RioCan Sings in the Sonshine

Benj Gallander and Ben Stadelmann
Wednesday, August 1, 2012

Every time a central banker frets about slow economic growth and promises to extend yet again this era of low interest rates, Riocan does a little happy dance. This happened in June, when the REIT issued $125 million in debentures with a coupon rate of 3.85 percent. Long-term debt isn’t so scary when you can borrow on those terms.

And as demand for the notes was so darn keen, the total was upped to $150 million. New mortgages on Canadian properties in the first quarter did even better: $83 million was raised at 2.7 percent interest over five years. But why borrow when you can sell stock? Rio did that, too, issuing 8.6&nbps;million units at $26.80 for proceeds of $230 million.

Under these benign conditions, CEO Ed Sonshine isn’t about to retire. The wily chief is getting longer in the tooth, and at 65, he is entitled to collect Canada Pension benefits — but he seems to love his real-life version of Monopoly. Now that he has collected some sets on the US side of the board, he is eager to see how these investments turn out, hinting that he will stick around for another seven years.

Meanwhile, here in Toronto, condomania blazes on, increasing the population density of the city. Mr. Sonshine believes the pendulum will continue to swing away from the suburbs, and retail development opportunities will be concentrated in the city core.

It’s a somewhat contrarian view, but Riocan’s shareholders are used to his independent streak. He thumbed his nose at analysts who predicted a dividend cut during the dark days of the crisis, and now he’s willing to bet big on the mixed use urban shopping centre of tomorrow. A joint venture was announced this month with Allied Properties, a REIT with experience in urban redevelopment projects featuring office intensification.

Results for the most recent quarter were good. Funds from operations spurted ahead by 14 percent over 2011. Tenants with leases coming due saw increases averaging 10 percent.

Occupancy was down a titch, but checked in at a still impressive 96.7 percent. The drop was mainly due to the bankruptcy of Hart Stores (not to be confused with Hartco, although the primary owner is the same). The other deadbeat was Premier Fitness, which quit the regime and went back to the couch to eat potato chips.

Though RioCan’s top-line numbers are beefy, it should be noted that due to the relentless increase in the share count, the metrics on a per-unit basis are far more modest. The distribution is well covered, but don’t expect a juicy increase soon.

Mr. Sonshine has made some brave moves over the past couple of years, and it will take time for them to prove themselves.

Riocan entered the VP portfolio at $19.52 with a target of $30–$32. The stock hit a new 52-week high of $29.20 last week, putting it within spitting distance of the bottom end of that range.

What sort of a catalyst could put it over the top? There has been talk about a listing on the NYSE, which could be the ticket to stimulating investors in the US who do not have the TSX on their radar.

Also favourable to RioCan is a lukewarm environment for stocks. If market sentiment is optimistic, then money flows towards the “risk on” situations with big upside. When fear predominates, investors remember that shopping malls need customers and without them, landlords suffer.

It is in the middle ground between these two states when investors yearn for well-managed REITs that generate steady distributions. If 2012 continues its middling performance, RioCan could prove to be in a very sunny position indeed.