Housing

One Oversold Housing REIT Could Have 50% Upside

Jon C. Ogg

Throughout the developments and stabilization of the instant recession from COVID-19 in 2020, one segment that has remained under pressure has been the real estate investment trusts (REITs). This has been true for apartment and mortgage REITs, as well as those tracking eldercare, health care, retail and office properties. As with all sell-offs, some of these REITs may have become grossly oversold.

Credit Suisse has reinstated Front Yard Residential Corp. (NYSE: RESI) with an Outperform rating. The firm’s new $11 price target is still handily under its $13.28 high of the past year, and it represents more than 50% upside, even after its shares popped by 15%. While one take of the analyst call would be cautious in that this is lower than the firm’s prior $14 price target, another take might be that over 50% upside expectations is uncommon, even after sell-offs of this magnitude.

Front Yard Residential is a REIT that focuses on affordable but still quality homes in suburbs around metropolitan areas. Its first-quarter rental revenues increased by 4.3% from the first quarter of 2019 to $54.3 million, but this is a time when renters are currently seeking mortgage and rental payment assistance.

According to Credit Suisse’s Douglas Harter, the REIT has made significant operational progress since the initial challenges following property management internalization. The result has been improved occupancy and 22% gain in net operating income over the past two quarters alone.

Credit Suisse reestablished its 2020 and 2021 core funds from operations (FFO) estimates at $0.65 and
$0.75 per share, respectively. These new higher targets compare to prior estimates of $0.50 in 2020 and $0.65 in 2021, and the gain is primarily based on lower interest expenses. While the net operating income is also higher, the firm noted that higher general and administrative expenses act as an offset.

Harter said in his report:

The fact that the majority of the sequential growth in FFO/share comes from lower interest expense increases our confidence in the achievability of estimates. The forecasted NOI growth comes from improved occupancy, which has already been observed.

The new $11 target price is based on 14-times 2021 FFO, and this is a discount to peers. The broken merger settlement also has acted to improved Front Yard Residential’s liquidity position to $132 million, and Harter’s analysis showed that the REIT’s cash collections have remained strong through the beginning of May.

Harter went on to suggest that the REIT would reinstate its dividend and resume home purchases as management gains further confidence in sustainability of more recent trends. Management has stated that occupancy should continue to remain high, given reduced turnover and strong leasing demand across all local markets.

When the REIT reported earnings on May 11, it said that it had already settled the termination of a previously announced merger agreement with Amherst Residential. Amherst had agreed to pay a $25 million termination fee, purchase 4.4 million shares of Front Yard common stock in a primary issuance at $12.50 per share ($55 million) and come with a $20 million two-year unsecured loan facility to Front Yard. The REIT also indicated that it had sold 82 noncore homes for proceeds of $12.9 million (with a $1.5 million gain over carrying value) during its first quarter.

Back in the aftermath of the Great Recession a decade earlier, Warren Buffett opined that he wished he had a vehicle that could own a lot of the homes that were being foreclosed and which were facing distressed borrower sales back to the banks. Other companies, including Front Yard under a different name, did just that.

Front Yard Residential shares traded up almost 16% at $7.00 on nearly 2 million shares on Monday morning. It has a 52-week range of $6.01 to $13.28.