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Equity Commonwealth is a US$4.0b mid-cap, real estate investment trust (REIT) based in Chicago, United States. REITs own and operate income-generating property and adhere to a different set of regulations. This impacts how EQC’s business operates and also how we should analyse its stock. In this commentary, I’ll take you through some of the things I look at when assessing EQC.
Funds from Operations (FFO) is a higher quality measure of EQC’s earnings compared to net income. This term is very common in the REIT investing world as it provides a cleaner look at its cash flow from daily operations by excluding impact of one-off activities or non-cash items such as depreciation. For EQC, its FFO of US$90m makes up 76% of its gross profit, which means the majority of its earnings are high-quality and recurring.
Robust financial health can be measured using a common metric in the REIT investing world, FFO-to-debt. The calculation roughly estimates how long it will take for EQC to repay debt on its balance sheet, which gives us insight into how much risk is associated with having that level of debt on its books. With a ratio of 33%, the credit rating agency Standard & Poor would consider this as significant risk. This would take EQC 3.07 years to pay off using operating income alone, which is reasonable, given that long term debt is a multi-year commitment.
Next, interest coverage ratio shows how many times EQC’s earnings can cover its annual interest payments. Usually the ratio is calculated using EBIT, but for REITs, it’s better to use FFO divided by net interest. This is similar to the above concept, but looks at the nearer-term obligations. With an interest coverage ratio of 3.37x, it’s safe to say EQC is generating an appropriate amount of cash from its borrowings.
I also use FFO to look at EQC’s valuation relative to other REITs in United States by using the price-to-FFO metric. This is conceptually the same as the price-to-earnings (PE) ratio, but as previously mentioned, FFO is more suitable. In EQC’s case its P/FFO is 44.47x, compared to the long-term industry average of 16.5x, meaning that it is highly overvalued.
In this article, I’ve taken a look at Funds from Operations using various metrics, but it is certainly not sufficient to derive an investment decision based on this value alone. Equity Commonwealth can bring about diversification for your portfolio, but before you decide to invest, take a look at the other aspects you must consider before investing:
- Future Outlook: What are well-informed industry analysts predicting for EQC’s future growth? Take a look at our free research report of analyst consensus for EQC’s outlook.
- Valuation: What is EQC worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether EQC is currently mispriced by the market.
- Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at email@example.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.