Retail Value Inc is a US$571m small-cap, real estate investment trust (REIT) based in Beachwood, United States. REITs are basically a portfolio of income-producing real estate investments, which are owned and operated by management of that trust company. They have to meet certain requirements in order to become a REIT, meaning they should be analyzed a different way. In this commentary, I’ll take you through some of the things I look at when assessing RVI.
REIT investors should be familiar with the term Fund from Operations (FFO) – a REIT’s main source of cash flow from its day-to-day business activities. FFO is a higher quality measure of earnings because it takes out the impact of non-recurring sales and non-cash items such as depreciation. These items can distort the bottom line and not necessarily reflective of RVI’s daily operations. For RVI, its FFO of US$96m makes up 48% of its gross profit, which means over a third of its earnings are high-quality and recurring.
In order to understand whether RVI has a healthy balance sheet, we have to look at a metric called FFO-to-total debt. This tells us how long it will take RVI to pay off its debt using its income from its main business activities, and gives us an insight into RVI’s ability to service its borrowings. With a ratio of 8.5%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take RVI 11.78 years to pay off using just operating income, which is a long time, and risk increases with time. But realistically, companies have many levers to pull in order to pay back their debt, beyond operating income alone.
I also look at RVI’s interest coverage ratio, which demonstrates how many times its earnings can cover its yearly interest expense. This is similar to the concept above, but looks at the upcoming obligations. The ratio is typically calculated using EBIT, but for a REIT stock, it’s better to use FFO divided by net interest. With an interest coverage ratio of 1.07x, RVI is not generating an appropriate amount of cash from its borrowings. Typically, a ratio of greater than 3x is seen as safe.
I also use FFO to look at RVI’s valuation relative to other REITs in United States by using the price-to-FFO metric. This is conceptually the same as the price-to-earnings (PE) ratio, but as previously mentioned, FFO is more suitable. In RVI’s case its P/FFO is 5.87x, compared to the long-term industry average of 16.5x, meaning that it is undervalued.
Retail Value can bring diversification into your portfolio due to its unique REIT characteristics. Before you make a decision on the stock today, keep in mind I’ve only covered one metric in this article, the FFO, which is by no means comprehensive. I’d strongly recommend continuing your research on the following areas I believe are key fundamentals for RVI:
- Valuation: What is RVI worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether RVI is currently mispriced by the market.
- Management: Who are the people running the company? Experienced management and board are important for setting the right strategy during a volatile market. Take a look at information on RVI’s executive and directors here.
- Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at firstname.lastname@example.org.