RioCan Real Estate Investment Trust $22 (Toronto symbol REI.UN Aggressive Growth Portfolio, Manufacturing & Industry sector; Units outstanding: 212.0 million; Market cap: $4.7 billion; SI Rating: Average) is Canada’s largest real estate investment trust. It owns 214 retail properties, including 12 under development, comprising an aggregate of almost 55 million square feet. RioCan specializes in “New Format” shopping centres. These are large, outdoor malls made up of “Big Box” stores in the suburbs of larger cities. They feature plenty of room for parking and future expansion. RioCan also operates smaller outdoor shopping centres, as well as enclosed malls in urban areas. The trust’s revenue rose from $474.5 million in 2003 to $719.9 million in 2007. Its earnings fell from $1.03 a unit (total $174.4 million) in 2003 to $0.69 a unit ($134.9 million) in 2005, but rose to $0.83 a unit ($163.8 million) in 2006. In 2007, a non-cash charge of $144 million related to changes in the way Ottawa taxes REITs cut earnings to $0.16 a unit ($32.4 million). If you exclude this adjustment, RioCan would have earned$0.85 a unit in 2007. Cash flow per unit grew from $1.26 in 2003 to $1.51 in 2007. In the first quarter of 2008, RioCan’s earnings fell 19.0%, to $30.3 million from $37.4 million a year earlier. Earnings per unit fell 22.2%, to $0.14 from $0.18, on more units outstanding. Most of the drop is due to one-time charges related to RioCan’s move to new head offices in Toronto. Cash flow fell8.6%, to $0.32 a unit from $0.35. However, revenue rose 5.1%, to $183.4 million from $174.5 million.
Big retail tenants cut risk
RioCan gets over 82% of its revenue from national and anchor tenants, including Famous Players (movie theatres), Wal-Mart, Canadian Tire and Loblaw. No individual tenant accounts for more than 6% of RioCan’s revenue, which cuts its risk. Overall occupancy is about 97%. RioCan also staggers the maturities of its leases to further cut risk. The percentage of leases up for renewal over each of the next few years is small — 4.1% in 2008, 8.7% in 2009, 9.8% in 2010, 11.5%in 2011 and 8.8% in 2012.
Focus on fast-growing cities pays off
RioCan prefers to focus its operations on Canada’s six largest cities: Toronto, Montreal, Ottawa, Vancouver, Edmonton and Calgary. These areas contain 45% of Canada’s population, and account for roughly two-thirds of our population growth. RioCan’s properties in Ontario and Quebec supply 80% of its revenue. Densely populated areas give retailers more opportunity to expand. New zoning regulations in many cities also make it easier for real estate developers to build more mixed-use properties, such as shopping centres with adjacent residential and office space. RioCan is now undertaking a land intensification program to enhance returns from its existing properties. It plans to add 250,000 square feet of new retail space annually to a number of its New Format and neighborhood shopping centres. As well, it will also probably spend $200 million on acquisitions of new properties in 2008.
New units help preserve cash
In April 2008, RioCan sold $150 million worth of new units, which will help fund its expansion plans. Paying for acquisitions with equity also helps RioCan conserve cash for distributions. Long-term debt of $3.2 billion is equal to 68% of RioCan’s market cap. That’s high, but should not hinder RioCan’s expansion plans. RioCan has raised its distributions every year since it became a REIT in 1995. The current annual rate of $1.35 a unit, payable monthly, yields 6.1%. RioCan paid out 89% of its cash flow in 2007. That’s reasonable in light of the trust’s steady cash flow.
Reputation helps attract new tenants
RioCan’s strong reputation continues to help it retain tenants, plus attract new ones. For example, U.S.-based home improvement retailer Lowe’s has agreed to open two new stores in RioCan’s Toronto area malls. Lowe’s will likely open more stores in RioCan’s malls as it expands to more areas of Canada. RioCan’s units got as high as $27 in February 2007, but fell to $18 in January 2008 on fears that slowing consumer spending would hurt occupancy levels and cash flows. Liquidity problems in the credit markets could also hinder its expansion plans, plus drive up the costs of new developments.
High p/e still reasonable
However, RioCan’s high-quality properties and tenants should help it maintain its current distribution rate. The units now trade at 28.6 times the $0.77 a unit that RioCan should earn in 2008. They also trade at 14.9 times its likely cash flow of $1.48 a unit. RioCan is a buy.
