Sun Communities Inc is a US$7.54B mid-cap real estate investment trust (REIT) based in Southfield, 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 SUI.View our latest analysis for Sun Communities
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 SUI’s daily operations. For SUI, its FFO of US$261.75M makes up 44.41% of its gross profit, which means over a third of its earnings are high-quality and recurring.
SUI’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 SUI 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 8.50%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take SUI 12 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.
Next, interest coverage ratio shows how many times SUI’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 2.01x, SUI 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 SUI, 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. In SUI’s case its P/FFO is 28.82x, compared to the long-term industry average of 16.5x, meaning that it is overvalued.
Next Steps:As a REIT, Sun Communities offers some unique characteristics which could help diversify your portfolio. However, before you decide on whether or not to invest in SUI, I highly recommend taking a look at other aspects of the stock to consider:
- Future Outlook: What are well-informed industry analysts predicting for SUI’s future growth? Take a look at our free research report of analyst consensus for SUI’s outlook.
- Valuation: What is SUI 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 SUI 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.