REP properties (NYSE:REP) offers a well-supported 7% dividend yield for income investors looking for something different in their portfolios. EPR Properties is an entertainment-focused REIT and has an extensive portfolio of experiential properties such as theaters, tourist and attraction destinations, etc. The REIT was impacted by the COVID-19 pandemic which closed all but the most essential facilities, but EPR Properties has since benefited from a strong post-pandemic FFO recovery. The REIT’s dividend is well supported by cash flow and the shares still have revaluation potential in fiscal 2024!
I recommended EPR Properties as a sort of countercyclical investment in 2021 when I suggested that the REIT had the potential to reinstate its dividend and that it could experience a deep recovery in FFO linked to a reopening of its facilities in public after COVID-19: EPR Properties has 30% upside potential and a big catalyst. Since then, EPR Properties’ shares have been revalued downward by 8%, but the REIT’s FFO situation has gradually normalized and the dividend has been reinstated, as planned. I think EPR Properties is an income-generating buy at this point, but also has re-rating potential.
A unique, entertainment-focused REIT benefiting from a strong FFO recovery
EPR Properties is clearly not your average REIT. Most normal REITs tend to invest in portfolios of residential or commercial properties, but some are unique, such as EPR Properties: The REIT primarily invests in entertainment facilities that provide visitors with unique experiences. EPR Properties’ portfolio includes theaters, visitor attraction facilities as well as fitness, wellness and snow sports destinations. The REIT, however, decided to reduce its exposure to the cinema segment, as the trend towards streaming movies and TV shows has hurt attendance at cinema chains like AMC Entertainment (AMC). In total, the REIT owned 288 properties in its experiential portfolio and an additional 71 properties in its educational portfolio.
During the pandemic, the REIT experienced a decline in its visitor numbers as government authorities restricted travel to contain the spread of COVID-19 and only the most essential facilities were allowed to remain open. However, over the past three years, a major recovery in FFO has occurred, fully restoring EPR Properties’ revenue and funds from operations profile to pre-pandemic levels. The REIT also resumed paying a monthly dividend in the amount of $0.275 per share per month.
A strong balance sheet provides additional support and a well-staged debt maturity structure
EPR Properties has an investment grade rated balance sheet and the REIT has earned investment grade credit ratings with stable outlooks from each major rating agency: Fitch, S&P and Moody’s. More than 50% of the REIT’s capitalization is also common and preferred stock and the company has a moderate amount of net debt, relative to its total equity, on its balance sheet. With a full FFO recovery underway and a stable balance sheet to boot, I think EPR Properties is a promising return play for FY2024.
EPR Properties had no debt maturities in 2023 and only a limited amount in 2024. Overall, the REIT has a well-staggered maturity schedule, with the majority of its debt due within fiscal year 2026 or later.
EPR Properties has potential for dividend increase in 2024
EPR Properties benefited, as previously noted, from a deep (adjusted) FFO recovery following the end of the pandemic. With COVID-19 restrictions easing, visitors have returned to the REIT’s many attraction properties in 2022 and this year as well.
The result of this recovery was that the REIT now offers income investors very strong dividend coverage: EPR Properties achieved $1.47 per share in adjusted diluted FFO in the third quarter of 2023, a year-on-year increase over the other by 27%. Since the REIT continued to pay just $0.275 per share monthly as a dividend in the third quarter, EPR Properties disclosed a dividend coverage ratio of 178% for the third quarter of 2023 (162% during the fiscal year 2023, since the beginning of the financial year). The dividend coverage situation allows, in theory, the REIT to increase its dividend during the 2024 financial year.
Fair value of EPR buildings
EPR Properties forecast adjusted funds from operations of $5.14 per share, at midpoint, for the current fiscal year. Since the REIT earned $4.89 per share in fiscal 2022, EPR Properties is on track to increase its adjusted funds from operations by 5% year over year. Assuming EPR Properties can also increase its adjusted FFO by 5% next year (to $5.40 per share), the REIT is currently valued at a forward P/FFO ratio of 9.1X.
EPR Properties was valued much higher before the pandemic and I don’t see why that valuation couldn’t be restored, especially since the REIT is on track to achieve a similar level of FFO in fiscal 2024 as ‘before the pandemic (EPR Properties’ AFFO for fiscal 2019 was $5.44 per share). Assuming an adjusted FFO of $5.40 per share for fiscal 2024 and applying a very reasonable 12.0 XP/FFO ratio, EPR shares could potentially have a fair value closer to $65. A 12.0 XP/FFO ratio is not outrageous for a REIT that offers a well-covered dividend yield of 7%, in my opinion. With a fair value of $65, EPR Properties shares could have an upside revaluation potential of 32%.
Risks with EPR Properties
An investment in EPR Properties is based on the assumption that the U.S. economy does not slide into a recession and that consumer spending is not ready to contract. As long as consumers are willing to freely spend money on travel and leisure experiences, EPR Properties is expected to continue its FFO growth. However, a significant drop in consumer spending or another pandemic would likely negatively impact the trajectory of the REIT’s funds from operations.
I recommended EPR Properties over two years ago and believe the REIT provides its investors with a well-sustained dividend yield of 7% following the reinstatement of the dividend in fiscal 2021. A Major Recovery in FFO has taken place since then, and I continue to see a moderate recovery in FFO. FFO could rise as long as the U.S. avoids a recession and consumer spending increases. EPR Properties also has the opportunity, given its decent dividend coverage measures, to increase its monthly dividend in FY 2024!