U.S. Markets closed

Should You Invest In Scentre Group (ASX:SCG)?

Simply Wall St

Scentre Group is a AU$21b large-cap, real estate investment trust (REIT) based in Sydney, Australia. REITs own and operate income-generating property and adhere to a different set of regulations. This impacts how SCG’s business operates and also how we should analyse its stock. Below, I'll look at a few important metrics to keep in mind as part of your research on SCG.

Want to participate in a short research study? Help shape the future of investing tools and you could win a $250 gift card!

View our latest analysis for Scentre Group

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 SCG’s daily operations. For SCG, its FFO of AU$1.3b makes up 72% of its gross profit, which means the majority of its earnings are high-quality and recurring.

ASX:SCG Historical Debt, May 25th 2019

Robust financial health can be measured using a common metric in the REIT investing world, FFO-to-debt. The calculation roughly estimates how long it will take for SCG to repay debt on its balance sheet, which gives us insight into how much risk is associated with having that level of debt on its books. With a ratio of 8.3%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take SCG 12.07 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 SCG'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 2.41x, SCG is not generating an appropriate amount of cash from its borrowings. Typically, a ratio of greater than 3x is seen as safe.

In terms of valuing SCG, FFO can also be used as a form of relative valuation. Instead of the P/E ratio, P/FFO is used instead, which is very common for REIT stocks. SCG's price-to-FFO is 15.96x, compared to the long-term industry average of 16.5x, meaning that it is fairly valued.

Next Steps:

Scentre Group 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 SCG:

  1. Future Outlook: What are well-informed industry analysts predicting for SCG’s future growth? Take a look at our free research report of analyst consensus for SCG’s outlook.
  2. Valuation: What is SCG 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 SCG is currently mispriced by the market.
  3. 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.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.