REIT Earnings Fell in Q2, But Strong Balance Sheets Show Resilience

REIT earnings fell sharply in the second quarter, with FFO down 21.7% compared to the first quarter, to $11.6 billion, according to recent data from the Nareit T-Tracker®.

FFO was 29.3% lower than the second quarter of 2019. This sharp decline in REIT earnings was the second-largest quarterly percent decline in FFO, after the 55.8% decrease in the fourth quarter of 2008.

The pandemic and shutdowns had a disparate impact across the different property sectors.

Some sectors had significant declines, including two sectors with negative FFO. Lodging/Resorts reported large negative FFO, -$1.1 billion, and FFO of Diversified REITs was -$124 million. FFO of Retail REITs declined 25.0%, including Regional Malls, where FFO was down 31.7%. One other sector, Healthcare, had a double-digit decline, with FFO down 16.7%;

Many sectors posted modest declines in FFO. Residential, Industrial and Office REITs saw FFO decline by less than 5%, while Self Storage had an 8.6% decline;

FFO rose among the property sectors that support the digital economy. Infrastructure (+3.8%), data centers (+32.6%). Specialty REITs, while not related to e-commerce, posted a 19.6% rise from the first quarter.

Many REITs cut dividend payments, reflecting lower earnings and a desire to preserve liquidity.

Total dividends paid declined 16.8%, to $13.1 billion. This is 9.6% lower than one year ago;

Dividends paid by equity REITs declined 15.3%, to $11.5 billion;

By property sector, Retail REITs had a 40.5% decline in dividends paid; Lodging/Resorts, 39.8% decline; and Diversified, 29.3% decline. Sectors with higher dividend payments include Residential and Timber REITs. Other sectors had small changes, up or down;

Dividends paid by mREITs declined 25.7%, to $1.7 billion.

Other measures of operating performance also deteriorated.

Occupancy rates declined 290 bps, to 89. 9%. Occupancy fell across most property sectors, but rose 35 bps for Industrial REITs, to 95.9%;

Same-store net operating income (SS NOI fell) 7.5% from one year ago. The largest declines were in the Retail sector, where SS NOI was 20.7% lower than one year ago. Most other sectors reported smaller declines, while SS NOI of Industrial REITs rose 2.6%.

Despite the sharp decline in earnings, most REIT sectors displayed financial resilience.

REITs had reduced their leverage ratios in the decade prior to the pandemic. Lower leverage, and more sound balance sheets overall, improved the REIT sector’s ability to withstand the shocks from the pandemic. The debt-to-book-asset ratio stood at 50.8%, little changed from the prior quarter and near the lows reached in recent years. These book leverage ratios compare to the much-higher leverage of 58.3% in 2008;

Longer debt maturities protect against liquidity pressures and refinancing risks during the pandemic. The weighted average maturity of REIT debt was 83.4 months, or nearly seven years, compared to less than five years on the eve of the financial crisis in 2008;

Interest coverage ratios declined, but remain above levels from a decade ago. The weighted average interest coverage ratio of all equity REITs—an indication of the sector’s ability to service its debts out of current income— declined from 4.1x in the first quarter, to 3.4x in the second. For comparison, the coverage ratio was 1.9x in 2008:Q4. Two sectors—Lodging/Resorts and Diversified REITs—fully account for the decline; other sectors retained high coverage ratios or even saw an increase from the first quarter; (charts 4 and 5);

REITs have liquid balance sheets. Cash and undrawn lines of credit are high relative to annual interest expense.

The sharp decline in REIT earnings reflects the record contraction in GDP in the second quarter. Economic activity hit bottom in April, however, and began rebounding over the past four months. In fact, retail sales in July had already risen above pre-pandemic levels, which should bolster the revenues of Retail REITs during the second half of this year. Continued recovery of the overall economy, so long as there are no sharp setbacks due to a resurgence of the COVID-19 virus, is likely to benefit all property sectors.

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The Market Commentary blog on reit.com presents analysis of the macro- and micro-economic fundamentals impacting the REIT and commercial real estate industry. The Nareit economics team offers their commentary on the state of the market, the outlook for commercial real estate and breaking macroeconomic news. The opinions set forth here are solely those of its author(s), and do not necessarily reflect the views of the Nareit or its membership. For more, see our Terms of Use.