ALE Property Group is a AU$1.0b small-cap, real estate investment trust (REIT) based in Sydney, Australia. 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. I’ll take you through some of the key metrics you should use in order to properly assess LEP.
View our latest analysis for ALE Property Group
Funds from Operations (FFO) is a higher quality measure of LEP’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 LEP, its FFO of AU$29m makes up 51% of its gross profit, which means over a third of its earnings are high-quality and recurring.
In order to understand whether LEP has a healthy balance sheet, we have to look at a metric called FFO-to-total debt. This tells us how long it will take LEP to pay off its debt using its income from its main business activities, and gives us an insight into LEP’s ability to service its borrowings. With a ratio of 5.4%, the credit rating agency Standard & Poor would consider this as aggressive risk. This would take LEP 18.65 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 LEP’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 1.29x, LEP is not generating an appropriate amount of cash from its borrowings. Typically, a ratio of greater than 3x is seen as safe.
I also use FFO to look at LEP’s valuation relative to other REITs in Australia 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. LEP’s price-to-FFO is 36.03x, compared to the long-term industry average of 16.5x, meaning that it is overvalued.
Next Steps:
ALE Property Group can bring diversification into your portfolio due to its unique REIT characteristics. Before you make a decision on the stock today, keep in mind I’ve only covered one metric in this article, the FFO, which is by no means comprehensive. I’d strongly recommend continuing your research on the following areas I believe are key fundamentals for LEP: