What is going on in the Realty Income report?

Realty Income Corp will report its third quarter 2023 results on November 6, after the market opens. The company’s quarterly results are likely to show year-over-year growth in revenue and funds from operations (FFO) per share.

In the last reported quarter, this monthly dividend-paying real estate investment trust (REIT) surprised by 1.01% in terms of adjusted FFO per share. The quarterly results benefited from better than expected revenues, expansionary effects and a healthy pipeline of opportunities globally.

Over the last four quarters, the company’s adjusted FFO per share exceeded the Consensus Estimate on three occasions and missed once, the average surprise being 0.30%.

US retail market in the third quarter

According to a report by CBRE Group CBRE, demand for retail space increased in the third quarter, with net absorption rising 34% quarter over quarter to 9.8 million square feet. Specifically, street trading, stand-alone and other segments observed the largest net absorption of 4.3 million square feet. While net absorption for neighborhood, community and strip centers fell 29% quarter over quarter, the power center and lifestyle and shopping center segments turned positive after recording negative absorption in the second quarter.

In addition, due to elevated construction costs and tight lending conditions, total new retail space fell by 28% sequentially to just under 5.6 million square meters. This represented the second lowest amount ever.

The overall availability rate in the third quarter fell by 10 basis points (bps) to 4.8%, marking at least an 18-year low according to the CBRE report. Neighborhood, community and strip centers experienced the largest year-over-year decrease of 50 bps and a recorded availability of 6.6%.

The asking rent, however, fell to just more than 2.1% on an annual basis, with the overall average rent touching $23.42 per square meter during the quarter. This was mainly an indication that landlords expect demand to decline in the coming quarters with the likelihood of the US economy slowing down.

Forecasts

Realty Income owns a portfolio of large industries that sell essential goods and services in all US states, Puerto Rico, the UK and Spain. Given a robust environment for retail real estate in the third quarter, we expect the company has seen good demand for its properties, facilitating leasing activity.

The company has a diversified tenant base in terms of tenant, industry, geography and property type. It receives most of its contractual rental income on an annual basis from tenants with a service, non-discretionary and/or low-cost component to their business. This is likely to have supported stable generation of rental income during the quarter, increasing turnover.

Given Realty Income’s solid underlying property quality and the results of prudent underwriting of acquisitions, occupancy in the company’s properties is expected to have remained high. Notably, since 1998, Realty Income’s occupancy rate has never been below 96%. Our estimate for third quarter occupancy is 99.2%.

The consensus estimate for quarterly revenue is pegged at $1.04 billion, suggesting a 23.7% increase from the previous quarter’s reported figure. The consensus mark for rental income (excluding refundable) is USD 922.4 million, up from USD 907.6 million in the previous quarter and USD 781.9 million in the previous quarter.

Realty Income is expected to have maintained a robust balance sheet during the quarter, supporting its growth aspirations.

Nevertheless, higher e-commerce assumptions and subdued consumer sentiment amid persistent macroeconomic uncertainty and a high interest rate environment are expected to have lowered the company’s quarterly results to some extent.

Higher interest costs in the quarter are also likely to have been a spoiler. We estimate that quarterly interest costs will increase by 30.7% year-on-year.

The company’s activities in the reportable quarter were insufficient to gain analysts’ confidence. The consensus estimate for quarterly FFO per share has remained unchanged at $1.00 over the past month. However, the figure represents a growth of 2.04% compared to the previous year.

Q3 Development

In August 2023, Realty Income revealed that it will invest approximately $950 million in The Bellagio, located in the center of the Las Vegas Strip in Las Vegas, NV, at a valuation of $5.1 billion. It signed a definitive agreement to acquire joint and preferred ownership interests from Blackstone Real Estate Income Trust, Inc. (“BREIT”) in a new joint venture (JV) that owns a 95% interest in the real estate assets of the AAA Five Diamond Resort.

This marks the REIT’s second investment in the gaming industry and a first through its Credit Investments platform.

Upon completion of the transaction, which is expected to close in the fourth quarter of 2023, The Monthly Dividend Company will invest approximately $300 million of JVet common stock to purchase an indirect 21.9% interest in the property. The remaining $650 million will be used to purchase a yield-bearing equity stake in the JV.

While BREIT will retain 73.1% of the indirect ownership of Bellagio after the completion of the deal, MGM Resorts International, which operates and maintains the property, will hold 5.0% of the stake.

Revenue

Our model does not unequivocally predict a surprise in terms of FFO per share for Realty Income this season.

Results for other REITs

Simon Property Group, Inc. SPG reported third quarter 2023 FFO per share of $3.20, which exceeded analysts’ forecasts of $2.98. Moreover, the figure increased by 9.2% year-on-year.

The results reflected better-than-expected revenues on healthy leasing activity and an increase in base rent per square meter and occupancy levels. However, higher property operating costs and interest costs partly offset the upside. SPG also raised its outlook for 2023 FFO per share.

Macerich Company MAC reported FFO per share, excluding financing costs in relation to Chandler Freehold, of 44 cents, in line with forecasts. In contrast, the figure fell 4.3% from the previous quarter’s 46 cents.

The results reflected an increase in quarterly revenues compared to the previous year, driven by higher occupancy rates. MAC also experienced an increase in net operating income for the same center, including income from lease termination, from the previous year.

Note: Everything related to revenue presented in this write-up represents Funds from Operations – a commonly used metric to measure the performance of REITs.

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