CareTrust REIT: A Value Investment For Long Term Hold (NASDAQ: CTRE)

Stock Market


Last days of Spring

Ricky Howitt / iStock via Getty Images

I consider investing in Real Estate Investment Trusts, or REITs, only as a long term option, preferably with a 5 to 10 year horizon. The reason is very simple. Real estate itself is a long term investment, ie, it can realize its true value only in the long term. CareTrust REIT, Inc. (CTRE) is a publicly-traded real estate investment trust engaged in the ownership, acquisition, development and leasing of skilled nursing, seniors housing and other healthcare-related properties. As CTRE owns a lot of properties, as well as generates lease rentals, I’ll analyze it’s investibility over two metrics – price growth, as well as dividend payments.

My objective regarding price growth will be to evaluate whether the returns are steady over the long term, and can it beat the market average. With a share price rise of 26% over five years, it surely falls short of the average market return. However, much of this downside has come over the past two years of pandemic scenario, when the lease rentals of skilled nursing, seniors housing and other healthcare-related properties has seen a major slump. These segments also witnessed an oversupply. But the trend seems to be reversing now. Skilled nursing is on a path of recovery. Between 2020 and 2040 the 70 plus age group is also predicted to increase over 60 percent and touch a figure of 62 million by 2040 from that of 38 million in 2020.

CTRE peers

CTRE peers (seekingalpha.com/symbol/CTRE)

On the other hand, because real estate investors are dependent on monthly, quarterly or annual income, a good REIT fund should also generate a significant and sustainable dividend yield of 5-8% to generate strong income while investors look forward to gain through appreciation.

I follow the same principle of real estate investment while investing in REIT. The rentals and appreciation of real estate properties are replaced by dividends and price growth of REIT. Like real estate investments, money is primarily made at the time of the investment by buying below the fair value. I then patiently hold these undervalued REITs, earn significant sustainable dividend income, and wait for long-term price growth over 5 to 10 years.

Now, a sustainable dividend income and significant price growth over the long run can only be supported through strong fundamentals. The fundamentals will also allow the investors to understand its fair market value so as to buy the fund while it is undervalued. In order to understand its fundamentals, let’s go through its portfolio, investors, dividend history, and fund flow analysis. It’ll be followed by a financial analysis and comparative analysis of similar smaller REITs.

CareTrust portfolio is well-diversified both in terms of geography, business segments and ownership structure. It is operating in 27 states, operating in different healthcare segments such as Skilled Nursing (71 percent), Multi-Service Campus (11 percent) and Senior Housing & Assisted living (17 percent). 87 percent of its investors are institutions, while just over 11 percent investment is held by individual investors.

Most of CTRE’s lease agreements will expire during the 2030-2033 time period. Due to the presence of such long term lease agreements, investors can expect a steady fund flow from operations and dividend payouts. Despite the pandemic scenario, the fund flow from operations has been quite consistent and estimated to remain within a range of 0.35 to 0.40.

Funds flow from operations (FFO) is used by real estate investment trusts to calculate the cash flow from their operations. Instead of net earnings, which is on an accrual basis and is also adjusted with non operating income and expenses, FFO gives a clear picture of operating income and that is also on cash basis. Thus for a high investment oriented business like real estate and the subsequent REIT funds, FFO can be considered as their lifeline. So, the Price / FFO ratio holds much more significance over price / Earnings ratio. CTRE’s Price / FFO estimated to be between 12 and 13 suggests that the REIT’s current valuation is estimated to be between 12X and 13X of its current operating cash flow. It is a general practice to treat any real estate asset as undervalued if it is less than 20X to 25X over its operating cash flow ie the rentals in excess of expenses. In that sense, we can treat this REIT to be undervalued.

CareTrust recently reported its quarterly dividend at $ 0.27 per share, taking its annual dividend payment to $ 1.06 per share, up from $ 0.90 per share it had paid in the previous year. At the current price point, the REIT offers a dividend yield of 5.49 percent, which is fairly impressive in comparison to some of its peers. Given the future potential of this REIT to excel, the current price point, which is very close to its 52 week low price, may be the right time for long-term investors to build a stake.

Smaller and lesser-known REITs trade at significant discounts to larger and better-known peers. However, CTRE being such a small player has shown strong financial performance over the past three to five years. It has consistently been one of the top two or three REITs among its peers. On a first look, the stock may look unattractive and confusing over its P / E ratio. However, for REITs, the P / E ratio does not hold much significance, because the value of real estate investments are more meaningful in terms of assets rather than earnings.

Though it failed to keep up the same level of price growth during the pandemic period, it still overpowers its competitors in terms of dividend pay-out, yields and dividend growth. The sluggish revenue and earnings growth is a cause of concern though. However, these growth percentages are around the average among its peers. Rather than blindly investing in healthcare facilities, CTREs investments are more strategic and invest the bulk of its real estate portfolio into properties with more resilient fundamentals.

Healthcare REITs can invest in various areas such as hospitals (inpatient and outpatient), medical offices, life science offices, skilled nursing facilities, doctors’ chambers, multi service campuses, wellness centers, senior housing / assisted living, etc. While some REITs invest over the entire gamut of healthcare real estates, some like CTRE invests only in particular sub-segments. In such cases, the return of specific healthcare sector REITs are dependent on the performance of that sub sector only. CTRE’s strategic investments in skilled nursing facilities (71% of its portfolio) has been hugely impacted by the pandemic as well as the regulatory issues pertaining to the reimbursement system and service classification codes.

Various provisions of the Affordable Care Act led to decline in profitability and rentals, and negatively impacted all the major operators in this segment. However, the segment is now witnessing some major changes since October 2019 with the introduction of the new Patient Driven Payment Model (PDPM). PDPM model is focused more on the types and quality of services provided than on the number of visits or time spent. As a result the demand for specialist therapists is decreasing, leading to reduction of salary cost of the operators.

PDPM has brought new classifications and thus in the short term providers had to adjust their service portfolios accordingly. These changes led to some disruption, and REITs focusing on skilled nursing facilities, especially the smaller ones, thus had to suffer in the short run. However in the long run, the operators and consequently the REITs will reap the benefit of lowered costs and quality services. Thus, there lies upside potential in its revenue and earnings, when the industry normalizes.

Competitive Analysis

Small cap (up to $ 6B) and Mid cap ($ 5B – $ 12B) Healthcare REITs

Ticker

CTRE

CHCT

HTA

GMRE

NHI

ADC

FR

HR

EGP

REXR

Market Cap

1.87B

998.52M

6.92B

1.06B

2.45B

4.80B

7.78B

4.55B

7.90B

10.6B

PE Ratio

24.88

50.47

61.42

100.47

17.02

35.57

27.96

161.93

49.19

87.33

Price / Book

2.03

2.16

2.18

1.91

1.59

1.38

3.76

2.15

5.49

2.42

EV / EBITDA

15.45

20.47

22.31

21.95

13.33

23.34

29.04

22.52

36.04

46.87

Div Yield (NYSE: TTM)

5.49%

4.07%

4.20%

5.11%

7.13%

4.18%

1.83%

3.92%

1.82%

1.30%

DGR 3YR

8.93%

2.43%

1.60%

0.83%

-1.67%

6.78%

7.27%

0.28%

8.65%

12.31%

Payout Ratio

71.28%

79.41%

73.62%

89.89%

77.36%

76.10%

54.90%

70.61%

60.71%

67.20%

Revenue 3Y

6.83%

22.71%

2.79%

31.42%

1.71%

34.59%

5.66%

5.55%

11.05%

28.63%

Earnings 3YR

18.77%

40.23%

-23.09%

34.81%

-2.75%

22.18%

18.32%

21.42%

21.16%

42.51%

Price

19.32

42.37

30.70

16.06

53.33

62.76

58.36

30.85

191.83

69.86

Source: Seeking Alpha

Compared with its peers in terms of price multiples, CTRE seems undervalued. A price to book value just over 2 suggests that it’s not at all overpriced. That denotes, CTRE is valued at 2X of its total assets, ie the investors are assuming that the present value of all its future earnings (including the sell value) is just 2X of its total assets. Barring First Industrial Realty Trust, Inc. (NYSE: FR) and EastGroup Properties, Inc. (NYSE: EGP), most of its peers are trading around that 2X Price to Book Value only.

However, an EV / EBITDA of just over 15, as compared to industry average of 25 suggests that CTRE is yet to realize its full potential in terms of its price. EV / EBITDA as a multiple has a somewhat similar relation to that of Price / FFO. While Price / FFO is calculated per share on a cash basis, EV / EBITDA is calculated for the entire firm / fund on an accrual basis.

However, investors still seem to be skeptical about REITs focusing on skilled nursing facilities, as the four major healthcare REITs (Medical Properties Trust, HealthPeak Properties, Ventas, and Welltower) have stayed away from skilled nursing properties and moved on to more lucrative segments such as senior living, medical offices, life science offices, etc. The investors also seem skeptical about some unforeseen pandemic related issues such as shorter stays by patients due to cost constraints, lower reimbursements and increased awareness about managed care. These factors have been instrumental in the undervaluation of CTRE.

However, such moves by major healthcare REITs will benefit the remaining players like CTRE by reducing the demand-supply gap. CareTrust REIT, Inc. will also face lower competition in the skilled nursing segment and has better chances of leading the market. Its senior housing / assisted living investments have already become lucrative. As the fundamentals of CTRE are strong, I see the stock having upside potential in the long run, more so because it is trading near its 52 week low. This may be a good stock for investors with above average risk appetite and who are looking for steady income-providing REIT funds.



Source link

Leave a Reply

Your email address will not be published.