Real estate investment trusts (REITs) have struggled lately as rising interest rates have increased their interest expense, and declining commercial real estate prices have made financing harder to get. Office space is probably struggling the most, but retail is having its issues as well. That said, not all retail is the same, and some retail concepts are faring better than others. Tanger Factory Outlet Centers (SKT 0.73%) is seeing rising occupancy and rents. What are they doing differently?
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Tanger Factory Outlet Centers is a leading open-air outdoor outlet concept
Tanger Factory Outlet Centers is one of the leading outlet center REITs in the United States. As of June 30, 2023 Tanger owned 29 outlet centers with 11.3 million square feet of gross leasable area. The company's outlet centers contain 2,300 stores with 600 store brands. Tanger Factory Outlet Centers also has a partial interest in six other centers.
The outlet center concept is based on stores selling branded merchandise at a discount to their full-price offerings online or in department stores. Often the merchandise is made explicitly for the outlet centers. The outlet centers are usually close to urban areas but not so close that they compete directly with the department stores and full-price stores at the shopping malls. The outlet center is meant to be a destination, and they are often conveniently located just off the interstate and visible from the highway. Outlet centers often have lower operating costs, which helps lower prices.
Occupancy has returned to pre-pandemic levels
Most retail REITs struggled in 2020 as the COVID-19 pandemic shut down all but essential businesses. Most REITs have seen occupancy rates improve. However, most have yet to recoup their pre-pandemic levels. Tanger Factory Outlet Centers managed to achieve this in the second quarter of 2023, with occupancy rising to 97.2%, which eclipsed the Dec. 31, 2019 level of 97%.
Tanger's high occupancy rates are translating into higher rental spreads (or increases in rent from old leases to new ones). For Q2 2023, rental rates increased 13.2%. Renewals with the same tenant rose 12.1% and re-tenanted units rose 30.9%.
Rising rents drove an increase in funds from operations (FFO) of 4.4%. REITs tend to use funds from operations to describe earnings instead of net income as calculated under generally accepted accounting principles (GAAP). This is because depreciation and amortization are huge expenses for REITs; however, it's a non-cash expense. This means that net income tends to understate the cash flows of the company. For this reason, REITs might seem expensive when valuing them on a price-to-earnings basis.
The dividend is well covered
Tanger is guiding for 2023 FFO per share to come in between $1.86 and $1.93 per share. This is an increase of $0.03 compared to Q1 2023. At current levels, Tanger is trading at a price-to-FFO ratio of 13.1 times, which is a reasonable multiple for a market-leading REIT. The company pays an annual dividend of $0.98, which is more than amply covered by FFO per share. Tanger Factory Outlet Centers has a dividend yield of 3.9%, which is somewhat low for a REIT; however, they are expanding and building another outlet center in Nashville. This implies higher earnings down the road, which will translate into higher dividends since REITs are required to distribute most of their earnings as dividends. As long as the consumer remains strong, Tanger's dividend looks safe.
