Description

Background:

•  Large multifamily/apartment REIT in best geographic/demographic long-term growth/migration/job markets in Sun Belt and other core markets; 62%/38% Class A/B, 58%/42% urban/suburban, 90% low and mid-rise; 171 buildings, ~58K units

• Multifamily historically among best/most stable CRE asset class and uniquely benefits from constant access to debt capital at attractive terms via GSEs; stable low risk assets, REITs tend to own the best assets and run them at effectively full occupancy; renewal leases are very sticky/rarely go negative and comprise the majority of the rent roll, providing a ballast to core earnings and temporary weakness in new leases

• CPT was founded and built up by two partners, both still involved and in their late 60s, they each own $75M+ of stock (outright and in deferred comp/Rabbi trusts) and have material change of control (COC) packages

• Known as very good operators and assets, done smart acquisitions, developments and dispositions over the years and run the company at very low leverage absolute and relative to REITs; today are only at ~25% LTV (equates to ~3.6x EBITDA), assets are all unencumbered as company financed with all Sr Unsecured REIT bonds (A3/A-)

Situation:

• In the post-COVID strong rent/demand upcycle, several markets unsurprisingly attracted the most new supply additions in decades, which is now negatively affecting the industry’s results; peak new supply delivery/competitive lease-up will occur at some point over the next 6-9 months and continue to cause temporary headwinds as the supply is absorbed; the flip side is that new multifamily permits and starts have plummeted as rates spiked and the cost of land and labor remains elevated, which should quickly lead to a multiyear supply/demand shortage on the other side and the return of rental pricing power

• Multifamily industry benefitted alongside the rest of the housing market during and post COVID from migration trends, shortages and overall inflation; increased land values and construction costs also serve to raise replacement cost and the marginal rents necessary for new buildings to charge to make their numbers work, all providing umbrella benefits to existing lower basis assets in place

• Current housing market macro setup also favorable for multifamily:  the combination of single family affordability issues (rent vs. buy calculus well in favor of renting and provides price umbrella) + limited supply of both new (shortages/land/construction cost) and existing single family homes (volumes are stuck at decades low turnover driven by lock-in effect as vast majority of homeowners have a mortgage rate well lower than current levels which is a large dampener on ability/incentive to move); result is multifamily is both getting a higher share of new household formations and is holding its base longer (move-out/turnover metrics at half of historical lows)

• Dedicated REIT funds are historically the marginal buyers/sellers and driver of REIT valuations generally and multifamily is out of favor now due to this supply issue; the most important metric by far is same property blended rent growth (combination of renewal+new leases) and once this inflects, believe the sector will close the current multiple/cap rate valuation gap vs. both history and vs. the private markets           

Thesis:

• View CPT as a duration advantaged credit-like investment in a low vol sector with attractive total return risk/reward profile and sale optionality; stock trades at a historically high ~6.5% cap rate vs. private markets currently thawing/trading in the low-mid 5s as reported in recent public comp disclosures (1Q conf calls, NAREIT conference presentations, etc.)

• Supply situation is trackable, manageable and has a defined timeframe; backdrop in ’08 was much worse when there was excess multifamily and more leverage, but more importantly huge competitive excess single family supply with material price/asset value deflation; in this timeframe, CPT’s comp rent was down only 2% for 2 yrs and the most NOI was down in a year was 6%, troughing at <10% cumulatively and quickly bounced back once market naturally tightened

• The company and industry has been dealing with this supply absorption issue since the first half of ’23 and thus far this cycle, demand remains strong and occupancy high; same property rents have materially decelerated but on an annual basis both rents and NOI have remained positive and are guided as such for 2024 at the midpoint; the company and its peers have been able to offset weakness in new lease rates (as need to compete on price/incentives vs. new supply to hold occupancy) with still solid renewal lease rates (turnover/move-out rates historically low, people hate moving and its expensive, and 3% rent increase on average is only $60-$70 per month)

• CPT is myopically viewed by the market as a “Sun Belt play” and therefore most exposed to the markets with the largest near term supply issues like Nashville and Austin; however, these markets only represent ~1% and ~5% of CPT’s NOI, respectively, and other softer markets like Atlanta represent ~7%; in these markets, while new rents are down MSD, renewals are still up LSD providing the ballast to the rent roll; conversely, Washington DC is the company’s biggest market at 13% of NOI and new and renewal rates there are both up MSD and the next tier (San Diego, Denver, Houston, SE Florida) collectively represents 30% of NOI and is putting up LSD new rates and MSD renewal rates; the disclosures are generally excellent and this is best exhibited on pages 22-23 of the June Investor deck

• Internal ways to win:  (i) lot of dry powder to take advantage of any coming distress in market, $1B of entirely debt funded deals would only take CPT to low 30s LTV and estimate would be 4-5% accretive, (ii) management continues selling lower quality assets (they have been selling assets in mid-high 5s cap rates) and use proceeds to buy back CPT stock at a 6.5%+ market implied cap rate, (iii) duration to sit through couple more quarters of supply and continued select market weakness in new lease rates to be there before investors pile back after the industry definitively shows it is past the bottom and into sustained rent inflection, (iv) opportunistically execute on subset $1.5B development pipeline which when finished (1-2yrs) will be timely delivered into a tight market at mid-5s/low 6s yield on cost

• External way to win:  huge amounts of private capital on the sideline and residential is the asset class earmarked for most of it; aging founders own a lot of stock, have sizable COC packages and  at some point may be sellers; these are core, strong stabilized assets that would get the best debt terms out of the agencies and an even moderately levered buyer can create a long term attractive double digit ROE in size

• In addition to single property and smaller portfolio deals discussed above getting done in the low 5s cap rate range, there are two large recent data points of note:  Blackstone recently announced a $10B take private of AIRC (older lower quality assets) at a reported ~5.5% cap rate and the Lennar is selling its ~$5B multifamily portfolio (new and higher quality assets) at a reported low 5s average cap rate

Summary:   

• Portfolio of valuable, attractive, well managed, low levered assets in best growth submarkets; duration advantaged credit-like investment in a low vol sector with attractive total return risk/reward profile and sale optionality

• On total return basis including the dividend, on forward NOI with low/no growth, just getting to a 6% cap drives an 11% return, a 5.5% cap (in line with where inferior assets and companies are selling) is up 25%+, and looking out to higher NOI and/or a sale could drive up 40-45%+; don’t estimate material downside to NOI which leaves higher interest rates as the key risk to higher cap rates (hedgeable directly with rates or via other companies written up on VIC that should fare much worse in a rate spike scenario like ABR and TBBK)

Important Disclaimer:

The information contained herein (the “Information”) represents the views of the author as of the date submitted based on public information published or disseminated by the companies referenced below, including, but not limited to, through SEC filings, investor relations materials and public conference calls, or other third parties as of such date.  Securities of the companies discussed herein have been and are currently portfolio holdings of the author or clients of the author’s firm.  The Information does not constitute investment advice or a recommendation, and it is not an offer to buy or sell or a solicitation of an offer to buy or sell any security or other asset or to participate in any trading or investment strategy.  Nothing in this report shall be deemed to constitute tax, financial, or legal advice given by the author or the author’s firm to any party.  Furthermore, not all relevant facts and information may have been considered in developing the Information and such Information is subject to change without notice.  The author has no obligation (express or implied) to update any or all of the Information or to advise you of any changes to the Information; nor does the author make any express or implied warranties or representations as to the completeness or accuracy of the Information or accept responsibility for errors.  You should not rely on the Information, in whole or in part, without conducting your independent verification as to its accuracy.  The Information contains forward-looking statements, including observations about markets and industry and other trends as of the date hereof. Forward-looking statements may be identified by, among other things, the use of words such as "expects," "believes," “targets,” or "estimates," or the negatives of these terms, and similar expressions. Forward-looking statements reflect the views of the author as of such date with respect to possible future events. Actual results could differ materially from those in the forward-looking statements as a result of factors beyond the control of the author and you are cautioned not to place undue reliance on such statements.  The Information may not be reproduced or disseminated in any manner without the express written consent of the author.

Catalyst

- Continued blended rent peformance as supply absorbed

- More private markkt transactons substantiating private market value / cap rate for comparable assets