Real Estate Investment Trusts, or REITs, are a great way for long-term income investors to gain exposure to real estate without the hassle that comes with actually owning, maintaining, and managing rental properties.
In fact, REITs, if carefully chosen, can help you achieve the ultimate form of financial freedom; being able to live off pure dividend income during retirement, including early retirement.
Of course with so many REITs out there investors can have a tough time choosing where to invest their hard earned money.
Let’s take a look at one of the largest blue chip REITs, Simon Property Group (SPG), and see if now, thanks to the recent REIT correction, this mall owner deserves a core spot in a diversified portfolio such as our Conservative Retirees dividend portfolio.
Business Description
Simon Property Group is America’s largest mall owner (and the largest REIT by market cap), with 218 properties across the North America, Europe, and Asia. As seen below, malls account for half of the company’s assets, and premium outlets contribute another 31%. Most of the business is domestic with international assets accounting for just 8% of the total.
Source: Simon Property Group Investor Presentation
By geography, Florida (14.7% of net operating income), California (12.8%), and Texas (10.4%) are the biggest contributors, but the business is well-diversified.
The REIT’s historical success has been due to management’s disciplined approach to slow but steady growth. Specifically, Simon Property Group focuses exclusively on high-end and ultra premium luxury properties (such as its “Mills propertiesâ€), with good diversification across the U.S. as well as with tenants.
As you can see, Simon Property Group’s largest tenant accounts for just 3.4% of its total rent for U.S. properties. The malls the company owns property in are also reasonably diversified by anchor tenants with Macy’s representing the biggest share of square footage (12.8% of the total).
This helps protect Simon Property Group from being overly exposed to the fate of any single retailer, which is important because retail is a notoriously tough business with a low survival rate for many companies (consumers are fickle).
Source: Simon Property Group Earnings Presentation
Business Analysis
While lower quality retailers, such as those found in grade B and C malls have suffered in recent years, Simon Property Group’s exclusive focus on the high end of the market has helped it to continue growing despite the rise of e-commerce giants such as Amazon (AMZN).
Even more impressive is the fact that management, led by CEO David Simon (Harvard business review called him one of the world’s greatest CEOs in 2013), has been able to generate improving profitability and returns on invested capital in an environment where low interest rates have sent commercial real estate prices soaring.
With 31 years of industry experience, including being with Simon Property Group since its 1993 IPO, Mr. Simon has proven to be one of the industry’s best capital allocators, generating 3,000% total returns over the past 23 years (five times better than the S&P 500).
Part of that is the REIT’s ability to locate attractive acquisition opportunities, which prove highly accretive to funds from operation per share (the equivalent of a REIT’s cash flow and what pays the dividend). Since Simon Property Group’s IPO in the early 1990s, the company has made over $40 billion of acquisitions, resulting in tremendous growth.
But Simon Property’s true competitive advantage lies not just in acquiring top quality malls in fast-growing regions. The key to staying ahead of industry headwinds (e.g. rising online shopping) and generating consistent growth throughout various interest rate and economic growth cycles is to focus on the quality of the customer experience within each mall.
For example, Simon Property Group has invested heavily into revitalization efforts of its properties ($3 billion in just the last five years). This helps to attract not just more shoppers, but customers with higher incomes that in turn attract superior anchor tenants such as Neiman Marcus, Bloomingdale’s, Lord & Taylor, and Saks Fifth Avenue. Take a look at the $300 million transformation the company made to its shopping center in Long Island.
