Below is an excerpt on retail REITs from a 109 page book on REITS put together by Ivan Ho CFA, CAIA, CMFAS, Hon(BBA) – to get another 51 pages sign up here and to get the full 109 pages and check out the course click on this link.
Copyright © 2017 by Chlorophyll Inc. All rights reserved – Partial excerpt with permission
- Retail Apocalypse: The world is ordering like the Jetsons but shopping like the Flintstones
Source: Simply Safe Dividends, REIT.com
The Glory of REITs
One of the best things about investing in REITs is that you have the opportunity to invest in a sector that interests you. It is therefore important for a REIT unitholder to understand the risks involved in each type of REIT and the dynamics of the sector in which they reside. As the famous Warren Buffett once said “Never invest in a business you cannot understand”.
With this in mind, let’s dive into the different types of REITs and what each of them can offer you as an investor.
Understanding area dynamics
Ideally, you want to invest in Retail REITs that own malls and shopping centres which consistently draw in the crowds and have the potential to continuously revise rental rates upwards. Such retail properties are usually located in a crowded, prosperous nation with limited land space.
Besides land space, other salient factors include strict governance on where certain things should be sold and unforgivingly hot, humid weather; this virtually guarantees that well-managed malls equipped with air conditioning
will see consistently high traffic, and thus justifies higher rents charged by the Retail REIT.
When we look at America, where land is abundant, and particularly in many parts of the country where the weather is friendlier, people in those areas will mostly prefer to spend their free time at the beach, in the countryside or by engaging in outdoor activities rather than dwell in shopping centres. This means that if your Retail REIT owns malls along these areas, where the ‘shopping’ mentality is feeble or absent; the performance of your investment might not be that desirable.
In addition, areas with high crime, theft, murder and vandalism rates should also be taken into consideration when doing due diligence on the quality of the malls in a Retail REIT. Many malls across America have been abandoned simply because the area was just not conducive enough for proper retail activity. You would want to avoid Retail REITs that have or plan to have malls in questionable areas.
Therefore, it is important to understand the countries and local areas in which the properties of the REIT are located, as location is one of the factors that determine whether the REIT can continue to deliver yields in the foreseeable future.
The advantages of investing in a Retail REIT
One advantage would be the ease of conducting due diligence. Due diligence on retail REITs can be done by simply walking into a mall and spending some time observing the location, mall architecture, tenant mix and type of shoppers. With such information, you can obtain a first-hand idea of the earning power of that mall, unlike other types of REITs where observing the property from within can be difficult or prohibited.
If a mall is too far from your location, ask a friend or pay someone to do the due diligence for you; it’s as simple as that.
Another advantage Retail REITs have over the other REITs is the “stickiness” of their tenants. Unlike an office or industrial tenant who can just snap their fingers and move to another area for the sake of cheaper rent, retail tenants are more wedded to their locations because of their regular customer base.
“A hallmark of a vibrant Retail REIT is one whose management is proactive in organising events, holding competitions and actively engaging people to come into their malls. Suntec Real Estate Inv. Trust (T82U.SI) is an excellent example; the REIT hold multiple entertainment events, invite celebrities to meet and greet fans, hold competitions, host international conferences, and organise sale bazaar fairs and travel roadshows to continue to make their shopping malls attractive.”
Online shopping vs. Retail REITs
No one can deny that online retailing poses a formidable threat to malls and the level of patronage to them.
Although some malls may well lose some tenants due to online competition, at least for the next 10 years (in my opinion), people will continue to frequent malls for their personal services and the joy of being physically there to buy products – something which e-commerce cannot replace. Retailers have also shown they have what it takes to engage the consumers and persuade customers to part with their dollars.
Now that you have gained a bit of insight into Retail REITs, let’s move on to the next type of REIT...
Hospitals and nursing homes are underlying assets of Healthcare REITs. The master lessee of these properties usually takes care of all property operating expenses, taxes and insurance of the property. Who is the master lessee? They are the main tenant who rents the entire hospital from a lessor.
The leases of healthcare assets are generally long term, and by long term I mean more than ten years! This makes sense, given their industry. For example, National Health Investors, Inc. (NYSE: NHI) generally sign 15-year leases on each of their portfolio assets.
The leases of healthcare facilities are made up of two portions. The first portion is the base rent which is inherently inflation-protected (meaning the rent rises alongside the inflation) and the second portion is the variable rent which rises and falls according to the performance of the portfolio of hospitals.
This is an attractive lease structure for risk-advised unit holders as the base rent limits the downside, while the variable rent mechanism allows you to participate in the upside.
Did you know that there were more than 125 million outpatient hospital visits in the US in 2014 alone? Be it for small accidents or major emergencies, hospitals and healthcare offices will always be in demand. This is one of the reasons hospitals’ REITs are often sought-after investments, as they are likely to show a solid and steady return on investment even during a recession.
But not all hospitals are built the same; some are better than others, and so doing your due diligence to find the better ones is still required.
Hospitals like Massachusetts General Hospital (MGH) in Boston represent the kind of hospitals in which your Healthcare REIT should invest. MGH has many reputable doctors, specialists and dedicated nurses that helped the hospital develop an exceptional reputation among the public.
When people in the area think of the best place to go for surgery, they think of MGH; likewise for people seeking treatments for cancer, and heart diseases. All of these pose a strong barrier to entry for new entrants and sustain the yield for a Healthcare REIT.
“How to quickly tell if a hospital is well managed? The answer: Visit the car park. If the car park is well kept, clean and tidy, then the rest of the hospital will likely be well kept, clean and tidy too.”
Overseas healthcare assets
If you are thinking about investing in overseas Healthcare REITs, be sure to apply additional scrutiny. Ask yourself these two questions before investing: Does this overseas Healthcare REIT have a track record of managing healthcare assets in a cash-flow positive manner? Does the REIT have a reputable parent?
Quantitative observation-wise, look at the “Rent over the EBITA” ratio of the hospital operator, which is simply the total rental/earnings before interest, taxes, depreciation and amortisation.
\This refers to the rental owed to the REIT as a proportion of the cash that the healthcare business is generating. Generally speaking, the lower the ratio, the safer it is for the REIT. A ratio of 40% to 60% offers a respectable margin of safety to the REIT should things take a turn for the worse in the local economy.
But where in the world are those impeccable Healthcare REITs?
Allow me to point you to Southeast Asia. Healthcare properties across this region are generally backed by strong future predictors of success: the Asian population is poised to increase, to urbanise and to grow wealthier; the demands for all types of quality healthcare facilities/services are likely to grow.
Indonesia, for example, spends less than 5% of their GDP on healthcare relative to countries like the US and UK. As such, wealthy Indonesians will fly to countries like Singapore, Japan and as far away as Switzerland for better healthcare services and elective procedures. Thus, Indonesia has huge potential in its healthcare industry, and many major healthcare operators are racing to acquire these first-rate assets. Hint: First REIT (AW9U.SI)
“Many unitholders do not have the financial capability and time to do due diligence on an overseas hospital asset. However, one can simply use Google maps and observe where the hospital is located. Is it easily accessible? Is it in or near a major city or dense population base? Are there many other hospitals around in proximity?”
If you are interested to learn more about retail reits or general REITs and how to select to best of them. I would recommend attending “Dividend Investing Specialised Topic: REITs MasterClass” on udemy, an affordable course that teaches you how to master this class of investment. Value walk readers will get to enjoy a special discount rate. Click on the link below to find out more.
The Material should Not Be Considered As Advice Or A Recommendation To Investors Or Potential Investors In Relation To Holding, Purchasing Or Selling Securities Or Other Financial Products Or Instruments And Does Not Take Into Account Your Particular Investment Objectives, Financial Situation Or Needs.
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