Cousins Properties: Pure Play On Sun Belt Trophy Office Space (NYSE:CUZ)

It’s never easy to get a high-quality asset at a discount except in a market-wide sell-off during a period of systemic stress like COVID-19 or when a company-specific event opens up an entry point for patient investors. Cousins Properties Incorporated (NYSE:CUZ) is one such stock which has seen three sell-offs since March, and each time, it bounces back as buyers swoop in to pick up this meticulously curated portfolio of Sun Belt trophy office properties.

The investment thesis for CUZ is a story told and retold many times on Seeking Alpha. I summarize it here again with my spin.

Pure play on Sun Belt trophy assets

CUZ is a pure play on Sun Belt trophy office buildings due to management focus on this segment since Global Financial Crisis of 2008-2009. The business strategy is articulated here:

Source: Company website

The company’s portfolio has taken its present shape through M&A activity over the last seven years.

Source: Investor Presentation, March 2019

We see this geographic focus strategy in action across its target markets where CUZ generates significantly above-average rent rates:

Source: Investor Presentation, November 2020

Most office markets have seen an uptick in sublease supply during COVID-19. For example, as of 3Q-2020, there was sublease supply of around 6.4% of Class A inventory in the central business district of Austin according to CoStar as noted in the last conference call. Management thinks this newly available space was previously earmarked by companies to accommodate their hiring plans that are now attempting to adjust for lower growth. Management believes that the temporarily elevated sublease supply in its target submarkets across the Sun Belt is manageable over time.

Demographic tailwinds

According to a recent report by Brookfield, migration of corporations and people to midsize U.S. southern cities from gateway markets has been on the rise for several years. Sun Belt markets are seeing significant population and office-jobs growth as companies expand or relocate to these regions. Traditional factors fueling the southern shift include the Sun Belt’s lower costs, attractive quality of life, better weather, lower taxes and more business-friendly environments.

This longstanding trend has been accelerated by COVID-19 crisis because high-cost urban lifestyles reliant on public transportation have become less attractive during the pandemic and people and companies alike seek more space and greater affordability in the Sun Belt and suburban markets.

Source: Investor Presentation, November 2020

Growth pipeline

The office component of CUZ’s 1.9 million-square-foot development pipeline is 82% leased. It comprises a total investment of $566 million in six assets. The first of these assets began generating net operating income (NOI) in 2Q-2020, and all six are expected to fully stabilize over the next 10 quarters, generating approximately $53 million in annualized NOI.

Source: Investor Presentation, November 2020

Low leverage

Management has committed to a simple, low-leverage strategy. CUZ has the lowest leverage among its peers at 4.24x Net Debt to EBITDA. In the balance sheet context, its Net Debt to Total Undepreciated Assets is 24.6%.

Source: Investor Presentation, November 2020

Diversified tenant profile

CUZ has a diversified tenant profile heavy on technology, financials and professional services companies.

Source: Supplemental Information, 3Q-2020

Valuation

CUZ’s valuation is on the higher side relative to its peers, though as noted earlier, investors have had multiple opportunities to buy it at cheaper levels in the past nine months.

Source: Piedmont Office Realty Investor Presentation, November 2020

I have valued CUZ based on a historical average Price to Fund Flow from Operations (“P/FFO”) multiple. Over the last three years, CUZ has traded at an average P/FFO of around 14x. Multiplying the average P/FFO with 2021 forecast FFO per share of $2.76 gives us a target price of $38.60/share or potential 14.6% stock price appreciation from current levels.

For yield-oriented investors, CUZ offers approx. 3.6% dividend yield with a safe 40% payout (based on FFO). Cash dividends have grown at 5.94% in the past five years.

Source: Seeking Alpha

For investors looking to see sensitivities around the key inputs to the target valuation, the table below provides price target under this different combinations of FFO growth and P/FFO multiples.

Source: Author estimates

Takeaways

I like the company’s focus on the Sun Belt prime office space with attractive demand dynamics supported by strong demographic tailwinds. Its medium-term growth potential comes from a development pipeline which is likely to add over 10% to NOI over next two years. The stock does not appeal to income investors at current levels due to low dividend yield. Looking at recent price action, it’s enticing to wait and time the entry at a lower price level.

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: This report is a personal opinion only and should not be considered as an “investment advice” or as a “recommendation” regarding a course of action. Only registered investment advisers can provide personalized investment advice. Investors should get personal advice from their investment adviser and should make independent investigations before acting on any information published here.

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