Well, I didn’t actually plan on deploying any more fresh capital this month. I was quite pleased with both of my equity purchases this month, with further investments in Digital Realty Trust, Inc. (DLR) and Altria Group Inc. (MO). These were both companies that I already had positions in, but I felt both offered relatively attractive value considering what I believe to be a broader market that is modestly overvalued. As always, I value individual companies rather than the broader market. As such, I decided to deploy capital into a real estate investment trust that offers what appears to be fairly compelling value, high yield and potential for reasonable growth.
As part of my Recent Buy series, I try to let my readers know of any equities I purchase soon after the transaction is completed. This is just one way I try to document my progress toward early retirement and financial independence.
A few of you wonderful readers have brought this REIT to my attention, and I recently had a fairly lengthy conversation with one of my oldest readers, Joe, about this company. I have also read that my fellow blogger Dividend Growth Investor is keen on this company. While I don’t invest thousands of dollars of my own money on the whim of other people’s actions and/or opinions, I do quite enjoy and appreciate the insight from other very intelligent investors. I’m here to learn as much as I am to share and inspire. Furthermore, I’ve been looking at REITs strongly as this entire sector has been extremely weak after the talk of tapering from the Federal Reserve’s Quantitative Easing program, which has caused a sharp rise in interest rates over the last couple months. ARCP, for instance, is down almost 28% over the last three months. Obviously, the value investor in me takes notice of such dramatic changes in pricing.
ARCP is a net lease real estate investment trust that acquires, owns and operates single-tenant commercial real estate properties. As of June 30, 2013, they currently have 1,181 properties in their portfolio spread out across 48 states. These properties combine to 19.4 million square feet, which is leased out to 180 tenants. The majority of their tenants are investment grade, and the weighted average lease term is 10 years. They have a 100% occupancy rate. Not much to dislike there.
There’s a lot to like about this business. First, take a look at some of their tenants. These are businesses that everyone has heard of. Think Dollar General Corp. (DG), Walgreen Company (WAG), Advance Auto Parts, Inc. (AAP) and FedEx Corporation (FDX). These are companies that all of us can understand. By owning a piece of ARCP you’re in effect getting a piece of many businesses all across America, because if Dollar General is doing well they’re going to keep paying rent, supplying ARCP with the income it needs to keep paying it’s investors dividends and grow the business through organic rent increases and outside acquisitions.
Next, look at the growth. They had 146 properties as of December 31, 2012. As of March 31, 2013 they had 701 properties. They now have over 1,100 properties. And they stand to more than double that number before the end of the year. This growth has been fueled by acquisitions, many of them through related publicly registered non-listed REITs , which fall under the management of American Realty Capital. ARC manages both ARCP and non-traded REITs known as ARCT (American Capital Realty Trust). Nicholas S. Schorsch is the CEO and Chairman of the Board for ARCP and also manages ARC, which builds the non-listed REITs which merge with publicly traded REITs like ARCP. ARCP acquired ARCT III back in February of this year. And ARCP isn’t the only REIT privy to these types of acquisitions, as Realty Income Corp. (O) acquired ARCT I and it’s 515 properties earlier this year. That made O the world’s largest net-leased REIT. Now, ARCP is following in those footsteps as it looks to close the acquisition of ARCT IV in mid-to-late September. ARCT IV currently has 1,152 properties in its portfolio, and this deal is valued at $3.1 billion. ARCP is also closing on the acquisition of CapLease, Inc. (LSE) in mid-September in a deal valued at $2.2 billion. This deal will give ARCP some diversification through exposure to office buildings, which is a move that aligns well with Schorsch’s intention to diversify ARCP into non-retail space.
ARCP is fast becoming the second-largest single-tenant REIT in the U.S., behind only Realty Income Corp. The gap between the two companies in terms of tenant quality, number of properties, occupancy rates and geographical diversification is closing quickly. However, the great thing is that an investor is able to buy into this growth at a much cheaper valuation (and hence a higher yield) than O right now.
Based on TTM AFFO of $0.95, the P/AFFO currently stands at 13.5. Using ARCP’s 2014 guidance of $1.14 – $1.18 in AFFO for 2014 you’re looking at a forward P/AFFO of ~11. Not too bad considering the entry yield. Based on ARCP’s current annual dividend rate of $0.91 per share the entry yield on this purchase is 7.11%. Even better, ARCP has already announced a dividend raise to $0.94 on an annual per share basis. This raise will be in effect after the acquisitions mentioned above close, likely in late September. This means the yield-on-cost quickly rises to 7.35%. Better still, ARCP pays its dividend monthly. Not too shabby! This purchase has added $91.00 to my annual dividend income based on the current payout. Even with minimal capital gains you’re looking at a reasonable return from ARCP. The balance sheet is also not overly leveraged, with a debt/equity ratio of approximately 0.4.
I used a Dividend Discount Model to value the shares as well, and used a 10% discount rate and a 5% long-term dividend growth rate. The growth rate is hard to assume right now as there are a lot of changes going on with ARCP and it’s only been a publicly traded company since September 2011, but I think 5% is achievable based on the growth that management is forecasting in the underlying business and funds from operations. Using these inputs, I get a Fair Value of just over $19 per share. I’d say it’s fair to assume there is a margin of safety here, as even with just 3% growth I got in below fair value here.
I’m currently invested in 38 companies, as this was a new investment.
I usually like to include analyst valuation opinions on my purchases, but neither Morningstar nor S&P Capital IQ track this stock.
I’ll update my Freedom Fund in early September to reflect my recent addition.
Full Disclosure: Long ARCP, O, DLR, MO
How about you? Interested in ARCP at these prices? What are you buying?
Thanks for reading.