Economic and Financial Analysis of Real Estate / REIT Industry (2014 Class Project - SAMPLE)

FINAL:
Economic and Financial Analysis of
Real Estate / REIT Industry
Alexander M. Stearns
Finance 310: Investments
Missouri Western State University, April 2014

SAMPLE - Real Estate Investment Trust Industry Analysis April 2014
Preface: In spring 2014, my Investments class was assigned to analyze four firms within an industry and
evaluate current firm performance and project future performance based off financial and economic
data. The industry I chose was the REIT (Real Estate Investment Trust) industry. REITs, as defined by
Investopedia, are “[liquid securities] that invest in real estate through property or mortgages and often
trade on major exchanges like stock”. These companies, operating like mutual fund pools, can invest in
one or multiple entity type(s), from apartments and hotels to offices, warehouses, and shopping
centers. Interested investors can purchase REIT shares and gain wide industry exposure with little
expense.
In my 40p. report, I analyzed economic factors and company-specific price-to-earnings ratios, growth
rates, revenues, dividends, earnings per share, returns on equity, stock returns, net margin percentages,
asset turnover rates, and financial leverage rates. Companies selected for analysis included Simon
Property Group Incorporated (SPG), Tanger Factory Outlet Centers Incorporated (SKT), Vornado Realty
Trust (VNO), and Duke Realty Corporation (DRE). Below are selections from my report.
Selections from pp. 2-8:
Fundamental Analysis: Choose one industry and then choose one firm in the industry for your main
company and at least 3 additional companies for comparison (20%).
1. General Economy Analysis: Discuss the impact of the general level of economic activity (observing
the performance of the 10 leading indicators for the past 6 months), using the below format:
a) Trend of composite leading indicators
b) Comment of graph of composite economic index
c) Trend of money supply
d) Comment of DJI (Dow) stock index
e) Comment of 10-year Treasury rate
f) Overall comments of stage of economy (recovery, downtrend, etc.)

A./B.: The US Composite Economic Indexes display aggregate measurements of monthly data
useful in evaluating overall economic health. The Leading Index (LEI) consists of indicators
that change in advance of general business conditions, while the Lagging Index (LAG) consists
of indicators that change subsequent to business conditions. Coincident Index (CEI) indicators
change roughly in tandem with business conditions and may be used to illustrate the current state
of the economy. The Diffusion Index tracks directional consistency in the movements of the
underlying indicators within the indexes. A diffusion score of 100 represents an increase of all
relative indicators.
These index totals represent historical adjustments made since their base year, 2004, when they
were listed at 100. Hence, reported aggregates above or below 100 represent cumulative
percentage spreads since 2004 (note: individual indicators may have different base years).
Adjacent letters “p” and “r” signal current preliminary data and earlier revised data.
From Aug. 2013 to Feb. 2014, the LEI rose steadily (despite a decline and recovery in Dec. and
Jan.) from 97.2 to 99.8. In the same period, the CEI increased from 107.0 to 108.2 (noting only
stagnancy in Dec.) and the LAG from 119.7 to 122.1 (with a similar end-of-year decline and
recovery), cumulatively suggesting a gradually recovering US economy. The low Dec. to Feb.
diffusion ratings for the LEI, however, leave great room for error in estimating the index’s
relativity to future business conditions. The LEI should be further broken down for additional
analysis, accordingly (see below).

A decline in workweek hours and manufacturing orders from late 2013 to early 2014 is to be
expected in the wake of fourth quarter sales, but purchases in all new orders components
(consumer goods, nondefense, and the ISM Manufacturing Index) quickly rebounded from Jan.’s
slump, indicating purchases and production are back on track. Additionally, building permits
have increased as more-favorable construction weather nears, and the anticipatory components in
the Leading Credit Index additionally nod to February improvement.
As stated, however, consistency among LEI components is not unanimous, noting rises in
unemployment claims and drops in stock prices, short- vs. long-term interest rate spreads, and
consumer expectations for business conditions. The relationship between stock prices and
consumer expectations is not always clear cut. Nonetheless, the chart above notes lagging
expectation improvements as the monthly average of daily stock price closes rise (Aug. to Jan.
price growth; Nov. to Jan. expectation growth), but sudden expectation declines when prices
finally dip slightly in Feb. Lagging adjustments to improvements may be alternately (or
concurrently) linked to volatile disposable income growth (see below) in 2013’s third and fourth
quarters, and the sudden adjustment to February’s dip may be alternately (or concurrently) linked
to the Federal Reserve’s Jan. 29th
, 2014 announcement to reduce quantitative easing in the
months to come:
“Beginning in February, the Committee will add to its holdings of agency mortgage-backed securities at a pace of
$30 billion per month rather than $35 billion per month, and will add to its holdings of longer-term Treasury
securities at a pace of $35 billion per month rather than $40 billion per month.”
Despite this dip, the S&P 500 closed at an all-time high on Feb. 28th
, 2014 at around the 1,860
mark. These combined factors point to renewed participation in a recovering economy and
market with still reasonable caution from businesses, consumers, and regulators alike.
Regardless, the CEI’s aggregate (108.2) and the LEI’s aggregate (99.8) signal both realized and
projected economic growth from one year prior (Feb. 2013 CEI = 105.1; Feb. 2013 LEI = 94.8).

C.: M1 and M2 are measures of the economy’s
money supply, the former the amount of money in
circulation (including demand deposits and checking
accounts) and the latter the amount in circulation
(same caveat as above) plus assets that can be
converted to money in a reasonably short period
(highly liquid). Comparative growth or decline in
money supply and gross domestic product (GDP) has
been used as a component in inflation rate projection.
If an economy’s access to money is growing faster
than its production of additional goods and services,
the price of existing goods and services should
increase.
The Bureau of Economic Analysis reports third and
fourth quarter 2013 real GDP increases of 4.1% and
2.6% respectively (GDP data from these quarters in
2012 record 3.1% and 0.4%, a sign that goods and
services are increasing in offering despite lower
fourth quarter outputs). Despite debate over the
relative merits of both, M2 is generally preferred for
forecasting purposes over M1 and noted 0.06% and
3.31% third and fourth quarter 2013 seasonally-
adjusted growth rates (an increase from 2012’s
respective 1.48% and 3.95% amounts [as positive rates
continued compounding through 2013’s first two quarters]).
This cumulatively suggests the economy is recovering, and
M2’s year-over-year (YOY) net change decrease paired with
real GDP’s YOY net change increase suggests low or stagnant
inflation growth over the near term. M1, though noting greater
percentages than M2, is additionally trending upward.
M2 & GDP BY PERIOD
PERIOD M2 REAL GDP
2012 Q3 1.48% 3.10%
2012 Q4 3.95% 0.40%
Net % Δ
Q2 to Q4* 5.49% 3.51%
2013 Q3 0.06% 4.10%
2013 Q4 3.31% 2.60%
Net % Δ
Q2 to Q4* 3.93% 6.81%
* %Δ = Q2# x Q3% x Q4% - 1
Q2#

http://www.economagic.com/em-cgi/daychart.exe/fedstl/day-dgs10
E.: Though the treasury’s constant maturity rate sunk to unprecedentedly low levels by mid-
2012, it has been increasing at a rapid pace within the last year, up from approximately 1.5 to
2.5. The Federal Reserve’s decision to reduce security purchases indicates their faith in the
recuperating economy and perhaps an adjusted objective from expanding economic activity to
managing it and preventing excess inflation.
F.: Overall Comments: Despite some indicatory setbacks, the composite leading index score is
rising, suggesting a slowly-realized economic recovery. The U.S. Composite Economic Indexes
give no reason to suggest the economy’s slow return to prosperity indicates a permanent
disability. Rather, the question becomes at what rate investors can expect the economy and their
sense of trust to recover. Since the Federal Reserve has announced an upcoming reduction in
quantitative easing (QE), there is reason to believe they, too, consider the economy to be healing.
Lowered regulatory involvement historically leads to eventual price inflation, though the Federal
Reserve’s gradual QE declination paired with money supply and GDP data do not favor a large
near-term inflation hike. Instead, inflation will likely return little by little.
pp. 31-35:
4. Long-Term Trends Analysis (20%): Provide a long-term trend analysis, EPS, ROE, Stock returns trend
in Chapter 8 (and with 3 other firms in the same industry for comparison).
a) Pull all the 4 companies in one chart for comparing, EPS and ROE.

b) Rank EPS and ROE and get an overall rank.
c) Provide a table (include stock returns, S&P 500 returns and return on equity) before charts.
d) Combine ROE in stock returns trend analysis chart.
e) Comment each section, including the relationship between ROE and stock returns.
f) Provide overall conclusion at the last section.
DEFINITIONS (below data collected from Morningstar):
Return On Equity (ROE): Net income divided by shareholder’s equity. This amount quantifies
how much net profit after taxes a company earns per dollar of invested capital.
Earnings Per Share (EPS): Net income (minus preferred dividends) divided by common shares
outstanding. Similar to ROE, this amount quantifies how much net profit after taxes a company
actually returns to investors through common dividends.
Stock Returns: Annual adjustment in returns of securities, measuring stock value (capital
appreciation and dividends) against investment outlay (price paid for shares) as shown through
Morningstar’s Growth of 10,000 graphs. These graphs show performance percentages of a
hypothetical $10,000 investment in a given fund, assuming reinvested dividends.
10-YR. EPS
SPG SKT VNO DRE
2004 1.41 0.13 4.27 1.06
2005 1.78 0.08 3.43 2.17
2006 2.14 0.52 3.28 1.07
2007 1.9 0.36 3.22 1.55
2008 1.83 0.36 2.1 0.38
2009 1.05 0.72 0.28 -1.67
2010 2.1 0.16 3.24 -0.07
2011 3.48 0.52 3.23 0.11
2012 4.72 0.57 2.94 -0.48
2013 4.24 1.13 2.09 0.47
TTM* 4.24 1.13 2.09 0.47
AVG 2.6264 0.5164 2.74273 0.46
*trailing twelve months figures
A. (EPS): In summary, these four companies have shown revenue growth since 2009 lows. Two
of the companies still have not attained the earnings of the real estate industry’s 2004 glory days
– the other two have surpassed it. This suggests the overall trend for REITs may be
mathematically similar to 2004 numbers but with different companies comprising the top
positions. The necessary condition of investing in the real estate industry will be to watch for
-2
-1
0
1
2
3
4
5
6
2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 TTM
SPG SKT VNO DRE

these shifts in company placements. Concerning current EPS (TTM), DRE < SKT < VNO <
SPG, while on average, DRE < SKT < SPG < VNO.
A. (ROE): In summary, the industry has shown a very volatile yet increasing ROE since 2009.
The only company of the four that has remained moderately stable since 2010 is VNO. All
companies have shown improved post-2009 ROE except SKT. With SPG and SKT ROE higher
than 2004 and VNO and DRE ROE lower than 2004, the overall trend has been constant, even
with massive shifts between 2008-2010 (SPG, VNO, and DRE fall then rise while SKT inversely
changes) and 2012-2013 (SKT and DRE rise, SPG falls). Both currently and on average, DRE <
VNO < SKT < SPG.
SPG 2009 2010 2011 2012 2013 TTM
Stock Returns 55.60 28.14 33.34 25.99 -0.62 8.60
S&P 500 Returns 26.46 15.06 2.11 16.00 32.39 1.81
Return on Equity 8.06 13.27 21.76 27.34 22.56 22.56
SKT
Stock Returns 7.70 35.25 17.65 19.47 -3.79 10.01
S&P 500 Returns 26.46 15.06 2.11 16.00 32.39 1.81
Return on Equity 21.46 9.08 10.79 11.29 21.41 21.41
VNO
Stock Returns 22.06 23.25 -4.11 9.59 14.90 11.83
S&P 500 Returns 26.46 15.06 2.11 16.00 32.39 1.81
Return on Equity 0.96 10.90 10.61 9.62 7.06 7.06
DRE 2009 2010 2011 2012 2013 TTM
Stock Returns 17.97 7.97 2.17 20.75 13.34 13.36
S&P 500 Returns 26.46 15.06 2.11 16.00 32.39 1.81
Return on Equity -17.97 -0.71 1.59 -6.49 6.75 6.75
SPG 2009 2010 2011 2012 2013 TTM
Stock Returns 55.60 28.14 33.34 25.99 -0.62 8.60
S&P 500 Returns 26.46 15.06 2.11 16.00 32.39 1.81
Return on Equity 8.06 13.27 21.76 27.34 22.56 22.56
SKT
Stock Returns 7.70 35.25 17.65 19.47 -3.79 10.01
S&P 500 Returns 26.46 15.06 2.11 16.00 32.39 1.81
Return on Equity 21.46 9.08 10.79 11.29 21.41 21.41
VNO
Stock Returns 22.06 23.25 -4.11 9.59 14.90 11.83
S&P 500 Returns 26.46 15.06 2.11 16.00 32.39 1.81
Return on Equity 0.96 10.90 10.61 9.62 7.06 7.06

Post-2010, SPG’s stock returns appear negatively correlated with the S&P 500’s returns, though
not correlated with its ROE, odd and even years on the chart displaying opposite stock and ROE
trends. Large variances in 2009 and 2013 stock returns and ROE may reflect differences between
investor expectations (stock price, hence returns, as an indicator of expected future performance)
and company profits (net income, hence ROE, as an indicator of past performance).
DRE 2009 2010 2011 2012 2013 TTM
Stock Returns 17.97 7.97 2.17 20.75 13.34 13.36
S&P 500 Returns 26.46 15.06 2.11 16.00 32.39 1.81
Return on Equity -17.97 -0.71 1.59 -6.49 6.75 6.75
-10
0
10
20
30
40
50
60
2009 2010 2011 2012 2013 TTM
SPG
Stock Returns S&P 500 Returns Return on Equity
-10.00
-5.00
0.00
5.00
10.00
15.00
20.00
25.00
30.00
35.00
40.00
2009 2010 2011 2012 2013 TTM
SKT

In 2009, 2012, and 2013, SKT stock returns were negatively correlated to the S&P 500’s returns.
Apart from less overall volatility, there appears to be no relation between S&P 500’s returns and
SKT’s ROE. Again, large variances in 2010 and 2013 may indicate differences between investor
expectations and company profits.
VNO’s stock returns more closely parallel S&P 500 returns than SPG and SKT do, and its ROE
appears to show relative stability despite stock and market volatility. Recently, it looks like stock
returns and ROE have developed an inverse relationship (2011-present), not unlike most
observations with SPG and SKT.
-10
-5
0
5
10
15
20
25
30
35
2009 2010 2011 2012 2013 TTM
VNO
-30.00
-20.00
-10.00
0.00
10.00
20.00
30.00
40.00
2009 2010 2011 2012 2013 TTM
DRE

DRE has struggled since 2009 to show positive ROE, despite maintaining positive stock returns.
The consistency with which DRE’s stock outperforms its ROE may indicate overvaluation by
investors. Of the four companies, DRE’s ROE and stock returns suggest the strongest negative
correlation.
F.: Conclusion: ROE is not a significant performance indicator in the short term, especially if
used exclusively to indicate performance*, but can be used over time to indicate company
wellness (if rising). Consequently, ROE below a certain level may indicate undesirable company
performance and stagnant ROE may indicate lack of growth or company profits, both which, if
sustained, may signal investor overvaluation. DRE (2009-2013), VNO (2011-2013), and SKT
(2009-2011; 2012-2013) suggest ROE trends in the REIT industry may be inversely related to
stock return trends (though, with noted exceptions in SPG and VNO, this correlation may only
be moderate). Such inversion can even be seen by comparing 2009 to trailing twelve months
(TTM) metrics for the longest-term analysis available through the graphs. All except SKT reveal
opposite movement between these measurements, ROE rising from 2009 to present if stock
returns dropped and vice-versa.
This observation, despite its prevalence when SKT, VNO, and DRE are analyzed separately,
does not occur when all companies are considered together. As shall be further illustrated in
Section 5’s DuPont analysis, the companies with the 2 largest five-year-average ROEs and net
margins (SPG and SKT) also share the largest five-year average stock returns**. Therefore, this
inverse observation may be useful when projecting trends within certain, single companies but
absent when comparing varying metrics between companies. Since the DuPont’s financial
leverage rankings, measuring corporate debt financing, are #4 and #1 for SPG and SKT,
respectively, REIT investors may be more presently attracted a company’s stable, realized
returns rather than the potential of its project pipeline (debt financing increasing opportunities for
growth and expansion, albeit also increasing company liability and risk).
This is not to say project pipelines are neutrally considered – in fact, observations supporting
ROE and stock return trend inversions within companies may still be explained by market
expectation and company profit variances. As earlier noted, ROE numbers are derived from past
performance data, whereas stock returns project future expectations by investors. Since profit in
the real estate market is only generated after a large capital outlay has established saleable fixed
assets and tenants are willing and able to occupy those assets, expectations and realized profits
may occupy different timelines – especially for a market that performs best when consumer
spending and interest rates are higher.
*as noted in Forbes’ “Beware: Weak Link Between Return on Equity and High Stock Price
Returns”, 2013

**2009-2013 SPG Avg. Stock Returns = 28.49
**2009-2013 SKT Avg. Stock Returns = 15.26
**2009-2013 VNO Avg. Stock Returns = 13.14
**2009-2013 DRE Avg. Stock Returns = 12.44
pp. 36-39:
2. Du Pont system analysis in chapter 8 (20%):
a) Perform DuPont analysis on your four companies.
b) Overall comment for the insight of the ROE (what cause the high ROE in this industry?), provide
the explanation of why a company has high ROE & low ROE.
c) Trace stock price (using stock simulation account, and calculate your holding period stock
returns of this semester) of your best and worst stocks in your Du Pont analysis.
DuPont Analysis: analysis method developed by the DuPont Company in the 1920s that breaks
ROE up into its various components (ROE = [profit margin] x [asset use] x [equity multiplier]),
allowing for greater insight into the reason behind ROE movements.
Net Margin Percentage: the “profit margin” portion of DuPont analysis, equal to annual net
income divided by revenues and expressed as a percentage (x 100). It conveys how much net
profit after tax is generated by each dollar of sales / revenue. High net margin rates are preferred.
Asset Turnover: the “asset use” portion of DuPont analysis, equal to total revenues divided by
total assets. It conveys how efficient a company is in using its assets to generate sales / revenue.
High asset turnover rates are preferred.
Financial Leverage: the “equity multiplier” portion of DuPont analysis, equal to total assets
divided by total shareholder’s equity (that is, total assets divided by the difference between total
assets and total liabilities). It conveys a company’s use of debt in its financing – the higher the
leverage, the greater the debt. Low leverage rates are preferred.
A.: As sources confer a 3+ year timeline for optimal DuPont measurements, 2009-2013 data has
again been selected from Morningstar. While net margin percentage, asset turnover, and
financial leverage multiply to produce a DuPont ROE reading, below ROEs have instead been
transplanted from the available online data. Slight deviations may be accordingly noted (i.e. SPG
2004: [11.38] x [0.14] x [6.16] = 9.81 and SPG 2005: [12.69] x [0.15] x [6.55] =12.47).
Discrepancies between Morningstar ROE and DuPont ROE may be rounding-consequential.

SPG 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 TTM
AVG
2009-13
Net Margin % 11.38 12.69 14.59 11.95 11.17 7.50 15.42 23.72 29.33 25.46 25.46 20.29
Asset Turnover 0.14 0.15 0.15 0.16 0.16 0.15 0.16 0.17 0.17 0.16 0.16 0.16
Financial Leverage 6.16 6.55 7.14 8.38 9.02 5.88 5.19 5.69 5.56 5.74 5.55 5.61
Return on Equity % 9.18 11.81 15.38 14.76 15.56 8.06 13.27 21.76 27.34 22.56 22.56 18.61
SKT
Net Margin % 3.62 2.24 15.06 10.03 9.13 21.36 12.40 14.16 14.91 27.94 27.94 18.15
Asset Turnover 0.20 0.21 0.21 0.22 0.22 0.24 0.23 0.22 0.22 0.21 0.21 0.22
Return on Equity % 4.29 2.55 16.14 12.28 13.69 21.46 9.08 10.79 11.29 21.41 21.41 14.81
VNO
Net Margin % 32.80 25.41 25.80 19.45 17.22 2.25 21.90 22.46 22.63 19.40 19.40 17.73
Asset Turnover 0.17 0.20 0.16 0.15 0.09 0.11 0.13 0.13 0.11 0.10 0.10 0.12
Return on Equity % 18.24 15.95 13.61 10.90 6.67 0.96 10.90 10.61 9.62 7.06 7.06 7.83
DRE
Net Margin % 18.09 39.23 15.97 23.58 5.68 -24.82 -1.01 2.47 -11.37 14.15 14.15 -4.12
Asset Turnover 0.15 0.14 0.14 0.12 0.13 0.18 0.19 0.17 0.15 0.14 0.14 0.17
Return on Equity % 7.04 15.60 8.48 11.98 2.97 -17.97 -0.71 1.59 -6.49 6.75 6.75 -3.37
• Simon Property Group Inc. (SPG): best PM and ROE at cost of worst FL – moderate AT
• Tanger Factory Outlet Centers Inc. (SKT): best AT and FL – good PM and ROE
• Vornado Realty Trust (VNO): moderate PM, FL, and ROE – worst AT
• Duke Realty Corp. (DRE): good AT and FL at cost of worst PM and ROE
Supported by Section 4’s conclusion, Tanger Factory Outlet Centers Incorporated is the best
company according to the DuPont averaged totals from 2009 to 2013. Tanger sports the most
impressive asset turnover and financial leverage use and has a good net margin and ROE to show
for it. It is the only company with rising net margin numbers from 2009 to 2013 and rising ROE
from 2010 to 2013, its equity returns now comparable to SPG’s but at a lower leverage cost.
2009-2013 Averaged Metrics SPG SKT VNO DRE
Net Margin (PM) 1 2 3 4
Asset Turnover (AT) 3 1 4 2
Financial Leverage (FL) 4 1 3 2
Return on Equity (ROE) 1 2 3 4
Total 9 6 13 12

Simon Property Group Inc. claims a moderately distant second place, hampered by low asset
turnover and high financial leverage but bolstered by the highest net margin and ROE of the
four. DRE and VNO round out third and fourth place with the lowest profits and equity returns.
VNO is the only REIT of the four with consistently reduced financial leverage from 2012 to
TTM – if VNO continues to lower its financial leverage with minimal impact to its other metrics,
it will surpass DRE in ranking, but greater change would be necessary for SKT, SPG, and the 3rd
place occupier to alter their DuPont total rankings.
END OF SAMPLE.

Economic and Financial Analysis of Real Estate / REIT Industry (2014 Class Project - SAMPLE)

Recommended

Recommended

More Related Content

What's hot

What's hot (19)

Similar to Economic and Financial Analysis of Real Estate / REIT Industry (2014 Class Project - SAMPLE)

Similar to Economic and Financial Analysis of Real Estate / REIT Industry (2014 Class Project - SAMPLE) (20)

Recently uploaded

Recently uploaded (20)

Economic and Financial Analysis of Real Estate / REIT Industry (2014 Class Project - SAMPLE)