You May Have Been Looking At Office Properties Income Trust (NASDAQ:OPI) All Wrong

Office Properties Income Trust is a US$1.3b small-cap, real estate investment trust (REIT) based in Newton, United States. REITs are basically a portfolio of income-producing real estate investments, which are owned and operated by management of that trust company. They have to meet certain requirements in order to become a REIT, meaning they should be analyzed a different way. In this commentary, I’ll take you through some of the things I look at when assessing OPI.

View our latest analysis for Office Properties Income Trust

REIT investors should be familiar with the term Fund from Operations (FFO) – a REIT’s main source of cash flow from its day-to-day business activities. FFO is a higher quality measure of earnings because it takes out the impact of non-recurring sales and non-cash items such as depreciation. These items can distort the bottom line and not necessarily reflective of OPI’s daily operations. For OPI, its FFO of US$130m makes up 37% of its gross profit, which means over a third of its earnings are high-quality and recurring.

NasdaqGS:OPI Historical Debt, August 26th 2019
NasdaqGS:OPI Historical Debt, August 26th 2019

OPI’s financial stability can be gauged by seeing how much its FFO generated each year can cover its total amount of debt. The higher the coverage, the less risky OPI is, broadly speaking, to have debt on its books. The metric I’ll be using, FFO-to-debt, also estimates the time it will take for the company to repay its debt with its FFO. With a ratio of 4.0%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take OPI 25 years to pay off using just operating income, which is a long time, and risk increases with time. But realistically, companies have many levers to pull in order to pay back their debt, beyond operating income alone.

I also look at OPI’s interest coverage ratio, which demonstrates how many times its earnings can cover its yearly interest expense. This is similar to the concept above, but looks at the upcoming obligations. The ratio is typically calculated using EBIT, but for a REIT stock, it’s better to use FFO divided by net interest. With an interest coverage ratio of 1.44x, OPI is not generating an appropriate amount of cash from its borrowings. Typically, a ratio of greater than 3x is seen as safe.

In terms of valuing OPI, FFO can also be used as a form of relative valuation. Instead of the P/E ratio, P/FFO is used instead, which is very common for REIT stocks. OPI’s price-to-FFO is 9.92x, compared to the long-term industry average of 16.5x, meaning that it is undervalued.

Next Steps:

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. Office Properties Income Trust 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:

  1. Future Outlook: What are well-informed industry analysts predicting for OPI’s future growth? Take a look at our free research report of analyst consensus for OPI’s outlook.
  2. Valuation: What is OPI 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 OPI is currently mispriced by the market.
  3. 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 editorial-team@simplywallst.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.