a strong balance sheet is still in favour of the unit’s holders; however, it requires attention in the future as the Trust grows.As in most cases of a Triple-Net REIT’s the Trust, expenses were mainly financials in nature. In the first 9 months of 2020, the Trust incurred financial expenses of $2,184,366 in comparison to $1,779,156 to the same period in 2019, an increase of 22.78%The Trust carries about 73.5 million mortgages, which out of that, 30 million is coming due in the next 5 years, where the first substantial amount will be in 2022 where the Trust needs to pay 11,282,543$. I believe that with the Trust ability to generate over 5 million and growing of cash flow from operations, and about 5 million of unused Lines of Credit, the Trust will be able to pay these maturities with no significant issue; however, it might need to refinance some of the debt coming 2023. Still, worth noting that the Trust has a ratio of Debt to Assets of about 50%, which gives the Trust plenty of flexibility in raising new debt if it chooses/needs to do so, rather than raising new equity. Early December, the Trust announced the closing of a deal to acquire an additional 5 locations for 43.4 million dollars. These locations are 100% occupied by Loblaw affiliates for an average of 6 years and generate about 3 million dollars of net operating income, which represents about a 6.9% cap rate.

Distribution

Overall, relative to other Canadian Retail REITs, the Trust distribution is somewhat low and currently standing around 4.4%. I think the management is trying to keep the distribution as low as possible while maintaining the REIT status and using as much cash as possible to grow the asset base. Having that said, the distribution is increased on a yearly basis, something you won’t often see in other Canadian REITs.The Trust has an amazing record of increasing distributions over the last 8 years, from 1.25¢ in 2012 to 3¢ in 2021 (or 12.5¢ to 30¢ per unit after the reverse split). This represents a CAGR of 10.2% in annual distribution.In case you are planning on re-investing the distributions to compound the cash flow, you might have to do it yourself as the Trust does not offer this service.The distribution seems very sustainable, given that the recurring FFO for the first 9 months of 2020 stands at 3.61¢, as mentioned before. If we look at the period between 2012 to the end of 2019, the recurring FFO increased from 1.3¢ to 4.14¢, which represents a CAGR of 18%.

Management

Although the Trust is fairly small and relatively young, I think the management has proven to be no less than excellent. Currently, 18% of the Trust is held by insiders. The Trust has a very conservative approach with regard to what assets they buy, which might explain the fact that all assets are in great condition and no major renovation expenses are required in the coming years. Most of the properties the Trust purchase are somewhere between too large for an individual investor and not large enough for a large firm. These types of properties are usually easier to negotiate.

Conclusion

Overall, I believe Fronsac has a great future ahead. The Trust managed to grow impressively over the last decade and even in horrible 2020. The reverse split of one new unit for 10 old units have brought the unit price to be over 6$, which can open the Trust for some new institutional money that has restriction regarding investment in penny stocks. Few things to watch in the future are: Would the Trust be able to maintain its CAGR levels once it reaches the average size of a small to medium Canadian Retail REIT. The Trust tends to finance a substantial portion by raising equity or convertible debt, which might cause a favourable dilution. So far, it worked very well for the unitholders; however, it is still something to keep an eye on