(Published Jan. 13 by The Financial Canadian)
When thinking of conservative investments with strong dividend prospects, one might not immediately be drawn to the retail industry.
After all, the industry is has been on the decline for years and is expected to be further disrupted by the likes of Amazon Go (AMZN, Financial).
Fortunately, the outlet store subsector of the retail industry is not being hit as hard. This is because of the lower cost of goods that are sold through this channel.
Tanger Factory Outlet Centers Inc. (SKT, Financial) is poised to benefit from this trend. This real estate investment trust is often considered to be the premier outlet shopping REIT – Warren Buffett (Trades, Portfolio) personally invested in Tanger in 1999. The company is known for its strong total return record.
Source: Tanger Factory Outlet Investor Presentation, slide 29
A good portion of the company’s total returns are the result of its dividend payments. Tanger has a long history of dividend growth.
The company’s business strength is evident in its dividend history.
Source: Tanger Factory Outlet Investor Presentation, slide 17
This REIT is a Dividend Achiever – a group of select companies with at least 10 years of consecutive dividend increases. You can see the entire list of all 272 Dividend Achievers here.
To follow is a discussion of the investment prospects of Tanger in detail.
Business overview
Tanger is a publicly traded REIT with headquarters in Greensboro, North Carolina.
The company is named after its founder, Stanley Tanger, who opened the first locations (Burlington Manufacturer’s Outlet Center) in 1981. Tanger’s son, Steven, is continuing the family business. He is currently Tanger’s president and CEO.
Back then, the outlet store model was essentially nonexistent. Tanger’s store was viewed more as a medium through which manufacturers could quickly dispose of excess merchandise. Little did he know he was sparking the flame that would become the rapidly-growing retail outlet industry.
Today, with more than 36 years of experience in the real estate industry, the company’s properties attract 185 million shoppers annually.
Tanger is the only pure-play outlet REIT and is the go-to landlord for outlet distributors. This has enabled Tanger to develop a world-class tenant base, filling its locations with quality household names like The Gap (GPS, Financial), Nike (NKE, Financial), Ralph Lauren (RL, Financial) and Under Armour (UA, Financial).
Source: Tanger Factory Outlet Investor Presentation, slide 25
Tanger has used its brand recognition and leadership in the outlet industry to scale its business model. Since 2005, the company has grown its period end market capitalization from $1.8 billion to $4.9 billion as of Sept. 30, 2016.
Source: Tanger Factory Outlet Investor Presentation, slide 16
Growth prospects
Tanger has identified four key levers of growth that the REIT is focusing on for the foreseeable future:
- Existing Portfolio
- Opportunistic Acquisitions
- US Development Opportunities
- Canadian Growth Opportunities
This analysis will consider each of these points in turn.
Considering growth from the company’s existing portfolio, one thing is certain – the company has done a fantastic job of driving organic growth over the past few years.
Since 2010, the company has never posted negative same center net operating income (NOI) growth. The lowest level of annual same center NOI growth has been 2.6% (which occurred twice – in 2010 and 2014).
Source: Tanger Factory Outlet Investor Presentation, slide 6
This track record gives me confidence in the company’s ability to leverage its existing portfolio of properties as one of the drivers of business growth.
Tanger’s U.S. development opportunities are equally bright. While the domestic outlet industry is much smaller than the retail industry as a whole, Tanger has been busy developing and acquiring new properties.
Source: Tanger Factory Outlet Investor Presentation, slide 6
In the year following the company’s last earnings presentation, management expects to open three new projects. These projects are diversified across geographies – Daytona Beach, Florida, Fort Worth, Texas and Lancaster, Pennsylvania.
Tanger also maintains a ‘shadow pipeline’ of projects in markets that are underserved (or not served at all) by the retail outlet industry. Altogether, Tanger’s U.S. growth prospects remain strong.
Looking at Canadian operations, Tanger has two drivers of growth in this geography.
First, U.S.-style outlet shopping is underrepresented in the Canadian retail space. This means there is limited competition for the type of properties Tanger is hoping to develop.
Secondly, Tanger is working in conjunction withRioCan (TSX:REI.UN, Financial), Canada’s largest REIT. Tanger will benefit from working with a partner with more experience in the Canadian real estate marketplace. Select details about Tanger’s Canadian operations are outlined in the following slide.
Source: Tanger Factory Outlet Investor Presentation, slide 6
Between the lack of industry competition and the expertise of RioCan, I expect Tanger’s expansion in Canada to be successful.
Tanger’s last expected driver of growth is through opportunistic acquisitions. While the outlet industry is small, the REIT’s strong reputation and large size gives it significant access to capital. Further, Tanger is the only pure-play outlet REIT, which means it will be one of few bidders if outlet locations come up for sale (it will be competing against diversified REITs who have smaller portfolios of outlet locations).
This means Tanger will have no problem accessing capital if it identifies attractive acquisition opportunities.
Source: Tanger Factory Outlet Investor Presentation, slide 6
All things considered, Tanger appears to have a robust plan to drive future business growth.
Competitive advantage & recession performance
Compared to other subsectors of the retail industry, outlet stores are more recession-resistant.
This is because of the price differences – since outlet stores sell directly from manufacturer to consumer, it eliminates the costs associated with middle men and passes these savings onto customers.
The company’s CEO summarized this competitive advantage succinctly:
Source: Tanger Factory Outlet Investor Presentation, April 2016, slide 27
Furthering the company’s recession resiliency is its strong balance sheet. Only 9% of its real estate portfolio is encumbered (meaning there are liabilities secured against it) and the company is only using 38% of the capacity of its credit lines.
This unused credit will help Tanger weather any kind of short-term economic downturns.
Because of its financial strength, Tanger holds investment grade credit ratings from both the S&P (BBB+) and Moody’s (Baa1). Each of these ratings agencies hold stable outlooks on the REIT and have not changed ratings since the last upgrade in May 2013.
Valuation & expected returns
For REITs, one of the simplest ways to assess valuation is to compare current dividend yield versus historical dividend yield.
Over the past five years, Tanger has traded at a dividend yield between 2.2% and 3.8%. Today’s yield of 3.5% is very close to the high end of this range, which suggests Tanger is attractively valued at current levels.
Since inception, Tanger has compounded revenue at a 3% compound annual growth rate. I expect the company’s revenues to continue to grow at a 2% to 3% rate in at least the short to mid term. Beyond that, it is difficult to say what to expect because of the dramatic transformations the retail industry is experiencing.
The company’s funds from operations (or FFO; the equivalent of EPS for a REIT) has historically grown faster than its revenues. For instance, the company’s FFO through the first three quarters of 2016 grew by 7.3%, while revenue grew only 5.5%. This is likely because of cost savings identified by management.
In the long run, I expect FFO to grow at a rate 1.5% to 2.5% higher than revenues, giving FFO an expected growth rate of 3.5% to 4.5%.
Total returns for Tanger shareholders will be composed of the following:
- 5% to 4.5% revenue growth
- Approximate 3.5% dividend yield
For expected total returns in the range of 7% to 8.5%. These returns will likely be boosted by valuation expansions, as the company appears to be attractively valued based on the dividend yield.
Final thoughts
While the overall retail industry appears to be in decline, Tanger offers investors direct exposure to the recession-resistant outlet industry.
The company has a strong plan for future growth and appears to be attractively valued based on its dividend yield. It also has a promising partnership with Canada’s largest REIT, RioCan. The strong balance sheet will serve the company well in the event of an economic downturn.
Not all investors can stomach the retail industry’s current transformation. For those that can, Tanger offers an attractively valued opportunity to invest in the outlet industry.
Disclosure: I am not long any of the stocks mentioned in this article.
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