Gladstone Commercial Corporation is a US$571m small-cap, real estate investment trust (REIT) based in McLean, United States. REITs own and operate income-generating property and adhere to a different set of regulations. This impacts how GOOD’s business operates and also how we should analyse its stock. In this commentary, I’ll take you through some of the things I look at when assessing GOOD.
A common financial term REIT investors should know is Funds from Operations, or FFO for short, which is a REIT’s main source of income from its portfolio of property, such as rent. FFO is a cleaner and more representative figure of how much GOOD actually makes from its day-to-day operations, compared to net income, which can be affected by one-off activities or non-cash items such as depreciation. For GOOD, its FFO of US$47m makes up 57% of its gross profit, which means the majority of its earnings are high-quality and recurring.
In order to understand whether GOOD 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 GOOD to pay off its debt using its income from its main business activities, and gives us an insight into GOOD’s ability to service its borrowings. With a ratio of 8.6%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take GOOD 11.58 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 GOOD’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 1.91x, GOOD 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 GOOD, 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. GOOD’s price-to-FFO is 12.2x, compared to the long-term industry average of 16.5x, meaning that it is undervalued.
As a REIT, Gladstone Commercial offers some unique characteristics which could help diversify your portfolio. However, before you decide on whether or not to invest in GOOD, I highly recommend taking a look at other aspects of the stock to consider:
- Future Outlook: What are well-informed industry analysts predicting for GOOD’s future growth? Take a look at our free research report of analyst consensus for GOOD’s outlook.
- Valuation: What is GOOD 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 GOOD 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.
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.