Overview
SmartCentres is a large Canadian REIT that specializes in value-oriented retail stores and shopping centers, many anchored by Walmart supercenters. The REIT’s main purpose is to develop, lease, construct, own and manage shopping centers and office buildings. The REIT generally prefers properties that are located next to major highways and contain anchor stores. Portfolio occupancy at the end of 2017 Q3 was 98.6 percent and YTD same-property income was 1.3 percent. The board hiked its dividend by 5 cents in November, bringing it to $1.75 per unit.
Recent Company Trends
SmartCentres is in the process of diversifying its holdings in several segments, including seniors housing, and mixed-use, residential and storage properties. CEO Huw Thomas credits three important factors for the REIT’s recent strong results:
- Strong retail sector: The Canadian retail sector is stronger than the USA’s, thanks to lower retail footage per household and Canada’s strong economy.
- E-commerce obstacles: Canada’s e-commerce sector faces certain obstacles relative to the USA’s experience, including higher shipping costs, geographic spread and isolation, and lower population numbers. Brick and mortar stores are the beneficiaries
- High-quality shopping centers: Walmart is a key anchor property that draws customers and other tenants. The REIT concentrates on value-oriented stores in open-design shopping centers – it operates in only five internal malls.
Holdings
As of the end of 2017 Q3, SmartCentres owned 143 shopping centers with total gross leasable area (GLA) of 32 million square feet. In October, it acquired another 12 retail properties from OneREIT, adding another 2.2 million sq. ft. of GLA. It also owned one mixed-use property, one office property and seven development properties. The bulk of its properties are located in Ontario and Quebec.
The top 10 tenants (by rental revenue) account for 65 percent of the REIT’s leased area and almost 50 percent of portfolio revenue, from 450 stores. They are:
- Walmart
- Canadian Tire, Mark’s and FGL Sports
- Winners, HomeSense and Marshalls
- Lowe’s and RONA
- Sobeys
- Loblaws and Shoppers Drug Mart
- Reitmans
- Best Buy
- Dollarama
- Michaels
The REIT’s evolution into mixed-use development includes the Vaughan Metropolitan Center, Studio Centre, Vaughan North West Townhouses, and the Laval high-rise residence.
SmartCentre is pursuing an opportunistic property-acquisition strategy that adds to profits relative to its long-term cost of capital. In addition to new development, the strategy includes earnouts (GLA developed and leased by third parties) and mezzanine financing (options to purchase 50 percent of shopping centres once development is completed). As of the end of 2017 Q3, the REIT’s potential gross leasable area is 4.53M square feet.
Financials
Rental income from investment properties for the first three quarters of 2017 was $544.8M (compared to $541.1M Y-O-Y). Walmart is the largest renter – 95 stores –with an annualized rental revenue of $190.8M, 26.2 percent of all rent. Net operating income was $352.1M ($356.3M), and net income was $254.0M ($232.3M).
As of the end of 2017 Q3, SmartCentres had the following financial statistics:
Current Ratio | 0.20 |
Financial Leverage | 2.25 |
Debt/Equity | 0.82 |
Gross Margin | 64.6% |
Return on Assets | 3.9% |
Return on Equity | 8.9% |
Interest Coverage | 3.2X |
Revenue Growth (3-year average) | 8.3% |
Net Income Growth (3-year average) | 5.7% |
Earnings per Share Growth | 22.01% |
Earnings per Share | $2.18 |
Dividend | $1.70 |
Payout Ratio | 77.9% |
Funds From Operations (FFO) | $87.8M |
Free Cash Flow/Sales | 44.79% |
Free Cash Flow/Net Income | 95.3% |
Operating Income Growth | 3.42% |
Same Property NOI Growth YOY | 2.15% |
As of January 22, 2018, SmartCentres REIT had the following statistics:
Price/Share | $30.75 |
Price/Cash Flow | 14.7 |
Price/Book | 1.2 |
Price/Sales | 6.6 |
Price/Earnings | 14.1 |
Dividend Yield | 5.62% |
Market Cap | $4.8B |
Outlook
SmartCentres REIT is committed to significant new mixed-use redevelopment, with more than 50 projects underway. The largest of these projects include Laval Centre and Pointe Claire SmartCentre in the Montreal area, Highway 400 & 7 in Vaughan, Ottawa South SmartCentre, Richmond Hill SmartCentre, and Westside Mall in Toronto. These projects will add up to 4.5 million square feet of mixed-use rental space.
Factors contributing to a positive outlook include:
- Strong tenant base: The REIT’s shopping centers are anchored by Walmart, grocery stores and other major tenants. SmartCentres has a 98.6 percent occupancy rate.
- Location: All centers are conveniently located
- E-commerce: All major tenants, with the exception of Dollarama, have embraced omni-channel platforms that attract foot-traffic and e-commerce customers. This enhances the tenants’ financial strength. Nonetheless, value-oriented, unenclosed shopping centers have not been significantly impacted by e-commerce. The REIT is enhancing its shopping centers with WiFi networks, charging stations, digital signage and mobile advertising.
- Demographics: Canada’s population has grown over the last five years, while retail development has slowed, creating opportunity in the mixed-use space
- No Sears: SmartCentres has no exposure to the shutdown of Sears Canadian stores. However, the vacated Sears locations may moderate rent increases throughout the industry, although some tenants in Sears-anchored malls might wish to relocate elsewhere, including to SmartCentres properties. Naturally, Walmart stands to benefit from Sears’
- Redevelopment: The open architecture of the REIT’s shopping centers facilitates the addition of mixed-use properties that will help diversify rental income and add value.
- Parking: SmartCentres is involved in expanding parking facilities at retail and residential properties. In addition, several of the REITs strategically-located properties will benefit from the expansion of municipal subway, bus and highway facilities.
- Self-storage: The REIT is about to enter the self-storage niche, in conjunction with partner SmartStop. It plans to develop at least five new self-storage facilities annually. Each facility will offer 100,000 square feet of multi-level storage space.
- Capital: SmartCentres is prepared for a credit crunch or high-interest rates by securing a $500 million revolving line of credit. This insulates the REIT during times when it’s not attractive to issue new bonds. In addition, it maintains an unencumbered pool of assets worth in excess of $2.9B, providing SmartCentres with a good credit rating that will permit it to raise secured financing at favorable rates. It has raised four capital funding facilities (of $60M, $16M, $16M and $30M) to finance the ongoing construction of four large projects. The REIT uses interest rate hedges to guard against rising rates. About 2/3 of the REIT’s debt is secured versus 1/3 unsecured, although it plans over time to rebalance to a 50:50 ratio.
Summary
SmartCentres REIT is enjoying a favorable business cycle and taking active steps to reduce its risk by diversifying holdings, favoring value-oriented tenants and reducing secured debt. Conservative investors might well want to consider an investment in SmartCentres if they wish to gain exposure to lower-risk Canadian real estate properties.