It's special when a company manages to string together more than 50 years' worth of annual dividend increases. Retail landlord Federal Realty Investment Trust (NYSE: FRT) is at 54 years, showing that its business has resilience through both good and bad times. But, in 2021, as the REIT's (real estate investment trust) business rebounds strongly from a tough 2020, investors should be looking just a little further ahead. Here's why.
The background story
Federal Realty owns around 100 or so strip malls and mixed-use developments. Although it's one of the largest names in the strip mall sector, it focuses on quality over quantity. In other words, while its portfolio is modestly sized, its properties are particularly well-located and desirable for both consumers and tenants.
In 2020, the coronavirus pandemic upended the normal flow of life for everyone, Federal Realty included. When nonessential stores were shut and U.S. citizens were asked to practice social distancing, things looked bleak for any REIT with a retail component.
That said, roughly 75% or so of Federal Realty's properties have a grocery store, essential businesses that remained open throughout the health scare. Still, weaker stores had trouble holding on, and occupancy at the company's properties started to fall.
Management expected the first half of 2021 to be a low point for occupancy. During Federal Realty's third-quarter 2020 earning conference call, it projected that occupancy might fall into the mid-80% range before rebounding as it started to fill empty space. Only things never got that bad, with first- and second-quarter 2021 occupancy levels falling to just 89.5%. That allowed the REIT to outperform its expectations and materially beat Wall Street estimates.
The future will be even better
Basically, the REIT has seen more demand for its properties than it had originally thought it would. A quote from Federal Realty's second-quarter 2021 earnings conference call sums up the strength of the portfolio: "With the record-breaking leasing volumes across the portfolio, economic occupancy should steadily climb higher from this point, driven by 310 basis points of spread between leased and occupied, that is embedded within the portfolio."
To simplify that a bit: Federal Realty is signing more leases than it ever has before and, despite the difficult environment, new leases are being signed at notably higher rates. That suggests that the back half of 2021 and 2022 will see a material benefit on two fronts.
First, higher occupancy will drive results and then, the REIT will get a boost from the ability to charge higher rents. Management had been calling for 2021 funds from operations to be between $4.54 and $4.70 a share earlier in the year but upped that figure to between $5.05 and $5.15 when it announced second-quarter results. Its target for 2022 is between $5.30 and $5.50 per share.
But there's another piece to consider here. Not only is leasing activity strong, but Federal Realty used the downturn to opportunistically buy a handful of properties. That included reaching into Arizona for the first time, expanding the portfolio's diversification and future growth opportunities.
These additions provide further upside, as the REIT upgrades the properties, adds new tenants, and rolls over older leases. These efforts will start to take shape over the next year or so, meaning that the big benefit of the acquisitions will probably start to show up in 2022 and thereafter.
Slow and steady wins the race
The fact of the matter is that Federal Realty isn't a particularly exciting REIT. But that has been its strength, as it focuses on location, location, location in the fairly reliable strip mall space. That strength is showing through today, as the landlord muddled through a difficult 2020, 2021 shapes up to be better than expected, and the groundwork for even stronger results in 2022 and beyond has been set. In that spread, 2021 is really just a turnaround year, and investors should be more focused on the next 12 to 18 months, when things should really start to pick up.