10/23/22 05:19 PM EDT

SUNDAY NIGHT REIT READ | LOT'S TO READ ON SFR | 10.23.22 (VRE, AMH, INVH, TCN, MPW, SBAC)

Rob Simone, CFA

Takeaway: Hope everyone enjoyed the weekend!

Hedgeye Cartoon of the Day: Squeezing Tighter...

It is 10.23.22, and Active Short MPW is overvalued by approximately ~$10.22/share. Checked in with KM just now, and nothing changed from a risk management and signaling perspective - stock remains bearish TRADE and TREND that is only getting stronger on the way down. Tick tock...

WEEKLY VALUATION HANDBOOK PDF LINK

Ticker: VRE

Company Name: Veris Residential

Subsector: Apartments / Secondary Office

Headline: Adding VRE back to Short Bench following Kushner offer

We are adding Veris Residential to the Short Bench following Thursday/Friday news that Kushner Companies had made unsolicited proposals to externally manage Veris or acquire the company for $16/share. Veris confirmed these proposals on Friday morning.
On our numbers, where we value just the larger residential segment and "ring fence" what remains of the legacy office business, we estimate the offer implies a ~5% nominal cap rate or ~4.2% on an effective/economic basis (incl. G&A and capex) assuming a ~15% maintenance capex reserve as a % of NOI. From a fundamental perspective we view the residential business as now fully valued. One piece that we need to further refine is any tax "leakage" in office following the near completion of VRE's exit from that segment, although we do not expect the implied residential numbers to move around that much.
We expect the VRE Board's review of options to likely result in a recommendation that "the offer is insufficient" or "we do not think it is in the best long-term interest of shareholders." The Board will likely shop the deal, but its challenging to see other potential bidders including BREIT, which has to put capital out but may have chunkeir/cleaner residential options elsewhere including in its targeted markets. See PGRE's share price performance since Monarch's $12/share offer, where social factors and excessive leverage led PGRE to reject an offer heading into a deepening Quad 4. Different subsector obviously, but similar cross-currents.
In general any execution will be very difficult here, as VRE's existing ~14x leverage on in-place cash EBITDA limits the debt options significantly and likely makes this an essentially all-cash offer which necessarily lowers the return profile. We need to better understand the sources of funds, as well as the "social" factors, which all else the same could make it very difficult to transact. The risk/reward appears skewed to the downside here, but will continue to do work.

Ticker: MPW

Company Name: Active Short Medical Properties (Dis)Trust

Subsector: NNN Hospitals

Headline: Steward work on Texarkana hospital appears stalled - conserving cash?

Becker's Hospital Review reported on Friday that Steward had put the ~$227 million Wadley Regional Medical Center project in Texarkana, TX on hold. Reasons have not been given for the pause, nor has an updated construction commencement date been announced. The hospital was set to open in Summer 2024.
This was originally reported by KSLA.
Ground-breaking on the replacement hospital occurred back on 9.15.21, and the total investment implied ~$1.8 million/bed on the initial 123 beds (which is ridiculous, by the way), or ~$780k/bed on the fully expanded 291 beds although it is not clear what the incremental required investment would be, if any.
As of 2Q22 MPW reported that it had spent ~$57.4 million of its ~$169 million commitment for the hospital.
Is Steward conserving cash on its share of the investment and/or is MPW pulling back on its investment into the system? We viewed the size of the investment as completely absurd and likely non-economic to neither Steward nor MPW's shareholders. So the question becomes: who would it benefit if completed?
And on a related note, we would love to better understand CREF's involvement in the project, if any, and who exactly receives those economics.

Tickers: AMH, INVH, TCN

Company Names: Active Shorts Invitation Homes & Tricon Residential, American Homes 4 Rent

Subsector: Single-Family Rentals (SFR)

Headline: Flagging 6-part investigative series on SFR from Law 360

We focused in on Part 5, which dealt heavily with INVH's settlement of a class action lawsuit around charging of inappropriate late fees. INVH settled without admitting guilt to avoid protracted litigation, according to the company.
Biggest takeaway for us - the degree to which tenants, HOA's attorneys and other housing insiders are turning to the federal government and the courts with their complaints amidst a lack of action from local and state officials.
We think the 6-part series is worth a read by clients, and speaks to our view that the next decade will likely not look at all like the past decade for this non-cycle tested real estate subsector.

Ticker: INVH

Company Name: Active Short Invitation Homes

Subsector: Single-Family Rentals (SFR)

Headline: INVH in the market for JV partner, but does that actually imply cost of capital issues?

Last week news broke that Active Short INVH was seeking a JV partner for ~$1 billion in equity. Apparently INVH is working with Eastdil Secured to find a partner for the venture, which would acquire single family homes at dislocated prices and convert them to rentals.
Obviously INVH's cost of capital is much less attractive versus earlier this year following the drawdown in shares and materially higher debt costs. We believe that INVH, as with pretty much all REITs, would much prefer to take down deals 100% if the economics are attractive. Seeking out 3rd-party equity capital and engaging in financial engineering to make the deals "pencil" indicates to us that it may make sense to pause on external growth altogether for a time. Additional JVs, over and above the existing Rockpoint deal, will just add unneeded complexity. If in fact the internal growth will be that strong next year (we don't think it will), then let it run!
Regarding potential partners, we think the universe and terms will be much less attractive versus earlier in 2022 and for sure versus 2021. Our view is that pensions are effectively overweight direct real estate following the markdown in their public REIT portfolios, which means that relatively cheap source of capital may be harvesting gains to rebalance versus actively putting more money out. The more likely source of capital may be PE, which could demand "your first born" in today's market.
We do not think people should discount the impact that the permitting issue and related public scrutiny will have on potential partners. There are other "cleaner" options in the market, both public and private.
INVH has significant other uses of capital, including refinancing $2.7 billion outstanding under a term loan facility maturing in 2025, at a materially negative yield spread. We estimate that INVH's cost of unsecured debt could potentially approach ~8% today, several hundred basis wide of its blended in-place cost of debt.
We think, similar to other REIT subsectors, that it makes sense for INVH and other SFRs to pause external capital deployment until the depth of the housing decline is a little more clear. Hedgeye's Macro Team thinks it will be very severe.

Ticker: SBAC

Company Name: Active Short SBA Communications

Subsector: Towers

Headline: Verizon (VZ) signals 2022 is indeed the peak capex year

Verizon (VZ) CEO Hans Vestberg was quoted as saying that 2022 is "...our peak year. We're going to do somewhere around ~$22 billion in capex, that's our guidance. And one portion is our business as usual, and then the other is that the new spectrum we bought last year is actually coming to execution right now, and we're doing that as fast as we can."
Recall that we cited peak carrier spending as a core factor behind our recommended short of SBAC. The RoC of lease enhancements, or the portion of revenue growth from new leasing and renewals, correlates with carrier spending on a lag (See Figure 1 below from our Black Book presentation).
Verizon is obviously a major contributor to this aggregate spending, along with T, TMUS and most recently DISH. DISH may have financing / cost of capital issues that could impact both the timing and level of capex spending.
The RoC is clear slowing, which indicates to us that SBAC's RoC on cash revenues and Tower Cash Flow may have already or be about to peak.
This is not meant to be commentary or any view on the carriers, which are covered by our Communications team, rather a read across to the downstream value of Tower real estate.