The Exact Opposite of What Investors Expect From a REIT

chart01First Potomac Realty Trust is the exact opposite of what investors expect from a REIT. After all, investors like REITs because of their slightly increasing dividends and growing funds from operations per share. However, First Potomac has been the opposite of this epitome. First Potomac, an office REIT focused on Washington DC, has decreased its dividends and Core FFO per share since the Great Recession of 2008/09.

Slashing dividends is never good news. Even with a dividend payout ratio to AFFO around 80%, First Potomac decreased its annualized dividend from $0.60 to $0.40 this February, alleging this move will save $12 million. This is a representative cut. Although the company is projecting flat FFO per share in 2016, the company appears to be bracing itself for a potential steep dive in funds from operations.

Indeed, management rated almost half of its square footage as either non-core or as market/sold. In February, they released a presentation in which they projected that between the second half of 2016 and the entire year of 2017, net operating income could be cut between 20-25% following the sale of those assets and purchase of new ones.

If you’re a hopeful First Potomac shareholder, I would definitely review my expectations because rough times are ahead for you, while First Potomac shrinks. Last month, when I featured the Bethesda, Maryland based REIT, the company had welcomed a new CEO. At that time, I mentioned the company appeared to be drifting and needed to find a clear direction. While I welcome a strategic plan, they will keep shrinking their portfolio.

Over the past five years, First Potomac decreased in size from 13 to 8 million square feet. Another significant size reduction makes me wonder when things will finally look up for First Potomac. The company will use the proceeds of the sale to reduce debt, strengthen balance sheets, repurchase stocks, and reduce corporate expenses. As a result, they see themselves having a reduced level of NOI and debt in 2019.

The bright side of this asset reduction is that they must have chosen the right assets to sell. While occupancy in DC has decreased, occupancy at First Potomac has increased. This means they have identified what is working, verified if there are similar potential assets in the portfolio that could do as well (repositioning), and set aside those that are not working. Unfortunately, for First Potomac, this exercise has proven to be painful and lasting for shareholders.

Over the past five years, their share price decreased by 42%. Their current share price is 30% below its 52 week high and its AFFO multiple is just under 10x, which indicates their stock in undervalued.

When it comes right down to it, all I see right now is reduction, so I’m not interested in First Potomac for now.

Source: First Potomac Realty Trust (NYSE: FPO)

Disclaimer: This newsletter is not engaged in rendering tax, accounting, or other professional advice through this publication. No statement in this issue is to be construed as a recommendation to buy or sell any security or other investment. Please do your own due diligence before making any investment decision. Some information presented in this publication has been obtained from third-party sources considered to be reliable. Sources are not required to make representations as to the accuracy of the information, however, and consequently the publisher cannot guarantee accuracy.

Disclosure: The author has no positions in any shares mentioned, and no plans to initiate any positions within the next 72 hours.

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