Whitestone: High Yield, Solid FFO, Strong Upside Potential (NYSE:WSR)

Whitestone REIT (NYSE:WSR) is a real estate investment trust (REIT) engaged in owning and operating commercial retail properties in major metropolitan areas. Whitestone’s property portfolio includes community-centered retail shopping centers. It derives its revenues primarily from culturally diverse markets in five Metropolitan statistical areas (MSAs) – Austin, Dallas, San Antonio, Houston, and Phoenix. This REIT possesses 5.2 million Gross Saleable Area (GSA) spread over 60 properties. The occupancy level stands at 91 percent, which the company is targeting to increase to 93 percent by this year end.

Whitestone acquires, owns, manages, develops and redevelops high-quality open-air neighborhood centers and generates revenue primarily in the form of rent from more than 1500 tenants. The weighted average rent per square foot stands in excess of $20, with a weighted average lease term of 3.9 years:

“Whitestone seeks to create communities that thrive through creating local connections between consumers in the surrounding communities and a well-crafted mix of national, regional and local tenants that provide daily necessities, needed services, entertainment and experiences.”

Ownership & Capital Structure

WSR’s capital has a debt/equity (D/E) ratio of 1.6. Total Debt is almost $645 million, while Whitestone’s market capitalization is $526 million. The stock is trading at Price/Book ratio (P/B) of 1.3. It expects to improve its debt metrics and strengthen the balance sheet. The weighted average interest rate on its debt is 3.6 percent and the weighted average years to maturity stands at 2.6 Years. The company also intends to sell out properties that are less aligned with its core strategy, have lower growth potential and/or will strengthen the balance sheet metrics.

Whitestone has a very interesting ownership structure. Almost 6 percent of common equity shares are held by insiders, whereas two-third of its ownership are held by financial institutions. Almost one-fourth of the ownership lies with three largest investment management firms – Blackrock Inc., Vanguard Group Inc., and State Street Corporation. Whitestone has a strong value creation pipeline, by which it has identified strategic, tactical and pad site developments.

Whitestone’s Growth Plans

Whitestone has made a commitment to reduce 2022 general & administrative (G&A) cost by $3 million to $3.5 million from the previous year. The company aims to reduce management compensation, and drive efficiencies through regional realignment. Its expense recoveries are tied to triple net leases, in which the tenant agrees to pay the property expenses such as real estate taxes, building insurance, and maintenance in addition to rent and utilities.

In its 2022 guidance Whitestone also expects same-store net operating income (NOI) to grow between 3 percent and 5 percent, bad debt to remain 1.5 percent of its revenue, and Debt/EBITDA to range between 7.8 and 8.1.

Whitestone has benefitted from its concentration on high-quality open-air neighborhood centers, which are located in high disposable income cities. The cost of properties in neighborhoods are lower than the central business districts (CBDs), but the household incomes are not significantly different. Whitestone has the advantage of relatively lower competition. As Whitestone’s properties are located in premier locations in MSAs, there is a limited supply of properties. In addition, these areas offer multiple expansion efforts.

The company also has a well-designed tenant mix. The company believes that ‘Work from Home’ policies will drive the population towards those MSAs which are located within desirable neighborhoods. These centers are also well positioned for the relocation of millennials. The company expects to grow its average base rent by 7 percent. A good proportion of its lease agreements already has a clause of 3 percent annual rent escalation. The company also claimed that it is reviewing its portfolio for monetization possibilities.

Dividend & Price Performance

Whitestone is a monthly dividend paying stock and has consistently paid dividends for the past 12 years. However, after the covid-19 pandemic, WSR reduced its dividend from $0.095 to $ 0.035. At present, the monthly dividend stands at $0.04. Fund from operations (FFO) per share hopefully will touch $1, which is strong enough to cover the payouts. It targeted a 3.5 percent compounded annual growth rate (CAGR) in FFO per share during the period 2019 to 2022, and is on the right path to achieve it. The REIT generated an average yield in excess of 8 percent during the last decade. However, in 2021, and 2022, the yield is much lower in the range of 4 to 5 percent.

Whitestone was a low volatility stock till the market crashed due to the covid-19 pandemic in mid-March 2020. Its price mostly ranged between $11 and $15 for almost a decade. The price fell down below $5 and took almost 2 years to recover and cross $11. For the past 3 months, the stock has been trading near that price only. Hopefully, the stock will fully recover and once again trade consistently in the pre-pandemic price range. The closing price on 17th June was $10.55. So, there is further scope of price growth, in order to get back to its pre-pandemic trading range.

Investment Thesis & Risks

Commercial real estate takes years to be developed and operationalized. So, in case of increased demand for such retail properties in a particular area, it is not possible to meet the supply in the short term. As scarcity begins to take hold, rent for existing properties are bound to increase. Also the properties are likely to witness full occupancy. This is more prevalent in properties in hospitality and retail commercial business due to their cyclical nature.

Whitestone surely stands to gain in these metrics, due to the relatively low level of competition on high-quality open-air neighborhood centers of those five MSAs. It is a high, low volatile stock, and the yield is well supported by its FFO. Triple net leases and rent escalation clauses reduce the risk of adverse impact on its FFO. The 2022 guidance looks promising, and the company seems to be moving in the right direction. The stock price is quite low, so is its market capitalization. The strong fundamentals of this stock surely indicates an upside potential.

However, there is scope for a price fall too due to the macroeconomic conditions. As the U.S. economy is facing unprecedented inflation, and a series of interest rate hikes are expected from the Federal Reserve System (FED), it is going to increase the lending rates, cost of capital, and unemployment, and at the same time led to lower disposable income, and lower consumption. Economists surveyed by The Wall Street Journal have predicted an unavoidable recession. There is a 44 percent probability of recession in the next 12 months, a level usually seen only on the brink of or during actual recessions. All these are most likely to impact the 2022 guidance issued by the Whitestone management.