The COVID-19 outbreak has had a significant impact on Brookfield Property Partners' (NASDAQ: BPY) operations this year. That was evident during the second quarter when the global real estate giant's FFO per share tumbled more than 50%. This weakness has weighed on its stock value (shares are down by about a third this year) while pushing up its dividend yield to an eye-popping 11%.
That sell-off likely has both value and income investors intrigued. Here's a look at whether those factors make the global property giant a buy right now.
The case for buying Brookfield Property Partners
There's no doubt that the COVID-19 outbreak is a significant near-term headwind for Brookfield. For example, one of the second quarter's biggest issues was the company's investments in real estate funds managed by its parent, Brookfield Asset Management (NYSE: BAM). These investments generated negative FFO to the tune of $8 million in the period, down from a positive $106 million in the year-ago quarter. That's because hospitality properties owned by those funds had to close (which nicked FFO by $78 million, or $0.08 per share), and they didn't record many transaction gains because property sales dried up during the height of the pandemic.
However, with hospitality properties and the real estate sales markets starting to reopen, this segment should bounce back in the coming quarters, as should its core office and retail portfolios. Because of that, the second quarter isn't an accurate reflection of Brookfield's long-term earnings-generating capability.
As a result of this view, Brookfield believes investors have significantly undervalued its shares in light of its underlying earnings potential. The company estimates that its core office portfolio and private equity investments alone are worth a net $14.13 a share. Meanwhile, it believes its core retail portfolio is worth around $14.76 a share. With the stock currently trading at about $12 apiece, the market has priced Brookfield's portfolio at less than $0.50 on the dollar.
Because of that, the company recently launched a $1 billion repurchase program, funded by Brookfield Asset Management and its institutional partners. Because its parent will finance the buyback, Brookfield Property Partners will preserve its substantial liquidity, which stood at $6 billion (including $1.5 billion in cash) at the end of the second quarter. That funding flexibility gave Brookfield Property Partners the confidence to maintain its big-time dividend.
The case against buying Brookfield Property Partners
Brookfield Property Partners is currently battling two major headwinds: The retail apocalypse and work from home. On the retail side, market conditions were truly apocalyptic during the second quarter as governments forced many nonessential retailers to close their doors. With Brookfield's malls mainly leased to these tenants, it only collected 34% of the rent it billed during the second quarter. While rent collections trended much higher in July, retailers are under significant financial pressure, which forced several to file for bankruptcy in recent months.
Brookfield has been working to offset these issues by turning its shopping centers into the marketplaces of the future, featuring shopping, dining, and entertainment experiences. It has also diversified its tenant base by developing residential, office, and hotel properties near its retail centers. However, it's not clear whether these actions will pay long-term dividends, given the uncertainty of how COVID-19 might forever change the real estate landscape.
The other issue facing Brookfield is an increase in companies allowing their employees to work from home permanently. Many employees and their employers like this setup, which could cause a rise in office vacancies in the future, weighing on rental rates and property values. However, there are some drawbacks to this setup, with Brookfield writing in its second-quarter shareholder letter:
Collaboration and innovation cannot take place remotely or over conference calls and some companies are already observing a decline in these areas amongst their employees. As time goes on, we think the loss of innovation and collaboration will become even more apparent and companies will shift emphasis back to having employees in the office.
If Brookfield's view proves to be correct, then this trend won't crush its office portfolio. On the other hand, if it becomes a long-term headwind, Brookfield's office portfolio might not be worth as much as it currently estimates.
The concern with either headwind is that they could hold down Brookfield's FFO. If that happens, then the company might need to reduce its big-time dividend.
There's too much uncertainty to buy right now
Brookfield has full confidence that its core office and retail portfolios will weather the current headwinds, which it believes will eventually abate. It also expects its private equity fund investments to bounce back as the hospitality and real estate markets recover. It's backing that belief by maintaining its dividend and buying back its beaten-down stock.
While Brookfield might be correct (and it has a long track record of being right on real estate), it seems like a riskier investment these days given the current uncertainty in its core property groups. Because of that, investors might want to wait for another quarter or two of data before buying shares, just in case things don't turn around as quickly as Brookfield believes they will.