VEREIT (NYSE:VER) has been working through a turnaround since accounting issues led American Realty Capital Partners to suspend its dividend, change its leadership, rejigger its portfolio, and rename itself. It’s been relatively slow going with current CEO Glenn Rufrano focusing on getting the real estate investment trust’s, or REIT’s, house in order in a transparent and thoughtful way. The second quarter shows it’s still going well. Subsequent news, however, suggests that the big-picture story may be about to get a lot more interesting. Here’s what you need to know.
The core portfolio
From a distance, VEREIT’s quarter would look bad. For example, adjusted funds from operations fell nearly 10% year over year. Adjusted FFO was down about 5% sequentially from the first quarter, too. This would be pretty dismal reading at another REIT, but it’s exactly what investors should be expecting at VEREIT.
The reason is that VEREIT has been culling its portfolio, jettisoning properties that are less desirable and selling some assets to better balance its portfolio. It sold roughly $175 million worth of properties in the second quarter, around $600 million so far this year, and around $2 billion since the start of 2015. A REIT can’t sell that amount of property and not see an impact.
The real takeaway here is that these sales, while hurting in the near term, are making VEREIT a better REIT. The bigger concern from the quarter was a drop in occupancy to 97.7% from the first quarter’s 98.6%. That appears to be related to the bankruptcy of restaurant owner Ovation Brands. That bankruptcy also resulted in same store rents remaining flat, year over year. Pulling out Ovation Brands same store rents rose 0.7%.
Customer bankruptcies aren’t good, but they are a part of running a REIT — particularly when the REIT owns more than 4,000 properties. So, on the whole, VEREIT appears to have put up another solid quarter in its turnaround efforts. That said, keep an eye on occupancy levels in the next few quarters, just in case… but don’t lose any sleep over it yet.
What’s up with Cole Capital?
The company’s owned real estate is the core of its business, but it also owns an asset management company that creates and manages non-traded REITs. The Cole Capital division was particularly hard hit by the troubles at its parent even though there was never a problem with Cole or Cole’s sponsored REITs. The big issue boiled down to trust, which VEREIT has been trying to win back.
Right now the Cole business isn’t really adding much to VEREIT’s top and bottom lines. In fact, AFFO at Cole was… nothing, down from a penny a share in the same quarter of 2015. The bigger picture for this division is how much money is being raised for investment. On that score there’s good news and bad news.
On the positive side, the company raised $174 million in the quarter, up from a little over $91 million in the same quarter of 2015. However, Cole raised $179 million in the first quarter. So there was some capital raise weakness in the second quarter compared to the first. That said, the larger trend has been improving at Cole so it isn’t worth getting too upset about one quarter just yet. But this is something to keep an eye on.
A solid turnaround at Cole really requires the company to earn back the trust of the larger intermediaries that dropped the company’s product after the accounting problems hit. That doesn’t appear to have happened just yet, at least not in a meaningful way. That said, there still appears to be upside potential here and it’s worth VEREIT’s effort to keep working on a turnaround at this division. You’ll just want to keep close tabs on the progress.
The future is now?
The bigger question for VEREIT is when will it turn the corner. When will the company shift from turnaround mode to growth? To be honest, nothing in the second quarter really hinted at that, though management made sure to highlight that it was able to issue debt at “near investment grade pricing” in June. Although that’s partly because of the low interest rate environment, it is also a clear sign that investors are getting more comfortable with the VEREIT story.
Which is why it was so interesting to see VEREIT announce an equity offering the day after it announced earnings. It was also exciting to see that the news of the equity issuance came at around 4 pm and the size of the share sale was increased by 9 pm the same day, suggesting robust demand. VEREIT raised around $700 million, before expenses, through the stock sale.
I suspect there was a little bit of showmanship involved in increasing the size of the share sale the same day it was announced, but that doesn’t change the fact that VEREIT has gone to the equity market. That suggests it’s looking to start growing again sooner rather than later. It’s a great sign for shareholders, though the real evidence will come when investors start to see property purchases start in a meaningful way.
Of all the news from (or at least around the same time as) VEREIT’s second quarter earnings, this is the most noteworthy. The news release announcing the proceeds of the sale explained that the cash raised would be used to pay down its term loan and credit facility and for general corporate purposes. That’s boilerplate text, but it still may be too soon to call a turn toward growth. However, access to the capital markets is a key part of any REIT’s growth prospects. VEREIT has just proven it can raise capital if it wants to.
At the end of the day
Long story short, VEREIT is working adeptly through its turnaround plan. There are some negatives and some positives, but there’s nothing here that should scare anyone away from VEREIT. And while it looks like growth could be nearing, it’s too soon to get excited. So keep watching the changing portfolio, monitor progress at Cole, and take note of VEREIT’s ability to tap both the debt and equity markets — that’s what will underpin its return to growth. All in, it was another solid quarter and VEREIT deserves credit for the progress it’s made.
Disclosure: I am/we are long VER.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Unique Finance). I have no business relationship with any company whose stock is mentioned in this article.