City Office REIT, Inc. is a US$441m small-cap, real estate investment trust (REIT) based in Vancouver, Canada. REIT shares give you ownership of the company than owns and manages various income-producing property, whether it be commercial, industrial or residential. The structure of CIO is unique and it has to adhere to different requirements compared to other non-REIT stocks. Below, I’ll look at a few important metrics to keep in mind as part of your research on CIO.
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 CIO’s daily operations. For CIO, its FFO of US$42m makes up 53% of its gross profit, which means over a third of its earnings are high-quality and recurring.
In order to understand whether CIO 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 CIO to pay off its debt using its income from its main business activities, and gives us an insight into CIO’s ability to service its borrowings. With a ratio of 6.5%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take CIO 15.3 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.
Next, interest coverage ratio shows how many times CIO’s earnings can cover its annual interest payments. Usually the ratio is calculated using EBIT, but for REITs, it’s better to use FFO divided by net interest. This is similar to the above concept, but looks at the nearer-term obligations. With an interest coverage ratio of 1.76x, CIO 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 CIO’s valuation relative to other REITs in Canada 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 CIO’s case its P/FFO is 10.45x, compared to the long-term industry average of 16.5x, meaning that it is undervalued.
City Office REIT 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 CIO:
- Future Outlook: What are well-informed industry analysts predicting for CIO’s future growth? Take a look at our free research report of analyst consensus for CIO’s outlook.
- Valuation: What is CIO 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 CIO is currently mispriced by the market.
- 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.
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