Real estate investment trust EPR Properties (EPR 0.10%) invests in entertainment, recreation, and education properties, and the company has grown rapidly over the past several years. Is this 6%-yielding stock worth a look, or is it too risky to buy?
Here's a rundown of EPR's business, why the company invests in this unique mix of properties, and what investors need to know before considering this stock.
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EPR Properties: The quick version
EPR Properties is a real estate investment trust, or REIT, that has a somewhat unique blend of properties in its portfolio. The nearly 400 properties owned by EPR can be grouped into three distinct types: entertainment, recreation, and education.
As with most REITs, EPR pays an above-average dividend yield thanks to the requirement to pay out most of its income to shareholders. As of this writing, EPR yields 6.1%. What's more, the company has a strong track record of dividend increases in recent years, with a 7% annualized dividend growth rate since 2010.
Entertainment and recreation are a play on millennials
The first two property types, entertainment and recreation, cater to the massive millennial generation in particular. Millennials (about ages 18 to 35, depending on who you ask) are the largest segment of the U.S. population, and they prefer experiences over ownership more than previous generations. So properties that have an experiential nature to their business are well positioned to thrive as this age group gradually enters their prime earning years over the coming decades.
EPR's entertainment properties make up 48% of the portfolio by income, and primarily consist of megaplex theaters. Despite the more widespread availabilty of home-based movie content, box-office revenue continues to grow, and is expected to be 2% to 4% higher in 2018 than it was last year. EPR's properties are especially well positioned, as they tend to incorporate modern elements, such as luxury seating and higher-end food and beverage concepts, both of which translate into significantly above-average revenue. The high-quality nature of EPR's entertainment portfolio is seen in the occupancy rate -- more than 99% of the entertainment properties are currently leased to tenants.
Recreation properties make up another 31% of the portfolio and include golf entertainment complexes (Topgolf is a major tenant), ski attractions, waterparks, and more. Impressively, EPR's recreation portfolio is 100% leased. These are truly millennial-focused properties for the most part, and many are seeing incredibly strong revenue growth in recent years. As one example, Topgolf's attendance grew at a 20% annual rate in 2017.
Education adds diversification and another exciting long-term opportunity
While it isn't the largest component of EPR's portfolio, education properties make up roughly 20% of the total rental income. The largest part of the education portfolio is public charter schools, but there are also significant investments in private schools and early childhood education facilities. It's also worth mentioning that in recent years, EPR has focused on recreation and education properties when it comes to acquisitions, so although the company has strategically disposed of a few education properties in recent years, it's entirely possible that the education portfolio will grow in the coming years.
Not only does the education portfolio add a nice element of diversification, as it is an entirely different type of real estate, but the demographic trends indicate that education properties are a high-growth opportunity of their own.
Public charter schools are still a relatively young concept in education, and popularity continues to rise. The number of enrolled charter school students is growing at a 12% annualized rate, and there are more than 1 million students on waiting lists. In short, there should be lots of demand in the coming years that EPR can capitalize on. Similar trends point toward demand growth in private schools and early childhood facilities as well.
Finally, education is a more recession-resistant industry than entertainment and recreation, so this portion of the portfolio could serve as a hedge during tough times.
Valuation and risks
EPR is currently a remarkably cheap stock. Even though it's near a 52-week high, EPR trades for less than 12 times its projected 2018 FFO (the REIT version of earnings).
It's important to emphasize, however, that no stock capable of market-beating returns (as I believe EPR is) is without risk, and EPR is certainly not an exception. Just to name a few risks that you need to be aware of before buying:
- Tenant risk: Any REIT is only as strong as the tenants that occupy its properties. While most of EPR's tenants are strong companies, if one of the company's large tenants were to face financial hardship, it could weigh on EPR's profitability.
- Recession risk: I mentioned that education properties aren't terribly vulnerable to economic downturns. The same can't be said for entertainment and recreation properties. In tough economic times, EPR could see an uptick in vacancies and could find it difficult to find new tenants.
- Financing/debt risk: Most REITs use debt to finance some of their operations, and EPR is in this group. While I wouldn't call the company's 46% debt-to-capitalization ratio (including preferred stock) excessive, it's on the higher end compared with other REITs.
- Interest rate risk: Generally speaking, rising interest rates are a negative catalyst for REITs. As bond yields rise (the 10-year Treasury is a good indicator), high-yield stocks tend to face downward pressure.
The verdict
So, EPR trades for a cheap valuation and invests in property types that have high growth potential over the next few decades. And it pays a 6.1% dividend yield that's well covered by the company's FFO. While EPR isn't a low-risk stock by any means, the cheap valuation, excellent income stream, and long-term potential for growth appear to more than outweigh the risks involved.
