Alexandria Real Estate Equities, Inc. is a US$16b large-cap, real estate investment trust (REIT) based in Pasadena, United States. REITs own and operate income-generating property and adhere to a different set of regulations. This impacts how ARE’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 ARE.
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 ARE 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 ARE, its FFO of US$570m makes up 60% of its gross profit, which means the majority of its earnings are high-quality and recurring.
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 ARE 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 10%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take ARE 9.61 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 ARE’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 3.62x, it’s safe to say ARE is generating an appropriate amount of cash from its borrowings.
I also use FFO to look at ARE'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 ARE’s case its P/FFO is 28.59x, compared to the long-term industry average of 16.5x, meaning that it is overvalued.
As a REIT, Alexandria Real Estate Equities offers some unique characteristics which could help diversify your portfolio. However, before you decide on whether or not to invest in ARE, I highly recommend taking a look at other aspects of the stock to consider:
- Future Outlook: What are well-informed industry analysts predicting for ARE’s future growth? Take a look at our free research report of analyst consensus for ARE’s outlook.
- Valuation: What is ARE 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 ARE 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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