Should Wall Street Analysts Be Bullish Over This One Canadian REIT?

Following a recent second-quarter performance announcement, shares of First Capital Real Estate Investment Trust (FCR-UN.TO) have been given a “Moderate Buy” rating by a handful of analysts covering the company. 

First Capital is a household name among real estate investors, with the company investing, developing, owning, and acquiring high-value commercial and residential real estate properties within high-earning neighborhoods in rapidly growing Canadian cities. 

In the most recent earning call, the company announced that they currently hold roughly $9.5 billion in total assets, with interests in over 128 neighborhoods totaling over 22.2 million square feet of rentable space. 

Shares of First Capital advanced approximately 6.2% between July 8 and August 7. Although the 6-month performance has been slow, with share value dropping 4.1%, however on a year-to-date basis, FCR-UN has managed to gain a moderate 1.6%, and continues to make up for previous losses. 

There is more to First Capital. The REIT has an annual dividend yield of 5.27%, with monthly shareholder distributions. First Capital could provide dividend-hungry investors with long-term upside opportunities amid a changing real estate market environment in Canada. 

Second Quarter Review 

Considering moderate advancements in the stock market, First Capital recently reported second-quarter results, with the company posting better-than-expected earnings, including an 8.4% increase in operating Funds From operations (FFO) and strong leasing activity throughout much of the first half of the year. 

On top of this, reported same property Net Operating Income (NOI) rose by 4.6% for the quarter and was up 6.2% in the six months ended June 2024. This is a steady improvement from the same period last year, with Q3 2023 NOI at 2.2% and the six months ending June 2023 delivering an NOI of 3.0%.

In some instances, an REIT will apply internal strategies that will allow them to oversee their own property management. Through this, the company can hold more control over the operational requirements and cost of any given property. 

However, this might not always be the case, and some REITs will employ local property management companies that operate in the area to oversee the management of their portfolio properties. 

By using this strategy companies can leverage growth in various jurisdictions, without having to be considered experts in those areas. This may include services such as landlord-tenant boards, local and state building and fire codes, human rights, and other important aspects of property management. 

In the case of First Capital, which sees the company managing the majority of its portfolio, investing in long-term sustainable markets is key to the company's forward-looking success. 

In places such as Toronto, property developers have noticed a strong demand for more high-end real estate, including residential and commercial. 

First Capital applied key strategies to maintain positive FFO and NOI levels. For starters, the better-than-expected NOI results were primarily due to higher base rent. The average net rental rate rose by 0.5% or $0.11 per square foot, totaling a record $23.73 per square foot, which is in line with forward-looking rental escalations. 

Unsurprisingly, Toronto’s exponential growth and wealth of economic opportunities has seen the city create many new multi-millionaires, not to mention existing multi-generational wealthy families, and the droves of millionaires relocating to the city. This has created a renaissance period of high-end custom homes being built in the city that are competing at an award-winning international level. High-end custom-built homes are springing up all over the city, further adding a level of prestige and sophistication. 

Secondly, in the first quarter, the company had a $300 million offering of senior unsecured debentures. With this, First Capital was able to raise its financial position further, enabling it to increase investments in high-quality assets and expand its property portfolio. 

In Q2, the average rent for a one-bedroom condominium apartment in Toronto was sitting at $2,452, which was 3.1% lower compared to $2,529 in Q2 2023. Similarly, a two-bedroom apartment now averages $3,178 per month.

This demand comes at a time when more tenants are seeking to reside within liveable areas that can provide them with all the amenities they need within proximity to their house.

For instance, a report by international property agency, RE/MAX, recently named Toronto’s Old Town neighborhood one of the most liveable areas in Canada. Yet, average rent in Old Town and surrounding areas remains above the national average. 

Other downtown neighborhoods such as Annex and Yonge-St. Clair have seen prices drop by 14.4% since May 2024, with home prices now averaging at $1.74 million. These prices are well above the average of $1.17 million for the City of Toronto and $1.16 million for the Greater Toronto Area. 

The buying market continues to see prices moving in all sorts of directions. Average house prices in Rosedale and Moore Park, an affluent suburb of Toronto, have climbed 38.7% since May 2024 and are up 26.3% since June 2023, now averaging at $3.17 million. 

In total, Toronto accounts for 47% of First Capital’s property portfolio. Both the Greater Montreal and Greater Calgary Area account for 12% of the company’s portfolio, while other areas such as Vancouver and Edmonton make up 11% and 7%, respectively. 

During the second quarter, the company completed a $37 million investment, primarily through development and redevelopment. More than this, First Capital announced that they have neutered a $66 million disposition agreement. The purchase of several high-value commercial properties will allow the company to leverage large-scale development capital, seeing as the purchase will be an all-cash agreement due to the properties being debt-free. 

The announcement of the further investment in commercial real estate might have been somewhat puzzling to shareholders, seeing as commercial real estate investment volumes fell to $8.7 billion during Q1 2024, which is a 32% quarter-over-quarter decline. 

Analysts believe that despite the slowing investment volumes, which declined by 3.4% in the same period, buyers and sellers will likely return in the coming months after the Bank of Canada cut prime interest rates by 25 basis points to 4.5%. 

There has been news of the bank potentially cutting rates two more times before the end of the year. Analysts predict that interest rates will be closer to 4% by the end of the year, leaving more room for investors to enter the market before a possible increase in prices. 

Long-Term Outlook

Given the cyclical momentum of the real estate market, First Capital employs a strategic approach that allows them to invest in the development and redevelopment of existing properties instead while keeping new property additions to a minimum on the back of falling interest rates. 

Through this, First Capital can build more long-term relationships with current tenants, which allows them the ability to proactively manage their portfolio more efficiently. Seeing as over 90% of the company’s rental income comes from retail clients, building strong relationships with key retailers and anchoring big-box stores is pivotal to their long-term success. 

Another key factor to consider with the long-term viability of First Capital is that the company is leveraging current properties and tenant leases to further redevelop spaces to create more mixed and multi-use properties. 

This is not an isolated event, and across the real estate market, developers are redeveloping properties to attract more desirable tenants, which includes residential units. This would help create more mixed-use spaces for retail property investors, such as First Capital, bringing consumers closer to stores. 

Something else that will benefit First Capital in the coming years is the strong demand for high-end, quality retail and commercial properties. Demand has continued to outpace supply, and with premium spaces becoming more scarce and developers holding back on new construction due to rising costs, current tenancy rates will continue to rise, and perhaps remain more stable over the long run. 

On top of this, an increase in property gains taxes, rising from 50% to just over 66% as announced in the federal government's 2024 budget has meant that smaller developers are beginning to feel the strain, and are instead pulling back on new developments. 

Driven by multiple factors, from high interest rates, strong demand, and higher property taxes, occupancy costs will continue to climb, leaving First Capital to leverage changing forces and benefit from new market dynamics. 

Another long-term benefit that might bolster First Capital’s performance in the coming years is the population boom Canada has experienced in the last couple of years. According to Statistics Canada, the country’s population reached a record 40.76 million citizens, with nearly 2 million new residents entering the country compared to the previous year. 

The country has experienced its highest population growth rate in more than 60 years, with the population growing 3.2% between 2023 and the beginning of 2024. Favorable immigration policies and strong domestic migration have seen more Canadians move into urban areas, which of course allows them better accessibility to retail and commercial services. 

Future Opportunities

Despite the wider market being faced with plenty of challenges, First Capital might be in a position to benefit from changing market dynamics and an overall shift in demand for commercial and retail real estate. 

As analysts begin to better unearth the current state of the Canadian real estate market, traders might see First Capital in a different light compared to several years ago. Already, First Capital has maintained a “Moderate Buy” rating from a handful of firms that believe the company could capitalize on the long-term opportunities presented in the domestic real estate market. 

Not only this, but the company’s approach to investing in the development and redevelopment of urban retail spaces allows it to capitalize on the strong demand for premium commercial properties. First Capital’s strategic approach to portfolio management means that the company prioritizes raising its funds from operations while leveraging more positive returns from net operating income and stronger shareholder distributions. 

Then, the company currently provides a 5.27% annual dividend yield and has a longstanding track record of paying monthly distributions to shareholders. This would make First Capital an attractive REIT for dividend-focused investors seeking new opportunities with robust companies that can pay reliable dividends. 

Closing Thoughts 

Though the real estate market is in the process of recovering from earlier losses, ongoing demand for retail properties and premium mixed-use spaces could help bolster First Capital’s position. This, combined with softening interest rates, slower consumer inflation, and a decrease in construction activity could be the winning recipe for First Capital to continue raising its return and further growing shareholder distributions.