REITs often attract a great deal of investors because of their strong cash flows and dividends, and those investors often overlook other parts of the business, choosing to analyze the company under a different set of criteria than companies in other sectors. This can create a problem in that it becomes difficult to compare a REIT to an industrial, which is fine if you use the typical top-down approach to stock selection; however, a top-down approach invites speculation in the fact that you are theorizing which sector will perform well going forward. Benjamin Graham taught that we should avoid speculation as much as possible, which is why it is critical to develop a system for analyzing companies that will allow them to be compared across industries. This is best done by utilizing a systematic approach to analysis that will provide investors with a sense of how a specific company compares to another investment opportunity. By using the ModernGraham method one can review a company’s historical accomplishments and determine an intrinsic value that can be compared across industries. What follows is a specific look at how Vornado Realty Trust (VNO) fares in the ModernGraham valuation model.
Company Profile (obtained from Google Finance): Vornado Realty Trust (Vornado) is an integrated real estate investment trust (REIT). Vornado conducts its business through, and substantially all of its interests in properties are held by, Vornado Realty L.P., a limited partnership (the Operating Partnership). As of December 31, 2011, the Company was the sole general partner of, and owned approximately 93.5% of the common limited partnership interest in the Operating Partnership. Vornado operates in five business segments: New York Office Properties, Washington, DC Office Properties, Retail Properties, Merchandise Mart Properties and Toys R Us (Toys). In December 2013, the Company sold 866 United Nations Plaza, a 360,000 square foot office building in Manhattan.
Defensive Investor – must pass at least 6 of the following 7 tests: Score = 3/7
- Adequate Size of Enterprise – market capitalization of at least $2 billion – PASS
- Sufficiently Strong Financial Condition – current ratio greater than 2 – PASS
- Earnings Stability – positive earnings per share for at least 10 straight years – FAIL
- Dividend Record – has paid a dividend for at least 10 straight years – PASS
- Earnings Growth – earnings per share has increased by at least 1/3 over the last 10 years using 3 year averages at beginning and end of period – FAIL
- Moderate PEmg ratio – PEmg is less than 20 – FAIL
- Moderate Price to Assets – PB ratio is less than 2.5 or PB x PEmg is less than 50 – FAIL
Enterprising Investor – must pass at least 4 of the following 5 tests or be suitable for a defensive investor: Score = 3/5
- Sufficiently Strong Financial Condition, Part 1 – current ratio greater than 1.5 – PASS
- Sufficiently Strong Financial Condition, Part 2 – Debt to Net Current Assets ratio less than 1.1 – FAIL
- Earnings Stability – positive earnings per share for at least 5 years – FAIL
- Dividend Record – currently pays a dividend – PASS
- Earnings growth – EPSmg greater than 5 years ago – PASS
|Value Based on 3% Growth||$34.66|
|Value Based on 0% Growth||$20.32|
|Market Implied Growth Rate||17.75%|
|Net Current Asset Value (NCAV)||-$62.37|
Balance Sheet – 3/31/2013
Earnings Per Share
Earnings Per Share – ModernGraham
Vornado Realty is not suitable for either the Defensive Investor or the Enterprising Investor. The Defensive Investor is concerned with the the lack of sufficient earnings growth or stability over the last ten years, and the high PEmg and PB ratios. The Enterprising Investor is concerned with the high level of debt relative to the current assets and the lack of stable earnings over the last five years. As a result, value investors following the ModernGraham approach should explore other opportunities through a review of 5 Undervalued Companies for the Defensive Investor and 5 Undervalued Companies for the Enterprising Investor. From a valuation side of things, the company appears to be overvalued after growing its EPSmg (normalized earnings) from $1.93 in 2010 to only an estimated $2.39 in 2014. This demonstrated level of earnings growth does not support the market’s implied estimate of 17.75% earnings growth and leads the ModernGraham valuation model to return an estimate of intrinsic value that is well below the market price.
The next part of the analysis is up to individual investors, and requires discussion of the company’s prospects. What do you think? What value would you put on Vornado Realty Trust (VNO)? Where do you see the company going in the future? Is there a company you like better? Leave a comment on our Facebook page or mention @ModernGraham on Twitter to discuss.
If you like our valuations, why not check out ModernGraham Stocks & Screens? It’s a great way to review the valuations while screening for things like low PE ratio, undervalued companies, etc.!
Disclaimer: The author did not hold a long position in Vornado Realty Trust (VNO) or any other company mentioned in the article at the time of publication and had no intention of changing that position within the next 72 hours.
Logo taken from wikipedia; this article is not affiliated with the company in any manner.