COPT Defense Properties Stock: Not Your Ordinary Office REIT (NYSE:CDP)

Introduction

I’ve usually been hesitant to write down about REITs as a result of I consider many will endure in the next price surroundings. With workplace REITs particularly, there may be ache within the sector. And for good motive. Excessive curiosity charges, excessive ranges of debt, the shift to working from residence and urbanization traits are all components which have pushed buyers sale REITs workplace.

Nonetheless, there may be alternative for buyers keen to dig deeper. On this article I’ll talk about the safety properties of COPT (NYSE: CDP), a REIT that’s labeled as an workplace however is way more sustainable attributable to its tenant combine, means to extend rents, stability sheet and development components. I will additionally talk about the corporate’s current efficiency and why I consider the present valuation is on the face of it not that costly in comparison with its peer group.

Firm overview

BAKED Protection Properties is an actual property funding belief (REIT) that owns a portfolio properties, all of which serve protection and IT tenants. A lot of its tenants embrace giant, well-known firms, together with Basic Dynamics (GD), Boeing (B.A), Booz Allen Hamilton (BAH) and Lockheed Martin (LMT). COPT additionally has the US authorities as its largest lessee, representing 95 of its 210 leases. Many of the firm’s property are positioned in Virginia, Maryland, Washington and Alabama.

Enticing tenant profile

Though labeled as an “workplace REIT”, I consider that COPT displays vital variations that differentiate it from a typical workplace REIT. Not like the remainder of the workplace actual property, having safety tenants offers consolation because it has comparatively extra resistance to the market, making certain secure money flows. This contains the soundness gained from having giant tenants (who shouldn’t have the agility to maneuver house shortly and infrequently have long-term leases) and areas in very particular areas. It isn’t unusual for a number of protection firms to be positioned in the identical location. For instance, on the Nationwide Enterprise Park in Maryland, COPT has all of the protection firms I discussed earlier, in addition to a number of well-known firms, together with IBM ( IBM ), Accenture ( ACN ), and Oracle ( ORCL ).

One other manner COPT differentiates itself is that its properties leased to protection and IT tenants sometimes require sturdy safety measures and specialised infrastructure comparable to knowledge facilities and safe communications amenities. COPT’s means to satisfy these stringent necessities by means of its properties additional differentiates it from conventional workplace REITs, which generally don’t have to spend money on such specialised infrastructure. An organization’s monitor document in assembly these necessities additionally means to its tenants that it’s able to assembly their necessities. This creates a barrier to potential competitors, as evidenced by the truth that a 3rd of COPT employees have some form of authority to do their job. Subsequently, the corporate enjoys a really excessive retention price of over 80%, with a median of 75% over the past ten years.

Lengthy-term tailwind

One of many greatest drivers of protection trade development is authorities spending on protection. Wanting on the finances of the Ministry of Protection, the development over the past 4 years reveals an accelerated development price, which has elevated by 19.4% throughout this era. Whereas my first impression was that a few of this is perhaps attributable to partisan politics, the most recent Nationwide Protection Authorization Act for 2024, handed with bipartisan help in March 2024, will improve 4% over 2023 As a proportion of US GDP, protection accounts for 3.1%.

For COPT, long-term development in protection spending is essential. Going again to the COPT Nationwide Enterprise Park in Maryland, it was a property that went from simply 4 buildings totaling 485k sq. ft in 1997 to over 3.8 million sq. ft as we speak. Situated close to one of many essential entrances to Fort Meade, a middle for data, intelligence and cyber exercise, COPT is being developed by NBP to be a high-quality, state-of-the-art park designed for tenants together with the US Authorities and people firms that serve the nation’s protection/IT missions in Fort Meade. These tenants need to find right here as a result of it offers proximity and entry to 120 federal companies and instructions on publish, together with the US Cyber ​​Command, the Protection Info Techniques Company and several other others. This instance reveals how COPT straight advantages from elevated protection spending.

Newest outcomes

​​​​​​the most recent COPT outcomes, the corporate reported FFO per share of $0.62, which was excellent contemplating it exceeded the higher finish of the steering vary set on the finish of This autumn 2023. Traditionally, COPT has met or exceeded steering in sixteen of the final seventeen quarters. On the NOI aspect, money NOI elevated 6.1%, which is according to the common single-digit hire development the corporate can obtain year-over-year.

Underneath the lease, COPT had 721,000 sq. ft of gross hire; 160,000 sq. ft of emptiness for lease with a weighted common lease time period of 8.2 years. Curiously, the pipeline of energetic growth now stands at 960,000 sq. ft, most of which (74%) is definitely pre-leased, one thing you do not usually see in your conventional workplace house. Leased with a complete worth of roughly $381 million, a rise of $60 million over 4Q2023. The general retention price was 78% and the protection/IT portfolio retention price was 83%.

Total, it was a fantastic quarter for COPT. Primarily based on its first quarter outcomes, it seems that the corporate shall be on monitor to realize its annual goal of 75% to 85% retention. With NOI development of 6.1%, the corporate is just under the midpoint of its 2024 forecast vary, and accelerated development seems achievable.

One of many issues that excites me most about COPT is that the corporate made $91 million in new investments this quarter. This consisted of two growth initiatives with an estimated value of $76 million and a $15 million property acquisition (a 202,000-square-foot constructing in Columbia Gateway, a market wherein it already has a major presence). The 2 growth initiatives shall be in Nationwide Enterprise Park and Redstone Gateway, two of the highest-occupancy markets served by COPT, the place they’ve “actually no comparable leasable house left,” in response to CEO Steven Budorick.

Funding in these early stage developments ought to add extra stock to those markets and for my part will doubtless lease shortly with new tenants attributable to excessive demand. Subsequently, the risk-reward ratio of such investments makes COPT nearly meaningless. The capital forecast for brand spanking new investments was about $220 million for 2024, so the corporate is nearly midway to its aim as the primary quarter ends.

Funds

Throughout the quarter, administration raised steering for FFO development per share by 3 cents to $2.54. In comparison with most workplace REITs, that are anticipated to say no FFO per share this 12 months, COPT expects FFO to extend 5% year-over-year. It is a direct results of the corporate’s differentiated strategy to a tenant base that has confirmed to be way more resilient in the course of the workplace downturn. From 2019 to 2024, FFO per share development is forecast to be 4.6% CAGR.

COPT’s stability sheet can also be in an excellent place. As an investment-grade REIT with a BBB profile from S&P, the corporate doesn’t seem like overly leveraged, in contrast to different REITs that face the problem of working in the next rate of interest surroundings. On the finish of the latest quarter, COPT had $2.42 billion in debt, most of which is said to their unsecured senior notes which have staggered maturities between 2026 and 2033, the latter of which was financed at 5.25%, according to different BBB friends REIT.

With money of $123.1 million and EBITDA of $346.1 million for FY23, the web debt to EBITDA ratio is 6.6x. ​​​​​​Whereas this may occasionally appear excessive in absolute phrases, remember the fact that tenant high quality is above common and leverage is decrease than typical for an workplace REIT. With curiosity expense of $77.7 million in 2023, the curiosity protection ratio is roughly 4.5 occasions, so COPT is producing ample money circulation to satisfy its curiosity obligations.

Analysis and conclusion

Scoring the COPT could be a bit difficult. On the one hand, there aren’t any public protection and IT REITs. After we examine COPT to friends comparable to Boston Properties ( BXP ), Cousins ​​Properties ( CUZ ), Easterly Authorities Properties ( DEA ), and SL Inexperienced ( SLG ), the corporate trades at a premium of greater than 2 occasions its common a number of. comes at 10.1x P/FFO in comparison with a median of seven.7x.

Along with this, the corporate trades at 1.9x tangible e-book worth in comparison with the peer group median of 0.9x. Total, I might say the corporate’s premium is well-deserved given the upper high quality of tenants, excessive renewal price and regular development, even throughout a troublesome market.

As for the dangers to the funding thesis, the principle one could be that the renewal price doesn’t exceed 75%. In 2025, the corporate has a major variety of leases pending renewal, with roughly 23% of lease income expiring. For the explanations mentioned earlier, such because the particular companies COPT offers along with the engaging location of the amenities, I believe these leases are prone to be prolonged. Nonetheless, buyers ought to proceed to observe renewal charges as a key metric for evaluating REIT efficiency.

In conclusion, COPT shouldn’t be your common workplace REIT. Its portfolio properties are of upper high quality attributable to its deal with protection and IT tenants, which exhibit traits that make rental revenue extra sustainable and develop sooner, even during times of financial weak spot. Whereas the corporate does commerce at a premium to friends at 10.1x P/FFO, I consider the valuation is justified given its above-average rental revenue development and FFO per share.

With decrease leverage and fewer cyclicality constructed into REITs, a 4.9% dividend yield (46.2% FFO payout) appears effectively coated by free money circulation, particularly with a well-liquidated and adequately leveraged stability sheet. Total, COPT needs to be a fantastic addition to a well-diversified portfolio searching for a secure and safe dividend. Subsequently, I price the inventory a “purchase.”