You May Have Been Looking At Sun Communities, Inc. (NYSE:SUI) All Wrong
Sun Communities, Inc. is a US$9.5b mid-cap, real estate investment trust (REIT) based in Southfield, United States. REITs own and operate income-generating property and adhere to a different set of regulations. This impacts how SUI’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 SUI.
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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 SUI 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 SUI, its FFO of US$262m makes up 44% of its gross profit, which means over a third of its earnings are high-quality and recurring.
In order to understand whether SUI 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 SUI to pay off its debt using its income from its main business activities, and gives us an insight into SUI’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 SUI 11.76 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 SUI’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 2.01x, SUI 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 SUI’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. SUI’s price-to-FFO is 36.6x, compared to the long-term industry average of 16.5x, meaning that it is overvalued.
Next Steps:
Sun Communities 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 SUI:
Future Outlook: What are well-informed industry analysts predicting for SUI’s future growth? Take a look at our free research report of analyst consensus for SUI’s outlook.
Valuation: What is SUI 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 SUI 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 editorial-team@simplywallst.com.
