Margin of safety
November 3, 2016
It is not easy to find bargains out there. But that should not be a call to take risk
A blueprint for prudence can be gleaned from CBL
& Associates (NYSE: CBL) balance sheet. Interest coverage was above 2.5
times in each of the past five years. Its real estate portfolio is leveraged by
a mere 50 percent and compared to variable rate, fixed debt represents the bulk
of liabilities. In a rising interest rate environment, it is a favorable
condition. Yet the conservative balance sheet is just one of many factors.
Management performance has been inspiring too.
Revenue per share increased to $6.19 from $4.53 in 2011. Dividends per share
increased to $1.06 from $0.84 in 2011. And indebtness per share declined to $38
from $45 in 2011. Also cost of carry declined to 4.50% from 5.04% during the
same period. More impressive is that occupancy remained invariable at 94
This financial performance deserves your
admiration especially when considering the industry in which CBL &
Associates operates in. “I’ve come to the conclusion that within 10 to 15 years,
the typical U.S. mall, unless completely reinvented, will be seen as a
historical anachronism, a 60-year aberration that no longer meets the public’s
needs,” noted Rick Caruso, founder of Caruso Affiliated, one of
the largest privately held real estate company in the United States.
It seems management is prepared to handle any adverse
situation. It reduced concentration risk by diversifying its revenue across
multiple tenants. Its largest tenant, who is leasing 162 stores, represents less
than five percent of revenue. And St. Louis, Missouri, the company’s largest
geographic concentration, represent less than ten percent of revenue.
Now the share price lacks a margin of safety.
Management expects Funds from operations to range between $2.62 and
$2.66. And because the five-year average price-to-ffo multiple has been five
times, a back-of-the-envelope valuation would deem a $13 to $15 a share. It is in harmony
with the stock price of $12 as of September 30, 2016. Unpleasant news for the
value-seeking investor known for a taste for purchase price significantly below
Yet being cheap can be costly. Pen&Paper
reported on REITs that invest in esoteric asset classes such as excess MSR.
On companies addicted to short term variable debt to fund operations. And companies
that securitize their real estate portfolio to increase yield. While
improving the short performance, these endeavors often hurt long-term
performance. Graham and Dodd said it best: “In market analysis there are
no margins of safety; your are either right or wrong, and if you are wrong, you