Office REITs: A Contrarian Opportunity

Strategic Insights -

The pandemic has brought about a significant shift in the work-from-home trend, leading to high vacancy rates and low rents in the office real estate sector. This has resulted in massive net losses for many office REITs. Adding to the trouble, these companies carry a lot of debt, which has become more expensive since 2022 due to rising interest rates. Many organizations have had to issue equity, sell assets, or do both, which can be devastating for owners or result in distressed property sales. Despite the challenges, some office providers are trying to convert their buildings into residential, retail, or mixed-use sites, but this process is slow and uptake is low.

Key Takeaways:

  • The office REIT industry is undeniably cheap and contrary, making it a potentially lucrative place to look for opportunity.
  • Over the past six months, several office REITs on Contra the Heard's watch list, including Slate Office, Inovalis, Dream Office, and Allied Properties, have lost more than 75% of their value from their historic highs.
  • The industry is facing issues of high vacancy rates, low rents, massive net losses, and high debts with rising interest rates.
  • Many office REITs tend to carry a lot of debt, which has become more expensive since 2022 due to rising interest rates.
  • Some office providers are trying to convert their buildings into residential, retail, or mixed-use sites, but this process is slow and uptake is low.
  • Investors interested in office REITs may want to consider buying a best-in-class operator with a strong-enough balance sheet or wait to see organizations lower their vacancy rates and stabilize their income statements.
  • REITs in this space need to strengthen their balance sheets by improving liquidity, cutting debt, and extending maturities.
  • Falling interest rates will help in this regard.
  • Insider buying, positive revisions among the analyst community, and a low stock price-to-free-cash-flow ratio are all signs that may indicate a contrarian opportunity in the office REIT sector.

Statistics:

  • Over 75% of the value of Canadian office REITs such as Dream Office and Allied Properties has been lost since their historic highs.
  • Columbia REIT defaulted last year.
  • Office Properties Income Trust fell below US$100-million in market cap.
  • Interest rates have risen significantly since 2022, affecting REITs with high debts.
  • Selling assets into a distressed market can result in selling properties for less than the book value or mortgage on the property.
  • Low stock price-to-free-cash-flow ratios are seen as a potentially attractive entry point.

Sources:

  • [No external references provided]